The bogus capacity arguments for High Speed 2

The government recently pumped c. £10 billion of taxpayers’ money into the West Coast Main Line (WCML), delivering major improvements in journey times. It is therefore unsurprising that passenger numbers increased significantly in the period immediately following the upgrade.

However, it is far from certain that strong growth will continue in the longer term. For various reasons the UK economy is likely to perform relatively poorly. In addition, new technology may reduce the need for face-to-face meetings. Driverless cars could cut the costs of road travel. Strained public finances may increase the pressure to lower the level of rail subsidies and end the generous tax breaks given to wealthy long-distance commuters.

There is currently significant spare capacity on the WCML, but if this were no longer the case in the future, it would be far cheaper to make relatively minor adjustments to the existing route than build a brand new high-speed link.

The first step should be to phase out the subsidies and tax breaks that artificially inflate demand on the line. This should include handouts for heavily supported feeder services to the WCML, including local public transport. For example, state support currently covers approximately 40 per cent of heavy rail industry costs.

Price regulations and franchising arrangements should also be reformed so that train operators can make better use of existing capacity. More flexible pricing would flatten the peaks and reduce overcrowding, while combining franchises or greater vertical integration would reduce the duplication of underused services, thereby freeing up paths. Low-cost enhancements could then be deployed, such as lengthening trains and reducing the number of first-class carriages.

If there were a commercial case, relatively minor infrastructure investment, such as modernising signalling and re-engineering junctions, could deliver further capacity gains at a small fraction of the cost of HS2. The 51m group (pdf) has provided examples of how this could be achieved.

The potential for market mechanisms to resolve capacity problems can be illustrated with regard to rail freight (the above point about subsidies also applies). Under market conditions congestion would push up access charges on the route in question, thereby encouraging operators to more fully utilise train paths (for example with longer trains) or to divert traffic to alternative routes. For example, higher prices on the southern WCML might push intermodal freight onto the Ipswich-Nuneaton route. It might also affect the choice of port and inland terminal. At the margin, containers could shift from London Gateway to, say, Felixstowe, Immingham or Hull.

It should also be noted that rail freight traffic is fairly trivial in terms of the capacity of the road network. If a larger share of forecast intermodal growth shifted onto the roads, the effect would barely be discernible in most locations. Any impact could be mitigated by deregulation measures such as raising HGV speed limits on single carriageway roads and increasing maximum weights and lengths. There may also be a case for peak-time pricing at the worst bottlenecks, combined with an equivalent reduction in fuel duty, thus strengthening the incentives for hauliers to operate off-peak and making better use of existing road capacity.

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HS2 regeneration claims are economic quackery

High Speed 2 is not the first transport project to have ambitious aims. Back in the 19th century the US government subsidised vast transcontinental railroads to bridge the east-west divide, rebalance the country’s economy and unify the nation.

But the situation on the ground presented challenges for this grand vision. Harsh conditions meant many construction workers fell ill or even died. This created a business opportunity. Entrepreneurs travelled to the railroads to sell ‘snake oil’ to the labourers. They claimed it would treat a whole range of conditions from infections to joint pain. The only problem was that it didn’t work. Customers were being misled.

HS2 is being sold as a modern-day elixir. At first it was promoted on the basis of faster journey times. Then it became an essential means to increase rail capacity. Politicians now argue the project will transform the North of England, bridge the North-South divide and turn northern cities into ‘world leaders’.

The scheme is therefore much more than a railway. It’s an economic cure-all that supposedly will rebalance the economy and create, depending on the lobby group, tens of thousands or hundreds of thousands of jobs.

It would be wonderful if HS2 really could make such an enormous impact. But in reality these assertions reflect a combination of blind faith and political spin. The economic evidence casts serious doubt on the ability of high-speed rail to deliver regeneration on a grand scale.

Take the example of East Kent. Back in the 1990s the government was pushing through the Channel Tunnel Rail Link, Britain’s first high-speed railway. The business case was very poor but regeneration claims were crucial in overcoming Treasury opposition. In particular, ministers said the line would transform the struggling old mining area along the Kent coast.

High Speed 1, as the line became known, did deliver impressive journey times. After fast services began in 2009, Central London could be reached in around an hour, compared with almost two hours previously.

Yet despite this major transport boost, East Kent is still economically depressed. Indeed in the period after the high-speed trains arrived, the region has performed worse on key economic indicators than the rest of Britain.

In the borough of Thanet, which includes Margate and Ramsgate, the employment rate has fallen to 61 per cent – 10 percentage points below the national average and similar to struggling old industrial cities like Liverpool. Median weekly pay for full-time workers is just £446, 14 per cent lower than the national figure.

East Kent has many advantages over the North of England. It’s just an hour’s drive from the M25 and close to prosperous areas in the South East. The Channel Tunnel gives the region easy access to the Continent and it is the closest part of the UK to Europe’s economic core. High-speed rail’s failure to transform the area augurs badly for the ability of HS2 to rejuvenate northern cities.

A second example is Doncaster. 125mph trains to London were introduced in the late 1970s, with electrification of the East Coast Main Line completed in 1991. The fastest trains to London take a little over 90 minutes to reach King’s Cross. Yet despite excellent transport links, Doncaster was ranked 42nd worst out of 318 boroughs in England in the 2010 Index of Deprivation. If the town itself were measured rather than the much wider area of the borough, it would be one of the very poorest places in the UK.

Big cities such as Leeds and Sheffield are of course different from smaller towns. High Speed 2 will make their journey times to London broadly similar to those enjoyed by the West Midlands today. Yet on most measures Birmingham performs far worse than Yorkshire’s major cities. Its employment rate is just 59 per cent, compared with 68 per cent in Leeds. Birmingham comes in the bottom ten districts in the Index of Deprivation.

Clearly improved rail links to London are no panacea. Other factors such as skills, education and entrepreneurship are more important determinants of economic success. But despite the evidence that HS2 won’t deliver the promised gains, it would be unfair to describe its promoters as snake oil salesmen.

For certain sectors and some localities there will indeed be benefits from the project, even if the enormous tax bill means they’re likely to be at the expense of other areas and the wider economy. However, assertions that high-speed rail will deliver a major transformation are far-fetched. HS2 is not an economic cure-all for the North of England and politicians that claim it is are indulging in economic quackery.

1st May 2014, Yorkshire Post (edited version)

Why are rail subsidies so high? The lessons from transaction cost economics

Richard Wellings on The Influence of Coase on Economic Policy – The Next 50 Years from Institute of Economic Affairs on Vimeo.

The misallocation of resources in state education

The British government spends a staggering £90 billion per annum on education. It is the largest item after health and welfare. However, there is relatively little discussion of whether resources are being allocated efficiently. Are current patterns of spending on education justified by the economic returns? There are good reasons to be sceptical.

Economic theory suggests that a highly politicised, bureaucratic and centrally-planned ‘one-size-fits-all’ approach is likely to be a poor way of allocating scarce resources. Incentives to maximise returns are weak, the scope for market segmentation is severely limited and officials cannot access relevant information. Such a system is also prone to capture by groups promoting particular ideological agendas and/or the interests of producers at the expense of efficiency.

In this context, it is unsurprising that the misallocation of resources appears to be endemic under the current state system. Firstly, a relatively high proportion of young adults leave school having failed to gain basic skills. For example, a recent study found that 17 per cent of school leavers in England were functionally illiterate. It is difficult to argue that the vast cost of such pupils’ schooling is delivering significant economic benefits. Then there is another large group, partly coinciding with the first, consisting of those who move on to work in low-skilled occupations demanding little of the knowledge learnt (or not) in thirteen or fourteen years of compulsory education. People who spend long periods outside the labour market comprise a third group for whom the returns on investment are questionable.

Finally there is the issue of opportunity cost, of which the current system takes little account. For some pupils, the time spent in compulsory schooling might be more profitably spent on alternative activities. The mechanically talented could perhaps benefit more from learning workplace skills, while the academically or artistically gifted might thrive by developing their own interests rather than studying the National Curriculum. There is relatively little scope to make these trade-offs within the existing approach. Moreover, it is important to consider the marginal benefits of state spending on schooling rather than focusing simply on the final outcomes. Children pursuing alternative paths would not be consigned to some kind of educational vacuum; they could learn from parents, siblings, peers, books, computer software and various other sources (note the work of Ivan Illich on learning webs).

Restoring resource-allocation decisions to parents and extended families would help to resolve the problems associated with state education. The financial incentives to avoid squandering resources would be very strong indeed, since there would be a direct effect on household budgets. And competition among providers for parents’ fees would facilitate entrepreneurial discovery, innovation, cost savings and a high degree of market segmentation. Educational services could therefore be more precisely tailored to a child’s circumstances and abilities. Perhaps most importantly, those closest to the child will tend to know most about his or her potential and will make spending decisions accordingly.

‘Free-schools’ policies also have the potential to increase market segmentation and drive up standards through enhanced competition, but continued state control and the constraints of government funding mean that a high degree of resource misallocation remains. Voucher systems may be more effective, particularly if paid at a relatively low rate with families allowed to pay ‘top-up’ fees. However, the potential economic gains from vouchers could be undermined if schooling remained subject to intrusive regulation that restricted choice and hindered the market discovery process. Moreover, these handouts would inevitably distort the incentives facing children and parents with regard to the trade-off between formal education and other options, particularly if government placed strict controls on their deployment.    

Egalitarians will of course object to the potential for inequality in a genuinely free-market system. Yet pronounced inequality is already very evident in state education. For example, wealthy parents buy into the catchments of good schools via the housing market. Moreover, under a voluntary, non-state system there would be enormous scope for philanthropic activity, such as scholarships for bright children from poorer backgrounds. Finally, any potential impact on equality must be set against the wider economic benefits of a more efficient allocation of resources in the education sector and a potentially very large reduction in government spending.

An earlier version of this article appeared on the IEA Blog on 16 May 2014