United Airlines and Continental Airlines announced a $3 billion merger to create the world's biggest airline. The new airline will be able to better compete with low-cost domestic and foreign airlines. Travelers could face higher fares, although the merged airline has no such plans. But one rationale for any merger is to cut capacity. Source:The New York Times, June 7, 2010.

a.Explain how this airline merger might(i)increase air travelpricesor(ii)lower air travel productioncosts.

(Hint: Please use our fundamental pricing formula: P=MC/(1-(1/E).)

a. The merger is likely going to decrease the price. A merger would mainly reduce variable cost.

b. The merger is likely going to increase the price. A merger would mainly reduce fixed cost.