Lesson from India’s aviation market failure: The Invisible Hand is theory but regulation is a must

Let us look at the symptoms. Airfares shot up overnight. A ticket that cost ₹6,000 a few days earlier was suddenly ₹40,000 or more. Hotels around airports quietly doubled rates as stranded passengers looked for overnight rooms. It is all demand and supply, say market purists—as supply responds, markets will settle. Meanwhile, greed smells an opportunity in markets dominated by a few and a crisis becomes a bonanza for those who can raise prices and a nightmare for those who have no choice.

Try telling someone who has missed an exam or a wedding that prices send signals and that intervention distorts markets. Nobel laureate Milton Friedman’s famous quote, “There is no free lunch,” does not get more ironic. Who is feasting on the free lunch?

In the real world, especially in sectors like aviation, markets do not resemble textbook models. They are rigid, capital-intensive and profoundly uncompetitive, with high entry barriers. While you may start a dog escort service and compete with other platforms offering the same, starting an airline is an entirely different undertaking. Aircraft, pilots, engineers, ground crew and safety approvals require more than price spikes as incentives to trigger fresh supply.

When supply is not contestable, price hikes are not signals, but penalties. So when someone tells a stranded passenger that this is how a market works, one can offer a better turn of phrase: this is how a market exploits.

The consequences of market failure can be brutal. During the global financial crisis, a former prime minister famously quipped that markets need morals. Without them, they will fail. Unfortunately, morals in markets are ‘endogenous’—they need to be incentivized by a culture of regulation and enforcement.

In other words, markets need independent and credible regulation; morals will follow. And yet, regulating complex markets is as hard as getting them to be competitive in the first place for various reasons, including the political economy.

Consider Big Tech. In the last decade or so, we have witnessed their genius, innovation, speed to market and mind-boggling stock market performance. Of the world’s top ten listed companies, seven are digital.

What began as a marketplace has transformed into infrastructure. Platforms are not mere markets anymore; they are public exchanges, advertising displays, news distributors and social spaces all rolled into one.

Big Tech has become, well, big—perhaps too big—and on occasion it behaves like a law unto itself. The industry’s algorithms determine how commerce is conducted, including airline pricing, and more often than not these reinforce societal biases around gender and race, though that is another story for another day.

For now, suffice to say that regulators are often behind the curve. By the time they understand a technology, it changes. Enforcement, where it exists, is slow. Legal challenges are persistent, but tech firms have the smartest lawyers around.

The problem with regulation may not always be intent, since regulators are thoughtful and principled, but capacity. The state needs specialist multidisciplinary skills if it is to effectively govern sophisticated markets. Economics, law, data science, behavioural psychology, to name a few, along with honesty, must inform their toolkit. Without it, we risk regulatory capture.

Schumpeterian capitalism often treats regulation as an enemy of markets. This view is misleading. A market without rules is not free but lawless. Joseph Stiglitz, a Nobel-winning economist, has made a similar point about international trade. He argues that its current rules favour rich countries because they wrote them. And when rules cease to matter, the outcome is the same: the powerful gain and weaker countries suffer.

The same applies within domestic markets. When there are no rules, or when governments step back in the name of laissez-faire, powerful firms sharpen their advantage. They can raise prices in the name of demand and supply. But this is opportunism. Such markets compensate dominance, not innovation, and favour size over creativity. Airfares rose not because costs did, but airlines had the power to—with fare caps imposed only later. Morals, unfortunately, are a footnote in the regulatory toolkit. They only work if regulation has teeth.

So what is the point? Let me back on Sir Humphrey Appleby’s quip on regulation from the Yes, Prime Minister series. He said regulation is what governments do when they do not know what is happening but are determined to stop it. It was satire, of course, but drives home the argument. Too often do we regulate after the damage is done. We improvise rules because our institutions are not ready for their purpose.

The lesson from Sir Appleby’s cynicism is that real regulation is the antithesis of a panicked gesture. It sets boundaries through rules, honed by skills and supported by insulation from political and commercial capture. When monopolies grow, we need countervailing forces. We cannot outsource fairness to the Invisible Hand. We need visible institutions.

These are the author’s personal views.

The author is dean, school of humanities and social sciences and professor of economics, Shiv Nadar University.