How to get more private capital into transport
PENSION FUNDS COULD BE FUNDING TRANSPORT. SO WHY AREN’T THEY?
Graham Cross, director of Heathrow Southern Railway, is attempting something that sounds like it should be easy.
He’s attempting to deliver brand-new transport infrastructure without the state having to ask for it, specify it or pay for it.
But, as he tells us, it really isn’t as easy as it sounds.
“There are cultural issues” says Graham.
What he’s attempting to do is build a new rail tunnel from South West London to Heathrow Airport. The line would connect central London, Clapham Junction and Hampshire to an empty railway station underneath Terminal 5 that was built but never fitted out.
Don’t try to get here from Guildford
The idea is that a private company, chaired by Jo Valentine, former head of London First, having identified the opportunity, built the business case, and specified the route would then build the line. The cash would come from private financiers seeking long-term, stable returns: typically pension funds. The pension funds then get paid back via usage charges paid by train companies. The train companies are, of course, paid by passengers.
“This comes from a group of railway people joining forces with a group of infrastructure people and using some financing technology to privately finance infrastructure at huge public benefit, but built without needing taxpayers’ money”
It is the proposed “financing technology”, as Graham puts it, that makes Heathrow Southern Rail innovative and, almost, unique
“The forecasting of the revenues and costs shows that the new rail farebox revenues which will come in from the new customers are larger than the repayments which would have to be made to the pension funds. So the scheme is privately financed but user funded, and therefore doesn’t need Government subsidy or Government capital.”
It all sounds too good to be true, so why is the scheme not yet live?
“The obstacle is Department for Transport approval. All it needs for the scheme to be financed is for the Government to give an assurance that once the railway is built, trains will be required to run over it."
The point Graham makes is that the DfT specifies where trains go. With any existing bit of railway, the Government specifies a minimum level of service in the franchise agreement. Given this, it’s essential they specify that trains must use this line. But if it will exist at no cost to the taxpayer, why wouldn’t they? After all, they mandate the use of dozens of existing lines with far less attractive economic prospects.
“Some of the issues are cultural, because this didn’t come from the railway establishment. It was different so it may have been viewed with an air of suspicion - with no legitimate reason to be suspicious. And there were some very technical obstacles around balance sheet classification with very technical discussions with DfT experts trying to argue that even though this would be privately financed, it would have to be classified as Government debt.
Let’s not do this again
Unfortunately the way of these things is that if you can’t get past the experts, it never gets into an approvals process.”
One of the elephants in the room with this approach is the PFI (Private Finance Initiative), a financing scheme from the 2000s with a terrible image problem. Is this just PFI reconstituted?
“The Government had some bad experiences with schools and hospital PFI contracts, largely because of the way in which it managed its side of the deal. It didn’t get particularly good value for money. We’re always at pains to stress that this is not PFI. It’s a more a regulated utility contract.”
However, Graham believes that there are “some in Government that have views based on bad experiences of PFI in the past”.
The reason why PFI failed, Graham believes, is the specification. “For that kind of model to go well, Government has to be completely clear about what it wants. Typically Government will change its mind partway through a process and often have to pay a fairly high price in terms of variation of change. That often led to bad deals.”
As well as risking cost overruns, Graham believes there’s another downside to the Government always seeking to control the specification “Government has to understand that it may accidentally block out ideas that the private sector would have brought if it had been allowed to come up with these ideas by itself”
While this kind of financing is unusual in transport, it’s commonly used elsewhere. Graham highlights the Thames Tideway super sewer currently being built as one example.
And there are hundreds more examples offshore and out of sight. “If you look into the North Sea, there are vast numbers of wind farms generating carbon-free electricity. They’re all privately financed. Government has given various undertakings around minimum usage and minimum pricing. But essentially there’s been a massive decarbonisation of the electricity grid without the need for Government to put in capital”
“One of the other things which is interesting is the relative strength of farebox demand in the north of the country versus the south. In the south, travel volumes tend to be larger and farebox yields tend to be higher. And that does mean that in the south of the country, it does tend to be possible to make cases for railway investment which are viable solely on their farebox revenues. Whereas in the north, farebox yields are generally lower. So whilst there may be a good economic case for those kinds of investments they tend to need subsidy. So the right policy outcome is for transport schemes in the north to be financed by Government because they need subsidy but in the south of the country, schemes should be privately financed, and funded by the fares which users bring. That way, you’d be able to direct Government money at the case places which are economically viable but not financially viable while still having rail investment in the south.”
For a Government committed to a levelling up agenda, this sounds attractive. But Graham highlights the need for a change in approach from Government.
Going round in circles
"We need a policy position which says that private investment is welcome and to be encouraged. There needs to be a facilitation system with Government, like with wind power, where Government says it will stand behind usage to encourage good value private finance.”
Graham also highlights the need to upskill Government.
“Upskilling Government not to procure things but to facilitate and encourage and to have a dialogue with promoters. It would be very valuable if there was a channel where people with ideas and finance could go.
Graham is confident that Heathrow Southern Railway will, eventually, be built. But he hopes that a change in culture and approach will unlock private investments on a much larger scale.
