Business and Market Environment

Global economic growth lagged the long-term average rate for the second straight year in 2013. However, signs of acceleration appeared in the second half of 2013, boosting confidence in predictions that better performance in North America and Western Europe will lead a gradual upward trend during 2014 and 2015. Recent data on US jobless claims, retail sales, industrial production, new home sales, and household finances support forecasts for a return to the long-term growth average. The European economy began to grow again in the second half of 2013, following five quarters of recession. Rising consumer and business confidence, low interest rates, improving export markets, and pent-up demand for durables are projected to extend the strengthening trend through 2014 and into 2015.

Global economic growth accelerating

Emerging markets

Growth in many emerging markets continues to outpace that in developed economies. Momentum has slowed, however, in recent quarters, with weakened demand from developed economies and withdrawal of government stimulus. Strengthening demand in Europe and the United States is expected to boost exports from emerging economies. Economic prospects in Asia will be shaped by capital rotation out of emerging markets, key elections in several countries, and the pace of domestic macroeconomic reforms. Rapid credit expansion in China has created vulnerabilities in real estate, banking, and local government, but government spending and fiscal policies support near-term growth. Elections in India and Indonesia should help resolve policy uncertainties, which will support stronger economic growth. The outlook for consumer spending in Asia is bright, thanks to robust income growth and deepening financial markets. In emerging markets outside Asia, commodity prices, political stability, and government response to inflationary pr essures driven by weakening currencies will be key watch items.

IHS Economics forecasts an extended period of strong performance. There is a growing chance that pent-up business and household demand and idle production capacity in many parts of the world will fuel above-trend growth over the next several years, resulting in an upside growth surprise. Structural reforms will be key to sustaining these prospects.

Airline passenger traffic sustained a growth rate slightly above 5 percent during 2012 and 2013, despite consecutive years of weak global GDP growth. The global airline industry grew at or above the long-term growth rate on sound fundamentals. Productivity continues to increase, with historically high airplane utilization and passenger load factor. In 2013, load factor was 79 percent, showing that airlines are matching demand without oversupplying capacity. Unit revenue (passenger revenue per available seat-kilometer) was stable at the global level in 2013, indicating that airlines did not cut fares to fill seats. Unit cost was down slightly Better unit revenue, combined with reduced unit cost, indicates a more profitable industry.

Airline traffic in developed economies grew at a respectable pace in 2013, although mature markets generally lag the world average. Economic growth was flat in Europe, but the region's passenger traffic increased nearly 4 percent from 2012. Profitability was sluggish, however, as network carriers restructured to compete with low-cost carriers in short-haul markets and sixth-freedom carriers in long-haul markets. In North America, consolidation and capacity discipline held growth to about 2 percent, but airline earnings in the region lead the global industry with an estimated $7 billion net profit. Their performance is expected to climb to $9 billion in 2014, representing approximately half the entire industry's projected profit.

Overall, emerging markets, led by China and the Middle East, continue to grow faster than the global average, with double-digit traffic growth. Some emerging markets, however, such as Brazil and India, have seen slower growth owing to recent economic softness and volatile exchange rates that reduced traveler purchasing power. Weakening currencies in many emerging markets have also quickly and materially raised airline costs, such as jet fuel and financing, which are generally priced in US dollars. These higher costs, combined with growing competition, have led to near-term profit challenges for many emerging market airlines. Longer term prospects remain bright, however, as a result of the strong demand outlooks associated with growing middle classes and liberalizing air travel markets.

Emerging markets

World passenger load factors at historic highs

Passenger traffic is resilient

Air cargo traffic

From 1993 to 2008, air cargo traffic averaged 5.4 percent annual growth. Annual growth has slowed to about 1 percent since 2008, however. The deep recession followed by a weak recovery in developed economies strongly curbed trade and air cargo growth. Although some countries took protectionist measures during the downturn, very few became more closed. Opportunities for trade liberalization are not exhausted. There is little evidence to indicate that supply chains are becoming less global. High-value merchandise trade is forecast to expand approximately 5 percent per year through 2030, which should bolster air cargo traffic. Traffic began to accelerate during the fourth quarter of 2013 and first quarter of 2014, which may herald a long-awaited recovery in air cargo.

Cargo market slowly starting to rebound

Momentum slow after 2010 may be picking up

Returning profitability

Global airline industry net profits were an estimated $10.6 billion in 2013, up from $6.1billion in 2012. Net profit for 2014 is forecast to improve further to $18 billion as economic growth accelerates and fuel prices remain stable. Brent oil prices have generally traded in the range of $110 plus or minus $5 per barrel since mid-2012. The broad trend has been relatively stable, with only very short-term volatility in response to specific events such as Middle East unrest or economic news from Europe or the United States. Inflation-adjusted price forecasts are largely stable into the middle of the decade, reflecting increased projected supply, based on US oil shale production and prospects. Although forecasts anticipate upward price pressure from supply-and-demand dynamics in the longer term, the trajectory has moderated from forecasts made just a few years ago.

Airlines continue to focus on boosting revenue through alliances and partnerships and by raising fees and charging for ancillary services. Sources for ancillary revenue include fees for baggage, ticket change, extra amenities, annual subscriptions to premium services, frequent flyer programs (FFP), and even onboard duty-free sales. Some of the more innovative sources (such as annual subscriptions and FFP products like branded credit cards) generate handsome margins for the airlines and promote brand loyalty. US carriers lead the industry in ancillary revenue, earning about 5 percent of total passenger revenue from ancillary services. Among LCCs, the share of ancillary revenue far surpasses the US industry average. Nearly 40 percent of Spirit Airlines operating revenue comes from ancillary services. Such strategies helped the airlines improve profitability in 2013, despite below-average global economic growth.

Improved profitability is allowing airlines to increase strategic investment for future growth. Airlines are boosting investments to enhance their customer product offering and operating efficiencies. For example, in addition to new airplanes, airlines are investing in new information and mobile technology, upgraded cabin interiors for higher levels of service, and additional seats to improve unit costs. Some airlines are increasing equity investment in other airlines and cross-border partnerships to solidify and expand networks. Reinvestment of profit into airline products enhances the long-term growth prospects for the industry.

Airlines managing economic uncertainty

Oil prices to remain elevated, but stable

Exchange rate fluctuation affect profits