Jeremy Warner's Outlook: Airlines enter consolidation end game

Few industries have been quite as badly hit by soaring fuel costs as airlines, which are collectively expected to chalk up billions of dollars in losses this year. Yet in any crisis, there is always opportunity. The present implosion looks set to be so serious that it may end up persuading national governments to remove the plethora of constraints that exist to stop cross-border consolidation.

In anticipation of just such a liberalisation, British Airways, American Airlines and Spain's Iberia have stepped up attempts to win antitrust immunity (ATI) for revenue and profit-sharing arrangements on transatlantic routes.

Even if granted, this would be a long way short of the outright merger of operations and ownership some airlines believe necessary to put the industry on a viable long-term footing. Yet it is a start, and already these ATI allegiances give a rough guide to who is going to merge with whom once full-scale deregulation takes place.

As things stand, European airlines are not allowed to own a voting stake of any more than 25 per cent in their American counter-parts. The bar is placed at 49 per cent the other way around. Under the limited "open skies" treaty agreed last year between the European Union and the US, any EU member state has the right to terminate the treaty if insufficient progress has been made towards a completely open aviation area between the two blocks by 2010.

This is plainly still quite a long way off. The urgency of the situation, with some major airlines again teetering on the brink of bankruptcy, calls for much swifter action. There is still fierce political resistance in some quarters, particularly in the US, to cross-border takeovers, yet it is surely better to have a consolidated industry than no industry at all.

The dam is unlikely to burst immediately but the cracks are there, the structure is looking ever weaker and, with oil at $146 a barrel, something will have to give soon. An orderly process of consolidation is plainly preferable to the disorderly capacity reduction involved in multiple insolvencies.

Whatever the choices made by national regulators, the shape of the airline industry internationally is going to look radically different in two years' time to what it is today.

The other issue that hangs over BA's long-term future like a sword of Damocles is that of a third runway at Heathrow. If it happened, it would provide BA with the capacity to concentrate all its operations into a single hub, leading to mouthwatering efficiency gains. Yet the Tories seem to be against it, and if they win the next election, the third runway would presumably again be off the menu.

The solution to the capacity problem at Heathrow is not to build more of it, but to allow the market to determine its price. As landing charges rose, the present scarcity of slots would disappear, with many airlines priced out to other airports such as Gatwick and Stansted where the constraints on building new runway capacity are less severe.

Deregulation of prices at Heathrow would need to go hand-in-hand with the break-up of BAA, to prevent the airport operator manipulating prices for its own gain. Taking all these issues together, British Airways faces a tumultuous period of change. Never before has the outlook seemed so challenging on so many different fronts all at the same time.