Transport ForumSpecial Interest Group

Thursday 2 July, 2015 Midrand

“The Positive Externalities of Road Transport”

Andrew Marsay Transport Economist"Aligning financial cost with real economic value"

What this talk is about

• South Africa is pursuing a road to rail transfer strategy

• The stated aim is to reduce the cost of logistics as a % of GDP

• We are learning that it is very expensive to make rail cheap!

• Could the strategy be based on some untested assumptions?

• This talk looks at some of the assumptions and queries them

Four assumptions

• It is being done successfully in other countries

• Moving to rail will lower the cost of doing business

• Even if it doesn’t, rail’s lower externalities make it right

• There are no realistic alternatives to the strategy

1. It is being done successfully elsewhere

• For at least 20 years, the EU has been pursuing road to rail initiatives with much investment and incentive measures

• Subsidy programmes are conducted under the banner: ‘Marco Polo’, and aim at facilitation of road to rail switch

• A 2013 review1 found that most such initiatives had little impact on mode used or on achievement of political goals

• Rail’s mode share across the whole EU found to be static overall, and with significant decline in eastern countries

1. http://www.eca.europa.eu/Lists/ECADocuments/SR13_03/SR13_03_EN.PDF

Implications - 1

• Rail investment as such was not criticised; the main point was that the evidence does not support a generic policy

• The ECA recommended that funding aimed at modal shift be replaced by testing projects for evidence of ‘value add’

• Have DOT or Transnet seriously addressed the question as to whether our mode transfer efforts are actually working?

• Much of Transnet’s capex aims at winning a larger share of the container market. Is this working? Is there value add?

2. It will lower the cost of doing business

• It is very widely believed that rail transport is generically ‘cheaper’ than road transport, and better for the economy

• Information about the cost of logistics being proportionally higher in South Africa than other countries is often quoted

• But is not clear what these assumptions are based on:

o Is it that rail tariffs tend to be lower than road tariffs?

o Is it that rail investment has a larger overall economic impact?

o Has experience in other countries demonstrated the belief?

2.1 Rail tariffs lower than road tariffs

• Tariff for transporting a 20’ container to Durban:

o Transnet: +/- R4,000 Road: +/- R13,000

• Market share of Gauteng – Durban containers:

o Transnet: +/- 30%; Road haulage: +/- 70%

• The rail tariff is indeed lower than road tariff, but:

o It is not at all clear that this tariff covers long-term costs fully

o Customers clearly ‘buying’ something other than just ‘transport’

o Transferring to rail will come at a financial AND economic cost

2.2 The economic impact of rail investment

• From 1913, SAR&H’s mandate was to operate commercially and to open up the economy for industry and agriculture

• Rail implemented this mandate successfully but, in 1930, it sought legal protection to keep road competition at bay

• Despite protection, market share declined from about 1950, even as investment continued to rise. Impact on GDP faded

• Rail’s falling economic impact was not caused by any falling investment in rail but by, preference for a newer technology.

Relative economic impact of rail and road

Rail’s use (‘goods stock’) falls relative to investment (‘carrying capacity’) from 1950Rail’s falling economic role PRECEDES declining investment by at least 30 years!

Gradient of rail curve < GDP curve Gradient of road curve > GDP curve

2.3 UK experience of the high cost of rail

• After privatisation in the UK, a bad accident showed the network was in worse condition than had been realised

• Analysis found that an extra £20bn, on top of revenues and planned capex was needed to sustain infrastructure

• The rail business alone could not afford the investment needed to sustain the infrastructure at affordable tariffs

• While all other utilities could maintain their assets from revenues, it was ‘very expensive to make rail affordable!’

Implications - 2

• If it is true that:

o Shifting freight to rail may not lower the cost of doing business

o Boosting rail investment may not boost GDP growth

o Making rail affordable may be very expensive to achieve

• . . . what is the business case for our road to rail strategy?

• Shouldn’t DOT / DPE (and potential business partners!) be thinking of options that can make commercial sense for rail?

3. Rail’s externalities are lower

• Rail is more energy efficient that road transport; it is also at least five times better in environmental impact terms

• But what about positive externalities, the ability to create economic benefits beyond the transport balance sheet?

• How do positive vs. negative externalities stack up against each other? Is rail net positive and road net negative?

• We need ways of identifying and, if possible, quantifying both kinds of externalities to know if ‘road to rail’ is right

3.1 Environment value in context

• Rail has much lower fossil fuel emissions / carbon footprint than road even after allowing for manufacture

• But, as a percentage of all financial and economic costs, rail’s environmental advantage is much less significant

Fossil fuel and associated CO2 environmental

costs for 600km Gauteng to Durban freight run

R 0R 300R 600R 900

R 1 200R 1 500R 1 800R 2 100R 2 400R 2 700R 3 000R 3 300

ROAD RAIL

Environmental costs

Fossil fuel

Environment costs – in absolute terms – are lower for rail than for road

ROAD vs RAIL (supply chain 1.5)

0

1000

2000

3000

4000

5000

6000

7000

8000

9000

10000

11000

12000

13000

ROAD RAIL

Co

sts

(R

)

Supply chain

Carbon footprint

Storage

Handling

Operations: rail

Operations: road

Fossil fuel

But – relatively – environment is a small proportion of total cost

Manufacturing processes

facilitated by road flexibility

Economies of location

facilitated by road flexibility

Availability

Reliability

Transit time

3.2 Road’s positive economic externalities

• Economic activity viable at smaller scale because of road’s ability to transport smaller freight volumes economically

• Because road vehicles are more versatile w.r.t. infrastructure type, economic activity becomes viable in far more locations

• New, lean manufacturing technologies emerge in response to road operators’ ability to vary scale and schedule of deliveries

• Businesses thus better able to protect and grow market share. This value is usually far greater than ‘low’ transport cost of rail.

Subsistence economy – externalities = ‘1’

Very low economic activity; no spatial connection

Ox wagon economy – externalities = ‘10’

Economic nodes emerging; spatial connections forming

Rail supported economy – externalities = ‘100’

Major economic nodes; strong spatial connections(But - ‘Death by Steam – the destruction of the Transkei Ox Wagon Industry’!!)

Railways-mining,forestry&industryopenedup(thedominantmodeinSAfrom1875–+/-1955)

Road dominated economy – externalities = ‘1000’!

Andfinally-roadtransport!

Negative economic externalities Positive economic externalities

Myriad economic nodes; myriad spatial connections –Evidence suggests that positive economic externalities far outweigh negative ones

Implications - 3

• If it is true that:

o Environmental externalities of rail are a small % of total cost

o Positive economic externalities of road exceed the negative by far

• . . . what is the economic case for our road to rail strategy?

• Shouldn’t DOT / DPE (and potential business partners!) be thinking about alternatives that make economic sense?

4. Are there any realistic alternatives?

• “If we don’t get more freight traffic off the roads we will have endless congestion, accidents, deaths and misery”

• This is a static analysis assuming that, (for the Gauteng to Durban corridor as an example):

o The current Transnet rail trajectory is the only show in town

o The current N3 configuration and capacity is the only show in town

• But is this really the case? Are there really no alternatives?My work at NT looked at 4 ways to expand G-D capacity:

4.1 Four possible scenarios

“Scenario 1 (base): ‘Transnet Upgrade’ aspiration for the Durban Gauteng corridor + ‘N3TC’ 30 year programme

Scenario 2 (i): New standard gauge, 2-stack railway + ‘N3TC+’ 30 year programme + Transnet ‘Do Minimum’

Scenario 2 (ii): New standard gauge, 2-stack railway line + ‘N3TC’ 30 year programme of highway development

Scenario 3: Separate freight highway (including mainly passenger existing N3 highway) + Transnet ‘Do Minimum’

4.2 Scenarios compared on financial costs

Each scenario has an associated 30 year total cost as well as an annualised cost including K, O & M. They rank as follows:

o Scenario 3: ‘Freight highway’ R955bn / R31bn p.a.

o Scenario 2 (ii): ‘Mixed freight 2-stack’ R967bn / R32bn p.a.

o Scenario 2 (i): ‘High value 2-stack’ R1,025bn / R33bn p.a.

o Scenario 1: ‘Transnet Upgrade’ R1,178bn / R39bn p.a.

Total cost of very different scenarios is remarkably similar for the top 3; but ‘Transnet Upgrade’ cost is significantly higher

NOTE: The ‘High value 2-stack’ and the ‘Freight Highway’ scenarios incorporate the Transnet ‘Do Minimum’ rail option. For the ‘Mixed freight 2-stack’ scenario, the Transnet line is closed

4.2 Scenarios compared on fundability

Revenue based on market-realistic tariffs shows Scenario 3 is best, followed by Scenarios 2 (ii) and 2 (i) - the 2-stack railways

Scenario 1, based on ‘Transnet Upgrade’, remains weakest

Fundability ratios: 30 year Scenario cost / 30 year revenue:

1. Scenario 3: Freight Highway + N3 + bulk rail 0.95

2. Scenario 2 (ii): 2-stack mixed freight + N3 0.85

3. Scenario 2 (i): 2-stack high value + N3 + bulk rail 0.82

4. Scenario 1: ‘Transnet Upgrade’ + N3 0.78

Is there hope that this will happen?

• DOT / DPE memo of understanding committing to more evidence based approach to rail investment in South Africa

• DOT’s latest annual report commits to ‘IRER’ – Interim Rail Economic Regulatory framework to be implemented in 2015

• A panel drawn from DOT, DPE, National Treasury and industry specialists will be established in a provisional regulatory role

• The panel will have an interrogative function to query the rationale for individual investments, and ask for evidence

Implications - 4

• Let’s be willing to think out of the box; current institutional structures need not define what the future can be like

• ALL alternative scenarios involve MORE freight on rail. Chasing containers at high cost is limiting rail volume

• The Freight Highway and Container 2-stack scenarios keep retain rail infrastructure for bulks – and at much lower cost

• Rail potentially has a bigger future than the current Transnet strategy allows; lets find it before it’s too late!

What does this mean for rail investment?

• Be open to radically alternative institutional models

• Test all rail projects for intrinsic viability and national value add

• Do not chase markets where rail is ‘head to head’ with road

• Invest based on committed traffics NOT intermodal transfer

• Don’t do partnership deals based on unrevealed costs

Thank you