European Journal of Operational Research 220 (2012) 187–198

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European Journal of Operational Research

journal homepage: www.elsevier.com/locate/ejor

Decision Support

Measuring the joint impact of governance form and economic regulation on

airport efficiency
A. Georges Assaf a, David Gillen b,⇑
a
Isenberg School of Management, University of Massachusetts-Amherst, United States
b
Sauder School of Business, University of British Columbia, Canada

a r t i c l e i n f o a b s t r a c t

Article history: This paper examines the joint impact that governance structure and economic regulation has on airport
Received 17 May 2011 efficiency. The previous literature has focused on one or the other of these factors but not both. The
Accepted 20 January 2012 empirical investigation uses a semi-parametric Bayesian distance stochastic frontier model, as well as
Available online 15 February 2012
a Data Envelopment Analysis (DEA) model. Based on a panel of airports in several countries we find that
the form of economic regulation is relatively more important than the type of governance in affecting
Keywords: efficiency. The article provides measures of changes in expected efficiency when either or both the gov-
Governance form
ernance form and price regulation changes.
Economic regulation
Efficiency
Ó 2012 Elsevier B.V. All rights reserved.
International airports
Semi-parametric Bayesian approach
DEA

1. Introduction has been a mix of partial privatizations generally accompanied by

In 1987 the first airport privatization took place in the UK when
the Thatcher government sold the British Airports Authority (BAA)
comprising Heathrow, Gatwick, Stanstead, Southampton, Aber-
deen, Edinburgh and Glasgow International Airports on the stock
market.1 There was little airport privatization activity in the early
1990s but by the mid-1990s privatization increased in Europe, South
America and Asia. By 2007, airport privatization had taken place in
most every developed country and in many developing economies.
In 1997 the US Federal Aviation Agency introduced an airport priv-
atization program, which allowed up to six airports in the US to be
privatized.2,3 In 2011 only three airports in the entire US have active
applications in the privatization program.4 In the UK every major
and regional airport, except Manchester, has been privatized and
only four have been price regulated. In continental Europe there
⇑ Corresponding author.
E-mail address: david.gillen@sauder.ubc.ca (D. Gillen).
1
When the privatization took place the government also imposed price-cap
regulation.
2
This program was enacted in 1997 and allows up to six airports in the US, only
one of which could be a hub airport, to privatize. Under the program, airports
privatizing would be exempt from having to return funds or land provided by the
federal government in developing the airport.
3
In September 2010 Louis Armstrong International Airport in New Orleans
withdrew from the program. In the same month Hendry County Airglades Airport
in Clewiston, Florida submitted an application to enter the program.
4
Puerto Rico’s Luis Munoz Marin International Airport, and Briscoe Field in
Gwinnett County, Georgia are the other two.
some form of price regulation. India is currently in the process of
establishing public–private partnership models for its major airports
and imposing price regulation. In Australia and New Zealand, air-
ports have been privatized with only light-handed price regulation.
Looking across the globe, there is a broad array of ownership types,
governance and price regulation combinations but airports in many
countries are still publically owned including the US and some mem-
ber states of the European Union.
The shift to commercialization and privatization of airport
infrastructure has followed airline deregulation and privatization
with a significant lag. The motivation for changing the governance
of airports ranges from raising funds for needed expansion and
refurbishment of airport capacity, to the need to improve efficiency
in the face of a highly competitive airline industry and recognition
of an evolving business model with airports now being seen as a
modern business and not simply as a public utility (see Gillen,
2011).5 Globalization has also driven changes to infrastructure (air-
port) governance as connectivity is seen as key to enjoying the in-
crease in investment and economic growth associated with
increased trade. Airports are also recognized as having a catalytic ef-
fect on economic growth and investment and they compete for air-
line service to ensure global connectivity for the communities they
serve.
5
Martimort and Sand- Zantman (2006) provide an excellent discussion of
contracting and ownership form and use the water industry as their empirical
example.

0377-2217/$ - see front matter Ó 2012 Elsevier B.V. All rights reserved.
doi:10.1016/j.ejor.2012.01.038
188 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198
A central issue of debate in the airport economics/business lit-
erature relates to whether or not airport efficiency and the ability
to attract needed capital varies with differing types of regulation or
ownership combinations. For many years, governments owned and
controlled airports, however, in the last two decades there has
been a shift toward private sector funding through the partial or
full privatization of airports (Gillen, 2011). In many cases, govern-
ments have opted for partial privatization and, in these cases, they
have also imposed some form of price regulation. Yet there remain
governments who are reluctant to move away from public owner-
ship or public control; for example, Finland, Spain, Sweden and the
US. Yet the importance of aviation in trade and economic growth
means governments must select a ‘correct’ governance/economic
regulation combination that does not stifle the growth of the avia-
tion sector and would enhance connectivity.
Price regulation has been introduced in most cases because air-
lines have convinced government officials that airports are monop-
olies that would abuse their market power and therefore airports
should operate as public utilities. The form that price regulation
has taken varies from country to country, with the most common
forms being price-cap regulation, rate of return (ROR) and price
monitoring. Price cap regulation can be either single-till or dual-till
regulation. The rate of return regulation, popular in many coun-
tries, sets an allowed (fair) rate-of-return on a defined asset base
that the firm cannot exceed.6 Light handed regulation, or price mon-
itoring, is used by the regulator to state publicly whether they are
satisfied with the airport’s pricing and investment actions, and
whether further action such as price control is warranted.
There is a generally accepted notion that privatization is linked
to higher labor productivity and higher utilization of the available
capital stock. A large amount of literature has been written to as-
sess the impact of the ownership form and the consequences of
privatization on efficiency. There is not a clear consensus which
is superior; see (Earle and Telegdy, 2002; Djankov and Murrell,
2002; Forsyth, 2002; Benfratello and Sembenelli, 2006; Driffield
and Du, 2007). The argument has been made that firms under state
ownership struggle to exercise control of their managers because
the state as owner does not have strong incentives to monitor
managers (Laffont and Tirole, 1993). Recently, Oum et al. (2008)
provided evidence that airports owned and operated by private
majority firms are more efficient than those owned and operated
by mixed enterprise with government majority. What makes the
analysis of ownership forms in the airport context more compli-
cated is the fact that many airports operate under a mixed owner-
ship regime and, as well, some are regulated, and the type of
regulation differs and some are not formally regulated.
This paper makes three contributions. Firstly, we provide new
evidence on the impact of combinations of ownership and regula-
tion on the efficiency of airports. Studies in the literature have so
far focused on either ownership or regulation, but not on the com-
bination of the two or the differing forms they take. This is an
important gap because the current literature attributes differences
in efficiency entirely to either regulation of ownership form. Sec-
ondly, we investigate which factors could explain the differences
in airport efficiency. Earlier literature identifies only the ranking
of airports by their efficiency differences, not why they are differ-
ent. Finally, we develop the efficiency estimates using a Bayesian
semi-parametric modeling framework estimated in a stochastic
distance stochastic frontier context. We also validate our findings
through estimating a Data Envelopment Analysis model. Both
stochastic frontier and DEA are well established in the literature.
The stochastic frontier includes two random variables, one that
6 7
Despite being popular, a main criticism of the ROR regulation is that it encourages
both cost-padding and the adoption of an inefficiently high capital-labor ratio
(Niemeier, 2009).
accounts for error and noise, and another that accounts for ineffi-
ciency. Although the error term usually follows a normal distribu-
tion, there have been some contradicting views regarding the
distribution to be used for the inefficiency term.7 We allow the
inefficiency term to follow a non-parametric distribution based on
a Dirichlet process. This will introduce more flexibility in the estima-
tion and lead to a more accurate efficiency estimation.
We find that the most efficient airports are those that are fully
private and face light handed regulation (price monitoring) and
those that are government owned and have no regulation. On the
other hand, the lowest performing airports are those that are gov-
ernment owned and have rate of return regulation. We find that as
you move to more restrictive regulation, regardless of ownership
form, it results in significant losses in efficiency. Further, holding
the form of regulation constant, a move from government owner-
ship to private ownership improves efficiency whereas a move
from government ownership to partial privatization results in a
loss of efficiency and a move from partial privatization to full priv-
atization improves efficiency considerably; the least efficient form
of ownership is partial privatization regardless of type of regula-
tion. Adding regulation to government owned airports has a larger
effect in reducing efficiency than adding regulation to either partial
or fully privatized airports, but adding regulation to partially priv-
atized airports has a larger effect on reducing efficiency than would
be the case in regulating fully privatized airports. The fundamental
conclusion is partially privatizing and imposing price regulation is
the worst of all possible worlds, based on an efficiency metric.
The remaining parts of the paper are organized in the following
way. Section 2 provides an overview of the various types of owner-
ship and regulation that are found at airports around the world.
Following Section 2 the literature on airport efficiency as it relates
to the impacts of differing ownership and regulation is briefly dis-
cussed, current gaps in the literature are identified and we point
out where this article fills in some of the gaps. Section 4 describes
the methodological approach and explains how the variables of
interest, ownership form and regulation are characterized in order
to understand their relative influence on efficiency. The data and
model specification are presented in Section 5 while the empirical
results are reported and discussed in Section 6. A brief summary
and some conclusions complete the article.
2. Overview of airport regulation/ownership forms
2.1. Regulation forms
Price regulation can take a number of different forms. The most
popular are rate of return (ROR), price cap, which can be imple-
mented as either single-till or dual-till, and price monitoring.
Which method is chosen, if price regulation is imposed at all, varies
across jurisdictions but not in any systematic way. Rate of return
regulation is the norm in countries like the Netherlands, Spain
and Portugal. In this form of regulation, the price is set high enough
to generate enough revenues to cover the airport operating ex-
penses, depreciation, and normal rate of return on capital to ensure
adequate capacity investment. ROR has been criticized for not pro-
viding airports with incentives to operate efficiently, and for
encouraging cost-padding. Gillen and Niemeier (2008) has recently
stressed that ROR is a complex and time consuming method, and
always makes it difficult to determine what constitutes a fair re-
turn on capital invested and, secondly, what capital invested
should be included in the allowed rate base. Spiegel and Spulber
The most popular distributions are the half normal and exponential distributions,
though both impose some restrictions on the efficiency estimation. We provide more
detailed discussions on this issue in later sections of the article.
 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198 189

(1997) have also shown that a regulated firm’s capital structure is clear and precise guidelines on how to assess an airport’s efficiency
affected by the size of investments. in providing aeronautical services.10
Price cap regulation is the dominant form of price regulation Finally, it is worth noting that in the US, airports follow a cost-
used in the UK, Sweden, Austria, Malta and Denmark; the price of-service form of regulation, although one could argue that those
cap is set as CPI-X where CPI is the consumer price index and X airports that still adhere to the principles of pure residual financ-
is an adjustment factor set by the regulator. There are pure and hy- ing11 behave as if they operate under a single-till form of price-cap
brid price caps. The two methods differ in the way that X is set; a regulation. However, the important difference between single-till
pure price cap sets X without reference to the costs at a single air- in the US is that the sharing of revenues is voluntary, albeit under
port but may set it with reference to a broad airport benchmarked governance that requires break-even. US airports are required to
cost. The regulator also determines whether and how much the set aeronautical fees that reflect the costs of providing the service.
price cap will change from period to period and how long the price Thus, individual prices are indirectly regulated in the sense that
cap will last before a review. A hybrid price cap sets X with refer- the aggregate of revenues should not exceed costs; this however
ence to a regulated cost base or uses realized earnings to determine does not imply cost minimization. US airports as well as Canadian
prices. In general, hybrid price cap regulation is considered supe- airports are not price regulated in any way.
rior to rate of return regulation as it is forward looking, whereas In summary, the theoretical and empirical literature on airport
rate of return regulation relies on historic cost. Previous experience price regulation seeks to find the way in which prices are con-
with the hybrid prices caps in the UK and Australian airports trolled and how this can have different impacts on efficiency and
proved that their impact on efficiency was certainly better, mean- capacity investment. It can also affect service quality as has been
ing higher efficiency, than rate of return regulation (Graham, 2008; reported in the UK (see Forsyth et al., 2010).
Forsyth, 2008; Gillen and Niemeier, 2008).
One issue that always receives a great deal of attention is
2.2. Ownership forms
whether it is preferable to adopt a single-till or dual-till approach
to price cap regulation. A single-till considers the use of all airport
One can classify the various forms of ownership/governance
revenues (aeronautical and non-aeronautical) in the determination
structures into the following categories: Government owned/oper-
of the price cap, whereas dual till only considers aeronautical rev-
ated, government owned/privately operated, fully private for-prof-
enues in setting airside prices (see Yang and Zhang (2011) for a de-
it via IPO (Initial Public Offering) with stock widely held, fully
tailed explanation). In the UK, single-till is used. Single-till had
private for-profit via trade sale with share ownership tightly held,
been widely used in Europe but its popularity is gradually decreas-
partially private for-profit with government controlling interest
ing. Already airports such as Hamburg, Malta and Budapest have
and, partially private for-profit with private controlling interest;
shifted to the dual-till approach. Opponents of the single-till ap-
examples of each are provided in Gillen (2011). Privatization may
proach usually criticize it for including commercial revenues,
also take the form of a concession (e.g. Argentina, Mexico, Delhi),
believing that regulations should concentrate on activities related
a project financing scheme/BOT (e.g. Athens, Bangalore, Cyprus)
to market power and should not be affected by commercial activ-
or a management contract (e.g. BAA at Indianapolis).
ities (Beesley, 1999). Empirical evidence on the impact of the two
The government owned/operated ownership form, currently
approaches on efficiency indicates that the dual-till approach leads
existing in Chile, Spain, Singapore, Finland and Sweden, is mainly
to a superior improvement in economic efficiency, particularly at
oriented towards the primary function of the airport, while sup-
busy airports because higher commercial revenues cannot be used
pressing other sources of commercial value. Often, for these air-
to drive airside fees lower. However, while some studies argued
ports, investments compete with other government priorities. In
about the complete removal of the single-till regulation (Beesley,
general, these airports have also less of a long-term focus with re-
1999), other studies claimed that the single-till approach can be
spect to infrastructure investments. The government ownership
beneficial in non-congested airports (Czerny, 2006; Bel and Fageda,
form is different in the US, where almost all airports are govern-
2010).
ment owned but effectively privately operated, with a high degree
In Australia, the government has completely shifted away from
of contracting out. US airports benefit from federal grants and
price cap regulation and currently adopts the price monitoring ap-
interest-free bonds when investment is required. They also exhibit
proach (also termed light-handed regulation). Monitoring is a sys-
some airline participation in the ownership of terminal building or
tem of ‘‘oversight’’ intended to facilitate investment and
in the form of long term contracts.
innovation by airports – while retaining a condition of sanction
In Australia, New Zealand, and the UK, airports are fully priv-
in case of poor behavior generally interpreted as high rates and
atized and operate in a completely different fashion than govern-
charges and high profits. The credible threat is that the Monitor
ment owned airports elsewhere. These airports have a strong
might recommend reinstatement of direct regulation. Australia
market orientation and a strong customer focus. The British Airport
had previously adopted a dual-till price cap of regulation for a per-
Authority that manages three London airports plus three in Scot-
iod of five years. However, this came to an end in 2001 after the
land is the oldest example of airport privatization with these air-
government accepted the Productivity Commission’s recommen-
ports sold as a bundle in 1987 via Initial Public Offering (IPO).
dations and implemented a light-handed form of regulation from
Australian airports were privatized in 1996–1997 via trade sales
July 20028 (Forsyth, 2004). Price monitoring was again renewed in
in which investment consortia bid to purchase the airports. Like
2007 for an additional five years, following a satisfactory review.9
UK airports, Australian airports have exhibited a strong market fo-
Most Australian airports seemed to be supporting the new arrange-
cus, but unlike UK airports, Australian airports seem to have taken
ments, while airlines criticized price monitoring for being non-effi-
a more long-term investment perspective.
cient. In his recent assessment of the light handed regulatory
Continental Europe has favored partial privatization with Ath-
approach, Forsyth (2008) notes that it works reasonably well with
ens, Rome, Hamburg, Belfast, Brussels, Budapest, Dusseldorf and
prices above what might be the case under tight regulation but well
below monopoly level. The current form of monitoring also lacks
10
Forsyth (2006) stresses that cost based guidelines would result in an inefficient
cost based regulation. Better to establish first the objectives of regulation and then set
8
The monitoring involved the seven major capital city airports. in place a set of guidelines that provide incentive for efficiency.
9 11
The Australian Productivity Commission announced in December 2010 a review At the end of the fiscal year, if revenues are less than costs the signatory airlines
of the light handed approach to price regulation. using the airport are responsible for covering the difference.
190 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198
Frankfurt airports as examples of for-profit entities where private
investors are limited to a minority interest. These airports have a
for-profit commercial objective, and though government remains
the majority shareholder, they are still able to make decisions
and develop strategies that a government owned airport could
not. Copenhagen airport also runs in a similar fashion but has even
more potential to raise more private capital as the majority of its
share is held by a single private investor. Thus, it is run as a par-
tially private for-profit airport with private controlling interest.
Similar to other airports with minority private ownership, this
form of governance has been successful in having a more entrepre-
neurial and commercial orientation to airport operations and
strategy.
To summarize, airport ownership and governance differences
lead to differing incentives and behavior with regard to efficiency
and revenue generation. Private airports have higher proportions
of revenue coming from the non-aviation business such as terminal
retail, parking and ancillary services. The empirical literature is
mixed but the general consensus is that either fully privatized or
fully government owned tend to be more efficient than the mixed
ownership form. However, these conclusions have not controlled
for the form of regulation or the presence of competition across
airports.
3. Current gaps in the literature
The literature on measuring and understanding factors affecting
airport efficiency has expanded considerably over the last few
years, driven mainly by the continuing changes in both the airline
sector and evolving airport governance models. It is rich with stud-
ies using different methodologies and covering various countries.
In contrast to the traditional use of limited ratio measures, the re-
cent focus has been on introducing more complex analytical meth-
ods such as Data Envelopment Analysis (DEA) and stochastic
frontier (SF) distance functions; the latter are considered more
comprehensive and can account for the multiple inputs and out-
puts setting of the airport industry. DEA estimates a frontier of best
practices with a linear programming methodology, and SF is a
parametric approach for doing the same. SF is considered more
powerful than DEA in panel data applications as it can be used to
measure the efficiency and technical change over time. Compre-
hensive treatments of the two methodologies are available in sev-
eral applications (Gillen and Lall, 1997; Tsionas, 2003; Barros,
2008; Assaf, 2009; Assaf, 2010; Barros et al., 2010; Barros and Mar-
ques, 2009; Brissimis et al., 2010; Suzuki et al., 2011).
In the literature, there is agreement that regulation and owner-
ship affect airport efficiency but no study has considered the rela-
tive contribution of each of these factors. Oum et al. (2008)
recently concluded that airports that have a majority of private
ownership are more efficient than airports that have mixed owner-
ship with a majority of government shares. By testing other types
of ownership, the authors highlighted the idea that full govern-
ment ownership can be more appropriate than mixed ownership.
Oum et al. (2004) also compare the rate of return regulation and
price cap in terms of their performance contribution. However, this
study did not address other types of regulation like the price mon-
itoring nor did it control for ownership and governance differences.
Also, the study investigated the effect of different forms of price
regulations on the productivity and not the efficiency of airports.
These two concepts have different theoretical interpretations,
and thus what affects productivity might not necessarily affect effi-
ciency. Efficiency is concerned with less waste in achieving a given
objective while productivity is concerned with output relative to
inputs. Price regulation and ownership effects will be evident in
efficiency measures.
4. Methodological framework
4.1. Semiparametric Bayesian stochastic frontier model
To explain our model, we consider first a production frontier
with panel data, given by
yit ¼ a þ x0it b þ v it  ui i ¼ 1; . . . ; n; t ¼ 1; . . . ; T ð1Þ
where yit is the logarithm of output of airport i in year t, xit is a vec-
tor of explanatory variables (inputs and other variables), b is a K  1
vector of parameters, vit is a two-sided measurement error distrib-
uted as vit  IN(0, r2), and uit is a non-negative random error repre-
senting inefficiency, distributed as ui  F, and assumed to be
independent from uit as well as of xit.
It is common to choose from a family of parametric distribu-
tions (e.g. exponential, truncated-normal, half-normal and gamma)
for the inefficiency distribution F, but here we model F nonpara-
metrically through a Dirichlet process prior. The key motivation
is to avoid all the inference restrictions imposed by the parametric
distributions. In the exponential distribution (with precision
parameter k > 0; i.e. with mean 1/k), for instance, the probability
that the efficiency of a particular firm falls in a certain interval is
restricted; specifically, the probability is always less than 1 if the
interval does not have 0 or 1 as one of the endpoints (Griffin and
Steel, 2004). Similarly, the half-normal distribution has been criti-
cized as not flexible enough to measure the firm’s inefficiency and
its density is concentrated at zero. The Gamma distribution is more
flexible than the half-normal and exponential distributions; how-
ever it makes it difficult to separately identify the measurement er-
ror and the inefficiencies. 12
We account for the restrictions of the parametric distributions
with the Dirichlet process (Ferguson, 1973), which is commonly
used as the prior for the unknown distribution in model specifica-
tion. Briefly, this process can be described in the following way. Let
H be a space, and B a r-field of subsets of H. If we parametrize in
terms of probability measure H on ðH; BÞ and a positive scalar M.
Then for any finite measureable partition B1, . . . , Bk of H the vector
(F(B1), . . . , F(Bk)) is random since F is random. We say that F follows
a Dirichlet process distribution (F  DP(M, H) with a base distribu-
tion H if (F(B1), . . . , F(Bk))  Dir (MH(B1), . . . , MH(Bk)). The moment
measures for B 2 B can be expressed as: EfFðBÞg ¼ HðBÞ;
VarfFðBÞg ¼ HðBÞf1HðBÞg
Mþ1
, where M can be interpreted as a precision
parameter.
The Dirichlet process can be simply incorporated into the sto-
chastic frontier mode through a hierarchical framework, and by
specifying a Dirichlet process prior for F  DP(MH). Thus, we as-
sume a parametric frontier with a non-parametric inefficiency dis-
tribution, in line with Griffin and Steel (2004) and Park and Simar
(1994). One important feature of the Dirichlet process is that it se-
lects a discrete distribution with probability one, and there will be
K 6 n distinct values of the inefficiencies (u(1), . . . , u(k)) of the n firms
(u1, . . . , un). As derived by Blackwell and MacQueen (1973), it is pos-
sible to predict the inefficiency of a new unobserved firm:
X
k
ni M
Fðunþ1 juð1Þ ; . . . ; uðkÞ ; n1 ; . . . ; nk Þ ¼ duðiÞ þ H ð2Þ
i¼1
Mþn Mþn
Before proceeding with the Bayesian estimation we have to assign
prior distributions for H and M. A popular choice for the centering
distribution H is a gamma distribution with fixed integer parameter
(Erlang distributions), denoted by Ga(j, k). In the case of j = 1, the
distribution of H becomes an exponential with mean 1/k, which is
12
For technical details of the limitations described, refer to Ritter and Simar (1997),
Griffin and Steel (2004).
 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198 191

the common distribution in the parametric framework. The prior for performing firms. If a firm is not on the frontier, its radial distance
k can be specified as: from the frontier is a measure of its inefficiency in performance.
The firms with maximum performance (100% efficient) are those
k  Gaðj  ln r  Þ ð3Þ
for which no other firms or linear combination of firms can gener-
which indicates a prior median efficiency of r⁄, where j is a fixed ate at least the same amount of each output (given inputs).
parameter. A DEA performance measure ð^ di Þ can be simply derived by solv-
For the prior for M, here we follow Griffin and Steel (2004), and ing the following linear programming:
we interpret the parameter M as a prior sample size. In equation
^di ¼ maxfd > 0j^di y 6 Yk; xi P Xk; I10 k ¼ 1; k P 0g; i ¼ 1 . . . :I ð8Þ
(2), M/(M + n) is the mass given to the centering distribution. If ^d ;k
i
i
we take n = M/(M + n0) and assume n  Be (a, b), then it is possible
to express P(M) as: where yi is the M  1 vector of outputs,xi is the K  1 vector of in-
a1 puts, Y is the M  I matrix of outputs, X if the K  I matrix of inputs
nb0 Cða þ bÞ M k is a I  1 vector of constants. The value of ^d obtained is the effi-
PðMÞ ¼ ð4Þ
CðaÞCðbÞ ðM þ n0 Þaþb ciency score for the ith airport. A measure of ^ d ¼ 1 indicates that
an airport is fully efficient (i.e. has achieved maximum perfor-
which means M follows an inverted Beta distribution as a prior.
mance), and inefficient (i.e. less than maximum performance) if
Gibbs sampling is used to perform the computation and explore ^
d < 1. This linear programming problem must be solved n times,
the conditional distributions of the model.
once for each airport in the sample.13
The sampler uses a data augmentation scheme and will be run
We model the impact of airport regulation and ownership in the
on (s, u, M, a, b, r2, kjy), where s is the latent variable for the ith
DEA framework using a regression analysis between the efficiency
observation, and is the NT observations. For details on the condi-
scores obtained from the DEA estimates described above, and the
tional distributions of the model refer to Griffin and Steel (2004).
variables representing airport regulation and ownership. In the
We model the impact of airport regulation and ownership on
case of DEA, however, a simple OLS regression might not be appro-
efficiency by making them directly effect the inefficiency distribu-
priate. DEA performance measures are truncated from below at
tion F. This approach is common with parametric frontier models,
one, and thus a truncated regression model is more suited for the
and we extend it here to the non-parametric context. The regula-
present context, since OLS regression could predict scores greater
tion and ownership characteristics of the ith airport are denoted
than one, and as such produce biased and inconsistent parameter
by the vector xi and the new efficiency distribution that is depen-
estimates. The model can be simply expressed as:
dent on these characteristics is described by Fx. In the parametric
context, it is common to let the mean of the exponential distribu- ^di ¼ zi b þ ni ð9Þ
tion of the inefficiency term varies with xi, by replacing k with the
 
expression exp x0i c , where c is the parameter vector that reflects where ^di the DEA performance score, zi is vector of explanatory vari-
how the inefficiency changes with the variables in xi (Koop et al., ables that are used to test our desired hypotheses, b is a vector of
1997). The same concept can be extended to our non-parametric parameters, and ni is random error representing statistical noise
framework, where H has a gamma distribution with a fixed integer and independent of zi.
shape parameter j. Thus, the inefficiency distribution of the  ith firm
 Finally, and in order to obtain more reliable estimates, this pa-
can now become a gamma distribution with mean j exp x0i c . It per also bootstraps the efficiency scores obtained from DEA, as well
is also common to parameterize in terms of wl = exp (cl), and adopt as the regression estimates in (9).
a prior p(wl) = Ga(al, gl). Recently, Simar and Wilson (2007) proposed a bootstrap proce-
Allowing efficiency to vary with xi will also require updating dure, which enables consistent inferences in the truncated regres-
the step described in the previous section. Specifically, we need sion. We use here the Simar and Wilson bootstrap procedure to
 
to change k to exp x0i c throughout. In the present context improve the reliability of the regression estimates in (9). For more
where regulation and ownership variables only take the values of details refer to Simar and Wilson (2007).
0 and 1, the full conditional for wl can be expressed as:
!
X
n X
n Y w
5. Model specification
wjwl ; u; s  Ga al þ j xil ; g l þ xil ui wk ik ð5Þ
i¼1 i¼1 k–l
Several papers have provided an overview of the input and
The conditional posterior for the M becomes: output variables used in airport efficiency studies. Some com-
ðmÞ
mon outputs include number of passengers, cargo tonnes, mail
Y MK tonnes, work load units, aircraft movements, operational reve-
pðM=sÞ / pðMÞ QnðmÞ ð6Þ
nues, sales to passengers, aeronautical revenues, and non-aero-
m i¼1 M þ i  1
nautical revenues. Common inputs include labor and capital
where n(m) represents the sample size for the mth group which (Pels et al., 2001; Adler and Berechman, 2001; Barros and Sam-
shares the same values for xi. Finally, the conditional distribution paio, 2004).
for the centering parameterization becomes: This study involves the use of four inputs: (1) labor measured
ðmÞ by the number of employees who work directly for an airport oper-
Y KY Y
ðmÞ
ðzi  aÞj1 expðK ðmÞ
w
wl i aÞ; a < minðzðmÞ ator, (2) non-labor input (includes all expenses not directly related
i Þ ð7Þ
m i¼1 l
i;m to capital or labor input costs) which would include materials and
ðmÞ
contracted services, and (3) two capital inputs (the number of run-
where zi is equivalent of zi for group m. ways, and the total size of the passenger terminal area measured in
square meters). We deflate the non-variable input (which includes
4.2. Data Envelopment Analysis numerous items) by the Purchasing Power Parity (PPP).

For purpose of validation, we also estimate a Data Envelopment 13

More details about the DEA method can be found in Coelli et al. (2005). For
Analysis (DEA) model. Similar to the stochastic frontier methodol- application of the DEA model in the transport literature refer to Lee and Johnson
ogy, DEA identifies a benchmark frontier, which consists of the best (2012), Chiu et al. (2011), and Sharma and Yu (2010).
192 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198

Table 1
Summary statistics.

2002 2003 2004 2005 2006 2007 2008

Outputs
No. of passengers (in 21.37 (16.06) 21.57 (16.26) 23.20 (16.94) 24.37 (17.94) 24.24 (17.90) 23.24 (18.10) 24.56 (17.29)
million)
No. of movements (in 000’s) 287.15 (190.90) 304.18 (204.26) 305.31 (203.41) 303.78 (188.32) 298.24 (185.45) 296.95 (183.97) 298.56 (192.76)
Non-aeronautical revenues 122.46 (154.46) 122.90 (148.28) 126.44 (163.68) 130.32 (162.72) 134.92 (163.68) 133.90 (166.60) 127.44 (161.38)
(in 000’s $)
Inputs
Number of employees 1.25 (1.31) 1.27 (1.34) 1.25 (1.32) 1.28 (1.39) 1.31 (1.43) 1.32 (1.44) 1.30 (1.42)
(1000)
Other operational costs (in 87.37 (71.42) 117.46 (140.5) 94.85 (105.49) 111.63 (164.19) 95.11 (71.42) 97.72 (71.46) 98.12 (83.15)
000’s US$)
Number of Runways 3.17 (1.25) 3.19 (1.24) 3.19 (1.25) 3.19 (1.25) 3.20 (1.23) 3.20 (1.23) 3.20 (1.23)
Terminal Size 195913.88 198495.91 198495.91 201780.88 205196.04 206388.58 206388.24
(153576.93) (151989.23) (151989.23) (153689.34) (160748.01) (160904.26) (160969.14)
Geographic Distribution of
Airports (%)
Australian Airports 9.59 9.59 9.59 9.59 9.59 9.59 9.59
European Airports 41.10 41.10 41.10 41.10 41.10 41.10 41.10
North American Airports 49.31 49.31 49.31 49.31 49.31 49.31 49.31
Airport Ownership (%)
Government 71.23 71.23 71.23 71.23 71.23 71.23 71.23
Fully Private 16.44 16.44 16.44 16.44 16.44 16.44 16.44
Partially Private 12.33 12.33 12.33 12.33 12.33 12.33 12.33
Airport Regulation (%)
ROR 9.59 9.59 9.59 9.59 9.59 9.59 9.59
Single-Till 23.29 23.29 23.29 23.29 23.29 23.29 23.29
Dual-Till 9.59 9.59 9.59 9.59 9.59 9.59 9.59
Price Monitoring 9.59 9.59 9.59 9.59 9.59 9.59 9.59
No Regulation 47.95 47.95 47.95 47.95 47.95 47.95 47.95
Regulation + Ownership (%)
Government + ROR 15.07 15.07 15.07 15.07 15.07 15.07 15.07
Government + Single Till 8.22 8.22 8.22 8.22 8.22 8.22 8.22
Government + No 45.21 45.21 45.21 45.21 45.21 45.21 45.21
Regulation
Partially Private + Single Till 6.85 6.85 6.85 6.85 6.85 6.85 6.85
Partially Private + Dual Till 8.22 8.22 8.22 8.22 8.22 8.22 8.22
Fully Private + Single Till 6.85 6.85 6.85 6.85 6.85 6.85 6.85
Fully Private + Price 9.59 9.59 9.59 9.59 9.59 9.59 9.59
Monitoring

On the output side three outputs are included: (1) the num-
ber of passengers, (2) the number of aircraft movements, and (3)
the revenues from non-aeronautical services. The first two out-
puts are proxies for revenues generated from aeronautical activ-
ities and they have been used in most related studies (Assaf,
2009; Assaf, 2010). The third output relates to revenues gener-
ated from concessions, car parking and numerous other services.
5.1. Stochastic frontier specification
With the production frontier model expressed in (1), it is possi-
ble to use only one output. However, as we have more than one
output in this study, we estimate here an output distance func-
tion15 instead of a production function. With a flexible translog spec-
ification, the output distance function for Y 2 RM
þ outputs and X 2 Rþ
K

These are non-aeronautical revenues but are becoming a major inputs can be simply expressed as follows:
source of revenues for airports, accounting in some cases for
up to 60% of total revenues (Oum et al., 2008). Thus, ignoring X
M   X X
1
ym 1M 1 M 1
this important output might lead to a major effect on efficiency.  ln yM ¼ a0 þ am ln þ amn
m¼1
yM 2 m¼1 n¼1
As in the case of the non-labor input, we deflate this non- aero-
    X
nautical revenue by Purchasing Power Parity (PPP). Data for this y yn K
1X K X K
 ln m ln þ bk xk þ b xk xl
study was collected from various sources including the ATRS yM yM k¼1
2 k¼1 l¼1 kl
Global Benchmarking reports (e.g. Air Transport Research Soci-  
ety, 2008), airport annual reports, the Australian Competition X X
K M1
y 1 X
M1
þ ckm xk ln m þ ht t þ htt t2 þ dym t
and Consumer Commission, and the Federal Aviation Administra- k¼1 m¼1
yM 2 m¼1
tion. In total, we had a balanced sample of 73 international air-   XX K
ports distributed across Europe, North America, and Australia,14 y
 ln m þ dxt t ln xk þ v þ u ð10Þ
for the years 2003–2008 (73  6 = 438 observations). Table 1 pro- yM k¼1
vides detailed statistic of the various inputs and outputs as well as
distribution of airports per geographic region and per the different where all variables are as identified previously. Thus, the model in
types of ownership and regulations. (10) is exactly of the same form of the model in (1). It follows that
the estimation of (10) is also the same as in (1). Note that the Mth
output in (10) is arbitrary chosen, and we divide both outputs by
the Mth output to ensure that the homogeneity and symmetry

14 15
It was not possible to get data on more airports (such as Asian airports) due to The distance function is well established in the literature. For details see Coelli
data restrictions in these countries. et al. (2005).
 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198 193

condition is satisfied when estimating the distance function (Coelli Table 2

et al., 2005). Parameter estimates of the distance frontier.

Parameter Coefficient Estimates St. Dev

5.2. DEA specification Constant a0 1.2841 0.2777
Movement a1 0.7358 0.1592
For the estimation of the DEA, we also used the same outputs Non-Aeronautical Revenues a2 0.1878 0.0394
Movement  Movement a11 0.0466 0.0083
and inputs, namely, the number of passengers, the number of air- Non-Aeronautical Revenues  Non- a22 0.0678 0.0203
craft movements, the revenues from non-aeronautical services, the Aeronautical Revenues
number of employees; non-labor input and the two capital inputs Movement  Non-Aeronautical Revenues a12 0.1606 0.0178
(the number of runways, and the total size of the passenger termi- Number of FTE b1 0.7096 0.4661
Non-labor input b2 0.3237 0.5570
nal area measured in square meters). We deflated the non-variable
Terminal Size b3 0.0822 0.3153
input (which includes numerous items), and the revenues from Number of Runways b4 0.0332 0.1301
non-aeronautical services by the Purchasing Power Parity (PPP). Number of FTE  Number of FTE b11 0.0879 0.0277
We also checked the degree of correlation between the DEA inputs Non-labor input  Non-labor input b22 0.0093 0.0211
and outputs,16 and we did not find any serious correlation problem Terminal Size  Terminal Size b33 0.0477 0.0197
Number of Runway s Number of Runways b44 0.0120 0.1160
in our data. Number of FTE  Non-labor input b12 0.0392 0.0377
Number of FTE  Terminal Size b13 0.0181 0.0365
5.3. Efficiency model specification Number of FTE  Number of Runways b14 0.1651 0.0674
Non-labor input  Terminal Size b23 0.1093 0.0257
Non-labor input  Number of Runways b24 0.2613 0.0970
Several different forms of ownership and three forms of price reg- Terminal Size  Number of Runways b34 0.2332 0.0722
ulation have been described. Taking all combinations of ownership Movement  Number of FTE c11 0.0259 0.0114
and regulation would have generated a large number of variables Movement  Non-labor input c12 0.0582 0.0112
but given our data set it would have also resulted in either empty Movement  Terminal Size c13 0.0224 0.0106
Movement  Number of Runways c14 0.1412 0.0188
cells or relatively few data points in some cells. Therefore the own- Non-Aeronautical Revenues  Number of c21 0.0536 0.0318
ership-regulation combinations are represented in the distance FTE
function in (7) as dummy variables and the inefficiency term uit var- Non-Aeronautical Revenues  Non-labor c22 0.0576 0.0112
ies across ownership and regulation dummy variables. Different input
Non-Aeronautical Revenues  Terminal c23 0.0974 0.0261
combination of these variables led to seven dummy variables:
Size
Non-Aeronautical Revenues  Number of c24 0.2946 0.0893
xi2 is a variable that takes the value of 1 for airports that are Runways
government owned and ROR regulated, Trend h1 0.0914 0.0120
Trend  Trend h11 0.0177 0.0038
xi3 is a variable that takes the value of 1 for airports that are
Trend  Number of FTE dx1 0.0097 0.0031
government owned and single-till regulated, Trend  Non-labor input dx2 0.0152 0.0059
xi4 is a variable that takes the value of 1 for airports that are Trend  Terminal Size dx3 0.0094 0.0083
government owned and do not follow any type of regulation, Trend  Number of Runways dx4 0.0133 0.0178
xi5 is a variable that takes the value of 1 for airports that are Trend  Movement dy1 0.0015 0.0026
Trend  Non-Aeronautical Revenues dy2 0.0070 0.0074
partially private and single-till regulated,
xi6 a variable that takes the value of 1 for airports that are par-
tially private and dual-till regulated,
xi7 is a variable that takes the value of 1 for airports that are Figs. 1 and 2 show there is little variation in the efficiency re-
fully private and follow a price monitoring system, and
sults across the different prior values.18 To provide further support
xi8 is a variable that takes the value of 1 for airports that are to the selection of our model, we also estimated a full parametric
fully private and single-till regulated. Note that for the DEA
version of the same model. We allow uit in the full parametric model
case, we also include the same variables as zi in (7).
to follow an exponential distribution.19 We compared the two
models using the Bayes factor following Griffin and Steel (2004).
6. Results Specifically, we use the log predictive score to compare the two
models (Good, 1952; Griffin and Steel, 2004), which can be
6.1. Stochastic frontier expressed as:

Table 2 presents the posterior mean and standard deviations of
the parameters of the distance frontier. All results are based on
runs of 75,000, where we record every fifth drawing after a burn-
in of 10,000 draws, which proved enough for convergence. Before
analyzing the results, we performed first some sensitivity analysis
to confirm that our model performs well with different prior val-
ues. For example, we tried running the model with different values
for the prior median efficiency r⁄ in (3) to see whether this has a
large effect on the efficiency results.17 We also tried changing the
parameters on the prior for M.
16
If a high correlation exists between an input variable and any other input variable
(or between an output variable and any of the other output variables), this input or
output variable may be thought of as a replicate of the other variables (i.e. this
variable can be removed from the DEA estimation).
17
Previously Koop et al. (1997) have also run sensitivity analysis using various
values for the prior median efficiency.
1X
q
LPS ¼  ln pðynþ1 jy1 ; . . . ; yn Þ ð11Þ
q i¼1
The smaller the value of LPS, the more accurate the model is in fore-
casting the prediction sample. The LPS values for 20 random parti-
tions indicate that the semi-parametric model performs better than
the exponential model in 14 out of 20 cases. We also observe ties for
three cases.20
The major topic of interest in this study is the how ownership/
regulation combinations affect airport efficiency. Table 3 presents
the coefficients and standard deviation associated with the various
18
This confirms previous findings by Griffin and Steel (2004).
19
The exponential parametric model is well established and most popular in the
literature. For this reason we used it as a basis of comparison. The details of this
model can be obtained from Koop et al. (1997).
20
More detailed results can be obtained from the authors upon request.
194 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198
5

4
4

3
3
Density

Density
2

2
1

1
0

.5 .6 .7 .8 .9 1
0

Efficiency
.5 .6 .7 .8 .9 1
Efficiency
r * =0.70
n0 =1
r * =0.80
n0 =5
r * =0.90
n0 =10
Fig. 1. Kernel density of efficiency across different values for the prior median
efficiency. Fig. 2. Kernel density of efficiency across different values for n0.

ownership/regulation forms.21 We used the ‘‘Government owner- Table 3

ship/single-till regulation’’ variable as the base dummy. All of the Parameter estimates of the model explaining efficiency.
airports we chose have higher efficiency than government owned Parameter Estimates St. Dev
and single-till regulated airports, though airports that are govern-
Stochastic frontier
ment owned and ROR regulated, and airports that are partially pri- Government ownership  ROR regulation 0.0791 0.0311
vate and single-till regulated, are not significantly better Partially private  Single-till 0.0863 0.0455
performers. The following ranking is derived based on the amount Fully private  Single-till 0.1139 0.0199
of deviation of the ownership/regulation forms from the distance Partially private  Dual-till 0.2788 0.0486
Fully private  Price monitoring 0.3222 0.0559
frontier, starting from the most efficient combination to the least
Government  No regulation 0.4149 0.1175
efficient combination.
Data Envelopment Analysis
Thus, the best performing airports are those that are fully pri-
Government ownership  ROR regulation 0.0503 0.0153
vate and follow a regime of light-handed regulation (price moni- Partially private  Single-till 0.1021 0.0218
toring) and those that are government owned and have no Fully private  Single-till 0.2111 0.0416
regulation. More evidence on the difference in efficiency between Partially private  Dual-till 0.2733 0.0390
the various ownership/regulation forms is provided in Table 4. Fully private  Price monitoring 0.3457 0.0460
Government  No regulation 0.2852 0.0701
There is approximately a 27% difference in efficiency between
the least and the most efficient ownership/regulation form. The re-
sults again support the conclusions from the dummy variables and ‘‘Government ownership with ROR regulation’’ and ‘‘ Government
show that the two most efficient combinations are ‘‘Fully private ownership with Single-till price regulation’’.
with Price monitoring’’ and ‘‘Government with No price The information in Table 4 can be rearranged as shown in Tables
regulation’’, whereas the two least efficient combinations are 5A and 5B. Table 5A measures the change in [technical] efficiency
with a change in the form of regulation holding the governance
21
Note that we also monitored the coefficient estimates for the different prior type constant while 5B measures the change in efficiency when
values of Figs. 1 and 2, and we did not find major differences in the results. the governance changes holding the type of regulation constant.
 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198 195

Table 4 Table 5B
The estimated efficiency levels of the various ownership/regulation forms. Measures of changes in efficiency when the form of governance changes, regulation
form held constant.
Ownership/regulation forms Efficiency
Stochastic frontier Governance form Regulation Efficiency Change in Percentage
Government ownership  ROR regulation 0.6427 type level efficiency change
Partially private  Single till 0.6645 Stochastic frontier calculations
Fully private  Single till 0.7800 Government No reg 0.8856 0.0235 0.03
Partially private  Dual till 0.8427 To Private No reg 0.8621
Government  No regulation 0.8856 Government Reg 0.6427 0.1374 0.21
Fully private  Price monitoring 0.8621 To Private Reg 0.7801
Data Envelopment Analysis Government No reg 0.8856 0.0429 0.05
Government ownership  ROR regulation 0.5915 To Partial Priv No reg 0.8427
Partially private  Single till 0.6453 Government Reg 0.6427 0.0218 0.03
Fully private  Single till 0.7456 To Partial Priv Reg 0.6645
Partially private  Dual till 0.8113 Partial private No reg 0.8427 0.0194 0.02
Government  No regulation 0.8843 To full private No reg 0.8621
Fully private  Price monitoring 0.8221 Partial private Reg 0.6645 0.1976 0.30
To full private Reg 0.8621
DEA calculations
Government No reg 0.8843 0.0622 0.07
Table 5A To Private No reg 0.8221
Measures of changes in efficiency when the form of regulation changes, governance Government Reg 0.5915 0.1541 0.26
form constant. To Private Reg 0.7456
Government No reg 0.8843 0.073 0.08
Change in price regulation To Partial Priv No reg 0.8113
Governance form Regulation Measure of Change in Percentage Government Reg 0.5915 0.0538 0.09
type efficiency efficiency change To Partial Priv Reg 0.6453
Partial private No reg 0.8113 0.0108 0.01
Stochastic frontier To full private No reg 0.8221
Government None 0.8856 0.2429 0.38 Partial private Reg 0.6453 0.1003 0.16
Government ROR 0.6427 To full private Reg 0.7456
Private light 0.8621 0.0821 0.11
Private single 0.7801
Partially private Dual 0.8427 0.1782 0.27
Partially private Single 0.6645
Data Envelopment Analysis no regulation and a shift to partial privatization with dual till
Government None 0.8843 0.2928 0.49 regulation, and following this is government ownership fully regu-
Government ROR 0.5915 lated (rate of return) to partially private with single till regulation.
Private light 0.8221 0.0765 0.10
The last comparison is partially private with dual till regulation to
Private single 0.7456
Partially private Dual 0.8113 0.166 0.26
fully private with private monitoring and finally a comparison of
Partially private Single 0.6453 partially private under single till to fully private under single till.
The first thing that is evident is the impact of a governance
change on efficiency is small in comparison to a change in regula-
Both tables provide measures from the stochastic frontier esti- tion (Table 5A). Unlike the results of Table 5A, the measured
mates and from the DEA estimates; the results from each estima- changes in efficiency in Table 5B are quite different between the
tion method are consistent and remarkably close together. From calculation from the stochastic frontier estimates and those from
Table 5A, imposing regulation in the form of rate of return when the DEA measures. Starting at the top of Table 5B moving from
airports are publically owned results in a 38% reduction in effi- public to fully private ownership when there is little economic reg-
ciency. The result holds symmetrically as well; removing rate of re- ulation results in a small improvement in efficiency while doing so
turn regulation when airports are publically owned improves when there is economic regulation (single till for the private air-
efficiency by the same percent. A similar outcome is evident when ports) yields a reduction in efficiency of 21%. If airports move from
moving from heavy handed single till regulation to a lighter form public ownership no regulation to partially private ownership un-
of price cap regulation when airports are partially privatized re- der dual till regulation efficiency improves by 5% while the same
sults in an improvement in efficiency of 27%. Under full private change under regulation where the partial privatized airport is un-
ownership, a shift from single till to light handed regulation im- der single till efficiency again declines by a small amount. Finally,
proves efficiency by 11%. The results for the DEA measures moving from partial privatization (under dual till) to full privatiza-
are quite similar; except for the shift from rate of return tion (with price monitoring) reduces efficiency by a small amount
regulation to no regulation under public ownership has a dramatic and moving from partial privatization (under single till) to full
improvement in efficiency by 50%. Before offering an interpreta- privatization (under single till) reduces efficiency by a large
tion, it is useful to report the results of Table 5B. amount, 17%.
In Table 5B, the form of regulation is held partially constant and
the type of governance is changed. There were not sufficient obser- 6.2. Data Envelopment Analysis
vations in the data to treat every combination of regulation con-
stant with a change in governance. In the first case the shift is The results from the DEA model are expressed in Tables 3 and 4.
government ownership with no regulation to fully private with The regression coefficients in Table 3 were derived by estimating a
price monitoring, while in the second case it is moving from gov- truncated regression model between the DEA efficiency scores and
ernment owned fully regulated to fully privately owned with sin- each of the dummy variables (as expressed in 9)). The results seem
gle till price cap regulation (a form which is relatively heavy to be largely in agreement with the SF results. The best performing
handed). In the next combination it is government owned with airports are those that government owned and have no regulation,
196 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198
followed by those that are fully private airports and follow a
regime of light-handed regulation. Again the least performing are
‘‘Government ownership with ROR regulation’’ and ‘‘Government
ownership with Single-till price regulation’’.
Similar to the SF case, we also provide in Table 4 more evidence
on the difference in efficiency between the various ownership/reg-
ulation forms and calculate the impacts on efficiency from
changes in price regulation and governance in Tables 5A and
5B. The results for the DEA measures are quite similar to the cal-
culations from the stochastic frontier estimates in Table 5A
while the DEA calculations are all larger than the stochastic fron-
tier measures in Table 5B with the exception of the last category
moving from partial to fully private ownership where they are
marginally smaller.
6.3. Interpretation
Considering Table 5A first, the consistent result is that regard-
less of governance type moving away from heavy handed price
regulation such as single till always improves economic effi-
ciency. The gains are always highest when the airport is wholly
or partially public; when the airport is fully private the gains are
somewhat less than half. Single till price regulation creates dis-
incentives for airport operator on the non-airside revenue
streams because it acts like a tax. Given some amount of scope
economies a lack of incentive on non-airside activity can also
spill over to affect efficiency on the airside activity. Also since
the bulk of operating expenses are for airside activity, single till
reduces the need to be efficient since revenues are always avail-
able from non-airside activity.
Interpreting the calculations from Table 5B are more difficult
since they are not pure one-dimensional shifts as with Table 5A.
Focusing on the stochastic frontier calculations, a consistent re-
sult is a move from public to more or full private ownership
has a small impact on efficiency. This is consistent with the re-
sults of Table 5A where we saw the heavier handed was regula-
tion the less efficient was the airport. Under conditions of
regulation we find a move from public to partial regulation is
of little consequence for efficiency; a small 2% improvement.
However, full privatization always leads to a considerable
improvement in efficiency. It seems fully public or even partially
public, whenever government is participating in the airport gov-
ernance, efficiency is lower and only a move to full privatization
leads to improvements in efficiency.
Observing various jurisdictions in the world we observe a
number of different changes in the way in which airports (as
well as other types of infrastructure) are governed and regu-
lated; some change governance and some change regulation
and some change both. Our results can be used to examine the
relative gains from a sequential change in governance and regu-
lation. The table below sets out a subset of combinations.
A major change from public ownership and regulated to fully
privatized and not regulated, the two extremes, leads to a 34%
improvement in efficiency. However, if government proceeds
slowly for fear of making an error, moving from public ownership
and regulated to partial privatized but still regulated improves effi-
ciency by a small amount, 9%. But if this airport is now deregulated
efficiency improves by 26% whereas if it is fully privatized but re-
mains regulated efficiency improves by only 17%. This would sug-
gest as Table 5A implied, deregulating is more important than
privatizing. Deregulating a partially privatized airport leads to a
31% efficiency gain and even in the case of a public airport, deregu-
lating it leads to a dramatic 38% efficiency improvement.
State of Governance and Regulation Status Change in
Change Efficiency
A. Government Regulated to Privatized & not 34%
regulated improvement
B.1 Government regulated and Partially 9%
Privatized and regulated improvement
B.2.1 Partially privatized and regulated to 17%
Privatized and Regulated improvement
B.2.2 Partially privatized and regulated to 26%
partially privatized and not regulated improvement
B.3 Privatized and regulated to Privatized and 10%
not regulated improvement
C. Government Regulated to Partially 31%
Privatized and not regulated improvement
D. Partially Privatized and regulated to 29%
Privatized and not regulated improvement
E. Government regulated to government non- 38%
regulated improvement
One must ask the question, ‘do these results accord with the lit-
erature, with what we might expect and what might have been ob-
served elsewhere’? In particular our results consistently show that
imposing heavy handed regulation, represented by single till price
cap, for example, or even somewhat less onerous forms of regula-
tion (such as dual till price cap regulation) will reduce efficiency
and that privatization with regulation may result in a lower level
of efficiency than public ownership.22 Why should this be the case?
Since the 1970s there has been a continuous stream of econom-
ics literature that regulation of competitive industries was a failure
and inappropriate (Vogelsang, 2002). In the case of traditional pub-
lic utilities like telecommunications, water and airports there was
the recognition that traditional cost plus and rate of return regula-
tion had also failed and were replaced by a more ‘practical’ form of
regulation, incentive regulation. Both Vogelsang (2002) and Starkie
(2011) remark on the evolution of such incentive regulation (such
as price cap) that there were both technical as well as ‘process’
problems. Once imposed regulation created incentives to either
over or under invest. There were disagreements as to what consti-
tuted a fair ‘cost of capital’ and airports were required to commit to
an investment program for the purposes of the regulatory settle-
ment yet were facing highly dynamic markets in which traffic
might well turn down. Starkie (2011) reports the process problems
with the application of price cap regulation to UK airports: the first
review in 1990–91 took 14 months, the second review in 1995–96
took 21 months and the 3rd review on 2002 took 32 months. Over
these reviews the price cap formulas became more complex and
the regulator was made to begin regulating service equality and
a number of other business decisions that were nowhere in the
price cap mandate. Overall the tendency was for regulation to stifle
market discovery and innovation the key elements of dynamic
efficiency.
The results we are finding are consistent with what the theoret-
ical literature has said but also with the practical application of
incentive regulation. Regulation, even price cap regulation, can
be heavy handed and create incentives for airports to use resources
in a way that they would not under competitive circumstances.
The OECD (2003) found across 18 OECD countries over two dec-
ades that less regulation led to improvements in productivity
growth and slowness in reducing regulation led to slower adoption
of efficiency improving technologies. The governance structure
22
In conversation with airport managers in Canada, for example, many stated that a
move from the current not-for-profit model to privatization but with regulation
would make them worse off and they preferred the current model.
 A. Georges Assaf, D. Gillen / European Journal of Operational Research 220 (2012) 187–198
was found to be of lesser importance in achieving such productiv-
ity gains (OECD, 2003).
The argument for privatization is based on two assumptions;
private ownership is superior in improving productive efficiency
and regulatory failure is less likely if there is an arms length regu-
lator. The first assumption implies per se private ownership is
more efficient than public ownership and the second that arms
length regulation is superior to no regulation.23 Agency relation-
ships, which define the complex interactions of formal and implied
contracts among economic agents, will change under privatization.
Specifically privatization is seen as aligning the incentives of manag-
ers and shareholders under an objective function of profit maximiza-
tion. Thus public ownership is not inefficient per se but differences
in productive efficiency between private and public ownership arise
due to differing objective functions and the claims on the returns
earned by the firm; sometimes referred to as the residual rents
(see Megginson and Netter, 2001). Under private ownership there
are greater incentives for monitoring costs, being innovative and
investing to increase profits. For public firms such returns would ac-
crue to taxpayers who have no claim on the returns and no power to
influence decisions. Both the agency costs and property rights liter-
atures focus on the influence of ownership on managerial behavior
(Shleifer, 1997). An important aspect of private ownership is not
only are objectives refocused but also mechanisms exist to monitor
managerial performance such as stock prices, takeover threats and a
market for managerial expertise.24
In network industries where there is often privatization (wholly
or partial) accompanied by regulation the benefits of privatization
may not be realized (Jens et al., 2008). The reason is new agency
problems arise with the presence of a regulator who has some con-
trol rights. The impact of privatization would be blunted since the
creation of market pressures through competition are thwarted by
the regulator. As a result the incentives for innovation may also be
dampened. Thus the empirical results we obtain are consistent
with the theoretical literature. The introduction of tight or hea-
vy-handed regulation undermines the forces, which are attributed
to privatization successfully lowering costs and improving eco-
nomic efficiency. In particular the incentives of managers are af-
fected since the size of rents will be reduced. Also the
information contained in metrics to monitor managerial perfor-
mance is reduced. Ill designed regulation can also distort invest-
ment incentives of an airport manager. This will have an impact
of that airports productivity and potentially the productivity of
the airports connected to it through aviation networks. When reg-
ulation is introduced the competition dynamic efficiency channels
can be mitigated. These channels are making it more difficult to
monitor managerial performance, there are reduced incentives to
adopt cost reducing productivity investments and the expected
losses of markets share due to competition are gone. There is also
the moral hazard result that regulation creates incentives for re-
duced service quality, which will in turn lead, to increased and
more detailed and expensive regulation. As Starkie (2011) and
Schuster (2009) have argued, the best regulator for airports is
self-regulation where upstream and downstream parties negotiate
contracts.
7. Summary and concluding remarks
Airports are shifting their business models from government
owned public utilities to commercial enterprises. This move char-
acterizes the ownership pattern of other transportation and utility
23
Laffont and Tirole (1993) provide a very good summary of the literature on the
ownership issue.
24
Eckel et al. (1997) find privatization is often accompanied by managerial
restructuring.
197
infrastructure as well. The shift to new ownership and governance
structures, and the decision to impose economic regulation, has
varied across jurisdictions. The US has a pilot airport privatization
program and China as well is looking at privatizing its airports
while India is restructuring with public–private partnerships and
imposing some price regulation. Which model is to be chosen? Effi-
ciency is a key issue for airports as they compete with other indus-
tries and projects for capital, capital that governments can no
longer afford. Airports also supply services in a highly competitive
supply chain where a dominating business model is based on least
cost.
The previous literature examining the impact of ownership
structure and price regulation on performance looked at these
two factors separately, despite both factors being in place for major
airports. Ownership and price regulation should be looked at in
combination to determine which is relatively more important in
effecting efficiency. This is important for jurisdictions such as the
US where the move to airport privatization is just beginning, as
well as moves to privatization in other major economies such as
Russia, India and China. This article has provided evidence to the
question of dominance but also suggests what happens to effi-
ciency if you change ownership, or price regulation or both. As it
turns out, price regulation is dominant in effecting efficiency, but
the starting point still matters; shifting from a regulated govern-
ment enterprise to a private sector competitive firm with no price
regulation results in the largest efficiency gains. Therefore, in juris-
dictions such as India where there is a shift to full or partial priv-
atization, the efficiency gains that would arise from such a
change in governance can be undone by imposing a heavy handed
form of regulation such as single till.
The variety of governance/regulation models observed across
the world should not be surprising as formats seem to have been
based on political criteria with no recognition that form matters.
Only recently has the consequences of the governance and regula-
tion on efficiency and pricing been investigated. The results of this
and other research on airport performance will hopefully prompt
governments to carefully consider how they privatize and whether
they regulate. This research shows that when both governance and
regulation are considered jointly, it is regulation that either mini-
mal regulation which result sin large efficiency improvements or
an offsetting loss of efficiency gains with a move away from public
ownership and the imposition of heavy handed regulation.
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