Jeremy Warner's Outlook: That's the trouble with airlines

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The Independent Online

The launch this week of OpenSkies, an offshoot of British Airways that seeks to take advantage of liberalisation in air travel between Europe and the US, seems to fly in the face of the grim reality of soaring costs and fast slowing demand that afflicts the airline industry.

Willie Walsh, the British Airways chief executive, has expressed the view that there is at least one positive in the present downturn – that lots of weaker players will go bust, thereby reducing the problem of overcapacity. Yet here he is further adding to the problem rather than subtracting from it.

So why is British Airways doing it? On the plus side, OpenSkies is a rather different beast to the growing number of European airlines which have either already gone bust or are deep in the mire. For the time being, it is just one aircraft, operating largely at the premium end of the market, on just one route – Orly/New York.

This might seem to make it similar to Silverjet, which went belly-up last week. What's different is that OpenSkies has the full weight of the BA marketing and operational machine behind it. What's more, it's very much an experiment in the new, deregulated environment that's meant to exist between America and Europe. As an airline that expects to survive the current downturn largely intact, BA has to be in this space, even if for a time it's likely to be loss-making.

All the same, it's not exactly the best time to be starting a new airline. Analysts at Morgan Stanley this week warned that the present implosion would be worse than both the early 1990s and the one that followed in the wake of 9/11. With demand slowing, airlines should by rights be cutting fares to support traffic volumes. Steeply rising fuel costs are forcing them to do the very reverse, creating the potential for a vicious downward spiral in passenger numbers.

The International Air Transport Association is forecasting that on the basis of current oil prices, the industry as a whole will lose more than $6bn this year. Even relatively strong airlines such as British Airways, with operating margins of more than 10 per cent in the good times, will struggle to make money with fuel costs so high.

Yet though Mr Walsh sees the opportunity for a cathartic reduction in over-capacity that will see many of the "low-cost" upstarts who make his life so difficult go to the wall, I'm not entirely sure he's right in thinking that the survivors will emerge on a better, more secure footing.

In the days of national, flag- carrying monopoly, it used to be virtually impossible to kill an airline off, even when it was heavily loss-making. Airlines were seen as an arm of the state, and would accordingly be kept alive on a drip feed of public subsidy. In the US, they had Chapter 11 to ensure that however bad things got, insolvent airlines would repeatedly rise from the grave, stripped of all past liabilities.

Today it is more difficult both to subsidise and use Chapter 11. Yet the act of deregulation has also massively reduced barriers to entry, so that capacity removed by insolvency today can easily be brought back tomorrow by entrepreneurial activity once conditions improve.

Almost anyone can lease an aircraft, though it may be a bit tougher than usual right now. What's more, with two effectively state-subsidised manufacturers – Airbus and Boeing – churning out new aircraft by the hangar-load, over-capacity is hardwired into the industry's very fuselage. Supply of aircraft is always likely to outstrip cyclically adjusted demand.

I fear that Mr Walsh is wrong in thinking he'll be the last man standing. The airline industry is like the mythical beast Hydra – cut off one of its heads, and another soon grows back in its place.

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