Examination of Witnesses (Questions 238
- 259)
MONDAY 17 APRIL 2000
RT HON
JOHN PRESCOTT
MP, RT HON
LORD MACDONALD
OF TRADESTON,
MR MIKE
FUHR AND
MR PAUL
DAVIES
Chairman
238. Good morning to you, Deputy Prime Minister.
I think we can use the clock on the wall as our indicator of time
this morning. We are very grateful to you for coming. Could I
ask you to identify yourself for the record. Do you have any other
remarks you would like to make?
(Mr Prescott) I would, Chairman. John
Prescott, Secretary of State for the Environment, Transport and
the Regions. Anything else? I have with me a team: Lord Macdonald,
of course, who is the Minister for Transport; Mike Fuhr, on the
left, who is the Director of the London Underground Task Force;
and Paul Davies, who is a partner in PricewaterhouseCoopers, our
advisers on the PPP. I am pleased to be appearing before the Committee
at a time when the progress towards PPP has improved and a more
informed debate is under way. I am grateful for the Select Committee's
contribution to that, particularly its first report in 1998. The
Committee has already received the Government's response to that
inquiry and a list of improvements that have taken place and I
believe also information concerning the public sector comparator
which you were concerned with. It was claimed by some that the
PPP was too complicated and commercially unattractive. In fact,
we are very encouraged by the quality and the detail of the bids
submitted by some of the biggest and best known names in construction
and finance. There has also been a strong field of pre-qualifiers
for the sub-surface lines. We are on track for the establishment
of a Public-Private Partnership. The debate is now better informed
than it was two years ago because of the greater amount of information
that is available and the vigorous debate amongst the academic
critics, some of whom have appeared before you recently, although
I was not able to read the evidence but I did read the evidence
of the candidates before you. It is as well to state that I have
a responsibility to implement the Labour Party's manifesto commitment
to introduce a new Public-Private Partnership to improve the Underground
and that is what I am doing. We have devised a PPP structure that
keeps the Underground publicly owned, publicly run and publicly
accountable. This will give the long-term investment stability
to modernise the assets which will be transferred back to the
public body, Transport for London. Some claimed, Chairman, that
the splitting of the operations and the infrastructure would never
work but on Wednesday I believe you heard Denis Tunnicliffe, the
Chief Executive of London Transport, saying that he wished he
had done that all along before a PPP or no PPP; he agreed with
the separation. These changes have been endorsed by the Health
and Safety Executive now and are being implemented. Much of the
argument in and outside this Committee has been based on borrowing
through a PPP or against borrowing on bonds. This is not an ideological
issue, it is just a different means of borrowing money. That is
the view I have always taken of it. Indeed, we used the bonds
for the Channel Tunnel Rail Link and we expect successful private
sector bidders will issue bonds to raise the capital that will
rebuild the tube, indeed as we have seen in the London Docklands
Railway Extension. As pointed out by the expert evidence the Committee
has received, the real issue is not about how you borrow the money
but how wisely you spend it and how you achieve best value. Using
private sector funding to get best value on the Underground is
nothing new. As this Committee is aware, over £1 billion
worth of investment is being provided on Prestige, Power, Connect
and British Transport Police projects on the Underground as well
as the PPP on the Northern Line. It is all about best value and
that is why we have a public sector comparator compiled by London
Transport and PricewaterhouseCoopers and audited by KPMG. So,
Chairman, we have provided to the Committee and published the
framework for the comparator and KPMG's favourable audit opinion.
I look forward to appearing before this Committee in the near
future when the bids have been finalised and tested against the
public sector comparator for best value and to be able to tell
you that we have established a stable framework for the long-term
investment in the London Underground.
239. Thank you very much, that is very helpful.
If the PPP is completed before the mayor is appointed, will he
or she not be left with only a limited influence over the strategy
and funding of the network?
(Mr Prescott) We have made clear right from the beginning
that in these negotiations, which we have to get on with, we would
complete them and sign the deal. It was quite clear that we would
not complete it in time for the election of a mayor and it is
our intention to separate the London Underground from the transport
system in order to complete the deal. Provided it satisfies the
public comparator, the point we have made about best value, we
will sign that deal but the mayor will be in office, of course,
during the latter stages of that and we will expect to be consulting
with them.
240. You do not think it might start off the
relationship between the Government and the mayor, whoever he
or she is, on a rather unhappy note if major decisions about the
transport system for London have been taken without any input
from the elected member?
(Mr Prescott) I hope not. It was a manifesto commitment
that we put both in the London manifesto and our general one.
With regard to the elected mayor, we have said that even before
they are elected we will complete and sign the deal. In fact,
providing long-term finance, which everybody is agreed is desperately
needed for the London Underground, this is the better and the
quicker way of doing it rather than waiting for another renegotiation
to take place that could take three or four years. In our judgment,
providing it is the best value, we will complete this deal and
we think that is in the interests not only of Londoners but also
the mayor himself.
Mr Stevenson
241. Deputy Prime Minister, could I just question
you a little further on the public sector comparator and specifically
interest rates. Why is it that in the public sector comparator
the Treasury Test Discount rate is used rather than a bond interest
rate, which I understand means that there is a two and a half
per cent difference in favour of the Treasury Test Discount rate
over and above the bond interest rate? Does this not skew the
whole deal in favour of the private sector?
(Mr Prescott) I think there are judgments to be made
about the interest rates that are involved. You have had expert
witnesses in front of you with different views about what is the
proper interest rate and what is the risk rate, all of these are
reflected in the interest rates of the bond and the Treasury rate.
At the end of the day it is best value to best judge how it will
be achieved, whether it will be done by a bond system, and the
public sector comparator will be doing that, or indeed whether
it will be achieved by raising the money on private bonds through
a Public-Private Partnership. At the end of the day it is the
bottom line, what is the best value.
242. You did say, if I quote you correctly,
that it is not an ideological issue—
(Mr Prescott) Absolutely.
243. They are just different ways of borrowing
money. It is not how you borrow it, it is how you spend it. It
seems a little strange, and it would be helpful if you could clarify
exactly what you mean by that. It seems to many of us looking
at the evidence we have had that a two and a half per cent differential
in interest rates over the period with contracts this size is
a significant gap which could leave the public sector argument
in this public sector comparator rather disadvantaged, significantly
disadvantaged.
(Mr Prescott) I will ask Paul to give some comments
but let me just make three points. One, I did not say solely spending.
We could spend it in different ways and we could have arguments.
I said we have to prove best value for providing the refinancing
and the investment in the London Underground. That is the first
point. Secondly, you have heard arguments here that the differential
in rates is dependent on how efficient each system is, and that
is what the difference of best value is and spending. The third
point is that all systems on these rates, as I understand it,
on the public comparator will use both interest rates so a judgment
can be made. Then, of course, you have to make a judgment about
the level of efficiencies that is brought about by different systems.
It may be helpful if our adviser, Paul Davies, could perhaps enlighten
you on that.
(Mr Davies) The public sector comparator will actually
have two options in it: the Treasury Discount rate that you have
talked about, but also there will be a fully costed bond solution
in the public sector, to see the effects of that. That will be
using the prevailing market rates.
244. Has that been the basis of discussions
so far on the construction of the PPP?
(Mr Davies) Yes, and it is within the methodology.
245. I see. So that information heretofore is
available?
(Mr Davies) Yes.
246. Is it available to this Committee?
(Mr Davies) The Committee has already got the methodology
statement of the PSC and it is described in there. It is just
the methodology—
247. Forgive me, it is not quite the methodology.
Perhaps it is early days yet but, so there is no misunderstanding,
you say both methodologies have been used heretofore?
(Mr Davies) Yes.
248. Is there any information that could be
made available to the Committee, or is it too early to do that,
as to what those comparators at this stage in detail are throwing
up?
(Mr Davies) At this stage all that we have given is
the methodology statement which says basically look at a bond
option and clearly that will be reflecting prevailing market interest
rates.
249. My last question is on the burden of risk
and risk sharing. I understand that one of the justifications
for this Treasury interest rate being used is because of the comparative
risk that the public sector may be asked to take, or otherwise.
Is that not done by a separate appraisal, such as cost overruns
and contract overruns?
(Mr Davies) What happens is in the public sector comparator
you want to compare that to the private sector bids on a like
for like basis. So you look at all the risks of the project and
you do a comparison between the risks that will be taken by the
private sector and the public sector on a like for like basis.
Yes, there is what is called risk adjustment, so you look at the
cost to the public sector in taking the risks that under the PPP
are taken by the private sector on a like for like basis.
Dr Ladyman
250. When we were taking evidence from the mayoral
candidates, Ms Kramer and Mr Livingstone were very strongly in
favour of the bond option but Mr Livingstone did say that if the
public sector comparator showed PPP to give best value for money
he would support it, if the public sector comparator was fair.
I would like to ask some questions about establishing how fair
it is. The analysis is not going to be published until after the
contract is signed. Is that not going to give scope for people
to say it has been fiddled?
(Mr Prescott) Paul might want to come in but from
my point of view, looking and questioning this matter, it is really
about how satisfied you are that the methodology is right and
there will be a range of options that are assessed and then make
those decisions. On your point about why can you not wait before
you make a decision about that, I think I am obliged to make a
decision on what I think is the best value. I have an obligation
to observe best value, so would the Permanent Secretary in my
Department before the Public Accounts Committee. If we are satisfied
that is the best value we will do as we have said, sign up for
the deal, and that is what we intend to do.
251. What happens if the comparator fails? What
contingency arrangements have you made for funding the Underground
if the PPP is not best value for money?
(Mr Prescott) We have faced that problem in the last
12 months. It has taken a little longer than we had hoped and
there was about 12 months' delay and we have found the extra resources
for it. What we have been able to do on Underground financing
for the investment is to maintain the core investment level at
well over £400 million, something like £600 million
more compared with what was planned for them at the end of the
previous administration. We would have that responsibility. I
am quite satisfied looking at the information that we have a very
good possibility that we can complete this deal, it will be best
value and provide the long-term stability. I do not know whether
you would like to add any more to that?
(Mr Davies) Just going back to the question of fiddling
the results, not only is the methodology itself done but the public
sector comparator itself has been done, so it is already set in
stone. Clearly things will move because you have to compare on
a like for like basis. If the deal changes you would have to amend
it but it is already set in stone. To that extent there is no
question of any fiddling to try to make it work or anything like
that, if that is the suggestion.
(Mr Prescott) You will recall, I think there was some
suggestion that we should go to the National Audit Office. They
made it clear that they would not be involved in the decision
making but would certainly pass on an opinion if we do not satisfy
the criteria that we have laid out.
252. Will they be commenting on the comparator
before it is applied or only after the analysis has been applied?
(Mr Prescott) About the principles used by the comparator
rather than its results?
253. Yes.
(Mr Prescott) We have gone somewhat further to make
sure that the independent auditors of the Underground have checked
this out against Pricewaterhouse and London Transport have put
together the public comparator and I think they have just released
the information for you to say that they are satisfied with the
procedures and the methodology that will be used.
254. In the original Pricewaterhouse papers
on the PPP there were lots of what I would call rather woolly
statements. I think "creative tension" was described
as one of the main ways that the private sector gets hugely better
results than the public sector. To what extent are those sorts
of woolly statements going to be used in the public sector comparator
and the analysis that you do? To what extent is it going to be
a clearly objective analysis rather than a subjective analysis?
(Mr Prescott) As to whether creative tension creates
greater efficiencies than the private sector, I suppose you could
have a great deal of discussion about that. I think you have had
much more practical evidence given to you by the witnesses who
pointed out the various efficiencies that have been achieved in
some of the privatised sectors and the suggestion is it is between
15 and 20 per cent. I think that concurs with some of the estimates
we have made. Also, if you look at the much celebrated cases quoted,
such as the Jubilee Line, I certainly had to intervene at a late
stage because of the tremendous increase in costs and no controls
had been effectively put on it. If I look at that now, something
like £1.5 billion more than it should have been, or indeed
if I look at the NATS operation and look at the Swanwick operation,
the investment there in the building we have reduced by £100
million. It does ask questions why the public sector enters into
some of these contracts at such higher costs than would appear
to be private sector contracts. I think that is about managing
contracts. That is why on the Jubilee Line I brought in Bechtel
to manage the project. I think that was effective.
255. In Professor Currie's evidence that we
received last week he also mentioned this figure of 15 to 20 per
cent which he got by looking at savings that had been made in
the privatised utilities. One of our other witnesses pointed out
to us that under those circumstances a situation was often a situation
where there was repetitive tendering and an open labour market
whereas that will not be the case with the PPP, there will be
a closed labour market. To what extent are you assuming in the
public sector comparator that you will be able to get the sort
of savings that Professor Currie was telling us about?
(Mr Prescott) I am not sure it is a closed sector
particularly on labour even under the present system. I think
the evidence clearly shows that labour has been reducing by something
like 15 or 16 per cent over the period of the last ten years.
I do not think there is a guarantee against that, the efficiencies
in investment have an effect on the improvement and modernisation
of the industry. Perhaps I can ask just what effects have been
taken into account of the labour costs in these assessments?
(Mr Davies) Can I just say there is a slight confusion
there? The public sector comparator, which is looking at what
the public sector will deliver the services for. The percentages
there, the savings, are what the private sector can do over and
above the public sector comparator. To go back to the question
is the public sector full of woolly statements, the answer is
no. You will see a detailed report which was done principally
by LT Engineers of their own view of the cost of delivering services
in the public sector, so it does not take account of those efficiencies
that the private sector would bring about through the PPP, but
it certainly takes account of efficiencies that the public sector
are able to bring about through changes in the labour market or
for whatever reasons. So they are assuming that an element of
efficiency will occur in the public sector and, yes, that is documented
in the comparator.
(Mr Prescott) Could I ask Mike Fuhr just to supplement
that.
(Mr Fuhr) There is already some strong evidence to
suggest that there are going to be savings in the order of 15
to 20 per cent in PPP deals as opposed to the—
Chairman
256. Mr Fuhr, I wonder if we can have a little
more voice, we cannot quite hear you.
(Mr Fuhr) I am sorry. I was saying that there already
is some fairly strong evidence that there are savings of between
15 and 20 per cent to be had in PPP deals. These were shown in
the report published earlier this year by Arthur Andersen and
LSE, some work commissioned by the Treasury Task Force, which
showed that the average saving on PPP or PFI deals when compared
with the public sector comparator was on average 17 per cent.
The savings which are likely to flow in the London Underground
PPP are comparable with savings which occurred in the British
Rail infrastructure companies when they were transferred to the
private sector some four years ago.
257. Oh dear. That may be a mildly unhappy comparison,
Mr Fuhr.
(Mr Fuhr) Even if that one is unhappy, let me go on
to explain—
258. Yes, move on quickly.
(Mr Fuhr) I was going to say that in talking about—
259. The ice is getting very thin.
(Mr Fuhr) In talking about unit labour costs—I
am feeling for where the ice is thicker now—I do not think
that we should be seduced by the idea that the savings on the
London Underground PPP are going to come from labour savings.
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