Jeremy Warner's Outlook: BHP's grand design for mining colossus

Thank goodness for the miners. Fed by apparently insatiable Chinese demand for commodities, they've been providing support for the stock market throughout the summer's sea of red. With yesterday's blockbuster of a bid proposal from BHP Billiton for Rio Tinto, they've now even provided hope for fee-starved corporate financiers. Barely more than a month into the job as chief executive of BHP, Marius Kloppers is making his mark with the biggest mining merger ever proposed.

When one of Mr Kloppers's predecessors, Ian Gilbertson, proposed the same get-together back in 2003, he was slapped down by his chairman, Don Argus, and left soon afterwards. The world has moved on a lot since then, and what made commercial sense even back in 2003 today looks even more compelling, with somewhere between $500m (£237m) and $1bn of cost cuts to be had from merging the two companies.

Yet the proposal is an awfully long way from being a done deal. Rio was careful not to slam the door in Mr Kloppers's face, but it doesn't regard the three-for-one share swap terms as even the starting point for negotiation. The 25 per cent premium offered is no more than average for deals in the mining sector. Given the nature of the prize, Paul Skinner, Rio's chairman, is demanding much more.

There are also extreme, though probably not insurmountable, anti-trust issues to be resolved. The merger would make BHP the top producer by a long way in coking coal, aluminium and copper, and equal top with CVRD of Brazil with a massive 36 per cent of the seaborne market in iron ore. Both Australia, where the iron ore comes from, and China, where increasingly it is sold, will have something to say about that. So too will the competition authorities in Europe, where the two companies are domiciled.

It's just as well that Mr Kloppers is still only 44. By the time he brings this one to a successful or otherwise conclusion, he'll have gone completely grey.

Regulation 'lite' loses its appeal

Has London been fundamentally damaged as a financial centre by its handling of the credit crisis and the Northern Rock debacle? Before this summer, London's famously "light touch" regulatory framework was the envy of the world, and widely seen as the benchmark for other aspiring financial centres to emulate. The system has now been tested and plainly didn't work terribly well. That's prompted predictable schadenfreude among rivals. More worrying, it's caused international bankers to question whether the City is as safe a place for their money as it is cracked up to be.

On the face of it, it is hard to see why the near-fatal collapse of a regional mortgage bank should harm the flow of capital and deal-making through London. Yet it is perceptions rather than reality that count in markets, and in combination with government proposals to crack down on non-dom and private equity tax breaks, the view that the City isn't perhaps as agreeable a place to do business as it used to be is taking hold.

The regulatory argument can be played both ways. Are bankers really asking for tougher, more intrusive regulation? Of course they are not, for this would only stifle appetite for risk and harm innovation. The credit crisis in general and the Northern Rock catastrophe in particular have shown the only recently introduced Basel II capital adequacy rules to be inadequate, but nobody in truth wants to embark on a Basel III. A reworking of existing arrangements so that they focus more on maintaining adequate levels of liquidity ought to do the trick.

Yet the dangers of an extreme regulatory over-reaction, particularly in the London market, are now only too apparent. The British system of principles-based regulation which relies on self-imposed disciplines within organisations is being unfavourably contrasted with the more rules-based approach of the US, where the Fed is said to be much more au fait with the underlying safety of the banks it is charged with supervising.

It all goes to show that what goes round comes round. Up until a few months back, the general view was that the US system of regulation was stifling and oppressive in a manner which was causing New York to lose out to London as a financial centre. How perceptions change.

Yet we shouldn't perhaps assign the British way to the dustbin of history quite yet. We are still only midway through the credit crisis. There hasn't yet been a calamity or rescue large enough to be able to say with conviction that the main threat is over.

Northern Rock has generated acres of coverage, but was almost certainly not the casualty that comes to mark the nadir of the crisis. This has got to be an altogether bigger blast, perhaps equating to the US savings and loans bailout of the early 1990s. It still seems more likely that this will occur in the US than Britain. In any case, the scale of the losses already admitted to in the US indicates a rather higher degree of recklessness and hence regulatory failure in America than we've seen here, though to be fair, no federal money has yet had to be applied. It may be only a matter of time.

Banking mark-downs look overdone

Outside France, few would generally take any notice of results from BNP Paribas, yet the credit crisis and the absence of any news from British banks has given them more than usual significance. Interestingly, they fail to confirm the general assumption that everyone in banking will be suffering in equal measure from the fallout of the US sub-prime meltdown. In fact, third-quarter profits are sharply higher while the write-down from sub-prime mortgages and other asset-backed securities is insignificant.

The results are all the more surprising as it was actually BNP Paribas which marked the beginning of the credit crunch proper by announcing on 9 August that it was freezing three funds because of problems in US sub-prime lending.

It can presumably be safely assumed that the fallout for UK banks will be more significant, but even so, the pummelling their share prices have been receiving doesn't seem to be supported by the facts. There's not going to be any rescue rights issue from Royal Bank of Scotland whose exposure to sub-prime lending, structured investment vehicles and SIV-lites is again relatively small. That doesn't mean RBS won't be suffering in today's tightened credit conditions. Comparatively low levels of free capital made worse by the cash RBS recently forked out for its share of ABN Amro mean it will be feeling the liquidity squeeze as acutely as any. RBS has less capital than is entirely safe in today's environment. Yet if it were already apparent to Sir Fred Goodwin, the chief executive, that his profits were going to be knocked for six, he'd have had to say something.

The consensus estimate for pre-tax profits this year is £9.8bn. Stock exchange rules oblige the company to issue a profits warning if it becomes apparent to management that expectations are 5 per cent or more out of kilter with reality. Even so, the absence of news – both RBS and Barclays insist we must wait until scheduled trading updates later this month and early next to be given the full picture – is making markets exceptionally nervous. And while profits may be safe for this year, the crushing fall-off in fee volume from asset-backed securities and corporate refinancings may leave a big hole in profits the year after.

All the same, can this deterioration in prospects really justify the precipitous fall in share prices? Both RBS and Barclays shares were again down more than 5 per cent yesterday, RBS to their lowest level since the darkest days of the bear market back in 2003. Either the market senses something which even the RBS management doesn't know about, or the shares have become bizarrely mispriced.

j.warner@independent.co.uk