Steve,
First, any first class free upgrade isn't costless, it's factored into the price of all the miles you fly. You pay for it in the form of higher prices for all the goods and services you consume. If you disagree, query the last time somebody gave you 100,000 free miles without buying anything.
Displacing a revenue passenger for a mileage upgrade is a real expense to the airline. Lately, when you travel, you usually hear "first class has checked in full."
There is absolutely no support for your assertion that the fares paid by companies are less than those paid by the individual pax. Travel agents sometimes get a discount, but that's available to anyone who does enough volume with that agent. It's overwhelmingly the case that the refundable, exchangeable ticket is more expensive than the nonrefundable one you buy four weeks in advance.
Finally, your premise is incorrect. The lions' share of TSA's $5b operating budget is derived from fees on each ticket.
http://www.tsa.gov/public/interweb/assetlibrary/FY2006Budget_Brief.ppt
What about the case of those taxpayers who, thanks to the confiscatory progressive tax system, end up paying more taxes, both on an aggregate basis and a percentage basis, than others? I know a few folks in town who pay about 50% of their income in taxes. Should they get the red carpet?