Rail 648: Cuts are now the only game in town

The search for about £1-1.5bn cuts to the rail industry is now on. That’s broadly the amount that will need to be taken out of the industry – which currently turns over around £11bn, £5bn of which comes from the government. Assuming that transport has to take a bit more than its fair share, it always does, even if rail bears less than other modes, we are still talking of around £1bn in cuts, and that comes on top of the 21 percent efficiency savings that Network Rail has to make in Control Period 4, the five year period that ends in the spring of 2014.

 Where can it come from? Philip Hammond, the Secretary of State for Transport appears keen to maintain the big projects such as Crossrail and Thameslink – though look for delays and scope reductions – and therefore the operation of the railway will have to take a big hit. Therefore his suggestion in the Financial Times on June 28 that regulated fares might have to go up by more than the current formula of RPI plus one hardly comes as a surprise (I was very gratified that the authors of the article noted that he had a copy of my Fire & Steam history of Britain’s railways on his desk, but I suspect that’s because I was the previous visitor and had just given him the book which he had not yet time to hide it on his bookshelf!). Fares rises deliver a double whammy for the Department. Not only do they bring in extra revenue, but they damp down demand, reducing the need for those expensive extra coaches and infrastructure enhancements.

 I did not, though, initially realise the implications of raising fares and, when asked for an instant comment, wrongly suggested on a radio programme that it would take time for the impact of such rises to percolate through to the government since the franchisees would pocked the extra revenue. Not so. When I had time to check, I discovered that there was in place what a railway insider wryly called ‘theoretically a perfect system’. When the successful bidder signs the franchise contract, they agree that any increase in fare income as a result of a change in the RPI formula will go to the department rather than the company.

 However, this is by no means an easy calculation. Two types of fares are regulated: season tickets and what used to be savers and are now off peaks. Forget the latter, as they are remarkably price sensitive and the train companies will not be getting much extra money if they go up. It is season tickets where huge sums are at play and here the complexities lead to great arguments. The train companies, understandably, argue that fares rises put off customers and therefore their net gain is by no means 100 per cent of the increase. Much horse trading ensues, but, as one rail manager suggested, ‘the department plays hardball on this and generally gets its way’. Broadly, the accepted figure in the industry is that the elasticity is around 0.3 – which means that for every £1 rise, an extra 70p will be generated. However, numerous other factors come into play, such as the availability of alternative forms of travel, the growth of broadband which may reduce the need to travel every day to work, flexible working hours and the price of petrol. Moreover, the elasticity may well be higher as fares rise beyond a certain point because there is a limit to the amount that passengers can be fleeced.

 It seems that some operators do not appreciate that. What else could explain the remarkable statement by Dean Finch, formerly at First and now the boss of National Express? He told The Guardian in response to Mr Hammond’s statement about fares that ‘it is absolutely legitimate for anybody to look at, in terms of raising revenues. Everybody complains about rail fares being awful, but we have more than 1bn journeys on the railways every year. That tells you that in the overall scheme of things the railway is an effective form of travel and is an integral part of peoples’ lives.’ Bloody hell – he has always been known as a Rottweiler in the industry but can you imagine, say, Sir Terry Leahy of Tesco or Marks and Spencer’s Sir Stuart Rose saying: ‘we don’t really care if our customers pay more, we are so brilliant, we know they need us.’ Of course Mr Finch’s remarks have to be seen in the context of an attempt to try to repair relations with the Department that hit rock bottom when Lord Adonis was transport secretary. Nevertheless, Mr Finch may live to regret his Rattners’ type comment if he suddenly finds that rather more people are fleeing the railways than expected and the government is gobbling up any spare money coming out of the industry

 Fares rises are just one aspect of the franchising arrangements which are going to come under detailed scrutiny as Theresa Villiers, the rail minister undertakes the promised franchising review. She met with the train operators at the end of June for what is always termed ‘a constructive meeting’ but there are very fundamental issues to resolve before a new type of agreement can be established. Getting the franchisees to invest in response to longer franchises, while trying to squeeze every penny out of both them and their passengers will tax Ms Villiers’ political skills to the limit.

 There is a thorny issue to uncover. The issue of costs is normally associated with excesses by Network Rail but in the scoping study for the review of the industry’s finance, being carried out by Sir Roy McNulty – available on the Department website at http://www.dft.gov.uk/pgr/rail/strategyfinance/railvaluemoneystudyscopingreport.pdf – there is a sentence that sticks out of the page. It says that there was ‘a net increase of £2.0bn in government subsidy occurred between 1996-97 and 2008-09’. Notably since 1996-97 – despite increases in passenger revenue of £2.6bn annually – there has been a rise in train operating costs of £1.7bn. Higher wages are one reason, but it is difficult to argue that inefficiency and waste have not contributed. Because franchises are so short term, operators have often been reluctant to pare down costs to the minimum, feeling it is not worthwhile in terms of management effort. The dilemma for Ms Villiers is this: we all know that longer franchises would provide more incentive to the operators to cut costs and make investments, but how would they be policed if things go wrong? There is clearly a lot of fat there – though surely not enough to cut £1bn – but will Ms Villiers and her team manage to pare it off?

High Speed One sale makes little sense

 

For once, it is difficult to disagree with Bob Crow, the railway’s equivalent of the Monster Raving Loony Party. The ever so aptly named Crow, the head of the RMT, has highlighted a fundamental issue in relation to high speed rail that threatens to make the whole project a white elephant – high fares.

 Already Kent commuters using High Speed One, are, at the insistence of the Treasury, paying premium fares on both the high speed line and the conventional services because South East Trains is allowed to raise regulated fares by 3 per cent above the rate of inflation rather than 1 per cent as with other franchises. The sale of High Speed One to the private sector will only entrench these high prices since sale price is based on a relatively high level of access charges which have been set by the regulator. In order to pay for the purchase, the successful bidder will need to maintain those high prices.

 Currently, for example, the rate is based on every train, rather than on every passenger which would do more to encourage greater use. The point about these huge infrastructure schemes is that, once they are built, they are not worth what they cost to build. This is demonstrably true of High Speed One which ostensibly cost £5bn but actually nearer double that because of hidden subsidies such as the gift of the trains to Eurostar, the cost of St Pancras and work undertaken to improve the existing railway. Now it is to be sold in the region of £1.5bn. While that may seem like a terrible loss to the taxpayer, it is a sunk cost that cannot be reclaimed. The whole point of the scheme was that it had lots of benefits – regeneration, employment, boosting house prices, improving connectivity – that cannot be captured through the fare box which are dubbed ‘externalities’ by economists.

 Given this concept is accepted by economists and politicians alike, why not just write off the whole value of the line, then try to maximise its use through low charges in order to benefit people and the economy most widely? The issue has implications for High Speed Two. As the RMT put it, high fares ‘will mean that the green potential for high-speed rail to encourage fewer short-haul flights in favour of environmentally friendly rail will be undermined as ordinary people are priced off trains’. Its one of the reasons I remain deeply sceptical of the whole high speed two project.

  • Mark Holdstock

    For a long time I have suspected that those running rail companies, with a couple of honourable exceptions, Chiltern/WSMR/to a certain extent Grand Central, have no clue at all about maximising revenue from pricing. Newcastle to Birmingham for a fiver is fine and dandy, but if that ticket isn’t available at the time people want to travel they just get the car out. A couple of my friends who are `green-campaigners’ did just that last year.

    I don’t even look at East Coast now, I go Grand Central, and almost all the XC journeys I do can quite easily be substituted by car, and my phone works on board….. hands free of course. If there are two of it’s a no-brainer. Putting up fares is fine, but in the long run it won’t increase revenue.

  • This is just another chapter and another consequence of a botched privatisation. In a free market the service operators wouldn’t have to overly concern themselves with government regarding ticket prices, yet here we see the government interfering with little real accountability for it’s decisions. Ask yourself who will lose out if passenger numbers go down?

    The privatisation should have been vertical – lines, stations and services to one operator, instead of this woefully inefficient and government rigged horizontal strategy where no one body is completely in charge and no authority completely accountable.

  • Anoop

    Vertically integrated privatised railways work well in Japan, and worked well in the UK before World War II.

  • Greg Tingey

    BUT ATOC are saying that the traffic has allready come back, and the trains are overcrowded …
    So that real investment, with a good return on capital would be served by buying new rolling stock, and micro-improvements to the network.
    You still need to take Network Rial out, and shoot it, though.

  • Ben Oldfield

    One cost that has not been discussed is the labour cost, I believe that this is the explanation for the most of the cost increase over BR. Of course the current labour cost would be impossible to get out of network rail or the operators but the total numbers should be available and compare this with BR. The main increase will be managers, contract administrators, health and safety, lawyers, and of course consultants. One must not forget the increase due to all these high earners. The main problem in cutting the labour cost is that the only category that will be cut is those at the sharp end who earn the least.

  • Peter

    The first thing to do is disband Network Rail.

    My experience of the organisation is that it is extremely top heavy and unresponsive to comsumer demand. It was only botched together to keep railway debt of the public balance sheet when it suited Labour to do so – and there is no longer any point in it.

    The second thing to do is to let train operators set whatever fares they want to. There is no point in forcing them to sell artificially cheap tickets if there are no seats available – and if this prevents them from being able to set by any money by for future investement.

    In fact, we could do a lot worse than forget about ‘privatisation’ altogether and go back to a vertically integrated railway. The only people who’d suffer are the lawyers and fat cat contractors who have done so well out of the existing mess.

    My fear about Hammond is that he knows so little about railways that he will be swayed by a load of bureaucrats who have too much at stake in the present crooked system to contemplate any meaningful change.

  • Dan

    Well it’s starting with service quality cut backs (probably more pertinent to your more recent Rail col not up on the site yet) but BBC have broken the story of EMT dumbing down std class catering (as they originally promised but were dissuaded from doing) – no official announcement on the EMT site and looks like it is being implemented speedily:

    http://www.bbc.co.uk/news/uk-england-nottinghamshire-10939358

  • Popeye

    Ben Oldfield is completely wrong. There may well have been an increase in Managers, Consultants etc in the early days after privatisation but in more recent times, with the financial difficulties that all businesses have experienced, these groups of staff have been the hardest hit by redundancy and pay freezes. By far the largest increase in labour costs has been due to the high number and ever increasing costs of traincrew. Yes those staff at the ‘sharp end’ who operate in a union protected bygone era of inefficiency but whose pay goes way beyond the actual skill required for such work.

  • RapidAssistant

    The railways are expensive for a multitude of reasons – loss of in-house skill and the reliance on consultants (whom as I said on another thread are largely BR-trained managers originally), is a big part of it. That is one of the most heinous consequences of privatisation. Salaries of front-line staff is a difficult one – on one hand it is very true that privatisation has empowered the rail unions and allowed driver salaries in particular to escalate sharply. But a lot of it boils down to the value that society places on a particular skill – the nation can’t function without railways (and therefore needs train drivers) in much the same way as it would grind to a halt without doctors or teachers.

    The monopoly that certain public service professions have over society will never go away, and that just has to be managed in a non-confrontational way, and I think on the whole we’ve done that much better in the last 20 years than in the dark days of the 1970s.

  • John G

    I’m surprised no-one has mentioned the ROSCOs yet … charging extortionate fees for rolling-stock BR would have financially written-off years ago. And who owns them? – the banks (well mostly, anyway).

    Now there is an extra cost which simply didn’t exist before the mid 1990s.

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