Theory and Law of Airport Revenue Diversion (2008)

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4 airline industry costs, and a diversion of revenue could, according to the airlines, only worsen the airlines’ fi- nancial condition, which, since deregulation, has fallen to historic lows.5 As a consequence, Congress has imposed constraints on the use of airport funds for off-airport municipal ac- tivities, at least for most airports receiving federal fi- nancial support. This study examines the issue of air- port revenue diversion, the theoretical rationale for its prohibition, and the array of federal statutes and Fed- eral Aviation Administration (FAA) policies that regu- late it. II. AIRPORT FINANCE A. General Principles of Airport Finance Understanding revenue diversion requires a basic understanding of general principles of airport cost and revenue and their subcomponents—capital and operat- ing expenditures and the various sources of revenue.6 The laws and policies restricting revenue diversion are concerned with both revenue and expenditures. Thus, we evaluate financial issues at two levels. First, an airport seeking to expand its facilities or a governmental entity seeking to build a new airport must raise sufficient capital to finance such infrastruc- ture development from public or private sources or a combination of both. Capital costs consist of the compo- nent costs (e.g., labor, materials, and equipment) of construction of the airport and its component parts. Funds come from a variety of public (including federal) and private (including municipal general obligation (GO) bonds and general airport revenue bonds (GARBs)) sources.7 Sources of capital for airport devel- opment include governmental or international organi- zation loans and grants; commercial loans from finan- cial institutions; equity or debt (typically bonds) from commercial capital markets, including private inves- tors, banks investment houses, or fund pools; and the extension of credit from contractors and suppliers. Commercial loans typically incur the highest interest 5 See Daniel P. Rollman, Flying Low: Chapter 11's Contri- bution to the Self-Destructive Nature of Airline Industry Eco- nomics, 21 EMORY BANK. DEV. J. 381 (2004); PAUL DEMPSEY & ANDREW GOETZ, AIRLINE DEREGULATION & LAISSEZ FAIRE MYTHOLOGY (1993). 6 See generally Christopher R. Rowley, Comment: Financing Airport Capital Development: The Aviation Industry's Greatest Challenge, 63 J. AIR L. & COM. 605 (1998); John Sabel, Airline– Airport Facilities Agreements: An Overview, 69 J. AIR L. & COM. 769 (2004); PAUL DEMPSEY, ANDREW GOETZ & JOSEPH SZYLIOWICZ, DENVER INTERNATIONAL AIRPORT: LESSONS LEARNED 183-228 (1997); PAUL DEMPSEY, AIRPORT PLANNING & DEVELOPMENT: A GLOBAL SURVEY 178–80 (2000); and ALEXANDER WELLS, AIRPORT PLANNING & MANAGEMENT 159– 69 (3d ed. 1996). 7 See Sabel, supra note 6; PAUL DEMPSEY, ROBERT HARDAWAY & WILLIAM THOMS, AVIATION LAW & REGULATION § 7.06 (1992). rates, though such rates may be reduced by governmen- tal loan guarantees. Existing airports also may have retained earnings in a capital development account. Second, once built, an airport must earn sufficient revenue to pay its operating expenses and retire its debt. Revenue comes from a number of sources, includ- ing rents, aeronautical fees, concessions, and parking.8 Operating costs include expense items such as interest and depreciation or amortization on debt, taxes, and maintenance and administrative costs, including sala- ries, power, and repairs. B. Funding for Airport Infrastructure This section examines how airport infrastructure is financed and the role federal funding has in infrastruc- ture development. The reader is introduced to cash flow revenue streams, private bonding sources, the AIP, PFCs, and state and local financing.9 1. Cash Flow In order to understand airport finance, one must comprehend not only where the revenue goes, but where it originates. Airside revenue streams include landing fees, fuel taxes, and maintenance and cargo facility leases. Landside revenue streams include ter- minal rents and gate leases, concessions, and parking fees. PFCs are another significant source of revenue that cannot be readily classified as air side or land side. All revenue generated by a public airport, as well as local fuel taxes, must be used for legitimate airport purposes—the capital or operating costs that directly and substantially relate to air transport. PFCs are sub- ject to additional limitations and requirements as dis- cussed below. In addition to government grants and subsidies, the airport turns to its tenants—the airlines, concession- aires, parking providers—and the passengers they serve to finance its maintenance and operating costs and debt service. Airports derive revenue streams from rents, charges, and fees imposed upon airlines; various concessionaires (such as car rental companies, restau- rants, news stands, taxi and van services, catering and baggage services); fuel providers; and parking. Except for many small airports, most U.S. commercial airports are self-sustaining, with revenue collected from busi- nesses (concessionaires), passengers, and airlines cover- ing most airport operating expenses. In fact, about half of the smaller commercial airports (nonhub primary and nonprimary commercial service airports) in the United States do not break even. Likewise, most gen- eral aviation airports are subsidized by their owners. Airport concessionaires (such as restaurants, news stands, auto rental companies) typically pay rent for the space they occupy, while some pay a gross-receipts fee. These revenues, in turn, finance operating and mainte- 8 REGIS DOGANIS, THE AIRPORT BUSINESS 57 (Routledge 1992). 9 See generally Rowley, supra note 6, and Dempsey, supra note 6, at 174–77.

5 nance expenses, principal and interest debt service, and various “pay as you go” infrastructure, such as terminal or runway expansions or improvements.10 Airlines pay rental charges for the space they occupy at ticket counters, gates, and baggage handling, main- tenance, and catering facilities, and also pay takeoff and landing fees, parking fees, and fuel fees.11 Two methodologies dominate computation of airline fees and charges under airport use agreements: the residual method and the compensatory method.12 Many airports use a combination of residual and compensatory rate- making. In a residual agreement, the signatory airlines accept the financial risk, and guarantee to provide the airport with sufficient revenue to cover its operating and debt- service costs. Under this approach, the airport deducts an agreed amount of nonairline (concession) revenue from its expenses, leaving the airlines responsible for the remaining (residual) amount.13 Airline rates then 10 National Civil Aviation Review Commission, Airport De- velopment Needs and Financing Options (June 4, 1997), repro- duced at: http://www.faa.gov/ncarc/whitepaper/airports/#cfs (Last visited Jan. 23, 2008). 11 Air Transport Association of America, Airline Handbook, ch. 7 (available at http://members.airlines.org/about/d.aspx?nid=7951 (visited Jan. 23, 2008). 12 One source notes: At most commercial service airports, the financial and op- erational relationship between an airport and the airlines it serves is defined in legally binding agreements that specify how the risks and responsibilities of airport operations are to be shared between the two parties. Commonly referred to as "air- port use agreements," these contracts generally specify the methods for calculating the rates airlines must pay for use of airport facilities and services, as well as identify the airlines' rights and privileges, which in some cases include the right to approve or disapprove any major proposed airport capital devel- opment projects (which the airlines are required to finance). National Civil Aviation Review Commission, Airport Devel- opment Needs and Financing Options (June 4, 1997), repro- duced at http://www.faa.gov/ncarc/whitepaper/airports/#cfs (visited Jan. 23, 2008). 13 Airlines typically stand behind the revenue bonds with “use and lease agreements,” pledging to make up the difference in revenue shortfalls by paying higher landing fees. The quid- pro-quo for the residual funding agreement historically has been a long-lease term for gates and a “majority-in-interest clause” (MII) giving airlines a say (often an effective veto) over airport expansion and a return of excess revenue collected, often in the form of lower landing fees. ALEXANDER WELLS, AIRPORT PLANNING AND MANAGEMENT 181 (1992). As of 1990, majority-in-interest clauses were in effect at 36 of the 66 larg- est U.S. airports. Kenneth Mead, Airline Competition (testi- mony on passenger facility charges before the House Subcomm. on Aviation, June 19, 1990). As of 1999, the U.S. DOT reported that most of the large and medium hub airports had MII clauses in their use and lease agreements. U.S. DEP’T OF TRANSP., AIRPORT BUSINESS PRACTICES AND THEIR IMPACT ON AIRLINE COMPETITION ix (1999), available at http://ostpxweb.dot.gov/aviation/Data/airportsbuspract.pdf (Last visited Jan. 23, 2008) (identified 30 out of 45 large air- are set accordingly. Airlines bear the risk that their fees will be increased should concession revenue fall short. Airports using residual methodology typically give air- lines majority-in-interest power to veto new major capi- tal expenditures.14 Compensatory agreements, whereby the airport un- dertakes the risk of meeting its costs, usually exist at mature airports that have achieved successful revenue generation. Under the compensatory method, an airport is divided into various cost centers (such as airfield, terminals, and parking areas), and airlines pay a share of those costs based on the amount of space they occupy (at, for example, ticket counters, gates, and baggage sorting and catering facilities); volume of landing and departing aircraft; and other measures of airline use.15 The airport retains concession revenue for discretionary capital improvement projects. These so-called “captive customers” (i.e., airlines and concessionaires) have become highly interested in whether airports might charge them fees exceeding the cost of operating the airport in order to cross-subsidize the local governmental institution that owns the air- port. Politically, they have encouraged the Congress to promulgate prohibitions on certain forms of revenue diversion. 2. Commercial Debt (Bonds) Historically, in the United States, funding for airport capital infrastructure, such as runways, taxiways, and terminals, has come from two primary sources: (1) fed- eral ticket taxes (or AIP funds) from the Airport Trust Fund collected on every airline ticket purchased in the United States; and (2) tax-free GARBs issued by mu- nicipalities. In the late 1990s, approximately 80 percent of the capital for the airport project came from AIP grants, while the remaining 20 percent was raised by municipalities in GARBs.16 In the half century between 1946 and 1996, the U.S. government granted more than $24 billion in grants to airports.17 In 1990, Congress ports with MII clauses based on an ACI-NA survey). However, these data may be somewhat overstated, as many airports have either moved away from majority-in-interest clauses or substantially weakened them in recent lease negotiations. 14 Nancy Kessler, Airport-Airline Fee Disputes and Privati- zation of Airports (address before the 117th Summer Meeting of the Virginia Bar Association (July 21, 2007)). 15 Air Transport Association of America, supra note 11. 16 HENRY HYDE & JESSE JACKSON, JR., THE PARTNERSHIP FOR METROPOLITAN CHICAGO’S AIRPORT FUTURE 30 (1997). The GAO recently published a report with more up-to-date figures on the use of bonds versus AIP. U.S. GOV’T ACCOUNTABILITY OFFICE, AIRPORT FINANCE, OBSERVATIONS ON PLANNED AIRPORT DEVELOPMENT COSTS AND FUNDING LEVELS AND THE ADMINISTRATION’S PROPOSED CHANGES TO THE AIRPORT IMPROVEMENT PROGRAM, GAO-07-885 (June 2007), http://www.gao.gov/new.items/d07885.pdf (Last visited Jan. 23, 2008). 17 U.S. GENERAL ACCOUNTING OFFICE, AIRPORT PRIVATIZATION 8 (Feb. 29, 1996). Annual Reports of AIP ac- complishments can be used to provide approximate figures of

6 also passed the Aviation Safety and Capacity Expansion Act, creating a federally authorized but locally collected program of airport PFCs to supplement public airport capital needs.18 Between 2001 and 2005, airports re- ceived an average of approximately $13 billion a year for capital development, most of which comprised bonds ($6.5 billion), federal grants ($3.6 billion), and PFCs ($2.2 billion). The nation’s 67 largest airports, which account for approximately 90 percent of passenger traf- fic, rely more heavily on bond financing, while the re- maining 3,300 smaller airports in the national system rely more heavily on grants.19 Early airport construction was financed by GO bonds backed by the “full faith and credit” of a governmental unit and secured by taxes collected by it.20 The industry was in its infancy, and airports were not capable of gen- erating sufficient revenue to finance infrastructure costs. Since World War II, GARBs have replaced GO bonds as the preferred means of financing new airport construction, expansion, or improvement. In fact, since 1982, more than 95 percent of airport debt, exceeding some $50 billion, has been in the form of GARBs.21 GARBs are paid off by revenue generated by the facility they finance.22 Although GARBs have been the primary source of debt financing, special facility bonds secured by revenue from the indebted facility (e.g., hangar or maintenance facility) are sometimes issued.23 Both grants for the period 1997 thru 2007. These reports can be obtained from the FAA Web site at the following URL: http://www.faa.gov/airports_airtraffic/airports/aip/grant_histori es (Last visited Jan. 23, 2008). 18 49 U.S.C. § 40177. See Village of Bensenville v. FAA, 363 U.S. App. D.C. 78, 376 F.3d 1114 (D.C. Cir. 2004). 19 U.S. GOVERNMENT ACCOUNTABILITY OFFICE, AIRPORT FINANCE: OBSERVATIONS ON THE ADMINISTRATION’S PROPOSED CHANGES IN THE AIRPORT IMPROVEMENT PROGRAM, GAO-07- 885 (June 2007), available at http://www.gao.gov/new.items/d07885.pdf (Last visited Jan. 23, 2008). 20 One source notes: In the 1950's and early 1960's, general obligation (GO) bonds were more widely used than revenue bonds for airport develop- ment. GO bonds were backed by the taxing authority of the is- suer. Since the 1960's, airport revenue bonds have been the ma- jor financing mechanism for capital improvements at large, medium, and some small hub airports. These financial instru- ments pledge the airport's revenue streams to repay bond hold- ers. The ability of an airport to utilize revenue bonds depends on a number of factors, including: debt structure; airport manage- ment, administration and scope of operations; revenue structure and financial operations, economic base; and plant. National Civil Aviation Review Commission, Airport Devel- opment Needs and Financing Options (June 4, 1997), repro- duced at http://www.faa.gov/ncarc/whitepaper/airports/#cfs (Last visited Jan. 23, 2008). 21 Air Transport Association of America, supra note 11. 22 Rowley, supra note 6; DEMPSEY, GOETZ & SZYLIOWICZ, supra note 6, at 186. 23 U.S. GENERAL ACCOUNTING OFFICE, AIRPORT FINANCING: FUNDING SOURCES FOR AIRPORT DEVELOPMENT 38, GAO/RCED-98-71 (Mar. 1998), GARBs and GO bonds historically have been tax ex- empt (as industrial revenue bonds), allowing states, municipalities, and airport authorities to lower the long-term costs of capital financing.24 The cost of capital (i.e., interest rates) paid by airports on GARBs is lower than commercial rates because of the tax benefits. GARBs typically run for a 25–30 year term and usually pay lower interest than taxable corporate bonds of com- parable risk.25 3. Federal Funding: The Airport and Airway Trust Fund and the Airport Improvement Program Prior to 1970, federal funding of the airport and air- way system was from the general fund. That year, the Airport and Airway Trust Fund (AATF) and the Airport Development Aid Program were established. Revenue to fund the trust fund was derived from passenger ticket and other excise taxes.26 The Airport and Airway Improvement Act of 198227 (AAIA) established the current framework for federal financing of U.S. airport development and improvement projects. The AATF is the depository for airport infra- structure revenue under the AIP. Such revenue is de- rived from airline ticket taxes, fuel taxes, airway bill taxes, and other taxes and fees. 28 Before 1997, the aviation taxes deposited in the AATF included a 10 percent ticket tax, a 6.25 percent http://www.gao.gov/archive/1998/rc98071.pdf (Last visited Jan. 23, 2008). 24 Michael Bell, AIRPORT FINANCING, IN AIRPORT REGULATION, LAW & PUBLIC POLICY 93-95 (R. Hardaway ed., 1991). The availability of tax-exempt bonds is estimated to save airports and airlines over $1 billion a year in interest costs. (Airports and airlines also make extensive use of Special Facil- ity bonds which are revenue bonds that are usually secured by the guarantee of an airport tenant. Also, airports continue to make use of GO bonds that are secured by the taxing authority of the issuer, but there is heavy competition to use such bonds for other municipal purposes.) National Civil Aviation Review Commission, Airport Devel- opment Needs and Financing Options (June 4, 1997), repro- duced at http://www.faa.gov/ncarc/whitepaper/airports/#cfs (Last visited Jan. 23, 2008). 25 The cost of private capital typically is higher than public capital, though interest rates can be ameliorated by govern- mental guarantees and insurance. The competitiveness of air- port bonds in the market can be gauged by the bond ratings by the major investment houses, the interest rate, and the default ratio. Tax exemptions on the bond’s purchase price or interest can also stimulate investor interest in airport bonds. INTERNATIONAL CIVIL AVIATION ORGANIZATION, AIRPORT ECONOMICS MANUAL 69 (1991). 26 National Civil Aviation Review Commission, supra note 10. 27 97 Pub. L. No. 248, 96 Stat. 671. This Act replaced the Airport and Airway Development Act of 1970, 91 Pub. L. No. 258, 84 Stat. 219. 28 The Airport and Airway Trust Fund also provides the fi- nancing for the FAA’s capital and research and development budget and for most of the FAA’s operating budget.

7 cargo waybill tax, a $6 international departure tax, a 15 cents per gallon general aviation gasoline tax, and a 17.5 cents per gallon general aviation fuel tax.29 Legis- lation passed that year shifted much of AIP funding away from the traditional 10 percent tax imposed on each ticket sold.30 Beginning in January 2000, aviation- related federal taxes generated to fund the AIP in- cluded a 7.5 percent domestic ticket tax and a $2.50 per person per flight segment fee for all flights, though cer- tain rural airports were exempted from the latter. The federal grant programs also are funded by a $12.00 in- ternational arrival tax and a $12.00 international de- parture tax (adjusted for inflation from 1999), a 6.25 percent domestic air freight tax, a 4.3 cents per gallon domestic air fuel tax, and taxes on the fuel consumed by small aircraft and for noncommercial purposes.31 Table 1 summarizes the tax structure that funds the trust fund. 29 For a complete list of the taxes charged, see PAUL STEPHEN DEMPSEY & LAURENCE GESELL, AIRLINE MANAGEMENT: STRATEGIES FOR THE 21ST CENTURY 402–13 (1997), and PAUL DEMPSEY, ROBERT HARDAWAY & WILLIAM THOMS, 1 AVIATION LAW & REGULATION § 2.26 (1993). See also Rowley, supra note 6. 30 The new taxing structure was as follows: Commercial • Ticket tax of 9 percent in FY 1998; 8 percent in FY 1999; and 7.5 percent in FY 2000 through FY 2002; • Segment charges per passenger of $1.00 in FY 1998, $2.00 in FY 1999, $2.25 in FY 2000, $2.75 in FY 2001, and $3.00 in FY 2002; • International departure and arrival taxes of $12; • Frequent flyer award tax; • $0.043 commercial user fuel tax (formerly the deficit re- duction tax); and • 6.25 percent cargo waybill tax. Noncommercial • $0.193 aviation gasoline tax and • $0.218 aviation jet fuel tax. NATIONAL CIVIL AVIATION REVIEW COMMISSION, AVOIDING AVIATION GRIDLOCK & REDUCING THE ACCIDENT RATE II-26 (1997). 31 Air Transport Association of America, supra note 11.

8 TABLE 1. CURRENT AVIATION EXCISE TAX STRUCTURE32 (Taxpayer Relief Act of 1997, P.L. 105-35) Aviation Taxes Comment Tax Rate PASSENGERS Domestic passen- ger ticket tax Ad valorem tax 7.5% of ticket price (October 1, 1999, through November 30, 2007) Domestic flight segment tax Domestic segment = a flight leg consisting of one takeoff and one landing by a flight Rate is indexed by the Consumer Price Index (CPI) starting January 1, 2002. Rate per pas- senger per segment in calendar years (CYs): 2003 – $3.00 2004 – $3.10 2005 – $3.20 2006 – $3.30 2007 – $3.40 Passenger ticket tax for rural air- ports Assessed on tickets on flights that begin/end at a rural airport Rural airport: <100K enplanements during 2nd preceding CY, and either (1) not located within 75 miles of another airport with 100K+ en- planements, (2) is receiving essential air service subsidies, or (3) is not connected by paved roads to another airport 7.5% of ticket price (same as passenger ticket tax). Flight segment fee does not apply. International arrival and departure tax Head tax assessed on passengers arriving or departing for foreign destinations (and U.S. ter- ritories) that are not subject to passenger ticket tax Rate is indexed by the CPI starting January 1, 1999. Rate per passenger in CYs: 2003 – $13.40 2004 – $13.70 2005 – $14.10 2006 – $14.50 2007 – $15.10 Flights between continental United States and Alaska or Hawaii Rate is indexed by the CPI starting January 1, 1999. International facilities tax rate (+ ap- plicable domestic tax rate) in CYs: 2003 – $6.70 2004 – $6.90 2005 – $7.00 2006 – $7.30 2007 – $7.50 Frequent flyer tax Ad valorem tax assessed on mileage awards (e.g., credit cards) 7.5% of value of miles FREIGHT / MAIL Domestic cargo/Mail 6.25% of amount paid for the transportation of property by air AVIATION FUEL General aviation fuel tax Aviation gasoline: $0.193/gal Jet fuel: $0.218/gal Commercial fuel tax $0.043/gal 32 Source: http://www.faa.gov/about/office_org/headquarters_offices/aep/aatf/media/Simplified_Tax_Table.xls (Last visited Jan. 23, 2008).

9 The AIP provides funding for airport planning and development projects that enhance capacity, safety, and security and mitigate noise. Several thousand airports have been designated by the FAA as eligible for AIP funding. Most funds are allocated on the basis of a statutory entitlement formula based on passenger en- planements, with set-aside categories for designated types of airports and airport projects.33 The largest U.S. airports receive only about 10 percent of their capital funding through AIP, while the smaller airports as a group acquire more than half of their capital funding from AIP.34 During fiscal year 2006, AIP funds totaling $3.6 billion funded 2,059 new grants and 729 grant agreements.35 4. Federal Funding: Passenger Facility Charges Recognizing the need to generate local discretionary sources of capital, Congress in 1990 created the PFC program, which allowed airports to impose a $1, $2, or $3 charge directly on each boarding passenger (up to a maximum of $12 per passenger) for FAA-approved pro- jects. For the largest airports, Congress required the airport to surrender half of its AIP funding in exchange for the right to impose the PFC.36 Priority was given to capital improvements to finance capacity, safety, secu- rity, and environmental projects and projects to en- hance airline competition. These limits have since been increased. Beginning in 2000, the maximum PFC rate was increased to $4.50 per segment, with a roundtrip cap of $18.00.37 These 33 U.S. GENERAL ACCOUNTING OFFICE, AIRPORT IMPROVEMENT PROGRAM: MILITARY AIRPORT PROGRAM AND RELIEVER SET-ASIDE UPDATE 2, GAO/T-RCED-96-94 (Mar. 13, 1996), http://ntl.bts.gov/lib/1000/1400/1450/rc96094t.pdf. (Last visited Jan. 23, 2008). 34 U.S. GENERAL ACCOUNTING OFFICE, AIRPORT FINANCING: COMPARING FUNDING SOURCES WITH PLANNED DEVELOPMENT 1, GAO/T-RCED-98-129 (Mar. 19, 1998), http://www.gao.gov/archive/1998/rc98129t.pdf (Last visited Jan. 23, 2008). 35 FEDERAL AVIATION ADMINISTRATION, AIRPORT IMPROVEMENT PROGRAM FISCAL YEAR 2006 (2007), available at http://www.faa.gov/airports_airtraffic/airports/aip/grant_histori es/media/aip_annual_report_fy2006.pdf (Last visited Jan. 23, 2008). 36 One source notes: Since it was recognized that principally large and medium hub airports would benefit from PFC revenues, such airports imposing PFCs were required to "turnback" 50 percent of their AIP entitlement funds. (75 percent of the forfeited entitlements funds were used to create the AIP Small Airport Fund, benefit- ing non-commercial service airports and non-hub commercial airports. The remaining 25 percent was added to the AIP discre- tionary fund. Of this 25 percent, half was to be provided to small hub airports and half was to be distributed between other dis- cretionary accounts. The idea was that small airports would not raise PFCs directly, and this was a way for them to benefit indi- rectly from PFCs levied by the larger airports.) National Civil Aviation Review Commission, supra note 10. 37 The passenger entitlement turn-back percentage was raised from 50 percent to 75 percent for airports imposing a PFC of more than $3. taxes must be pledged to specific FAA-approved capital improvements that (1) preserve or enhance the safety, capacity, or security of the national air transportation system; (2) reduce noise; or (3) enhance air carrier com- petition. Once all the money needed for the approved projects has been raised, the airport may no longer col- lect the PFC approved therefor.38 By 1994, the FAA had approved applications by about 100 airports to generate $6.4 billion in PFC revenue.39 By the late 1990s, PFCs were generating more than $1.1 billion annually for approved projects at more than 200 airports.40 Today, more than 300 airports have been authorized to collect PFCs that total more than $62 billion. In recent years, PFCs have generated more than $2.5 billion per year.41 PFCs also differ from other forms of financing in their potential susceptibility to revenue diversion. PFCs may only be collected for specified, FAA-preapproved pro- jects. Hence, it is less likely that such funds will be used for nonapproved purposes. 5. State and Local Financing Most states also provide financial assistance to air- ports, usually in the form of matching funds for AIP grants. States fund their contribution through aviation fuel and aircraft sales taxes, highway taxes, bonds, and general fund appropriations. In 1996, the states pro- vided $285 million to U.S. airports.42 Between 2001 and 2005, states provided approximately $3.8 billion to the national system airports, 57 percent of which went to general aviation or reliever airports.43 Even when states contribute matching funds, they normally do not con- tribute the full matching share, but expect the airport or municipality owning the airport also to contribute. Occasionally a local municipality or outside developer may provide financial assistance to an airport. Usually such assistance is in the form of operating subsidies for smaller airports.44 C. The Theory of Natural Monopoly and Monopolistic Abuse It has been asserted that airports constitute a mo- nopoly “…with the ability to charge fees and control aviation traffic. Diverting funds while charging fees and 38 Air Transport Association of America, supra note 11. 39 U.S. House Comm. on Public Works & Transportation, Aviation Infrastructure Act of 1993, H.R. REP. NO. 103-240, at 27 (1993). 40 National Civil Aviation Review Commission, supra note 30, at II-43. 41 Federal Aviation Administration, Key Passenger Facility Charge Statistics (Nov. 1, 2007) available at http://www.faa.gov/airports_airtraffic/airports/pfc/monthly_rep orts/media/stats.pdf (Last visited Jan. 23, 2008). See also Air Transport Association of America, supra note 10. 42 U.S. GENERAL ACCOUNTING OFFICE, supra note 23, at 43. 43 U.S. GOV’T ACCOUNTABILITY OFFICE, supra note 19, at 26–27. 44 U.S. GENERAL ACCOUNTING OFFICE, supra note 23, at 43.

10 receiving funds through the AIP funds essentially is double-dipping and taxpayers pay the brunt of this practice. Air carriers and air travelers also pay a heavy price for airport revenue diversion.” 45 Monopolies generally have been disfavored in Ameri- can law since promulgation of the Sherman Act of 1890. Antitrust legislation tends to reflect the normative con- clusion that large firms or corporations that dominate particular industries as bastions of enormous concen- trations of wealth and power are undesirable.46 By the late 19th century, Richard Ely had identified a number of industries as natural monopolies, including railroad, express, telegraph, streetcar, gas, and water compa- nies.47 Other examples of natural monopolies include gas and oil pipelines, electricity transmission, and local distribution utilities such as telephone service, gas, wa- ter, electricity, and cable television. In most cities, airports are natural monopoly bottle- necks48 (with declining costs over a long range of out- put).49 Costs tend to decline until airside or landside demand exceeds capacity, for airport infrastructure expansion can be politically difficult and financially challenging. Many airports are hemmed in by sur- rounding development and opposed by residents fed up with noise and congestion. Some residents may embrace a “NIMBY” (not in my back yard) attitude toward new airport development or existing airport expansion. Con- gestion imposes the need for landside and airside ex- pansion, yet land constraints and local political opposi- tion to the construction of new airports or expansion of existing ones impose severe financial and political bar- riers to economical expansion. Some argue that airports do not share the characteristics of most other natural 45 Airport Revenue Diversion, Hearings before the U.S. Sen. Subcomm. on Aviation of the Commerce Comm. (May 1, 1996), at 34, reproduced at: http://books.google.com/books?id=nQEDkwETmdkC&dq=%22ai port+revenue+diversion%22&printsec=frontcover&source=web &ots=f7QKBCZe8&sig=ZsilCY2rHH1ZSYysVMapyMALmMM #PPA30,M1 (Jan. 23, 2008). 46 Thomas W. Hazlett, The Curious Evolution of Natural Monopoly Theory, IN UNNATURAL MONOPOLIES 3 (R. Poole, Jr. ed., 1985). 47 Richard Ely, The Future of Corporations, HARPERS 260 (July 1887). 48 A “bottleneck” is a term used generally by some econo- mists to describe a situation where all the traffic must pass through a single portal. For a discussion of the concept of a “monopoly bottleneck,” see also United States v. W. Elec. Co., 269 U.S. App. D.C. 436, 846 F.2d 1422 (D.C. Cir. 1988). In some cities with only a single commercial airport, and without intercity rail service, an airport can be such a “bottleneck” for intercity passenger service. The concept of an airport “bottle- neck” and its competitive implications is discussed in Spirit Airlines v. Northwest Airlines, 431 F.3d 917, 927 (6th Cir. 2005), and Reza Dibadj, Saving Antitrust, 75 U. COLO. L. REV. 745 (2004). 49 See International Air Transport Association, Airport Pri- vatization, in http://www.iata.org/NR/rdonlyres/473F5695- 12A6-4071-8C64-2141913373B6/0/airport_privatisation.pdf (Last visited Jan. 23, 2008). monopolies in terms of declining costs over a long range of output. One source put it this way: Compared with the more traditional “natural” monopoly examples, supply in the airport industry is probably characterised [sic] by increasing, rather than decreasing, long-run costs at quite moderate levels of output. That is to say, if we double the potential output of a sizable air- port by doubling the capacity available for use, total costs will more than double…. The source of the airport mo- nopoly, therefore, is not the usual economies of scale in the long-run production function, but the fixity of “loca- tional” inputs (i.e. good sites) and economies of scope as- sociated with established air service networks.50 In the United States, the large commercial airports are owned predominantly by local governments. In sev- eral countries where airports have been privatized, eco- nomic regulation or price caps have been imposed to prohibit monopolistic exploitation of tenants, for air- ports hold monopoly power over airlines, and private ownership encourages wealth maximization.51 Because of concerns about the potential for airports to exhibit the characteristics of natural monopolies, airlines have a strong interest in ensuring that airports do not charge fees beyond those necessary to provide adequate and safe infrastructure. To airlines and air- 50 David Starkie, A New Deal for Airports (Institute of Eco- nomic Affairs, Nov. 1, 1999), at http://www.iea.org.uk/record.jsp?type=book&ID=373 (Last visited Jan. 23, 2008). 51 In 1994, the Canadian government announced its inten- tion to privatize (or “corporatize”) Canada’s airports and air traffic control system (NavCan). Peter Holle, Privatized Air Control a Canadian Success Story, GUELPH MERCURY, Sept. 24, 2002, at A7. Toronto’s Lester Pearson Airport was privat- ized in 1996. Canada’s major airports were transferred to local nonprofit companies that would continue to pay the federal government rent of the Crown land on which the airports sat. Critics pointed out that Canada’s eight largest airports pay $250 million a year to the federal government in rent, which, of course, is passed through to airlines and their passengers as a hidden tax. Walter Robinson, Let Air Canada Heal Self- Inflicted Wounds, HAMILTON SPECTATOR, Apr. 2, 2003, at A11; Stephanie Rubec, Bungled Air Deals Millions Lost in Airport Privatization, CALGARY SUN, Oct. 18, 2000, at 2. After Can- ada’s airports were privatized, airlines experienced a signifi- cant increase in airport landing and terminal fees and rents. Air Canada Welcomes Transport Canada Airport Policy Initia- tives, CANADA NEWSWIRE, June 13, 2001. The International Air Transport Association (IATA) complained that airport fees at Toronto Pearson Airport would have to increase by at least 150 percent to pay for the debt incurred in terminal expansion, making it the world’s fifth most expensive airport in which to operate. It was projected that increased fees for Air Canada alone would exceed $100 million annually. CANADIAN PRESS NEWSWIRE, Dec. 31, 2003; Weaker Dollar and High Costs Hurt Canada’s Airlines, AIRLINE FINANCIAL NEWS, May 17, 1999. Denouncing Pearson Airport as a “true monopolist,” IATA Di- rector General Giovanni Bisignani declared, “Clearly the fu- ture of Pearson as Canada’s largest international gateway is in jeopardy of sinking under the weight of the airport’s $6-billion debt.” Start-Up for Pittsburgh, AIRLINE BUS., Nov. 1, 2003, at 14. World Airline Group Takes Shots at New Pearson “Tollway for Extravagance,” CANADIAN PRESS NEWSWIRE, Apr. 5, 2004.