By Saniya Jain
An article in the Financial Times, written by Joe Miller, explains the troubles Lufthansa, a german airline company, has faced in 2020. Unfortunately, the company is predicted to have an excess of 10,000 jobs as the airline is unlikely to experience pre-crisis levels of demand until 2023.
What can they do now? In microeconomics, the price mechanism helps companies to allocate resources so that there are no shortages or surpluses and they can move towards market-clearing price. This is also known as the “invisible hand of the market,” a term coined by Adam Smith. The price mechanism has a rationing function. This is when changes in price lead to more or less being produced, so increasing or limiting the quantity demanded by buyers. If the quantity of seats of Lufthansa’s airplanes supplied was greater than the quantity of those seats demanded, a surplus, we would expect Lufthansa to lower its prices. This fall in prices would then increase demand for travel by aviation, as price and quantity demanded have an inverse relationship, and in turn, excess supply will be rationed away. As a result, there would be a contraction of supply and an extension of demand, pushing the Lufthansa towards market equilibrium and reaching allocative efficiency.
However, a looming recession and a time of mass redundancies may delay people’s purchasing decisions as their marginal propensity to save is likely to increase during periods of uncertainty. Furthermore, the circumstances of this economic downturn, which is a global pandemic, means that demand for travel and therefore, airplanes has fallen. The biggest issue is that destanations that people normally visit are closed and people are worried that they will be infected if they leave their homes. This is the reason why, even though Lufthansa has lowered ticket prices, it continues to burn through €1m an hour, as it is flying just 1 per cent of its usual passenger numbers.
