The key observation is that the airport is built on credit (by the government, not the airline, using bonds), and the airplanes are usually either bought on credit or leased (in which case they are built by the airline on credit).

It's an illustration of why banks and bank debt are so important in our economy! This capital-intensive sort of business doesn't happen by an entrepreneur writing a $1 billion check from funds he has on hand.

It's precisely where the idea of a corporation comes in. How can a group of people risk so much? The only way is if it fails they don't go to prison or suffer for the rest of their lives because of that failure. Otherwise it would be very hard to convince people to take such enormous risks.

The main "problem" with capitalistic business is in expectations. People need to realize that every day comes with risk. And only through that risk do we see reward. But the little guy working the line, he just wants a paycheck with no risk. Unfortunately there would be very little reward if that were so.

> But the little guy working the line, he just wants a paycheck with no risk. Unfortunately there would be very little reward if that were so.

The little guys working the lines usually don't have safety nets and credentials—inherited money, money from previously founded business, mentors, a reputation, or even supportive relatives—so their fear of failure is somewhat justified.

True, but without the risk there would be no job for them to fear losing in the first place. People need to be responsible to themselves first, and a safety net is part of that. I say that knowing I just blew through $20k+ of my own safety net after going jobless for months. It's just business after all. But then again, this is why I have no qualms giving them my upsized salary demands. Because after all, it's just business. It's harsh, reality.

The days of retiring with a gold watch and pension were gone long before I ever hit the market decades ago unfortunately.

> True, but without the risk there would be no job for them to fear losing in the first place. People need to be responsible to themselves first, and a safety net is part of that.

It bugs me that it's often the poor that want free markets and cheer most for it, and shun co-op stores. The system is betraying them, they should just get away from it and focus on positive systems like co-op self-sustaining communities.

> And only through that risk do we see reward. But the little guy working the line, he just wants a paycheck with no risk.

This is a bit of pseudo-economics that's popular in the business community nowadays. Risk can be priced, in that it costs money to shift risk to someone else and you can charge a premium for taking on risk yourself. But statements like "only through that risk do we see reward" are just mumbo-jumbo.

Well if you can show one example where rewards come without risk I'll gladly cede my position. I just haven't experienced it myself in my life. I guess someone giving me a gift is risk free. But I wouldn't call that a reward.

Reward without risk is the usual definition of arbitrage. Some people make good money that way.

Of course, you can construe any activity to have some risk. After all, there's always the possibility that your currency collapses, or something. However, ignoring that sort of possibility, risk is not necessary to make money in a capitalist system.

Hrm, a valid point and I would add that the risk in arbitrage is so very low because they basically only face systemic risk. Risk of financial crisis, etc. I never really thought about that until now.

Sure. Say you're a bright young Harvard business school graduate. You might choose to either found a start-up, or go to a VC firm and help fund start-ups. The latter path is much lower risk (because you're not risking your own money, but rather that of the limited partners), but statistically you'll also probably come out ahead, financially, going that route.

Or to pose another example, starting a restaurant is probably riskier than starting a B2B software company, but also probably much less financially rewarding.

But both paths come with risk. Riskier doesn't always mean more reward, but no risk at all does mean no reward. That's all I really meant. Risk is of course relevant to each of us and we all define it differently, but everyone entertains some form of risk in their lives in order to just eat and keep a roof over our heads. It's worth it :D

Well they do still write $1 billion dollar cheques. Otherwise where did the bank get the billion dollars to lend someone else? :)

Edit: I think I need to dial down the subtly of my humour.

A bank doesn't necessarily need a billion dollars to lend a billion dollars...

Yes it does. A bank needs $1.1 billion to lend $1 billion, or they're out of compliance with Federal Reserve regulations.

The interesting part is that once they lend the $1 billion, and it's spent on aircraft (etc) and ends up in the bank accounts of Boeing and its contractors and its employees and the raw materials companies... then there's $1.1 billion in the original bank's accounts and $1 billion in all the Boeing accounts and there you go, they've turned $1.1 billion into $2.1 billion. And Boeing-etc's banks' can loan out up to about $909 million with it, and so on and so forth. Which may be what you're thinking of.

Now, the bank can borrow some or all of that $1.1 billion. And sometimes they can borrow that from the Fed. But the Fed isn't too big on that, and in non-2008esque-crisis situations tries to discourage it.

This is a huge commonly held misunderstanding of fractional reserve banking.

'The capital ratio is the percentage of a bank's capital to its risk-weighted assets. Weights are defined by risk-sensitivity ratios whose calculation is dictated under the relevant Accord. Basel II requires that the total capital ratio must be no lower than 8%.'

http://en.wikipedia.org/wiki/Capital_requirement

With $1 billion in deposits a bank may lend upto $12 billion under Basel II assuming a risk weight of 1.0

With $1 billion in assets and $12 billion in liabilities the capital ratio is 8%.

Where does the bank get this extra $11 billion? They borrow it from the Federal Reserve, unless they are lending it to another of their accounts in which case they just credit the account.

There is a disturbing amount of mis-information in this thread. As a sibling commenter writes, deposits have nothing to do with capital.

The Basel regulations are, as the term "risk-weighted assets" which you quoted implies, about the riskiness of assets of the bank.

NB: Loans made by a bank are assets of the bank, and they are risky, that is why Basel regulations are relevant. The corresponding liabilities of the bank are the money that is created in the debtor's accounts when the loan is made. But those liabilities are not part of the Basel computations, because Basel is about risky things. Risks do not come from liabilities, because liabilities are known, certain quantities. Risk only comes from assets.

When a risky asset has to be written off (e.g. loan goes bad), then the asset side of the bank's balance decreases. This is offset by an equal decrease on the liability side of the bank's balance. To be precise, the bank's capital is reduced (yes, capital is a liability).

This makes sense because capital represents the "liability" that the bank has towards its owners. When the bank makes bad decisions, the owners are supposed to pay for it in properly implemented capitalism.

When capital goes below zero, the bank goes bankrupt. Therefore, the ostensible goal of the Basel regulations is to ensure that capital never goes below zero (or, at least, that a lot has to go wrong before that happens).

This is why a risk-weighted sum of the bank's asset (the things that can go bad) is compared to capital (the only liability that can be legitimately decreased).

Deposits have nothing to do with capital. If you have 1B in assets and 12B in liabilities you are insolvent.

There's one of two possibilities, either I'm wrong and capital requirements don't work like that, or every bank in the world is insolvent. Given Quantitative easing 1,2,3,etc which do you think is true?

You take the blue pill – the story ends, you wake up in your bed and believe whatever you want to believe. You take the red pill – you stay in Wonderland, and I show you how deep the rabbit hole goes. Remember, all I'm offering is the truth – nothing more.

So from a bank's perspective, a loan is an asset and a deposit is a liability.

Say someone deposits $100 cash (federal reserve notes) into Bank A. Let's say the reserve ratio is 20%. It takes $80 and loans it to someone, who deposits in the same bank. It then takes $64 of that and loans it to someone who deposits in the same bank. It then takes $51 of that and loans it to someone who takes out cash and holds it.

The bank has the following assets: $20 + $16 + $13 in reserve, plus loans of $80 + $64 + $51 = $244.

It has the following liabilities: $100 + $80 + $64 = $244.

Now, if those loans don't get repaid, the bank might not remain solvent, but that has nothing to do with fractional reserve banking. Any entity that is solvent on the books can be rendered insolvent by loans going bad.

The accounting rules for banks are different. They book cashflow differently and I believe balance sheets are presented in a way that essentially neutralises the deposits and loans in order to focus on what the bank itself owns or owes.

Not true. There is only one Fed regulation about how much central bank money a bank must have, and that is the minimum reserve requirement, which is currently 10% for sufficiently large banks.

This is a required ratio between accounts of clients of the bank and money that the bank itself has in its account at the Fed (or as cash in its vaults). As such, it does not even have anything to do with loans in the first place.

The only way it has anything to do with loans is that as a loan of e.g. $1000 million is created, the bank creates a new account or marks up an existing account to the extent of $1000 million.

The minimum reserve requirement then increases by 10% of the newly created money, i.e. by $100 million. If the bank does not already have a sufficient amount of central bank money in its accounts, it must obtain this money within the next two weeks or so.

This is what happens in practice: Banks create loans based on creditworthiness of potential borrowers. An institutionally separate department of the bank then ensures sufficient central bank money to satisfy regulations.

tl;dr: Your number of $1.1 billion is completely wrong. The number $100 million would be somewhat less wrong, but is still not correct. In reality, banks do not need any money to make loans. They do need to satisfy minimum reserve requirements, but if necessary, they can obtain the required money after the loan is made.

> I think that's backwards. A bank is required to hold $100mm cash if it has $1b of demand deposits.

Yes. So it can loan out the other $900 million. Or, if it holds $1,111,111,111.11 it can loan out $1 billion.

> But it can hold all sorts of no-reserve-requirement deposits (like CDs) ... From that it can lend out whatever it wants

Yes, but in either case, it needs to have that $1 billion available to it in order to cut a $1 billion check. In neither case does a bank with only $100 million available get to loan out $1 billion, which is what it sounded like someone was suggesting.

Well... The bank could start with half a billion, and lend $450,000 of it. Then whichever bank that gets put into could lend 90% of that again, and so on. After a few times, there's a billion dollars lent from half a billion.

I fail to understand your reasoning: 0.5e9 * 0.9^n < 0.5e9 < 1e9. In other words: No one is ever receiving $1B even if banks' balance sheets sum to more than $1B lent collectively. On par, each bank is holding a small part of the 0.5e9, and then the final individual is holding the rest.

see http://en.wikipedia.org/wiki/Money_creation#Money_creation_t...

But it could be the same, singular bank that the money gets deposited in and loaned from, repeatedly.

So? If you chain the loans, the bank might have the final balances: ($50M, -$450M) and ($45M, -$405M) and ($405M). The bank's net loan after settling internally is still $500M. Even if spread across banks, the sum of "real" money loaned out is still only $500M. If the loan at the end of the chain defaults, the loss is only $500M net.

U.S. banks have $9.3 trillion in deposits. Since FDIC insurance only goes up to $250,000, and rich people generally have most of their wealth in stocks, bonds, etc, that represents a very broad-based pool of wealth.

The Fed.

http://en.wikipedia.org/wiki/Federal_Reserve_System#Monetary...

banks don't normally use the fed discount window to finance ordinary loan activity.

But they do use it as a reserve that is the basis for said loans. After all, they wouldn't have any money if it didn't come from the Fed, or another central bank, originally.

That's the miracle of fractional reserve banking.

> It's an illustration of why banks and bank debt are so important in our economy! This capital-intensive sort of business doesn't happen by an entrepreneur writing a $1 billion check from funds he has on hand.

Aren't you just pushing the "problem" back one step? The entrepreneur writing a $1 billion check from funds he has on hand is now the banker, not the airline guy. Of course, I guess these days you can keep pushing that back until you hit the federal reserve (or other central bank).

Not exactly, because bankers aren't required to have monetary reserves equal to their loan amount. So a bank can "loan" an entrepreneur $1B of which the bank only physically possesses, say, $100 million. This is what is meant by banks "creating" money -- the bank just created $900 million.

That's not how fractional reserve banking works. See: http://en.wikipedia.org/wiki/Fractional_reserve_banking#Exam....

The key to understanding the fractional reserve system is that banks take title to your money when you deposit it, and you get in return an asset (the account) which is essentially a promise to pay you that money on demand.

A bank can't just "create" $900 million by making a $1 billion loan when it only has $100 million on hand. Rather, depending on the reserve ratios, $1 billion in notional assets can exist backed by only $100 million in central bank money. That's because those notional assets are not in fact money, but IOU's that people are willing to treat as functionally equivalent to money.

This is simply incorrect. Banks can and do create money when they give out loans. Unfortunately, our everyday vocabulary doesn't contain the terminology to describe this properly, and this is how people end up confused.

A better intro than the link you posted is this one: http://neweconomicperspectives.org/2011/09/mmp-blog-15-clear...

The crux is that there are really (at least) two types of money: Central bank money, and money used by "the public". They live in two different "monetary circuits", and while those circuits are not entirely unrelated, they are completely isolated from each other; money cannot go from one circuit to the other.

Ignoring cash for simplicity (and it is little volume anyway), central bank money is only the electronic currency on accounts at the central bank, and it only moves between banks and other financial institutions.

Money used by the public is cash in circulation as well as money on checking accounts and so on.

Banks cannot create central bank money, but they can and do create money in the other "monetary circuit". It is true that the amount of money in the public monetary circuit must be less than the amount of central bank money times a factor (the inverse of the reserve ratio).

However, in practice, this limit works the other way around: When the amount of money in public use grows "too large", central bank money is automatically created by the central bank (this has nothing to do with quantitative easing; it is part of the normal market operations that the central bank always performs to achieve its interest rate target). Because of this, the reserve ratio does not limit the creation of money by banks.

To be more precise, when a bank gives a loan of $1000 million, then it creates $1000 million.

This is a straightforward conclusion of how monetary aggregates such as M1 are defined: Among other things, M1 includes money in checking and similar accounts. The creation of the loan involves, among other things, adding $1000 million to some checking account, without reducing the amount of money anywhere else.

Hence, $1000 million is created net.

This contradicts the story that most people are familiar with, but it is a more accurate description of reality than that other story.

You're a little off. The bank can in fact loan $1 billion and only keep $100 million around on hand afterward. And the $1 billion of the loan is, in fact, new money in the economy that didn't exist before.

But the bank still needs to have the $1.1 billion on hand first, so that it can have that $100 million after the billion-dollar check goes out.

I think this illustrates why banking/money should be the most heavily guarded, regulated and most aggressively prosecuted industry there is.

Fraudulent activity by the banks should be the corporate equivalent of a capital crime.

Every major banker should be held personally accountable to the actions of the banks they lead.

> You must build an airport

Most definitely not.

You do need to rent or buy space (and ideally slots) at a bunch of airports. You can also lease planes.

You can also be a contract airline that fills up routes for other airlines. Lots of the "operated by xyz airline" on weird routes are run by airlines that nobody has ever heard of outside of that notice on their ticket.

I mostly fly with, and credit my miles to, US Airways, but I end up on more United flights than I'd care to in order to fill some gaps (riding a turboprop direct MCI-DEN is better than flying on A319s and connecting in Phoenix). For some time now the joke about United has been that the only mainline flights left are the international routes and the hub-to-hub connections.

And then the other day I saw someone point out that there are now hub-to-hubs on United Express regional jets.

"We're Mesa Airlines, and we're ready to provide you with the nonexistent service you deserve as the bottom-feeding low-budget traveler you are!"

I mean, it's hard to say that getting terminal real estate is any easier than building an airport would be :-)

Good point. Which is evidenced by the fact that many airports aren't really 'in' the cities they are named for. Example: Cincinnati's CVG airport is actually in rural Kentucky. Cheaper land.

Not just "cheaper land" - also NIMBY because of the noise.

> it's hard to say that getting terminal real estate is any easier than building an airport would be :-)

A budget of "tens of millions" would be eaten by a small airport alone (estimates for extending and overhauling Plymouth's airport to link to international traffic and handle up to 115-seaters are 30m GBP)

I always thought I was very ambitious, granted "my ambitions far exceeded my talents."

When I stood there under the Eiffel Tower, I felt like I never had a grand thought in my life. To think that massive undertaking started in someone's head is just humbling.

So I feel you. I feel so small.

You don't need to buy planes - leasing is a pretty common option - there are even lease options ("wet leases") that cover the plane, crew, maintenance and insurance:

http://en.wikipedia.org/wiki/Aircraft_lease#Wet_lease

e.g. EasyJet started with 2 wet leased 737-200s:

http://en.wikipedia.org/wiki/EasyJet#Origins

The problem with wet leasing is that it doesn't scale. Try operating an airline with 300 planes under wet-lease and still make a profit.

Why does it have to scale? Maybe it's not meant to scale. Not EVERYTHING IN THE WORLD HAS TO SCALE.

What he/she really means is that it's not profitable. Wet leases are used to fill in gaps for airlines, you don't build an entire airline out of wet leases. If you did you're not doing much other than being a middle man doing bookings for other airlines, and you probably won't be able to compete on price.

Major commercial air travel is a commodity business. Where opportunity lies is perhaps in offering air travel solutions that bypass the hassle of airports. Shuttles between SF, LA or Houston and Dallas for example. These are heavily trafficked routes with mostly business travelers who would love to avoid long security lines and drive right up to a plane at a small airport.

Yes it does ;)

Pivoting in the airline business is difficult, changing from planes to boats is cumbersome; scaling is the only option.

(And my planes scaled from toy size to 1:1)

MVP, if it gains traction you look at longer-term lease/purchase options

Air travel in the US is a massively subsidized business (the government gives huge amounts of money to Boeing to make next-gen warcraft, then Boeing translates those R&D concepts into airplanes.

The airlines were, for a long time, subsidized by air post. Fuel prices are still much lower than they could be.

These things are barely directly profitable, but they contribute immensely to the global economy. That's the interesting tradeoff in post-capitalism.

Defense contracts are not subsidies. They are won by competition with the likes of Lockheed. Most of the money won is spent providing the product or service. The profit margins on defense contracts are not nearly large enough to "subsidize" an airline business. Yes, some R&D crosses over but it's no easy trick. Lockheed does not play in the commercial space at all.

Disclosure: Former Boeing Employee.

I've read enough books about Boeing to say that this is established practice (IE, the people who ran boeing during the 747 period specifically said this internally).

Some R&D examples I've seen is the movement of advanced electronics and structural materials from military craft to commercial craft. Boeing and AirBus both benefitted tremendously by their military contracts.

I think the point is that at a certain level there are only 3 or so defense contractors that have the infrastructure to bid on and win those contracts. Given that they are not "subsidies", but when there are only 2 corporations that are expected to receive the money, then you must call a spade a spade.

If you look at things like the Boeing/Northrop Grumman Tanker contract, then it is hard to fathom that any of the $35B for 180 planes (that's 190M for each plane) wouldn't lead to significant development that could be shared with Boeing's commercial sector.

That's not a subsidy in the true sense of the word, though. It's a company using a massively profitable but specialized industry (blowing stuff up as efficiently/quickly/quietly/spectacularly as possible) to fund a much smaller-margin but comparatively very broad industry (commercial aeronautics).

Boeing Defense doesn't make a whole lot of surplus cash either.[1] They've eaten some large expenses in the last 2 years (KC-46 tanker cost overrun, Advanced Super Hornet development program) and probably others. I don't believe there is significant cash flow over to Boeing Commercial Aircraft. There is exceptions like the KC-46 and P-8, but most programs are Boeing Defense only with almost no crossover.

The Boeing 737NG line is probably their most profitable product overall. That is from Boeing Commercial Aircraft.

Some financials for your reference [1] http://boeing.mediaroom.com/index.php?s=20295&item=128736

"Boeing Defense doesn't make a whole lot of surplus cash either"

It does give you economies of scale in the sense that any larger company gains purchasing power and for that matter visibility (and political power) by employing more people.

The US ExIm bank also provides billions in either direct loans or loan guarantees to foreign companies; this keeps the export market artificially high and effectively subsidises non-US operators and lessors too.

... And all of Airbus's blueprints, courtesy of the NSA.

Heh, but do you enslave entire worlds in StarCraft 2? I've found that enterprise is like real time strategy games a little bit, there are a lot of things all at the same time that have to be working well for you to be successful, but if you can put your head in the frame of mind that its just a game (or game like) then you can set aside a big chunk of the tension of doing it for real. The Flying Wallendas (high wire act) would have people walk along a tight rope that was 6" above the ground, and then point out that if you could do that you could walk between buildings, it was just not thinking about the 'bad' things that you weren't planning on having happen anyway.

So at some level when you're spending millions of dollars instead of tens of dollars you're still not planning on losing it, but recognize that if you do it will be a problem. And you are working through a checklist and getting stuff done and correcting for unexpected events. Some folks find that really invigorating, others find it completely paralyzing.

Anecdotally, I acquire such a frame of mind after a session of Civilization IV (just tried recently, never played strategy video games before). Everything looks like time or resource investment with a goal, and I feel a bit detached emotionally when making choices. I guess I should be worried that this feels unusual :)

Maybe growing up playing those kinds of games is why I now feel like everyone is nuts with the way they make decisions.

High barriers to entry are actually considered a positive for a business. If it's hard to enter, you won't have new competitors casually trying to encroach just because margins look attractive.

Of course the airlines have issues with barriers to exit too, which come with their own problems.

The interesting thing to me is how a vendor is trying to create demand by encouraging the creation of customers. And it's not a new world tech company that's doing this.

My photo sharing app isn't a "big" problem?! There are people running businesses that can actually kill people if mismanaged?!

This was exactly my first thought When I came back to the software industry: "IF I mess up, at least I will not kill 195 people".

Not really. A new airline just started in my town and there is no need to build an airport or buy planes.

The total startup capital, if I remember was around $3 million and then they raised double that a year later on the stock market.

They are not profitable yet but they are pretty competitive with the old/only airline in the country.

That $3 million doesn't get you much of an airline without some guarantee of profits on the route you're looking to operate though - leasing a 15 year old 737-800 for a year would use up most of that money before you'd even considered getting it off the ground.

Lately, they leased an Airbus A330 for $30k/day (that is $11m). They are also leasing multiple other planes. I guess it's manageable since they are making money from tickets.

I forgot to mention that they enjoy no competition in my town (basically they revived the town small airport) but not much on the rest of the country (being sabotaged by the national airline)

I'm going to infer (mostly from the country code in your profile contact) the airline in question is Syphax.

If the headline figures I've seen are correct, their IPO sold nearly half the company for approx ~$15 million (or about three month's revenue according to their Q2 figures) in working capital.

They have 6 aircraft on order with Airbus which will cost them something in the region of $300 million over the next few years (which they'll probably fund with a sale/leaseback arrangement with an aircraft leasing company because another IPO wouldn't even scratch the surface...)

Those figures give you an indication of why it's easy to get the economics of a startup airline wrong. Imagine Silicon Valley working on those numbers!

In what country?

> it must be profitable

The airline industry as a whole is not. It's lost about $60 billion since deregulation in 1978.

I've read a report by an insider who claims that the unions negotiate a payout of 97-99% of the projected total profit (or revenue sans some given costs) the airlines make, when it's contract renewal time.

This kind of makes it difficult for the airlines to make anything, especially on the down years that don't match projections, when they end up paying out over 100% (and end up having to borrow money, or get bail outs).

If it makes you feel better, you can say the same thing about No. 2 pencils. Imagine all of the de-forresting infrastructure, shipping, carbon processing, glue, rubber for the eraser, etc. All of those different experts and workers you have to hire. The money you need for the bulldozers, ships, etc.

That's the power of the modern age :-)

It gets a little easier when a company does not follow some legal requirements. [1]

[1] http://www.youtube.com/watch?v=WcrmyWsflTM

I don't you need to build an airport to own an airline...or am I mistaken?

You don't need to build an airport, you rent space in existing airports.

Renting in the main city airports is very expensive but the ones further out aren't so bad.

Some actually pay the airline to service them, as is the case with some of the Ryanair routes.

Those are the exceptions to the rule. How many planes and routes do you need to even merit consideration at a major airport?

To organically grow, you'd need to find desirable and under served routes between smallish airports, build a loyal following, then maybe you take a risk, borrow money and attempt to move mainstream. Not impossible but it seems like you'd need just tons of money.

Is there much room for value add and innovation? The most obvious area I can think of off the top of my head would be an airline that did all their own security and skipped tsa but I don't know if that's allowed and I think the work would be akin to building your own airports.