60: Track to success
Privatizing rail transport
The problem: underinvested railways
State-owned rail networks in many countries have suffered from under-investment. What new money there might be goes instead into roads or aviation. More traffic then switches from rail, as passengers find the alternatives faster or cheaper. Freight firms too find door-to-door road transport more feasible or airfreight less costly. Congestion becomes more common, and pollution rises.
It is no wonder that state rail companies are usually under-invested. So many of them have developed into national monopolies, notorious for inefficiency and bad industrial relations. SNCF, the publicly owned rail operator in France, for example, accounted for a fifth of the days lost through strikes in that country in the decade 1986-1996. By then, French railways had accumulated debts of FF 200 billion. In Italy, similarly, labour costs on the railways soared by two-thirds in the six years up to 1996; running costs are twice as high as those in Spain. In 1997, prior to selected sell-offs, Italian railways lost well over six trillion lire. In the United Kingdom prior to privatization, British Rail was significantly overmanned, the workforce exploiting its monopoly power to demand large and continuing taxpayer subsidies.
The idea: goodbye to all that
There are several ways to bring in new capital and incentives. The whole network can be privatized, competing against bus and airline systems. Or a network can be broken into competing regional monopolies. Or a number of competing service companies can run their trains over track managed by a (public or private) network authority.
Example: the silver bullet
Perhaps the best-known rail privatization is that in Japan. Japan National Railways was divided into seven independent companies in 1997 and shares in them were offered to the public. The government retains a minority stake.
A further tranche of shares in JR East (which operates the bullet train and rail lines in and around Tokyo) were sold in July 1999. There was strong demand for the shares, particularly among overseas investors. J R East is diversifying into retail, hotel and property development in an effort to maximize the potential of its asset base.
Privatization has led to a marked improvement in productivity in Japan's railways. JR East, for example, reduced maintenance costs from Y270 billion to Y237 billion in the two-year period 1997-99. Signalling and maintenance operations are being automated.
One significant area of controversy which has arisen is the government's attempts to raid the funds of the privatized rail companies to help cover the public deficit - particularly the shortfall in state pensions, However, Masataka Matsuda, the chief executive of JR East, campaigned hard to fight off further government demands.
Introducing competition into rail transport is not easy, since the physical track infrastructure is something of a natural monopoly, at least locally. Various countries have attempted to circumvent this problem by separating the management and ownership of the track and signalling from that of rail operations themselves, into which more competition can be introduced (rather like competing bus companies running over the same roads).
Examples: separation and segmentation
In Sweden, the track business was separated from the rolling stock activities in 1988 and the state-owned Swedish Rail lost its monopoly in 1996. In Italy, private investors took a 40 per cent stake in a company which operates the country's main rail stations; rail freight was established as a joint venture with Switzerland's railways, with the intention of taking both businesses to the stock market.
Italy too has begun a cautious privatization programme, dividing the train operator Trenitalia from the network provider Rete Ferrovaria Italiana, with two companies to operate the large and medium-sized stations.
The separation and segmentation model has also been adopted in Australia. In New South Wales, track and signalling is operated by an infrastructure owner (the Rail Access Corporation), with a separate enterprise (the Railway Services Authority) providing maintenance. Three separate corporations run distinct services, namely FreightCorp, CityRail and CountryLink.
However, the other Australian federal states have privatized their regional rail networks on vertical lines, i.e. integrating track, signalling and passenger services.
Privatization in Australia has encouraged a wide range of concession projects. Examples include the New Southern Rail airport link in Sydney; the Brisbane Airtrain rail link; and the Bondi Beach Rail Extension. Concessions allocate design, construction, commercial and maintenance risks to the private sector, while operations are sub-contracted back to a state-owned body.
In terms of national rail networks, the United Kingdom pioneered a bold new model - although it did bring its own problems. Following the Railways Act 1993, the rail network, together with signalling was privatized as one business - called Railtrack - and the business of running services was split between 25 privatized passenger train operations (train operating companies or TOCs) and a clutch of freight companies.
A regulatory office was set up to police Railtrack's monopoly. Most of Railtrack's revenue would still come from government, since major investment was needed. The rest came from the train operators who paid to run trains over its track, and from its property and land-development interests.
The TOCs have to bid in open competition to win franchise awards. The new companies moved swiftly to establish their own unique branding and livery, and to improve marketing and fares in order to attract new customers. (In spring 2000, one company, entrepreneur Richard Branson's Virgin Rail, was offering a £29 return from London to Glasgow, the lowest fare since 1945.) Efficiency has increased too: driver numbers have fallen, thanks to new flexible working arrangements; but their average pay has nearly doubled.
Through the creation of 'roscos' (rolling-stock companies), a market in rolling stock has emerged, in which the TOCs can lease or buy rolling stock. The TOCs are therefore able to make long-term investment decisions: even if they lose their franchise, they know that they can sell on the rolling stock they have bought.
Roughly one-third more people now travel by rail in the UK than did before privatization. Fares have been capped and are falling in real terms.
In the Netherlands, reform has proceeded in roughly the same direction, and has turned Nederlands Spoorwagen from a loss-making operator in 1992 to a profit-making company today. In effect, it is becoming an operator, while the government remains in charge of the infrastructure. However, there is a ten-year performance contract for NS to operate the inter-city network - with targets set for access, ticketing, infrastructure and public satisfaction standards. The government is also putting out to tender the construction of a high-speed Amsterdam-Brussels line, while local authorities are putting regional network projects out to tender.
The new focus and freedom that has been given to Nederlands Spoorwagen is reflected in a number of innovations. For example, it has developed joint ventures to provide bicycle parks next to stations; while people arriving at larger stations can now take a 'train taxi' - a system of shared taxis which wait until they have assembled a small group of people who want to travel on to roughly the same part of town.
Assessment: the right lines?
As countries look for ways to get innovation into rail, a growing number are now looking at ways to separate network and service operations and to privatize some or all of the resulting structure.
This horizontal split is generally seen as superior to the alternative of splitting a rail system up into a series of local operators who also own and maintain the track they run on: for that simply creates regional monopolies, and may produce deadlock when one company wants to run its trains across the tracks of another.
However, the horizontal split has problems too. Contractual relationships are complex and incentives have to be aligned carefully (in the UK, high charges for using Railtrack's infrastructure gave operators the incentive to attract more customers, but not to run more trains, leading to passenger overcrowding). Relationships have to be balanced too: UK operators complained that Railtrack had too much power and did not value them as customers.
Furthermore, despite generally improving safety standards since privatization (eg fewer fatalities, fewer trains passing red signals, and higher levels of spending on safety), a few high-profile crashes called into question the principle of a profit-making company running the rail network.
A monopoly network provider needs to be regulated, but in the UK, regulation just grew and grew. Anxious not to be blamed for rail accidents and delays, politicians demanded new engineering standards that could not be justified by genuine cost-benefit analysis. In October 2001 the government decided it would not longer cover these costs and forced Railtrack into administration, with the intention of converting it from a private company into a non-profit public trust.
Railtrack shareholders contested this move as 'backdoor nationalization'. Leading investors were alarmed, warning the government that they could not finance future public-private partnership deals (see the chapter Seize the Initiative!) if their investments could be made similarly worthless by governments changing the rules. In March 2002, the government gave in and offered Railtrack shareholders some limited compensation.
However, the structural debate remained live. Some thought the network should be run by a consortium of its main users, like air traffic control (see the chapter Private Space), while other private investors argued that they could run the network better than the government's non-profit body.
Clearly, Railtrack's financial structure was flawed from the start. Most people thought it right that the government should subsidize new infrastructure development, but this left Railtrack highly dependent on that single source of funds, and left the government with considerable power over the company.
The UK experience does demonstrate the dangers of trying to run a private company where government is the sole regulator and major customer or financial underwriter - and the importance of avoiding this in any privatization and public-administration reform projects. But whatever the problems, it is clear that privatization is delivering better passenger service all over the world.
For further information:
- Gritten, Andrew (1998) Reviving the Railways: a Victorian future? Centre for Policy Studies (London).
- Glaister, Stephen, and Travers, Tony (1993) New Directions for British Railways? Institute of Economic Affairs (London).
- For details of the rosco trade sales see Privatization of the Rolling Stock Leasing Companies, Report by the Comptroller & Auditor General, HC 5765, March 1998.
- Warburg Dillon Read, The Global Rail Review.
- Hann Nicholas and Carmont, Phil (June 1999) 'Privatized rail - is a model emerging?' Privatization International: see www.privatizationintle.com.
- Irvine, Kenneth (1987) The Right Lines: Adam Smith Institute (London) www.adamsmith.org.
- Irvine, Kenneth (1988) Track to the Future: Adam Smith Institute (London) www.adamsmith.org.
- Barclay, Michael et al. (1989) New Ideas in Train: Adam Smith Institute (London) www.adamsmith.org.
Copyright 2002: Adam Smith Institute
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