THE STATUTORY BASIS FOR RATE MAKING

The Federal aviation act, repeating the provisions of the Civil Aeronautics Act of 1938, took an ambivalent attitude on rate making. Basically, carriers were to set their own rates. Section 403 of the Civil Aeronautics Act of 1938 provided only that the fares be filled with the Board, that they be published in such form as the Board may prescribe; that rebates for discounts are prohibited; and that except by permission of the Board, no changes in rates may be made on less than 30 days’ notice. However, section 1002(d) of the Civil Aeronautics Act of 1938, which for some reason was placed in the procedure title of the Act, empowered the Board to prescribe fares (or minimum and maximum fares) in domestic transportation, whenever it "shall be of the opinion that any individual fare is or will be unjust or unreasonable, or unjustly discriminatory, or unduly prejudicial". The words were taken from the interstate commerce act applicable to surface carriers. What they meant - and in particular what "unreasonable" meant, no one knew. Section 1002(e) of the Civil Aeronautics Act of 1938 wasn't attempted to spell out some criteria, but it too, as we shall see, was of little help.

The result was that the Board approved most fair schedules submitted by carriers, but disapproved enough filings so that careers could never be quite sure whether any given proposal would be accepted or whether it would be suspended pending a hearing. In part in order to overcome this problem, in order to give the carriers, other interested parties, the examiners, and the Board itself some guidance, the Board in 1956 instituted the general passenger fare investigation.

However, three premises that we seem always - as they must have seemed to the Board and to the participants in the proceeding - but that are not, on reflection, perfectly self-evident.

· The Board assumes without discussion that the fares between any two points must be the same for all carriers. If there are different fares - first class, coach, economy etc. - they must relate to different services.

· The Board assumes that fares must be directly proportional to distance travelled, so that the basic target of the inquiry is a uniform rate of x cents per mile, regardless of the route served

· The Board assume that fares must be based on costs, as contrasted, for example, with demand. Airline fares, thus, are quite different from prices for dresses or automobiles or whiskey, but, it seems, similar in the Board's view, to prices for telephone service or electricity.

THE PROBLEM OF RATE MAKING

Public utility rate making as it has developed in the United States proceeds from the an uneasy compromise whereby private enterprise owns and operates certain facilities of a quasi-public character, such as transportation, telephone service, and electric power, but there is no marketplace that can be relied on to determine the rates charged. The problem of rate making would, of course, rise even if the government owned and operated the facility itself - such as the post office in the United States and railroads in most other countries. But the criteria for rate making would be somewhat different. The model relevant to our purposes is a licensed monopoly watched over by some kind of regulatory agency, which either fixes the rates or at least is empowered to disallow rates that it considers inconsistent with the appropriate standard. The fact that aviation in the United States is not a monopoly complicates the problem, but so long as there is no price competition among its members the model is still apposite, at least as a first approximation.

Generalising greatly, standard of rate making is based on two related concepts. The enterprise is thought to be entitled to charge a rate schedule sufficient to cover:-

· Cost of its product or service; plus

· A "fair return" I want a rate base designed to earn a reward for those who have invested in the enterprise and to attract new capital when necessary.

Cost maybe original cost or replacement cost, and it may, or may not, include any number of items, depending on the standards applied. For instance, allowance for depreciation may vary widely; taxes may not be included as costs for purposes of establishing a rate; the allocation of overhead to any particular operation is always a problem; and a commission might take "hypothetical student cost" rather than actual expenditures as it is basis for calculation. Where, as is typically the case, the enterprise is the result of some kind of merger or consolidation, definition of the rate base is for the complicated.

The margin over cost - usually referred to as a "fair rate of return" or "reasonable return on fair value" - is typically some percentage of the "rate base". The rate base is usually "cost" or "value", though, as we shall see in the Civil Aeronautics Board's opinion in the Global Partnership for Financial Inclusion (GPFI), the ingredients are not firmly established. If the rate base and the percentage are determined, the rate is then set by projecting the rate schedule that will yield, over the period chosen, revenue equal to "fair rate of return".

The fair rate of return is normally a single figure, though it should take account of different return appropriate to lenders (debt) and investors (equity) and the rate structure. One of the persistent problems of rate making is to determine how the different operations of the Enterprise are to contribute to the overall revenue, or, to put it another way, how the costs (including the profit) of the Enterprise are to be distributed among consumers.

It should be apparent that rate making by a regulatory agency is not only an elaborate exercise in accounting and economic forecasting, but also a continuous choice among the interests of the Management, labour, financiers, and consumers, not to speak of more general goals such as those related to full employment, inflation, or to a balanced system of all forms of transportation.

Navin Kumar Jaggi

Aashna Suri