Rail 603: Memo to ministers: the rail agenda

A memo from an unknown civil servant in the Department for Transport’s Rail Group has inadvertently found its way into my inbox. Unfortunately, it is unsigned but it is clearly from a very senior source.

MEMORANDUM

To: Geoff Hoon and Lord Adonis

Subject: Railways

Priority: Urgent

You have asked me to provide an immediate briefing on issues facing the railways and possible solutions over the next couple of years (presumably, because if you don’t mind me saying so, you may not get longer than that). And please excuse the informal language, but I am hoping to ensure that the message is clear.

On the face of it, the railways seem fine. There is an investment programme set out in the next five year plan (control period four in the jargon, from 2009 – 2014) which, though inevitably insufficient, is substantial. The numbers travelling by rail have grown by almost 50 per cent since privatisation and most of these journeys are taking place on new rolling stock. Freight, too, is booming and the only problem seems to be one of capacity.

Ministers would be ill-advised to take this line. This precise mistake was made by the first Blair government, from 1997 – 2001 when the government thought that the railway, though the victim of a botched privatisation, could be left to its own devices. The result was a series of major accidents, the huge increase in costs of the West Coast Main Line, the collapse of Railtrack and an incoherent franchise policy (this is set out in Christian Wolmar’s On the Wrong Line).

Let us start with the last of these issues, franchising, which has been a troubled concept ever since it was introduced by the Tories 12 years ago. Mr Wolmar (sorry to mention that name again) has several times written in his column What is franchising for?’ and it would be useful if you were able to respond to this question. Ministers have argued in the past that franchising attracts private sector expertise, keeps costs down, transfers risk to private companies and encourages innovation.

However it has been pointed out that these arguments are unconvincing especially with the current method of using short franchises which are very tightly circumscribed by the Department and involve the payment of high premiums. Senior rail managers argue that they are more constrained under the current system than they ever were by British Rail. Moreover, because the Department has been managing the franchise process very closely, there have been complaints about micromanagement of the railways by civil servants which does not leave scope for private sector initiative.

In terms of risk transfer, it appears that in many circumstances the upside has been privatised but the downside remains very much in the public sector. In other words, when times are good, the private companies do well but when they are bad, they queue up with the begging bowl. There is now a substantial risk that the economic situation could lead to several franchises facing financial collapse in the next year or two. This would be far more difficult to address than previous failures because the Department has insisted that no renegotiations can take place and also that companies throwing in the towel on one franchise will lose all their others.

Recommendation one: Use the current crisis to launch an enquiry into the purpose of franchising, and particularly an assessment of whether risk should – or indeed can – be transferred to the private sector in the current circumstances. Pre-empt the inevitable crisis by carrying this out urgently and quickly. The issue of length of franchises and ways of attracting investment also need to be examined, as does the question of franchise regulation – should this stay with the Department?

The second area for you to consider is the governance and cost of Network Rail. This big beast at the centre of the rail network is out of control because it is not subject to any proper governance system and it is virtually impossible to assess whether its day to day spending – as opposed to the global amounts allocated in the Statement of Funds Available – is carried out efficiently. Nominally there is a group of over 100 members (‘stakeholders’) who are supposed to oversee the work of the organisation as well as the Office of Rail Regulation which is supposed to ensure that the company operates efficiently and according to the rules. However, neither of these arrangements have proved to be satisfactory.

The weakness of the position of the ‘stakeholders’ whose membership is dependent on Network Rail approval, has been highlighted by the high executive pay of the Network Rail managers which the company members have been powerless to regulate. In these tough economic times, the issue of the remuneration of the Network Rail executives pay will soon land on your desk and, indeed, be splashed across the front pages. Network Rail managers have argued that they are in a competitive market and deserve to be paid commensurate with running a £5bn per year organisation. However, they face none of the commercial pressures of their confreres in more conventional organisations which have to satisfy shareholder demands and make a profit. Network Rail executives are effectively public servants and yet paid as if they were entrepreneurial risk takers.

The regulatory regime, too, has been exposed by the events over the post-Christmas overruns to engineering work. While the regulator imposed fines on Network Rail, this sanction seems to be inappropriate when it involves the expropriation of public funds from one organisation to another. Indeed, railway managers were somewhat shocked to find that the fine merely boosted Treasury coffers at the expense of investment in the railways. It is worth noting that the Statement of Funds Available takes into account the premium payments to be made by several train operators. Should these not be forthcoming, then the investment programme of Network Rail will be under threat.

Recommendation two: Set up a review of Network Rail’s governance and develop a system for far tighter control, even if that means the organisation ends up on the government books which, I would respectfully suggest, is hardly an issue given Northern Rock, Bradford & Bingley and half the banking industry.

A third issue is the future of the rolling stock industry. Here, unfortunately, your predecessors have created a rod for your backs by initiating an enquiry into competition in the industry, only for the preliminary report from the Competition Commission to suggest that it was the franchising system that was at fault.

There are also problems with the two major rolling stock procurement programmes run by the department, Intercity Express Project and Thameslink. The department has embarked on a crazy procedure of exporting all the risk for the IEP to the private sector and required no fewer than five different types of train. Thameslink, too, is overspecified and both these orders will be prohibitively expensive. Moreover, there is confusion over electrification which the Department first rejected but now according to Ruth Kelly, there will be the biggest programme of electrification ever seen in the UK, which has caused utter confusion in the industry.

Recommendation three: It is too late to withdraw the inquiry but you could suggest to the Competition Commission that you accept its interim findings and hope that its final report is not even more damning. Scrap the existing procurement programmes for both Thameslink and IEP, and seek to buy off the peg trains that are far cheaper and will not involve the same level of risk. And work out precisely what is going to be electrified before ordering new trains.

Ministers face difficult decisions over fares which are due to rise by 6 per cent in January, which will undoubtedly attract media interest. The recent ticket type renaming exercise did not attempt to change the complex fares structure which leaves passengers bemused and often overcharged. At root, there is the enormous variation between the cheapest advance fares and the peak time turn up and go. This leads to considerable negative and misleading publicity about high fares since many bargains are available. It also results in low loadings for many peak time trains because fares are too high for most potential passengers. It is worth remembering that the rail system is a public service which costs taxpayers £5bn per year and potential lower income users should not be priced off the rails

Recommendation four: Ensure that Passenger Focus, which is currently examining fares on your behalf, has a remit that is wide enough to ensure that a proposal to simplify and rationalise the fares system is presented to ministers. A reduction in headline fares would be a good news story for ministers and will not lead to a substantial loss in fares income as many more passengers will be attracted to the railway.

One last issue: Alistair Darling abolished the Strategic Rail Authority two years ago and since then the question of whether the Department is best suited to look after the railways has been asked. There is a problem that civil servants tend to be in a job for two to three years while the railways need long term consistency. The just-published National Audit Office’s report on franchising interestingly warns that the Department’s Rail Division lacks the right expertise and has difficulty recruiting the right staff. Moreover, the head of the rail division, Mike Mitchell, does not project the right image for the rail industry, as witness his recent attendance at a railway industry event in which he delivered a lacklustre speech and left without answering questions.

Recommendation five: Terminate Mr Mitchell’s contract and consider whether a new agency to run the railways, far slimmer than the SRA, needs to be created.

I hope you will not have found the above too negative. But I would like to stress the point made in the beginning: the problems in the industry may not be apparent but they are real and capable of leading to a major media storm.

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