Does product differentiation soften price reactions to entry?

We examine the effects of entry on the pricing of legacy airlines facing a rapidly expanding lowcost newcomer. We estimate the timing and the determinants of responses allowing for asymmetry and product differentiation. We propose a decomposition procedure of time fixedeffects to control for unobserved heterogeneity, accounting for time-varying route-, city- and carrier-specific unobservables. We find that incumbents do price-respond to actual but not to potential entry. The lack of preemption is due to financial distress, which precluded costly deterrence against a deep-pocket newcomer. Our model also uncovers product differentiation stemming from more convenient flights.