American Airlines was recently forced to cancel hundreds of flights because of possible mechanical issues. The costs of doing business, including the high cost of fuel, is putting pressure on airlines to collect more from passengers.

Kiss good-bye the era of $34 airfares to the East Coast from Chicago, and $200 fares to Europe.

The U.S. airline industry is undergoing a radical makeover and the first casualty, observers say, is the ultralow pricing that has sent Americans to the skies in record numbers but left carriers struggling to stay in business.

The changes hit home last month for technology executive Ian Drury, who saw the price of a ticket to India that he had planned to purchase jump $1,500 overnight.

“It’s definitely a much tougher world for the business traveler as a result of increasing fuel costs,” Drury said.

It’s not just fuel costs. U.S. carriers, large and small, are going through the biggest transformation since the industry was deregulated 30 years ago. Power is being concentrated in the hands of larger players, while a shakeout thins the ranks of the 100-odd smaller carriers whose aggressive promotions made it difficult for any airline to cover costs on many domestic flights, analysts say.

The pending merger of Delta Air Lines Inc. and Northwest Airlines Corp., creating the world’s largest airline, could be followed by one or even two blockbuster deals, analysts say. The likeliest is a tie-up between Chicago-based United Airlines and Houston’s Continental Airlines, which could follow within weeks, insiders say.

With few cost-cutting opportunities remaining, airlines are looking to mergers to boost revenues: either by broadening their reach into lucrative international markets, or by gaining greater pricing power, obtained by parking planes and paring overlapping routes.

“At the end of the day, unprofitable pricing … is not in anyone’s interest,” said John Tague, executive vice president and chief revenue officer for United Airlines. “It doesn’t work for anybody. It’s a fleeting value for customers, but it’s not sustainable. It clearly doesn’t work for employees, and it doesn’t work for investors.”

Capacity issues

But capacity is already coming out of the U.S. aviation system, even without mergers. All of the largest airlines, save Southwest, are shrinking their domestic operations. Meanwhile, three smaller airlines have folded this month while a fourth, Frontier Airlines, filed for bankruptcy. Others are in jeopardy, analysts say. Most vulnerable: airlines lacking billions in cash like United or the fuel hedge advantage of Southwest Airlines.

Some, wary of mergers, argue it would be better to allow the market to follow its present course, however chaotic.

“Let one of these megacarriers fail,” said Kevin Mitchell, chairman of the Business Travel Coalition. “Take the capacity out that way and let others pick up the pieces.”

The debate over the air transportation system’s structure isn’t just an academic exercise. The outlook isn’t rosy for any carrier under any scenario, analysts say, as the industry heads into another downturn after only just returning to profitability in 2006 and 2007.

Fuel and a cooling economy are to blame. American Airlines’ annual expenses are increasing at a rate of about $1 million per hour because of out-of-control fuel costs, estimates analyst Kevin Crissey of UBS. The 12 largest U.S. airlines will have to raise revenues by $15 billion this year as flying demand is slowing, just to keep pace with the cost of oil at $110 per barrel, according to market research firm AirlineForecasts LLC. And there’s no assurance that oil prices will stop rising.

“You have the makings of a bankrupt airline industry,” said Vaughn Cordle, an airline pilot who is chief executive and chief analyst of AirlineForecasts.

For consumers, these changes spell an end to deeply discounted fares, and the beginning of a host of new charges. While most carriers are tacking on charges for a second checked bag and hiking fees for overweight luggage, some are also charging extra for aisle seats.

Also disappearing are the conveniences that made it easy for business travelers to snare cheap seats aimed at leisure travelers. Airlines are returning the requirement, dropped during the last downturn, that travelers stay over Saturday nights to capture some discounted fares. And they’ve hiked prices on the last seats available on frequently sold-out flights, seats sought by business travelers leaving on a moment’s notice.

The last available seat in economy class on a United Airlines flight from New York to Los Angeles now goes for $1,459, one-way. That’s almost a $1,000 jump from the $499 fare that was the norm just three years ago, according to Tom Parsons, CEO of BestFares.com.

“I don’t think there’s anybody who’s not looking to increase prices,” said Dan Kasper, managing director at LECG LLC, a Massachusetts-based economics and market research firm.

But not everyone is convinced that mergers are the best antidote for the industry’s ills or that they will enable the biggest carriers to dial back the clock 30 years, to an era where they commanded the market and dictated prices.

“They stand to gain pricing power, but selectively,” said consumer travel expert and columnist Ed Perkins. He predicts that price hikes will most affect smaller markets ignored by low-cost carriers, such as his home base of Medford, Ore.

Fare wars

Muddying the picture for merging carriers is the fact that the U.S. airline with the strongest finances, Southwest, is raising prices at a slower rate than its competitors and expanding operations, albeit at a lower pace than it had planned. And a deep-pocketed upstart, Virgin America, sees an opportunity to grab disenchanted passengers from old-line carriers like United, American and Delta.

San Francisco-based Virgin, which launched service last year, plans to triple in size over the next two years, taking delivery of 38 Airbus A320 jets. Virgin is aiming squarely at price-conscious business travelers with amenities like leather seats and a laptop plug with every seat. The carrier’s highest walk-up fare from New York to Los Angeles is $449, one way, about $1,000 less than the comparable United fare.

“The only way we’re going to improve airline service is by promoting competition,” said David Cush, Virgin’s CEO. “The U.S. is the biggest market in the world, with arguably some of the worst service.”

Critics say Virgin and Southwest could add to the unstable economics already hurting airlines.

“I don’t know what calculator creates the case for economic growth in this marketplace,” said United’s Tague. “It’s simply not possible.”