Last week’s spat between Network Rail and the Office of Rail Regulation was not the pistols-at-dawn confrontation that was portrayed in several newspapers. It was, in fact, the normal negotiation process between the rail company and its regulator that occurs every five years, because the railways’ maintenance and investment programme are set in the rather Soviet-style planning system that resulted from privatisation. Tellingly, Network Rail stayed schtum, knowing that it was actually getting most of the money it needs for its massive investment plans, and that it is not the regulator that threatens to derail the deal, but the Chancellor.
However, the row between the Office of Rail Regulation (ORR) and Network Rail did expose the industry’s shaky finances that may ultimately stymie the remarkable growth of the past two decades and result in the need for a bail-out by the Government or a series of sharp fare increases, which would be unpalatable in these times of austerity.
The dark truth at the heart of the railways is that the industry is building up a debt that will eventually become unsustainable, which managers of Network Rail, the not-for-profit organisation that owns the track and infrastructure, accept privately they will never be able to repay.
For years, the enormous investment programme that has underpinned the growth in railway use has been paid for by what rail managers know as Network Rail’s credit card, which in reality is the debt of £30 billion that it has built up as a result of the policy of successive governments to hide the realities of railway financing, and which is effectively underwritten by the state.
It keeps borrowing costs low, but nevertheless they amount to about £1.5 billion each year, and that figure will rise substantially if interest rates start increasing.
The process by which the investment programme is determined is byzantine and so complex that few even in the industry fully understand it. Network Rail and other industry players, such as the train operators, prepare a business plan for what they would like to do over a five-year period — the next one covers 2014 to 2019 — and the Government provides an estimate of the money it will make available, bizarrely known as the Sofa — the Statement of Funds Available.
Then the plans and the financial projections go to the regulator, which gives a preliminary assessment of whether the money and the programme match. This is where we are now.
At the moment, there is a £2 billion gap between the £23 billion that Network Rail says it needs to maintain the railway up to 2019 and the £21 billion ORR says it ought to be spending. But as one senior insider told me: “This is not a problem. We always ask for more than we need and never get it all. That is the nature of the game.”
In September, the final calculations will be published, and a happy compromise reached between Network Rail bosses and its regulator. The ORR has accepted that Network Rail can go ahead with most of its £12 billion programme to accommodate the growth in passengers, expected to be about 3 per cent a year during this period. This is the second component of the programme.
These are huge numbers and represent record levels of investment, amounting to billions every year. Compare that with Railtrack, Network Rail’s predecessor, created at privatisation in 1994, which was quoted on the Stock Exchange but collapsed following the Hatfield train crash in 2000 that killed four people and exposed its poor stewardship of the network. It spent just under £2 billion annually (in today’s prices), levels that were even lower than under British Rail.
So the railways have played catch-up by building up unprecedented levels of debt, supported by high subsidies, amounting to £4 billion a year, about double the most British Rail ever received.
Ministers are keen to cut this amount by pushing fares up above the rate of inflation, but have found this politically unpalatable. In both of the past two years, they originally announced rises of inflation plus 3 per cent but cut this to just inflation plus 1 per cent in the face of widespread anger from passengers.
The question, therefore, is: where is all this money going? There are indeed some big emblematic schemes such as major station refurbishments being carried out at, for instance, Kings Cross, Birmingham New Street, Reading and Blackfriars.
There are improvements on the tracks, too, to create extra capacity through schemes such as Thameslink (originally called Thameslink 2000, which shows just how long investment takes to get through) and the Northern Hub.
However, there is a widespread feeling among rail-watchers such as Passenger Focus, which represents passengers, that the industry is not delivering value for money.
And they are right. The age of the rolling stock has reached its highest in a decade, just under 19 years, about the same as in the dying days of British Rail. Overcrowding has got no better because of delays in introducing new trains, such as the order for 1,200 new Thameslink coaches given to Siemens two years ago but held up by the failure to close the deal. In the North, many passengers are still travelling in 30-year-old Pacer trains that offer all the comfort of a Bombay bus ride.
Punctuality has fallen, and all the targets set by ORR have been missed, leaving Network Rail with the threat of a £75 million fine (although that would be pointless, since the money would simply go to the Treasury rather than be spent on investment).
Yet Network Rail bosses still pocket healthy bonuses in addition to their salaries, with the top five executives receiving a total of more than £1 million this year, in a combination of short- and long-term extra payments.
This hints at the reason for the black hole at the heart of railway finances — inefficiency. The report on railway finance by Sir Roy McNulty two years ago suggested that costs on Britain’s railways were about a third higher than those of its European counterparts. While such comparisons are fraught with statistical difficulties, the ORR in its 800-page assessment of the investment plan concluded that Britain’s rail network is 23 per cent less efficient than those on the Continent.
Indeed, there is much evidence to back this up. There is a habit of “gold-plating” within Network Rail that is partly the result of the trauma over the Hatfield accident. Indeed, the industry has an enviable safety record, with only one fatal accident, resulting in a single death, in the past decade — far better than in the past when disasters occurred most years.
This safety-first approach has resulted at times in a very conservative approach to risk, involving spending considerable sums on averting statistically very unlikely events. The equipment on branch lines, for example, is often brought up to the same standards as main line routes, an unnecessary expense.
There is, too, a culture of bureaucracy and a failure to delegate that has added to industry costs, as well as a compensation regime that means train operators receive payments during engineering works, even though they are being carried out to improve their services.
The unsustainable levels of debt and the continued drain on the government finances remain the big concern. While the ORR and Network Rail may come to a happy agreement, the purse strings are held elsewhere.
In 10 days’ time, George Osborne will set out his spending plans, and he will certainly have been eyeing up the railways to take a hit. Patrick McLoughlin, the Transport Secretary, was said by inside sources to be in fraught negotiations with the Chancellor and failed to attend the awards dinner of the Chartered Institute of Highways and Transportation on Thursday night, where he had been expected.
The Chancellor is demanding all his ministers to deliver budget cuts, and given the perennial reports of Network Rail’s profligacy and the criticisms by the ORR, either the Sofa may suddenly shrink, resulting in cuts to the much-needed investment programme, or rail passengers may get stung with whopping fare increases. Neither would be a happy prospect.