Memorandum by London First (FLU 07)
THE FUNDING OF LONDON UNDERGROUND
SUMMARY
Amidst all the arguments about financing London Underground,
there are some principles that are not in dispute:
— the Tube desperately needs new investment
to make good decades of neglect and to cope with a record level
of demand;
— there has to be a committed long-term
programme that is not subject to stop-go interference;
— the programme must deliver a safe,
reliable, high quality system at minimum cost.
The business community does not have a fixed
view on how this should be achieved. We do believe however that
the private sector has to be involved in order to improve efficiency
and customer service. Granting franchises for managing and upgrading
the infrastructure should ensure that there is a long term commitment
to a long term investment programme and that the investment will
be delivered in the most efficient way.
The Greater London Authority could raise money
more cheaply by issuing bonds, but the efficiency gains from PPPs
should outweigh the extra financing cost. Bond issues would be
subject to annual approval by the Government and would therefore
fail to enable London Underground to commit to a long-term programme.
Whatever the theoretical arguments, the Government
has decided on its policy on the basis of Public Private Partnership
and has invested two years taking it forward. The most constructive
approach now is to help make it a success. London cannot afford
continuing argument.
Nevertheless, there clearly are concerns that
the Government should recognise:
— even with growing demand and reductions
in cost, the Tube will not be self-financing: the Government should
explicitly commit to continuing support;
— there needs to be a change of culture
in the operation of the Tube to improve its day-to-day performance;
— it is essential that there should
be a constructive relationship between the Mayor and LU during
the interim period and between them and the infrastructure managers
once responsibility for the Underground transfers to Transport
for London;
— demanding service standards should
be set—for both operating and infrastructure companies—on
which the Mayor should be consulted;
— new capacity will be needed to cater
for growth and regeneration; revenue from road user charges, if
introduced by the Mayor, will be one of the sources of income
available to help fund new investments and the Government should
agree to the GLA being allowed to borrow against this.
INTRODUCTION
London First is a business organisation which
campaigns to improve and promote London. It was established in
1992, and currently has a membership base of over 300 companies
(membership list enclosed). Our sister company, London First Centre,
is London's inward investment agency. Together we represent the
interests of a wide variety of businesses and aim to increase
London's competitiveness in a growing global market.
Our members include a number of companies involved
in bidding for the infrastructure concessions and their advisers.
However this evidence is not based on their particular views but
on our knowledge of the concerns of our members generally.
One of the main reasons for the creation of
London First was business concern about London's transport system.
It was clear that a failing transport system was, and remains,
detrimental to the capital's competitiveness. It continues to
be one of the most important parts of our work.
In our previous evidence to the Sub-committee
in May 1998 we said that the top priority for transport in London
is to improve the existing system, including renewal of the Underground
to achieve greater reliability and safety, less overcrowding and
cleaner and more comfortable conditions. Following the Deputy
Prime Minister's announcement of 20 March 1998, we said that the
time had come to end the debate and get on with putting the new
arrangements in place. That remains our view.
Amidst all the arguments about financing London
Underground (LU), there are some principles that are not in dispute:
— the Tube desperately needs new investment
to make good decades of neglect and to cope with a record level
of demand;
— there has to be a committed long-term
programme that is not subject to stop-go interference;
— the programme must deliver a safe,
reliable, high quality system at minimum cost.
The business community does not have a fixed
view on how this should be achieved. We do believe however that
the private sector has to be involved in order to improve efficiency
and customer service. That is not a criticism of the dedicated
managers who run the Tube now. It is simply that privatising public
utilities, within a clear safety and regulatory framework, has
proved to produce a better service at lower cost. Although we
would have preferred to see London Underground privatised as a
whole, we recognise that this was ruled out in the 1997 election
manifesto. Granting franchises for managing and upgrading the
infrastructure should at least ensure that there is a firm commitment
to a long term investment programme and that the investment will
be delivered in the most efficient way.
DEVELOPMENTS SINCE
1998
The process of setting up and letting infrastructure
concessions is taking far longer than the two years predicated
in the deputy Prime Minister's announcement. The additional interim
funding made available by the Government is enabling London Underground
to get on with necessary work, but taking decisions on resources
on a stopgap basis means that management cannot plan ahead and
decisions involving future commitments are deferred. In the meantime,
the number of passengers has grown to record levels putting increased
pressure on the system.
Nevertheless, a great deal of progress has been
made in setting up the new arrangements. This has involved considerable
investment by the Government and London Transport in consultants'
fees, by London Underground in re-structuring into operating and
infrastructure entities, and by bidders in preparing their bids.
The Greater London Act is now on the Statute
Book. It defines the future status of London Underground as a
subsidiary of Transport for London (TfL), once the present transitional
position is resolved, and the financial framework within which
it will operate. TfL will in due course inherit whatever contracts
LU signs with the concessionaires and will be bound by the obligations
created under them.
Whatever the theoretical arguments, it is no
good saying we should not be starting from here. The Government
has decided on its policy on the basis of public private partnership
(PPP) and has invested two years taking it forward. The most constructive
approach now is to help make it a success. London cannot afford
continuing argument.
BOND FINANCE
The major alternative proposed to the PPPs is
bond finance ie allowing the Greater London Authority (GLA) to
raise funds for investment in the Underground by issuing its own
bonds. The GLA could clearly raise finance more cheaply than the
consortia who are awarded infrastructure concessions. In terms
of value for money the issue is whether the efficiency gains from
letting concessions would outweigh the additional financing cost.
This depends on a view on the scope for efficiency gains and risk
transfer.
We believe that the efficiency gains will outweigh
the extra financing cost. Private sector bidders will have to
take the risk of cost over-runs and will therefore have to ensure
that their bids include a substantial contingency margin. Lenders
will want to take full account of their exposure to downside risks.
The GLA will have certainty about the costs it has to meet. Public
sector cost estimates typically do not build in such large contingency
margins and the pressure on public sector managers to ensure that
costs do not over-run are not so great.
In any case, bond finance within the framework
of the Greater London Authority Act would fail to achieve a committed
long-term programme that is free from stop-go interference. With
bond finance, the investment in the Underground would be part
of the GLA's capital programme, which is subject to approval by
the government each year. This would prevent LU from planning
a long-term investment programme and would therefore perpetuate
the inefficiency inherent in the present system.
Nevertheless there clearly are concerns that
the Government should recognise:
— even with growing demand and reductions
in cost, it is very unlikely that the Tube will be self-financing:
the Government should explicitly commit to continuing support;
— there needs to be a change of culture
in the operation of the Tube to improve its day-to-day performance;
— the Mayor or Chairman of Transport
for London should be closely involved in finalising the PPP concessions;
— demanding service standards should
be set—for both operating and infrastructure companies—on
which the Mayor should be consulted.
FUNDING GAP
The projections released by PricewaterhouseCoopers
indicate that there would be an external funding requirement of
£2,440 million in the first 12 years of the PPP concessions.
On these assumptions it is very unlikely that the Underground
can be self-financing over the lifetime of the concessions. Even
if commercial revenue covers operating and maintenance costs by
year 13, a continuing subsidy will be needed to provide a return
on the initial capital and cover the cost of borrowing in the
early years. This is not surprising.
There are no published figures for Government
support for the core Underground system, so there is no basis
at present for comparing the level of support which may be required
by the PPPs with what has been provided by Government in the past.
For the purposes of judging the cost of the PPPs, it would be
helpful to have this information.
There is a strong case for the Government—rather
than the GLA—continuing to provide an external support for
the Underground required to pay for the PPPs:
— support for the Underground is currently
provided by the Government. Setting up the GLA should not in itself
lead to a transfer of this cost from national to local taxpayers,
particularly given the Government's assurances that the GLA would
not be a significant extra burden to Londoners;
— the Government is taking responsibility
for managing the PPP process and will sign the contracts. It should
therefore accept the financial consequences;
— the Underground serves only part
of London, mainly north of the Thames. South London is much more
dependent on commuter rail services, which are subsidised by central
government. The funding for the two halves of London's rail-based
public transport should be managed on a coherent and consistent
basis;
— if the whole of the funding gap were
to be met by revenue from road user charges, it would breach the
undertaking given by Ministers during the passage of the Greater
London Authority Act that expenditure funded by this revenue would
be additional to existing programmes;
— the only other source of additional
funding would be fare increases. But fares in London are already
among the highest in Europe. With fare increases on the rail system
pegged below the rate of inflation, there would be increasing
distortion between the two systems.
So long as there is uncertainty about who will
be responsible for funding the PPPs, there will be continuing
speculation about the potential adverse effects they may have.
This speculation fuels opposition to the PPP process which could
be defused if the Government undertook to meet the cost.
This level of support would be predicated on
maintaining fares constant in real terms after 2001-02. Fares
will in future be determined by the GLA. It should therefore fund
the cost of any reductions (or benefit from increases), and meet
the cost of any other variations in the net cost resulting from
its decisions eg to extend hours of operation.
OPERATION OF
THE UNDERGROUND
We would have preferred to see private sector
involvement in the operation of the Underground as well as management
of the infrastructure, whether by outright privatisation—or
by letting concessions on a vertically integrated basis for both
maintaining and operating whole lines, as in the case of the Docklands
Light Railway.
Apart from achieving potential efficiency gains,
there is a need to improve the day to day operational performance
of the system and develop a more customer-focused attitude. We
believe these objectives would be more likely to be achieved by
the private sector. Whatever the theoretical advantages, however,
we recognise that outright privatisation was ruled out in the
manifesto on which the Government was elected, and that a change
in the structure of the PPPs at this stage would further delay
their completion.
These objectives should nevertheless be pursued
as vigorously as possible in the public sector, with demanding
performance targets and incentives set for the operating company
as well the infrastructure managers. If the PPPs are to succeed,
there will also need to be a culture change in the operating company.
For a Partnership to work, the operating company will need to
respond flexibly and promptly to the infrastructure managers.
It will be essential to avoid a confrontational relationship between
them and a "blame culture".
THE ROLE
OF THE
MAYOR AND
TRANSPORT FOR
LONDON
Responsibility for LU will not be transferred
to Transport for London until the PPP concessions have been concluded,
which could be a year or more after TfL is set up. In the meantime,
there will need to be close co-operation between TfL and LU;
— at an operational level, there will
need to be close co-operation on ticketing, travel information,
managing interchange etc, and the TfL will set the fares;
— at the same time, the Mayor will
be preparing strategies for transport, economic development and
spatial planning which will have to cover the performance and
future development of the Underground;
— TfL will have to manage the relationship
between the operating and infrastructure companies once the concessions
have been concluded, so it is important that the Mayor and TfL
should be involved in creating that relationship.
It is essential that there should be a constructive
relationship between the Mayor and LU during the interim period
and between them and the infrastructure managers once responsibility
for the Underground transfers to TfL. This relationship will be
much easier to achieve if, as recommended above, the Government
undertakes from the outset to meet any funding gap arising from
the PPPs, with only the costs of measures introduced by the Mayor
and TfL to be met by the GLA.
SERVICE STANDARDS
The objective of the PPPs should be to improve
service standards on the Underground in terms of safety, frequency,
reliability, comfort and customer service. The PPP contracts should
specify output standards in these terms rather than the physical
changes required to achieve them, which should be left to the
concessionaires to devise.
These standards should be based on achieving
a significant improvement over current performance within a short
timescale. There should be a strong incentive/penalty regime to
ensure compliance. Similar standards should be set for the operating
company. As noted, above, the Mayor or TfL should be involved
in setting service standards. It should be recognised however
that there might need to be temporary closure of some sections
of the Tube in order to carry out renewal quickly and efficiently.
CATERING FOR
GROWTH AND
REGENERATION
Existing Underground services are very overcrowded.
LT forecasts indicate that, even when the existing system is upgraded,
serious overcrowding will remain, particularly on the Central
Line and in the Earl's Court area. Similarly there is severe overcrowding
on sections of the suburban rail services. Congestion on London's
Tube and rail system could become a serious impediment to London's
growth.
If London is to succeed, it must have the capacity
for growth in terms of both demand from existing centres and the
creation of new growth points. There is scope for the creation
of new hubs for sustainable growth at major transport nodes such
as King's Cross, Paddington and Stratford. However overloading
of the transport system is likely to constrain these new opportunities
for major development and regeneration.
There are a number of other major sites where
public transport improvements are needed to provide access. These
include much of the land that could be available for new housing
on brownfield sites needed to meet the housing targets for London
announced by the Deputy Prime Minister. The property industry
has identified transport as the key issue in opening up such sites.
To meet the growth in demand and cater for regeneration
there will need to be:
— new links across central London to
relieve overcrowding on the Tube;
— major investments to increase the
capacity of the rail system, particularly the approaches to the
London termini;
— extensions to existing lines, new
stations and interchanges to serve strategic sites.
Such new investments will not be included in
the PPPs for the Underground. New funding arrangements will be
needed for them. Revenue from road user charges, if introduced
by the GLA, will be one of the sources of income available to
help fund new investments. Although it may be possible in some
cases for this revenue to be used to secure private sector finance
through PPP deals, this will not always be appropriate. The Government
should therefore agree to the GLA being allowed to borrow against
this revenue, without specific Government approval, to invest
in projects to implement the GLA transport strategy.
The GLA will need to work closely with the Strategic
Rail Authority, Railtrack and train operators (and LU until it
is transferred to TfL). They will need to identify the new investment
needed in the Tube and rail systems, decide how the two systems
can work together to meet London's needs, and determine priorities.
A start should therefore be made with setting up a joint mechanism
with SRA, TfL and LU staff working together so as to avoid new
institutional barriers growing up.
CONCLUSION
Improving London's transport is essential to
maintaining its competitive position and enabling growth and regeneration.
Overcrowding and congestion have reached the point where they
threaten London's future. The Underground is at the heart of London's
transport system. The over-riding priority is to make good the
decades of under-investment as soon as possible. It has already
been delayed too long.
March 2000
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