Transport economics Why is transport important?
Market structures in rail
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- Company Commenced Service
- Arguments against rail privatisation
- The Strategic Rail Authority and the regulator
- The 2004 review
- The Rail regulator and TOC’s continue
- Track and Train companies will work more closely
- Rail privatisation assessed
Market structures in rail Railtrack and now Network Rail is a natural monopoly. The TOC’s are monopoly suppliers on their franchise routes generally, but face significant competition from road transport making the exploitation of this position difficult. In some cases different TOC’s operate trains over the same routes where their franchises overlap. There is no evidence to show that fares are lower in these cases. The TOC’s do price discriminate. This is because they are, in most cases, the monopoly supplier of rail transport and so can charge commuters and people who must travel at certain times more than the customer who can make a choice. By doing this they also reduce the problem of ‘peaking’. However not all passenger rail operators hold franchises. When fares have become high new operators have emerged on particular routes. These are shown below: Company Commenced Service Hull Trains September 2000 Hull - London Grand Central March 2008 Sunderland – London Wrexham & Shropshire April 2008 Wrexham – London Heathrow Express and Heathrow Connect are also non-franchise services. Hull Trains and Heathrow Connect are both owned by First group who operate four franchises, and so face lower barriers to entry than other firms. Where there is a competition concern is where the same firm owns more than one form of public transport. Stagecoach own both South West Trains and local bus services. It would be possible for them to close parts of the rail network and replace it with buses, although there has been no instance of this to date. There are substantial barriers to entry in the passenger market. j There are substantial entry costs. j Existing TOC’s have the experience to allow them a much more realistic assessment of the worth of a franchise. j There is a shortage of available rolling stock. j Trained staff are in short supply j There are limited ‘slots’ to run services to London stations. j Restrictions are imposed on where trains can stop. Grand Central trains took four years to be able to start operations due to legal challenges, rolling stock and staff difficulties and they cannot stop south of York. A major concern arose with the acquisition by Stagecoach of one of the rolling stock companies. This means the separation between service provider and rolling stock owner has been broken and Stagecoach now lease rolling stock to rival operators. The recent government review of the rail industry has stated that the rolling stock leasing market is not operating as it was envisaged. Indeed there is a worry that as TOC’s replace old rolling stock with new trains the market for ROSCOs may disappear. Subsidies will continue to be required on some routes (17 of the 20 franchises) until the end of the franchise period. Some, mainly intercity services, will break even or even repay subsidy. This assumes that the franchisers can meet their financial targets and one operator, National Express, handed back the East Coast mainline franchise in mid 2009 because they were unable to pay the agreed fee to the government. Overall barriers to entry in rail passenger transport are high. The individual route operators indicate that entry is possible, but extremely difficult. Freight Freight has been a success so far, with 50% growth (tonne km) between 1998 and 2008 and there has been £1.5bn of investment. Initially English Welsh & Scottish Railway (EWS) controlled around 80% of the market with Freightliner controlling most of the rest. Since privatization five new companies have entered the market. This seems to suggest that the market is contestable due to the fact that the track is accessible, with firms bidding for ‘train ‘paths’. The firms need to get the rolling stock, which they may lease, and then the business. After years of declining use they are winning back business from road haulage due to substantial capital investment and, of course, competition. New locomotives and wagons have been introduced as well as new branch lines constructed to the sites of customers located near existing lines. Customer service has improved markedly. An oligopoly still best describes this market, but the significant changes to market structure (2 to 7 firms) means that the barriers to entry and exit are not too high. However the larger firms are still in a stronger position to bid for train ‘paths’ than the smaller firms and also can offer more comprehensive services. The effect of the growth of rail freight has been to take lorries off the road. Currently rail moves around 5.8 million lorry journey’s worth of material. Arguments against rail privatisation The natural monopoly argument A natural monopoly cannot produce at the optimal level of output (MC = Price) 0Q* profitably. A subsidy is required to allow them to operate at this level of output. A profit maximizing monopolist produces at 0Qm, making profits of PmABC, but leading to a deadweight loss of ADE. In 1993/94 the Public Service Obligation payment to BR was £800 million, representing 32% of total revenue. This had risen to £1669m in 1995/96, 39% of total passenger receipts, although this does include a special grant for the transition period between private and public ownership which will diminish over time. Many argued that cutting the level of subsidy would inevitably mean losing part of the network and/or reduced train frequencies, especially to rural areas. 
The level of subsidy paid to BR in 1985 was £988m, this had risen to £1741m in 1994. By 2006 it was over £5000m. The government insisted that it be brought down from this level. The network argument Many argue that the rail network only makes sense as a single entity. People wanting to travel from, say, Basingstoke to York simply want to get on to the train having bought a single ticket. In fact under the old system they had to use London Transport’s underground trains, but a through ticketing arrangement allowed this. Today the passenger travels on three operators trains, South West Trains, London Transport and GNER. Each firm receives its share of the revenue. There are, however, no attempts to co-ordinate timetables and no facilities to take ‘unusual routes’, such as breaking a journey. Suppose the person wanted to go to Nottingham on the way to York and then return to Basingstoke. The old system allowed ‘any reasonable route’ and so charged the same fare. Today the traveler would be charged a single to Nottingham, a single from Nottingham to York and a single from York to Basingstoke. As the difference between return and single fares is small the traveler would pay around 3 times as much! Through ticketing and comprehensive timetables are in force. The worst effects of this problem is avoided. However the allocation of resources is not efficient. For example when a Great Western Train broke down in Devon it took over four hours for Virgin Cross Country to agree to loan one of its locomotives to move the stricken train. This was despite the fact that a Virgin train could not depart until the line was cleared. In the days of BR the decision to use the Virgin locomotive would have been made at local level, not over fax machines between a station and two company head offices. The co-ordination argument The fact that there are 125 firms trying to run their own part of the railway is going to create problems. Each company focuses on its core business. There is no overall body directing industry strategy. (Note the SRA were created to fill this role, but subsequently found that the Government kept interfering and making it change direction. Eventually that was scrapped too!) The TOC’s want to carry more passengers, but for this they need more rolling stock and track capacity. The ROSCOS own the rolling stock and have limited investment funds. The TOC’s have short franchises and could not possibly get a return on the new trains before the franchise ends. This has resulted in little new rolling stock. Railtrack was responsible for the infrastructure. It wants to expand capacity, but could not possibly invest fast enough. This is due to both a lack of resources and the physical ability to expand the network as fast as the TOC’s want to raise passenger numbers. The economies of scale argument Buying in bulk, for example new trains, offers potential savings. Railtrack used a number of different maintenance firms and this may have diluted economies of scale. Overall, however, these losses may be overcome by the savings due to competition for contracts. There is a clear loss in the area of financial economies of scale. If the government ran the network and borrowed to invest they could do so at a lower rate of interest than any commercial borrower. Railtrack had to borrow at commercial rates. Network Rail now obtains funds from the government and may benefit from being able to borrow at lower rates than Railtrack, although this is unclear. Railtrack (and all firms in the industry) had to pay dividends to shareholders. Many argue that all of the profit would be better re-invested in the industry. This argument is countered by the fact that Railtrack could borrow against future profits and invest several times their annual profit each year. While using all their profit to service borrowing might increase potential investment under BR the Treasury constantly blocked investment plans and might do so again. The argument is, therefore, not clear cut. Recent events During 2003 most of rail maintenance was taken out of the hands of contractors and the workers transferred to the employment of Network Rail. This can be seen as the second step (the first being Railtrack’s demise) towards renationalisation of the railway. The Strategic Rail Authority and the regulator The arrival of the SRA served to confuse as much as help. In 2003 the SRA cut the number of trains to help ease congestion. This seems odd, surely more trains means more passengers moved. However the SRA felt that if they took some trains off the network it would cause less holdups. The position of the regulator became unclear. He made decisions that the SRA contradicted. In theory the SRA should have had a vision of how the railway would be run. As Network Rail take more control of the infrastructure and strategy this may become a reality. At the moment, however, they change their minds so often a direction is difficult to discern. The 2004 review19 The SRA is to be wound up. The key features of the review are: The ‘Public Private Partnership principle continues. The government will take charge of setting the strategy for the railways. This includes the government deciding on the level of public expenditure and what it will buy. The Rail regulator and TOC’s continue. Network Rail will be given responsibility for operating the Network and for its performance. This is to try to overcome the lack of progress in improvement caused by the many players in the industry. Although it may be a forlorn hope it is intended that the new arrangement will prevent poor performance being blamed on others. Track and Train companies will work more closely. There will be a bringing together of track and train company responsibilities. There are to be fewer franchises, those remaining being more in line with rails regional structure. Regional government will, where appropriate, be given a greater role. The Office of the Rail Regulator will cover safety, performance and cost. There will be a single public regulator to reduce bureaucracy and ensure issues are looked at as a whole. Responsibility for safety passes from the HSE to the Rail Regulator, which is independent of Government.
k To see better use made of railways k To provide greater responsiveness to customer needs k To achieve a higher quality of service k Provide better value for money for rail users k Reduce government expenditure
Passengers are up. Freight is up. Subsidy was declining. Performance has been improving since 2002.
Fares are rising ahead of inflation. There have been high profile accidents. Years of neglect have not been remedied and the network is in a poor state of repair. The Public Performance Measures show that there has been little progress in raising quality. One franchise has already failed to be able to make payments promised. Railtrack failed because the government subsidy paid was insufficient to meet the long term needs of the network. This was not recognised at the time of privatisation. Railtrack had debts of £3.3bn and made an operating loss of £534m in 2000/01. The passenger market is not contestable in any meaningful sense. As such the hoped for efficiency gains are going to be achieved by the will of the regulator, not competition. Part of the problem of rail is that it is now carrying more people and freight. In other words part of the problem is the success of privatization and part of the problem is how it was privatized. Given the clear weaknesses of privatization in the rail industry the 2004 reforms should help. The diagram below is a summary of the views of one railway professional, His view is that much good has come out of privatisation, but the strengths of BR have been lost. The fact that ‘Railway professionals’ have been replaced by businessmen appears to be more than sour grapes. Rail is a complicated and specialised industry that former supermarket executives cannot easily grasp. 
Everybody has a view on what should happen next. The views range from re-nationalisation under one system to a rationalization with fewer companies. There is a consensus that TOC’s, ROSCOS and maintenance contractors can operate more closely. However put two railway experts in a room and get three opinions. Airlines In recent years there have been two clear trends in the airline market. The growth of low cost airlines on short-haul routes The formation of airline alliances between long-haul carriers.
Open access – an airline can establish themselves in any member state. Airlines can fix their own fares and cargo rates Common criteria must be applied for granting operators’ licences Air transport is included in EU Competition Policy to prevent anti-competative behaviour.
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