Memorandum by The Associated Society of
Locomotive Engineers & Firemen, The National Union of Rail
Maritime & Transport Workers and The Transport Salaried Staff's
Association (LU 03)
LONDON UNDERGROUND
INTRODUCTION
1. The Committee is taking evidence from
London Transport on all aspects of the operating and development
of London Underground, including the Jubilee Line extension and
the future funding of London Underground.
2. As representatives of the 16,000 managerial,
administrative and frontline staff who maintain and operate the
Underground, we welcome this opportunity to present our views.
We will concentrate on the Government's proposals for the future
funding arrangements of London Underground, the Public Private
Partnership (PPP). Our paper will address the following areas:
— Public Borrowing Rules since the
announcement of the PPP.
— The Public Bond Alternative to the
PPP.
— The Terms of Reference for the Public
Private Comparator.
3. The Committee's deliberations could not
have come at a more appropriate time. The Government's recent
decision not to proceed with awarding the "sub surface"
contract to Railtrack, despite reaching heads of agreement in
October, raises fundamental concerns as to the future direction
of the PPP. A serious question mark hangs over the PPP's suitability
as a mechanism for delivering the stable and long term funding
which is essential for the future of the Underground.
4. It is expected that the sub-surface contract
will not now be in place until the same time as the deep line
contracts, whose implementation date has been rescheduled for
2001. Consequently, on the current timetable, new funding arrangements
will not be in place until three years after the announcement
of the PPP in March 1998, raising the prospect that, during the
course of an entire Parliament, the long term future funding arrangements
will not have been resolved. The process increasingly gives the
impression of being convoluted and muddled. Not surprisingly,
public confidence in the PPP is at its lowest ebb.
5. Our concerns over the PPP should not
detract from what we believe is a genuine desire of London Transport
and Government to find a long-term solution to the problems of
the Underground. We hope that in this submission we can persuade
the Committee that there are sound arguments for exploring other
funding options for the Underground.
6. We thank the Committee for considering
our submission and would welcome the opportunity to elaborate
on our paper at the hearing.
PUBLIC BORROWING
RULES SINCE
THE ANNOUNCEMENT
OF THE
PPP
7. When Government originally explored funding
solutions for the London Underground, the Deputy Prime Minister
instructed London Transport to examine possible funding arrangements.
The London Transport Board placed PPP fourteenth out of fifteen
suggested options. Their most favoured solution was for the network
to remain in the public sector as an integrated railway, allowing
London Underground to raise funds by issuing bonds.
8. One of the primary Government objections
to a bond issue was a concern that this would breach Treasury
borrowing rules. Yet changes in Government borrowing since the
announcement of the PPP mean that there is now scope for the Government
to be more flexible in its approach. These are:
Funding The Channel Tunnel Rail Link
9. Firstly in June 1998, the Government
agreed to raise the funding for the Channel Tunnel Rail Link through
the issue of Government backed bonds covering £3.75 billion.
The Treasury decided that the issue of bonds would not breach
its borrowing rules because the chances of a call being made on
the bonds were less than 20 per cent.
10. The London Underground is one of the
profitable metro systems in the world and its position as an essentially
natural monopoly means that it is an extremely robust business
enterprise. It is certainly the case that the Underground as an
established operating profit organisation has a sounder financial
base than the Channel Tunnel Rail Link. If issuing bonds to fund
the Channel Tunnel link does not count against the Treasury's
borrowing rules, then issuing bonds to fund the Underground should
not either.
The Relaxation of Treasury Borrowing Rules
11. A further change in policy took place
in June 1998 when the Treasury rules where relaxed so that the
public borrowing would not necessarily count against the Public
Sector Borrowing requirement, providing that the borrowing is
for capital and not current expenditure, and the net public debt
at any time is kept below 40 per cent of GDP over the five year
economic cycle.
12. In this respect it is important to note
that all the investment required by the Underground can probably
be defined as capital expenditure. And, according to the November
1999 Treasury pre-budget report, the Government could still borrow
£60 billion over the five year cycle and remain within the
40 per cent public debt restriction.
THE PUBLIC
BOND ALTERNATIVE
TO THE
PPP
13. These welcome changes in the Government
approach to public borrowing allow the Government to move away
from their reluctance to consider a public bond issue.
Structure of a Public Bond Issue
14. The recent legislation creating the
Greater London Authority provides the opportunity for the Government
to give the authority powers to issue bonds through the new executive
body, Transport for London (TfL). Such powers have been successfully
used by TfL's equivalent in New York, the Metropolitan Transport
Authority (MTA) who, since 1982 have raised $23 billion dollars
in capital spending for the City's transit system.
15. Recent reports in the press, suggesting
that the MTA bond issue resulted in the city going bankrupt have
been extremely unhelpful and have caused unnecessary confusion
in an important area of the funding debate. In fact these comments
have confused New York City's fiscal crisis in the early 1970s
with the bond issue by the New York MTA. As Rosemary Scanlon,
the former New York Deputy State Controller recently stated in
the Financial Times: "The MTA reinvestment programme and
its bond issuance is, without question a major success story in
New York."
16. Drawing lessons from the MTA we would
propose TfL bonds would be backed by a combination of guaranteed
fare box revenues, road congestion and non-residential car parking
taxes available to the GLA and an agreed, consistent level of
Government grant. These revenue streams would ensure that the
income to TfL would be sufficiently solid to ensure that the bonds
could be secured at a very competitive rate. We would suggest
that the authority would group the bond issue into a cyclical
investment plan (for example every five years) with new bonds
being issued at the end of each plan.
Advantages of a Public Bond Issue
17. We believe that there are a number of
advantages in resolving the Underground's funding problems through
a TfL bond issue, rather than the PPP.
18. The strict five-year cyclical investment
plans for a bond issue will provide for a clearly defined investment
horizon that will impose a financial discipline to ensure that
the money is well spent over each period. The access to predictable
long-term capital will allow for maintenance and enhancement projects
to be programmed well in advance, delivering corresponding efficiencies.
In contrast, the thirty-year contracts of the PPP (which are significantly
longer than the franchises awarded on the mainline railway), will
not be able to be significantly altered to take into account underperformance
or changing investment priorities.
19. Bonds, issued over consecutive five-year
investment plans, will allow sufficient funds to be raised to
finance new capacity. In Chicago such bond issues funded the construction
of three new lines. In London bonds could finance the Hackney
to Chelsea or Crossrail proposals. The PPP, however, is only a
one-off form of funding to finance an investment backlog and maintenance
over a specified period. There is no provision within the PPP
to finance route extensions and new lines.
20. Whereas under the current timetable,
PPP funding will not be in place until some point in 2001, the
advice we have received from city institutions is that our proposed
bond issue could ensure that new funding arrangements would be
implemented in a matter of months. Putting an end to the damaging
uncertainty over funding that the PPP was meant to resolve.
21. A bond issue will allow the Underground
to remain as an integrated railway, and through the GLA and Mayor,
be accountable to the people of London. Responsibility for the
network will be clearly defined. The dynamic of accountability
will help ensure that the correct, most cost-effective solutions
for the Underground are adopted. For example, the public will
be more tolerant of private car parking levies and congestion
charges if they can see that it will directly finance benefits
to the Underground. The slippage of the PPP timetable, however,
will mean that the new authority will not assume control of the
network until 2001. A delay which will prevent the Government
from restoring accountability to the Underground as originally
envisaged by the Deputy Prime Minister: "When the Greater
London Authority is established, the Underground will, with the
rest of London Transport, transfer to it. It will then be not
only publicly owned, but publicly accountable to the people of
London through the Mayor and Assembly."
22. A central provision of the GLA Act is
for the Authority to publish and implement an integrated transport
strategy for London and to unify the existing fragmentation of
responsibility for transport in the capital. TfL will be responsible
for this strategy and report directly to the Mayor. Giving the
Mayor and GLA the primary powers for funding the Underground and
other transport concerns will clearly allow for a more effective
planning and delivery of an integrated transport system.
23. In contrast, when the network is eventually
transferred, the new authority will have little influence over
the thirty-year PPP contracts and, as a result, will have no real
control over the management of the Underground. We fear that this
will lead to a disintegration of transport policy in London. Whilst
the GLA will have responsibility for the buses, roads, the waterways
and an interface with the Strategic Rail Authority, the absence
of effective control over the Underground will mean that the Mayor
and GLA will struggle to implement a genuinely co-ordinated transport
policy. A further concern in this respect is the acknowledgement
by the Government that some of the public funding received by
TfL may be diverted to meet London Underground's payments to the
PPP contractor. This creates the real possibility of the demands
of the PPP placing a financial impediment on the new Authority's
desire to fund other transport improvements in London.
24. Finally we believe that a TfL bond issue
will be a considerably cheaper method of financing the modernisation
of the Underground, TfL bonds, guaranteed by the revenue streams
we have outlined could be issued at around 4.5 per cent, whereas
private borrowing would demand a return of at least 12 per cent.
We think it is legitimate for the Committee to ask whether any
extra cost will fall on the taxpayer or fare payer and if it will
not, whether Government grant will have to be used to offset the
extra cost of the PPP.
TERMS OF
REFERENCE FOR
THE PUBLIC
PRIVATE COMPARATOR
25. To date the Government and London Transport
have maintained a position that the financial modelling contained
within the Pricewaterhouse report into Tube funding, demonstrates
that the difference in the cost between the TfL backed bonds and
private sector borrowing is more than offset by the extra efficiencies
that private sector management will bring to the Underground.
Although the Pricewaterhouse report has not yet been made available
for public scrutiny, recent comments in the press have stated
that the Government believe that these efficiencies could deliver
cost savings of up to 20 per cent.
26. As a result, the Government seem confident
that their public/private comparator will demonstrate that the
PPP option will provide the best value for money. But on what
basis will the comparator be undertaken? And can Committee be
confident that it will show the actual cost to the tax and fare
payer? We believe that for the comparison to be a valid exercise,
then the committee may wish to scrutinise the terms of reference
of the comparator. Specifically, you may wish to explore the following
areas with London Transport and Government: The Financing Options
Included In The Comparator; The Transfer Of Risk; The Continued
Need For Government Funding; The Treasury Discount Mechanism;
Private Sector Efficiencies. We will address each of these in
turn.
The Financing Options Included In The Comparator
27. The Government has stated that the financial
consequences of various options for financing that required investment
in LUL were explored in the Pricewaterhouse report, prior to the
announcement of the PPP to Parliament in March 1998 [Paragraph
17 to 19 "Government's response to the report on London Underground
of the Environment, Transport and Regional Affairs Committee].
28. This raises the question of which of
the various financing options will now be used for the comparator.
We feel that this is a critical question because, as we outlined
in paragraphs 10 to 12 of our paper, there have been changes in
Government borrowing rules since the announcement of the PPP,
that the Pricewaterhouse report could not have considered. These
changes now allow for the Government to reconsider a TfL bond
issue and, accordingly, the cost of the PPP should be compared
against the bond option.
The Transfer of Risk
29. A further factor that may have led the
Pricewaterhouse report to conclude that the PPP option would offer
better value for money was that London Transport and Government
would have been able to transfer the risk involved in funding
the Underground to the private sector. Yet, since the Price Waterhouse
report, there has been a significant change in the proposed allocation
of risk. The London Underground progress report (paragraph 24)
stated that the Government has made concessions that certain liabilities
will lie with the state and that the Government has decided not
to transfer revenue risk to the contractors (paragraph 32). As
the private sector will be taking on less risk than was previously
anticipated, do London Transport and Government feel that any
conclusions of the Price Waterhouse report in this area remain
valid?
30. The recent decision of Taylor Woodrow,
part of the NewMetro deep line consortia, to withdraw as a bidder
raises another question as to the allocation of risk. According
to the Evening Standard, a spokesman for Taylor Woodrow said the
company took the decision because: "The project does not
meet our own criteria on concentrating on lower risk work. The
risks (of the PPP) far outweigh the potential rewards."
31. These comments suggest that, even with
the risk concessions that have already been given by London Transport,
short listed bidders are still unhappy at the extent of the risk
they are being asked to undertake. We fear that this may lead
to London Transport offering more concessions on risk transfer
to maintain bidders interest in the PPP. This in turn must cast
further doubt on the view that PPP will offer value for money
arising from ability to transfer risk.
32. The Committee may also wish to note
that London Transport informed the trade unions that a uniform
public private comparator would be made prior to the receipt of
final bids from the short listed bidders (LT presentation on the
PPP to trade unions—30 November 1999), although we are not
clear if this is because it was intended to undertake the comparator
to assess the value of the Railtrack proposals, which were still
being considered at that time. Yet we were also advised that the
extent of risk transfer would be the subject of continuing negotiations
between London Transport after the comparator had been undertaken.
We hope the Committee would agree with us that the comparator
must take into account the full level of risk transfer and that
this can only be sensibly assessed once the final bids have been
submitted and scrutinised.
The Continued Need for Government Funding
33. We understand the original intention
of the PPP was to remove the need for continued Government funding
for the Underground: "Investment will no longer be constrained
by annual public expenditure plans" (Transport Minister,
Gavin Strang, statement to the Environmental, Transport and Regional
Affairs Sub-Committee, 13 May 1998).
34. Since that time, however, there has
been a recognition by Government that the PPP may have to be,
in part, subsidised by Government grant: "If it represents
good value for money, central Government grant to Transport for
London will be based on the assumption that part of the total
will be needed to meet the London Underground's payments to the
PPP contractor." (Glenda Jackson, Transport Minister
for London, House of Commons, February 1999.)
35 Therefore, the Committee may wish to
ask London Transport and Government whether the Comparator should
only be undertaken once the full extent of Government subsidy
for the PPP is known, and whether the continued need for Government
subsidy will have any bearing on the eventual outcome of the comparator.
The Treasury Discount Mechanism
36. We are concerned that the comparator
may also be distorted by the use of the Treasury discount mechanism,
which is used to take into account cost savings the private sector
is presumed to deliver through greater efficiencies. Discounting
involves adjusting the value of expenditure according to when
it occurs in time. The higher the discount rate used, the lower
the value ascribed to expenditure in later years. For example,
the value of £100 expenditure in 10 years time, discounted
at the Treasury 6 per cent rate, is only £56 and in 20 years
time is only £31.
37. For most public procurement in the UK,
the Treasury guidance (the "Green Book") prescribes
a rate of 6 per cent. This is regarded even by the Treasury as
coming from the upper end of the range of possible rates: "the
choice of 6 per cent from the top of the range, is an operational
judgement, reflecting for example, concern to ensure there is
no inefficient bias against private sector supply". (Treasury
Green Book, p 84.)
38. The use of a discount rate tends to
favour options which involve spreading expenditure over long periods
of time, and the higher the rate, the more this is the case. We
think it is important for the Committee to note that this creates
an advantage for the PPP option, under which the cost of investment
is met through annual payments over a period of up to 30 years.
Public investment, such as a TFL bond issue would, in contrast,
be counted in full in the period when the expenditure takes place,
even if it is financed through borrowing. If this model is applied
for the PPP comparator then the PPP will have an immediate in-built
advantage over the bond issue when assessing value for money.
39. Not surprisingly, there is a growing
unease about the use of the 6 per cent rate in "Value for
Money" appraisals, particularly with regard to PFI procurement
because it has been shown that the choice of discount rate can
have a material impact on the outcome of the comparison of costs
between PFI and publicly financed options.
40. The comparator for the Cumberland Infirmary
PFI scheme for example, which appeared to demonstrate that the
PFI solution represented better "value for money", was
examined by researchers at University College London. They found
that when the rate was reduced to 5.5 per cent, the results were
reversed, with the public sector option coming out cheaper. (British
Medical Journal, "PFI in the NHS—is there an economic
case?")
41. Indeed, the Public Accounts Committee,
in reviewing the first four PFI road schemes, noted that the choice
of discount rate could affect the outcome: ". . . a discount
rate which is too high tends to overstate the benefits from the
private finance options. Even a discount rate of 6 per cent is
regarded by the Treasury [as being] at the upper end of the range
of valid figures. We therefore recommend that the Treasury consider
further the appropriateness of the six per cent discount rate
to assess the value for money of PFI projects" [HoC Committee
of Public Accounts, Forty-seventh Report. "The private finance
initiative: the first four design build finance and operate roads
contracts—July 1998].
42. Furthermore, Economists at University
College London and the University of East Anglia have written
"We find it impossible to support the continued use of
rates in the region of 6 per cent for the UK. Such rates are far
too high". They state that the rate used by the Treasury
is "well in excess of any reasonable and defensible discount
rate. Our best estimate is 2.4 per cent" [Pearce D, Ulph
D, "A social discount rate for the United Kingdom" CSERGE
Working Paper.]
43. It is also important to note that the
Treasury bases its discount rate in part on prevailing market
interest rates. The 6 per cent rate was chosen in 1991, at a time
when interest rates were much higher than they are now. Given
that interest rates have come down since the early 90's, there
is a strong case for reducing the discount rate. It is notable
for example that PFI consortia have been able to raise money at
rates of around 4 per cent (at the Greenwich Hospital PFI scheme,
for example). We hope the Committee would agree with us that there
can be no justification for the Government discounting PFI charges
at a rate which is higher than the borrowing costs faced by the
private sector. Such an approach can only lead to distorted results
when determining value for money for the tax and fare payer.
Private Sector Efficiencies
44. Government and London Transport may
justify the reduced risk transfer, public subsidy for the PPP
and disproportionate discount rates that we have outlined by an
assumption that the private sector involvement and management
will, de facto, ensure that greater efficiencies are achieved
than would be the case if the management of the underground's
infrastructure remained in the public sector.
45. Yet this dim view of the public management
of the Underground was not held when the Government first announced
their PPP proposals to Parliament. On the contrary, the Deputy
Prime Minister was enthusiastic about the contribution of the
staff and management of the Underground "London Underground
has made great strides since the Kings Cross fire 10 years ago.
Its management systems have been overhauled, it's employment practices
modernised, and productivity improved. All that reflects great
credit on everyone who has worked for London Underground . . .
the fact that the system works as well as it does is a tribute
to their efforts and, frankly, their efforts alone."
[Deputy Prime Minister, statement to Parliament, March 1998].
46. Indeed, at this time it was recognised
that the management of the Underground had done a good job in
difficult circumstances—battling against the twin evils
of limited funds and unpredictable annual spending limits. The
extent of their achievement was borne out last year in a survey
by the London Research Centre, which found that the frequency,
reliability and punctuality of the network was ahead of the New
York and Paris Metro Systems.
47. Nonetheless, in recent months, it appears
that the PPP has been justified in part, by highlighting the perceived
failures of the public management of the Underground. The inability
of London Underground management to complete the Jubilee Line
extension on time and within budget is a notable example.
48. Yet it would be very misleading to use
the problems encountered with the Jubilee Line extension to make
an argument for private sector efficiencies. Contractors Amec
and Balfour Beatty (who are members of the "TubeRail"
and "Metronet" consortia of deep line bidders) were
both directly involved in the construction of the Jubilee Line
Extension, as were Westinghouse Signals who have endured significant
criticism arising from the delay caused by their failure to correctly
install the signalling system. On the mainline railway also, the
record of the private sector in delivering major construction
projects is far from exemplary. The abject failure of the London
and Continental Railway to deliver the first stage of the Channel
Tunnel Rail Link on time and in budget is a case in point.
49. In any event, by comparing the construction
of the Jubilee Line extension with the PPP, the Government is
in danger of propagating a common misunderstanding over the purpose
of the PPP. The construction of new lines will not be a feature
of the PPP contracts, which, in fact, will be restricted to cover
the maintenance, renewal and enhancements of the existing (Underground
infrastructure: "contractor(s) will be required to not only
overcome the investment backlog and modernise the Underground's
infrastructure but to also carry out enhancements to the network,
including increasing capacity in some areas . . . we do not believe
that it would be appropriate to include major new lines or extensions
within the PPP". [Paragraph 60-62, Government's response
to the report on the London Underground of the Environment, Transport
and Regional Affairs Committee]
50. By concentrating on London Underground's
record of maintenance, renewals and enhancements, we can find
no substantive evidence that says the private sector management,
through the PPP, would necessarily provide greater efficiencies
than the public sector.
51. Indeed, to date, a number of cases of
private sector involvement have demonstrated the opposite to be
the case. Alstom (a member of the TubeRail deep line consortia)
were four years behind schedule in delivering the new Northern
Line trains which are still experiencing operational difficulties.
The Central Line trains, provided by Adtranz (part of the Metronet
consortia) have also experienced delays. These have been due to
the platforms having to be rebuilt because Adtranz failed to gauge
the size of their trains. Problems have also been experienced
due to Adtranz not ensuring that the trains were compatible with
the Central Line's ATP system. Continuing problems are being experienced
with the signalling installed by Westinghouse Signals on the Central
Line to the extent that the east end of the lines has been subject
to closure.
52. Perhaps we should not be unduly surprised
by the shortcomings of the private sector on the Underground when
we know all too well that these have been mirrored on the mainline
railway. Railtrack, until their recent failure to convince Government
that they were able to link the underground's sub surface line
to the mainline railway, were presumably another example of how
private sector efficiencies could be brought to bear on the Underground.
Yet an independent report by consultants Booze-Allan found that
Railtrack had let the overall quality of the network fall below
the standard inherited from British Rail. And in the Health and
Safety Executive's Chief Inspector of Railways annual report,
published on 2nd December 1999, it was shown that a third of the
national track system was described as in decline whilst only
22 per cent was said to be improving.
53. When considering if the private sector
will bring enhanced efficiencies to the Underground, it is instructive
to note that Railtrack's record on the mainline railway cannot
be blamed on Railtrack alone. In fact, day-to-day responsibility
for maintaining the network falls to Railtrack's sub contractors.
These include Adtranz, Amec, Amey, WS Atkins and Balfour Beatty,
all of whom are part of the consortia which have been short-listed
for the deep line contracts.
54. We also believe that that comparator
should take into account the efficiencies that could be gained
by allowing the Underground to remain as an integrated railway
within the public sector. The experience of the New York MTA has
shown that there is no reason why meaningful internal reforms,
which build on the considerable experience and expertise of the
existing management, and are underpinned by access to predictable
long term funding, can also produce the efficiencies the Government
is seeking.
55. But the greatest efficiency that could
be maintained would be an avoidance of the blame culture and associated
effect on working relationships that has been caused by the separation
of the operations and infrastructure on the mainline railway.
Our concern is that fragmenting the Underground will damage the
unified management structure and the clear lines of responsibility
that the Underground currently enjoys. Indeed with Lord Cullen
conducting his enquiry into railway safety the Committee may question
the wisdom of proceeding with the PPP negotiations until such
time as the enquiry has been completed, since many of the issues
he is being asked to consider will also apply to the proposed
structure and working relationships on London Underground if the
PPP is implemented.
56. We have attempted to demonstrate to
the Committee our concern that the Comparator may not reflect
the true cost to the tax and fare payer if it does not allow for
the changes in public borrowing arrangements and the level of
risk transfer since the announcement of the PPP. We have also
argued that the results of the comparator could be distorted by
the use of the Treasury discount rate and overstating the value
of private sector efficiencies. It is out view that these considerations
make it imperative that the modelling of the PPP and the comparator
process are subject to full public scrutiny. As it will ultimately
be the new London Authority and people of London who will reap
the consequences of the final decision on future funding arrangements,
we would suggest that the new Mayor should have a primary role
in the scrutiny process.
6 December 1999
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