Outlook: King at his most eloquent in making case for price stability

TXU Europe; Imperial/UCL

Conventional wisdom is that Mervyn King is definitely not going to be the next Governor of the Bank of England. Technically, it is the Queen who makes the decision, but in practice it will be the Chancellor who has the final say, and he's thought to favour either Sir Howard Davies, chairman of the Financial Services Authority, or Andrew Crockett, outgoing general manager of the Bank for International Settlements.

Both will be available to fill the post from the moment Sir Edward George vacates it next June. Having reluctantly opted for Sir Edward last time around on the grounds that he would go down better in the City than anyone else, Mr Brown won't be deprived of the opportunity to appoint an outsider again. So Mr King, the present deputy governor, loses by default.

To anyone who heard Mr King speak at the London School of Economics yesterday evening, this might seem a shame, for he gave as eloquent a defence of inflation targeting and the general cause of price stability as you could hope to find. Alan Greenspan himself could hardly have done better.

At a time when some are beginning to argue that perhaps a little bit of inflation wouldn't hurt if it ensured higher growth, Mr King has delivered a sharp reminder of the consequences of runaway prices. He was equally dismissive of those who argue interest rates should be set to target asset bubbles, such as house prices, or the contrary idea that without further sharp interest rate cuts, the British economy might follow Japan into a general deflation, the economic consequences of which might be just as bad as a hyper-inflation. When in a quandary, the best policy is generally to sit tight and do nothing. The case can be made equally powerfully for both upward and downward adjustments in the interest rate. It is not hard to see why the Bank of England has opted for the middle course.

Since the Bank of England was made independent five and a half years ago, it has succeeded in its brief of maintaining price stability. But then it has not been difficult. Inflation has been subdued the world over. The Bank is now moving into a much more difficult period of policy setting where the risk of inflation and to growth seem equally acute. Perhaps Mr Brown will again have to settle for someone the markets know they can trust.

TXU Europe

Another day, another electricity company goes bust. While the Californian energy crisis two years ago was caused by insufficient generating capacity to feed the air conditioners and ice-makers, the home grown one we are now witnessing on this side of the Atlantic is the consequence of too much capacity.

Should we be worried about the collapse of TXU Europe? Should we, for that matter, lose any sleep if British Energy, the nuclear generator which dares not speak its name, meets the same fate?

Yes, and no. In an oversupplied market the weakest go to the wall first, although TXU and British Energy have proved to be the weaklings for two very different reasons. TXU sold all its generating capacity, bought power on long-term contracts at insanely high rates and has been left high and dry by the collapse in wholesale prices. British Energy's problem is the reverse. It has only baseload power stations and no retail customers to milk as compensation for weakness in the wholesale market.

In a competitive market companies will fail but, as Callum McCarthy, the energy regulator, said yesterday, financial failure doesn't matter if it poses no threat to supply. What he failed to explain is what comes next. Unless generators are given some incentive at some point to build new plant, then the UK risks swapping its current predicament for a Californian-style one a few years down the road.

The closure of the UK's nuclear stations would solve the overcapacity problem and, quite likely, lift prices sufficiently to tempt power station developers back into the market. But wind and wave power alone will not enable the UK to meet its environmental emissions targets, so nuclear must remain part of the energy mix going forward. Mr McCarthy has rightly got rid of the much-abused electricity pool, which allowed generators to keep prices artificially high. But its successor needs some major reforms if consumers are not to suffer all over again. Free markets are the best solution to most things. But where there are other public policy priorities – which in the case of power generation include cutting carbon emissions – it gets a bit more complicated.

Imperial/UCL

It is a relief to see that the mooted merger of Imperial College with University College London has stumbled even before it could reach the first hurdle. The idea was almost universally opposed by staff at University College. Former students, among which I count myself, were also united in their opposition.

From the start, this always looked a doomed endeavour, born more out of too much time with investment bankers than common sense. It is hard enough to make mergers work even in the cut and thrust of the commercial world. To have applied the questionable strategies of boardroom and City to the academic arena would have been folly in the extreme.

It is no coincidence that the chief architects of the merger were both former business leaders with a taste for the mega deal. Sir Richard Sykes, rector of Imperial College, is a former chairman of GlaxoSmithKline, where he pushed through two of the biggest mergers in British corporate history. The last of these, that of Glaxo Wellcome and SmithKline Beecham, has yet to demonstrate that it is capable of creating either any value or any product innovation.

Sir Derek Roberts, acting head of University College, is a former managing director of GEC. Sir Derek left the company long before the disastrous experiment in corporate transformation that occurred after it changed its name to Marconi but, having learned his craft at the feet of Lord Weinstock, he knows as much as any about the dismal business of crunching competing organisations together.

Both Sir Richard and Sir Derek dreamed of creating a world class university to stand shoulder to shoulder with the Ivy League colleges of the United States. Well, here's some news for them. They've already got two of the finest colleges in the world sitting on their own doorsteps. It is only they who seem incapable of seeing it. These are, moreover, colleges with histories and traditions that are worth far more alone than put through the destructive mangle of enforced union.

Both colleges have funding problems, but they are not going to be solved by merging. Interestingly, the lesson from business is that mergers very rarely work out as intended. Destructive of jobs, competition, innovation and value in equal measure, they only get done at all because for bored executives the big globalising deal beats the tedium of running the business any day of the week. They can also be used as an excuse for bumper pay packets.

One of the best defences of takeover activity is that the mere threat of it galvanises management into ever higher levels of performance and competitiveness. While that might have once been true, it is not the case today. Falling victim to a takeover is no longer regarded as shameful, either in the City or among chief executives. Rather the reverse. British chief executives seem to spend most of their time dressing themselves up for takeover or merger. The upshot is that they either get to run a bigger train set, or they leave with share options crystallised and a big fat redundancy cheque.

The truth of the matter is that far more value and employment would be created if there were no takeovers at all. Perhaps City fund managers should take a lesson from the staff, students and former students of University College. Most of the time it pays to say no.

jeremy.warner@independent.co.uk