Why is the NZ government buying the rail network?

So its official – our government has repurchased the rail network (blog commentary here, here, and here). Now such a purchase only makes sense if there are positive externalities from rail that the market was not accounting for (or if the horizon of the company was too short-term, but I don’t get that feeling). These externalities all stem from rail being a substitute to other forms of transport, namely road transport. This is covered in detail in this article by Andrew Gawith.

A list of the potential positive impacts are:

  1. Rail has lower carbon emissions,
  2. Industry has already sunk infrastructure around rail lines (namely dairy) so it allows them to increase capacity,
  3. Rail is less congested than the roads,
  4. Network effects.

The first argument shouldn’t matter as we are effectively pricing carbon with the emissions trading scheme, implying that the carbon emission choice should be internalized by firms (as the rail network did exist privately).

The second argument shows an unfortunate cost – however, it may be more effect to subsidise the movement of effected factories, or the decentralization of say milk production, then to run a inefficient rail system – cost benefit analysis is required here.

The third argument is too indirect. Urban rail schemes may be useful at dealing with congestion by providing substitutes. However, the rail line running through Otorohanga won’t have much impact! The scheme could be more targeted than this to achieve this goal at a lower cost.

The final argument is the network impact argument – I find this one not compelling for New Zealand as we are a small thin country. Given that we are a small thin country with a low population, there seems to be more scope for investment in sea transport around our coast, and as we have a small population road transport to these ports seems like the most effective way of getting it there. The government agrees with this and is planning to invest in sea transport – something that will compete directly with their new rail line.

I’m not sure whether this purchase was based on any effective cost-benefit analysis, as it seems quite sketchy to me. Ultimately, if the government uses any of the fluffy arguments provided above to justify the network, we have worked out some counter-arguments.

Hopefully, given this the government will show us some stunning cost benefit analysis that justifies their decision, rather than the sort of fluff that has been provided both by government and other parties on other network investments (eg NZI’s weightless economy jazz).

  • goonix

    The government demonstrated their keen business nous with this purchase, paying a $235m premium over what Toll valued the assets at.

  • “The government demonstrated their keen business nous with this purchase, paying a $235m premium over what Toll valued the assets at.”

    The government must believe that there are substantial positive externalities associated with the purchase.

    My concern is that government has learn’t all about positive externalities, but haven’t done the course on government failure in regulation yet 😉

  • goonix

    Hopefully National have done their course on how not to lose an election then.

  • “Hopefully National have done their course on how not to lose an election then.”

    I don’t know – I’m not a fan of National either. I hope some third party turns up with really economically sound policies and nice suits – they will get my vote 🙂

  • goonix

    I’m not a fan either. But a National victory allows another certain party to be involved in government that have economically sound policies and very nice suits.

  • “that have economically sound policies and very nice suits”

    I don’t know of a party that has economically sound policies and nice suits – if your talking about ACT I still don’t agree, economically sound is more than a question of efficiency, it is also a question of social equity.

  • goonix

    You’ve a lot to learn about democracy yet Matt – the fact is, there will never be a party that’s perfect. You vote the for the one that’s least bad.

  • “You vote the for the one that’s least bad.”

    Agreed, but I don’t know which one is least bad 😛

    Lets not clog up this thread with politicians, we should stick to the discussion on the rail network.

    If you do want to give me advice on who to vote for, I asked people to do that on this thread:

    http://tvhe.wordpress.com/2008/04/29/financial-transaction-taxes-and-new-zealand/

    You should write a comment in there telling me why to vote for ACT

  • goonix

    I started out on topic. 😛

  • “I started out on topic. :P”

    You did – the switch was my fault 🙂

    Do you know if there is a cost-benefit analysis of this scheme anywhere?

  • Kimble

    I heard somewhere that the [costs and benefits are] whatever the government say they are.

  • goonix

    LOL. I heard the costs were discounted heavily due to the fact that they were being met with others’ money, while the benefits were being measured in terms of expected votes.

  • David Baigent

    Kimble won, Matt lost, Goonix showed you “the finger!”

  • David Baigent

    And I still don’t know why they bought the Rail back.

    The only real asset is the real estate. Turn the rail bed into a two lane dedicated “truck track” with center barrier electronic steering assistance and GPS dedicated traffic spacing. (tip: Owen McShane)
    Truck trains can deliver right to the door and can be owner operated.

    The cost would be horrendous but cheaper over the long run, than any alternative (especially rail).

  • “And I still don’t know why they bought the Rail back.”

    I’m not sure anyone really knows why they brought the rail back – I listed the four justifications they might use in the post, and why I thought they didn’t hold.

    Ultimately, I don’t think this is a particularly good investment given the size and shape of our country – hopefully the government did some cost-benefit analysis that proved me wrong before buying back rail.

  • dracotb

    Given that we are a small thin country with a low population, there seems to be more scope for investment in sea transport around our coast, and as we have a small population road transport to these ports seems like the most effective way of getting it there. The government agrees with this and is planning to invest in sea transport – something that will compete directly with their new rail line.

    Would sea transport directly compete with rail though?
    I would expect that they would be able to complement each other as they each fill their own niche in the market. If the government has done its job in a proper analysis we should see some rail lines discontinued with more shipping to replace it and vice versa. There is also the case that ships just can’t reach everywhere while rail may already be there.

    Then there’s the long term consideration of Peak Oil. Having dozens of trucks all taking the same route between Auckland and Wellington will become less and less viable as fuel supplies decrease.

  • “I would expect that they would be able to complement each other as they each fill their own niche in the market”

    Agreed there are both complements and substitutes. However, I’m not sure if rail is the most effective way of moving stock to ports in most cases – instead this provides an increasing role of road transport.

    The reason I feel this way is because of the rail infrastructure that appears to be feasible in New Zealand is of a low quality and is relatively slow. Furthermore, the flexibility associate with trucks etc is a useful attribute.

    “If the government has done its job in a proper analysis we should see some rail lines discontinued with more shipping to replace it and vice versa”

    That is what I would hope to – again if there is a cost-benefit analysis showing that what they are going to do with rail is the best use of the money they spent I will agree with it – I just can’t see that happening.

    “Then there’s the long term consideration of Peak Oil. Having dozens of trucks all taking the same route between Auckland and Wellington will become less and less viable as fuel supplies decrease.”

    Wouldn’t this be a route that sea transport would provide to? Isn’t the relative route for peak oil a touch shorter – such as Auckland to Hamilton.

    Also, peak oil implies that the price of oil will rise significantly. If this is the case, demand for rail services will increase which would have given a private firm the incentive to improve number and quality of train routes in the relevant areas (given that the government, as owners of the rail lines, put in appropriate investment). I’m not sure the government will provide a better service with regards to this – we need to believe that there are positive externalities from the industry which require government intervention to realise.

    Ultimately, government strategy on transport needs to be more coherent. We hear discussions of a carbon tax, ets on fuel, car registration changes, commercial vehicle RUC changes, sea change strategy, rail strategy, congestion charges, lowering the speed limit etc – but these strategies all work together in varied ways.

    Purchasing the rail lines could be a sensible part of a total transport strategy, but I would like evidence that they looked at it in regard to the myriad of other transport strategies they are working on when they came up with it.

    Personally, this strategy seems to be the result of governments failure to work with business – rather than part of a coherent strategy to improve economic outcomes through the development of our transport network.

  • Matt,

    More externalities:

    Health – trucks on the road are more dangerous than goods on tracks.
    Damage to roads (which ought to, but may not for reasons of political economy, be catchable through road tax).

    Externalities aside,

    I thought the main problem was natural monopoly?

  • “More externalities:

    Health”

    True true. I would hope that this is captured through insurance premiums and road tax, but there could be an argument here as well.

    “I thought the main problem was natural monopoly?”

    I was hoping someone would mention natural monopoly, as it is a common justification.

    If we have a natural monopoly then we have a market failure as competition can’t drive prices down (and quantity up) to the “socially optimal level”. However, for it to be a natural monopoly there must be large costs to entry. Since the government already owned the rail lines – wouldn’t there be the threat of effective competition from another provider which would keep prices down (as someone could enter with a train).

    Now, it may be impractical to hire a train, and expensive to buy one. However, when looking at a good we have to ask, what are its substitutes. Trucks provide a substitute for carrying cargo – as does sea transport to some degree. As there is effective competition for the same service, the industry is unable to extract the same level of “economic rents” helping to neutralise the issue of natural monopoly.

    Ultimately, “effective competition” is an important factor when actually trying to determine if something is a natural monopoly for a given good – not just the level of fixed costs involved in the industry.

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