Summary transport chapter 3

In the UK decisions in the transport are made by the private sector and by the government. The government decides about infrastructure investments and the private sector decides about the services.

Governments face mainly 5 problems in transport:

1) Capacity: current road, rail and air networks are unable to meet current demand at peak times.
2) Sustainability : Projected increase in car usage is unsustainable
3) Infrastructure: pas under investment means that public transport is badly maintained and characterized by poor quality and lack of choice.
4) Use of buses falling outside London. Mergers of bus companies following deregulation means a lack of competition, reduced services , higher fares and local monopolies.
5) The government is unsure if the electorate will accept road pricing or if the satellite technology for charging will work.
To face these problems governments make transport strategies. There are three main central themes where those strategies are based on:
1) Sustained investment over the long term. Spending by the Department for Transport is to rise by an annual average of 4,5% in real terms between 2005-8, a growth in real terms of 2,25% each year through 2015.
2) Improvements in transport management by:
- “Reorganising the rail industry to improve performance, drive down costs and get better value from public spending.”
- “Better traffic management will ease congestion on our road network.” By adding capacity to the road network, “sympathetic to the environment”. Options include road tolls and (stimulating) carpooling.
3) Planning ahead. “We cannot build our way out of the problems we face on our road networks. And doing nothing is not a option. So government will lead the debate on road pricing.”

Economic efficiency is about making:
- The best possible of resources ( productive efficiency) to
- Satisfy the maximum amount of wants (allocative efficiency)
There are kinds of efficiency that relate to time periods for efficiency:
1) Static efficiency is about how resources are used and products allocated at a given moment in time
2) Dynamic efficiency is about how resources are used and products allocated over time .
Productive efficiency in the short run
Productive efficiency can be defined alternatively as:
- Using the least amount of resources to produce a given good or service or
- Output is being produced at the lowest possible unit cost.
Productive efficiency occurs when unit costs of production are minimized and firms are producing on the lowest point of the lowest Short Average Cost (SAC) curve.



Production efficiency implies forms are using:
- The least costly labour capital and land inputs in both the short and long run.
- The best available technology
- The best production processes
- Exploiting all potential economies of scale and
- Minimise the wastage of resources in their production processes.
Productive efficiency in the long run


In this economies of scale the LAC curve slopes down until the Minimum Efficient Scale of output is reached and all potential economies of scale are exhausted. In the long run a firm can move from SAC1 to SAC2 by increasing the amount of capital used. In the diagram above, B is productively efficient; A is not
An important issue is at stake here: static analysis can ignore potential dynamic efficiency gains through economies of scale in capital intensive transport with a high minimum efficient scale and R&D for innovation

Allocative efficiency

Allocative efficiency:


Three types of allocation can occur:
- under allocation Occur on Qty of 10 units because the wants of the people are not being satisfied.
- Optimal allocation of resources. Occurs on Qty of 20 units because that’s exactly the market’s demand. (MPB=MPC= GBP 2)
- Over allocation . Occurs on Qty of 30 units because then there is being produced when MPC>MPB.

Allocative efficiency occurs when: PMB=PMC

Private marginal Benefit (PMB), the value consumers place on a good ie price , equals Private marginal cost , the cost of resources used up in producing that good ie marginal cost
Transport markets fail because:
- Operators and users fail to take account of significant externalities.
- Imperfect competition in a transport market eg in some regions local buses are a monopoly.
- Roads are a quasi public good ie to some extent non-excludable and non-rival.
- Railways are natural monopoly so a regulated monopoly is the best solution.

Integrated Transport

Integrated transport occurs when passengers and freight can easily switch between different modes of transport in a given journey. (E.G. Oxford’s Park&Ride)
Integrated transport policy:
- Helps passengers and freight switch easily between different modes of transport in a given journey. E.G. encouraging park&ride schemes outside towns and the use of containers to minimise inconvenience when switching model from ship to lorry or rail.
- Seeks to shift travel from the less to more sustainable transport modes and improvements within each mode eg cleaner fuels.
Private sector funding of transport
There are a few characteristics of transport investment:
- Transport investment especially in infrastructure is very expensive and measured in GBP billions
- Infrastructure has a life of 25+ years ie is long term
- The costs mainly occur in the early years while the benefits are spread over the life of the project.
- Transport infrastructures also create positive externalities.

Public Private Partnerships (PPPs) are joint ventures between private sector firms and public sector agencies. The Private Funding Initiative (PFI) is an example of PPP where:
- Private sector firms: Design, build and finance new projects.
- Public sector pays an annual charge for the completed project for 25-30 years; operates the network and ensures safety although the government is now proposing private sector management.

Arguments for Private Funding
The arguments for the Private Funding Initiative include:

1) Finances expensive projects that might otherwise not be undertaken. The government can invest in transport infrastructure, in the current time period, without raising taxes, increase borrowing or diverting expenditure from other priority areas such as education and health.

2) Offers better value for money than public funding by encouraging greater control of costs over the project's lifetime. Unlike public sector organisations, the private sector is motivated by the profit motive. There are incentives to be more technically efficient than the public sector resulting in cost savings. Eg:

- Penalty clauses act as an incentive for firms to finish projects on time and within budget
- As contractors are responsible for maintenance costs there is an incentive for initial high quality construction.
- Private sector firms are ‘better managers’ who can improve labour productivity.
- Transfers risk from the government to firms. Profit is the reward for risk taking. All engineering projects face uncertainty. Under PFI firms assume that risk.

3) Arguments Against Private Funding

1) Offers poor value for money. Private sector firms require high profits for assuming high risk Critics argue that increased profit margins exceed the potential savings from greater efficiency.
2) Increase the cost of borrowing. The government can borrow money at lower rates of interest than the private sector because there is less risk of default. PFI means higher interest repayments than if the cash had been borrowed by the Treasury. Eg London Mayor, Ken Livingstone argues that a £13m bond scheme is a cheaper source of finance than PFI.
3) Private sector firms seek high profits to cover risk. Engineering uncertainties often result in costly project delays or even failure. Critics argue the risk of over budget run is simply transferred back to the government by increased profit margins demanded by contractors to compensate for high risk
4) The government must act as ultimate guarantor. Ultimately the government has to intervene when private sector firms fail in transport. Liability for failure ultimately rests largely with the state. Eg
5) NATs After 11 September a 40% fall in long haul flights meant the government was forced to make a loan of £40m or risk a vital public service becoming insolvent.
6) Railtrack: the government has offered £500m to compensate shareholders having place the plc into administration

Fixed costs and variable costs in taxi company:



Operating costs are affected by:
- Load factor. The higher the load factor, the lower the average costs.
- Economies of scale. Fixed costs form a high percentage of rail sea and air operations. A large lorry or airplane allows fixed costs to be spread over a higher number of passengers or freight.

Calculating Private, External & social costs

Private cost Is the cost for someone. So for someone who drives to work it might be: variable costs such as petrol, depreciation from mileage and estimate the value of time used.
But there are a lot externalities involved. The external costs is the effect actions of someone has on third parties. E.G.:
- A car journey by a commuter causes congestion; air pollution; noise; accidents; climate change.
- Infrastructure projects such as a new motorway link can result in loss of rural land for current and future generations (sustainability issues); loss of natural habitat for animals; intrusion of landscapes.

Externalities :
- Are generated by first parties (consumers and producers)
- And affect third parties (someone who is not directly involved)
- The first party doesn’t pay an appropriate ‘compensation’ to others who are affected by their ‘selfish’ actions.

There are also positive externalities like a commuter switching from road to rail travel. (causing less congestions)


social costs



opportunity costs measures the cost of any economic choice in terms of the next best alternative foregone.

Private benefit has two components: Direct and indirect:
- Direct private benefit is measured by the total amount consumers pay. (price*Qty demanded) In this graph at 500*60 = GBP 30,000
- Indirect private benefit is measured by consumer surplus – the difference between the ticket price and the maximum consumers are prepared to pay for a seat – estimated in the graph at (100-60)*500*0,5 = GBP 10,000
The overall private benefit = Direct + indirect private benefit = 30,000+10,000 = GBP 40,000
Social benefits are calculated in the same way as social costs are:



There are two methods used to estimate the ‘price’ of externalities:
- Ex- ante (before the fact) valuations estimate the amount of money consumers are prepared to pay to avoid an externality.
- Ex-post (after the fact) valuations estimate the cost of putting right to the externality.