UPDATE 3-Delta, Northwest to create largest airline

(Recasts lead, adds Delta comment, industry finances, details)

By Kyle Peterson and Jui Chakravorty Das

NEW YORK, April 14 (Reuters) - Delta Air Lines Inc (DAL.N) will buy Northwest Airlines Corp NWA.N for more than $3 billion under a proposal unveiled Monday to create the world's biggest airline, as carriers seek to counter skyrocketing fuel prices and a weak economy.

After racking up $35 billion in losses and finally emerging from a five-year slump in 2006, U.S. airlines are hoping mergers could lead to higher fares as combined carriers reduce flights and use their increased market power to raise prices.

The all-share deal will give Northwest shareholders 1.25 Delta shares for each Northwest share they own, a 17 percent premium to Northwest'q closing price of $11.22 on the New York Stock Exchange. Delta shares closed up 4.7 percent at $10.48.

"It's a very optimistic view on an industry that's been very dismal for the last couple of weeks," said airline consultant Robert Mann.

The airlines also face a renewed sense of urgency to consolidate and cut costs amid the relentless upward march of fuel prices, a weakening economy, and a growing competitive threat from European carriers. Jet fuel prices [JET-NYH] have more than doubled since the start of last year.

If given regulatory approval, the new airline, led by Delta chief executive Richard Anderson, will be headquartered in Atlanta and will operate under Delta's flag with over $35 billion in annual revenue and about 75,000 employees.

"Together, we are creating America's leading airline -- an airline that is financially secure, able to invest in our employees and our customers, and built to thrive in an increasingly competitive marketplace," Anderson said in a statement.

INDUSTRY CONSOLIDATION

Delta and Northwest both exited bankruptcy last year, and merger speculation surfaced after Anderson, a former Northwest CEO, took the helm at Delta.

A Delta/Northwest deal could also accelerate another tie-up -- that of Continental Airlines Inc (CAL.N) and United Airlines, whose parent is UAL Corp (UAUA.O).

Those two carriers have laid most of the groundwork for a merger, two people briefed on the matter said, and could have a deal ready "pretty quickly" following the Delta and Northwest announcement, one of them said earlier Monday. [ID:nN14406120]

Four small airlines have ceased flying in recent weeks and another, Frontier Airlines FRNT.O, filed for Chapter 11 bankruptcy on Friday. Major airlines are expected to report quarterly losses in the coming weeks.

Delta and Northwest said the deal promises to generate $1 billion in annual revenue and cost benefits. Anderson said cost savings will be derived from a reduction in operating expenses, more efficient use of technologies, cutting administrative costs, and bargaining power with vendors.

Initially, the deal will remove no capacity from the system because Delta and Northwest currently have very little overlap in their routes. But Anderson declined to say there would not be capacity cuts, if the deal moves forward.