Will Airlines Receive A Boost?

In Principles of Macroeconomics and Mankiw's Production and Growth, we analyze the relationship between productivity and living standards.  In determining why certain countries are wealthier than others, one common feature is the growth rate of productivity.  There are four general factors that we look at in examining productivity and they include:

1. Physical capital per capita
2. Human capital per capita
3. Natural resources per capita
4. Technological knowledge

It appears that a new innovation in the aviation industry has potential to boost productivity through alternative energy sources.  In this November 29th, 2010 press release from Airbus, we learned that Lufthansa is planning to launch the world's first bio-fuel passenger plane.  If this project is successful, then they will be able to dramatically control a key cost driver.  Typically, airline industries are susceptible to volative changes in crude oil prices that can raise their fuel costs and narrow profit margins.  If vegetable oil can be a viable source of fuel, then this would increase their overall productivity rates due to a rise in natural resources per capita.  In addition to being able to gain better mileage per gallon, they will minimize a scarce resource which will drive down their cost structure. 

A reduced cost structure will provide Luthansa with a pricing advantage that can expand their market power.  By getting better fuel mileage along with cheaper fuel, they have more flexibility to lower prices without sacrificing their profit margins.  By offering better prices, they can also increase the number of customers and widen their market share.  Of course, they will eventually be susceptible to competitors utilizing the same resource, but all travel customers would benefit by traveling at lower fares.

A potential downside could occur if this process is adopted at a significant level.  If other airlines decide to use vegetable oil to fuel their planes, then this will cause an increase in demand for vegetable oil.  That would mean the food industry could be affected as the price of vegetable oil rises.  Therefore, restaurants and other businesses that use vegetable oil could see their cost structures increase in the future.