Public Service Obligations – a highly relevant topic for both large and small countries

In highly competitive aviation markets, it is no secret that airlines prefer to operate on routes with sufficient and sustainable demand, and that airports are more willing to be served by larger aircraft.

In this situation, small regional airports with low traffic potential face a dilemma: they were built to provide the connection with the rest of the country, but they cannot maintain small unprofitable regional connections independently.

In most cases, the government supports operations and the related infrastructure on such networks in order to provide a minimum level of transport accessibility and connectivity. But there are several problems. First of all, most of the time financial help doesn’t meet the actual needs. Not every country is able to grant a sufficient level of financial aid. Secondly, an outdated fleet serves the local network. Due to the unprofitability of the service and the lack of opportunities for modernization, operational costs increase constantly. This leads to the third issue – low service levels and low frequencies have a negative impact on demand and increase customer uncertainty. People are not satisfied either with the quality or the volume of the transportation provided.

These problems concern countries whether they have a large or a small land area. The Russian Federation, for example, faces huge challenges in terms of arranging frequent local air transportation services. This is due to the long distances and the limited market potential of remote regions. Lufthansa Consulting conducted research on the effectiveness and commercial efficiency of the current subsidy scheme in the Russian Far East region, which is 1.5 times larger than the area of the European Union and a population density that is more than 100 times lower than in the EU. Likewise, from their comprehensive experience of projects in Kazakhstan, the consultants were well aware that small communities in that country would also benefit from optimized subsidies to the regions. During the analysis, the opportunities for economic optimization for both regions were identified and suggested to the stakeholders which could increase subsidy efficiency, passenger traffic and population mobility.

There are several ways to improve the situation. The first step is to identify the optimal configuration of a fleet that can serve the local network and operate within the existing infrastructure. Modernizing the fleet and increasing frequencies will help not only to lower operational costs, but also to increase the attractiveness of the service.

An increase in supply often stimulates demand when alternative modes of transport are not available or when air transport generates significant time savings that bring economic value to passengers. Building up an optimal route network and redirecting passenger flows from point-to-point to feeder routes via regional hubs increases air traffic, improves connectivity and broadens the scope of the network.

On the other hand, such relatively small countries as Estonia face the same problems. For instance, the current connections between the country’s islands and Tallinn simply does not meet needs of the society and at the same time is not supported by sufficient passenger traffic.

Lufthansa Consulting therefore initiated research on this issue in cooperation with the Rakendusuuringute Keskus Centar in Estonia. The combination of Lufthansa Consulting’s experience of optimized regional subsidies in the Russian Federation and CIS states and the deep local market understanding of experts from Rakendusuuringute Keskus Centar led to the development of best-practice approaches. As a result of the study, a guideline was elaborated listing the main strategic and operative factors the government has to consider when supporting regional air transportation and bringing economic efficiency to Public Service Obligation (PSO) routes. A mechanism for subsidizing socially important routes was also developed.

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