House of Commons - Transport

Select Committee on Transport Seventh Report

2 RAIL REGULATOR

25. The Rail Regulator, who leads the Office of the Rail Regulator (ORR), was established by the Railways Act 1993 to provide for economic regulation of the monopoly and dominant elements of the rail industry. The Regulator enforces the terms of the network licence of Network Rail, the owner of the national rail network; sets the company's contractual and financial framework; approves agreements between the company and train operators; and, in particular, determines the track access charges levied by Network Rail on users of the railway infrastructure, effectively deciding upon major industry costs. The Regulator is independent of Government though he receives general guidance from the Secretary of State under section 4(5)(a) of the Railways Act 1993 as amended by section 224 of the Transport Act 2000.[23] Mr Tom Winsor, the current Rail Regulator, will be replaced by the Office of Rail Regulation in July 2004.[24]

26. The Rail Regulator was initially intended to hold the ring between the Government, the private sector infrastructure provider, and private sector operating companies.[25] However, changes in the structure of the industry mean that the Regulator is no longer determining the relationship between conventional private sector bodies, since Railtrack has been replaced by Network Rail which, though a private company, has no shareholders and is funded wholly by debt. The introduction of the SRA produced a significant new complication, which was recognised by a "Concordat" drawn up between the two organisations, designed to clarify their respective responsibilities.[26]

27. In the remainder of this chapter we briefly summarise four key problems with the Regulator's present functions; in Chapter 3 we explore some effects of economic regulation on Network Rail.

28. It is unfortunate that the Regulator has chosen not to reply to our letter of 10 December 2003 where he was asked a number of important questions including: why he thought the railway was excessively fragmented; how his incentive regime for Network Rail would work; and his projections for Network Rails profitability. His failure to respond, despite prompting, has prevented us from gaining as complete a picture of his view of these matters as we would have liked.

Asset register - indicator of regulatory failure

29. In its 2001 report, Rail Investment: Renewal, Maintenance and Development of the National Rail Network,[27] the Environment, Transport and Regional Affairs Committee considered that the regulatory regime set up at rail privatisation had failed, in the context of a growing railway, to ensure that the infrastructure operator had delivered what was required of it by train operators, passengers and the wider public.[28] A similar complaint was made by our predecessor Committee in 2002.[29] Mr Winsor's subsequent regime has been no more successful in ensuring that the infrastructure operator has complete knowledge of its assets. When Mr Coucher, Deputy Chief Executive of Network Rail, saw us in June 2003, MIMS (Maintenance Information Management System), a key part of the company's Asset register, was due for completion in "late summer" 2003;[30] in October the Rail Regulator told us that full completion was due "by 31 January 2004".[31] In January 2004 Network Rail told us MIMS was to be "reliant across the network" by March 2004.[32]

30. However, MIMS is only a part of Network Rail's Asset register databases. In October Mr Winsor told us those were 80% complete. Two years have passed since he had made their compilation a licence condition in April 2001. Network Rail has now indicated that 'a baseline asset register providing an inventory of the assets and their key attributes' will not be ready until mid-2005.[33]

31. It is utterly astonishing to learn that Network Rail's Asset register, a fundamental management tool, will now be available only in 2005, four years after a Select Committee of this House drew attention to its absence. The Regulator has clearly failed to ensure that first Railtrack and now Network Rail, have produced information needed to assess performance of the system. This is not an academic exercise. If the state of the infrastructure is not thoroughly known then reliable decisions about the levels of maintenance and renewals are simply not possible and the basis of the Regulator's Interim Review is placed in doubt. This episode demonstrates graphically how the Regulator has failed in his core function of effectively regulating the "stewardship of the national rail network".[34]

Regulation and investment

32. A key part of the stated "Aim" of the Office of the Rail Regulator is to:

"…facilitate investment in capacity to satisfy the demands of growth in passenger and freight traffic at the time it is needed."[

The Regulator clearly failed to achieve this when Railtrack, a private company with shareholders, was the infrastructure provider. It is not clear that he has been any more successful in the new structure.[36]

33. Mr Winsor has stated his belief that "independent economic regulation is necessary if you are going to have private investment in the railway."[37] In addition to attracting private investment, the Regulator sees his role as protecting it:

34. We asked Mr Winsor to quantify the investment that has been made in the railway industry as a result of his function. We were astonished that, despite his bold claims, all he offered to us by way of reply was that "It is extremely difficult to do that."[39]

35. Mr Winsor's defence of regulation fails to address the shift of emphasis away from the original vision of a privatised railway in which private sector franchisees would have significant freedom to extend and enhance their service, and to take commercial risks, to the present, highly subsidised and much more strictly delineated franchises. It does not take full account of the SRA's role as a significant industry 'customer' whose requirements may conflict with those of the Regulator. Nor does it take account of the fact that although the infrastructure provider is technically a private company, it has no shareholders and its debt funding is effectively guaranteed by the Government.

36. The Government has made clear its role in guaranteeing investment, as in the case of the securitisation to refinance Network Rail's short to medium term borrowing.[40]Mr Darling said in a recent answer to a written parliamentary question in the House of Commons:

"Railways are essential to the economy of Britain. Whatever the institutional structure, the Government will need to be at least as closely involved as it currently is in expenditure decisions and in making financial commitments to the industry and those who finance it; so that lenders to the industry enjoy at least the same strength of financial support from the government as they do today."

It is the Government, not the Rail Regulator, which guarantees private investment in the railway.

Conflict of responsibilities - who runs the infrastructure?

37. Mr Winsor has been conducting an interim review of passenger track access charges which will provide Network Rail with a proportion of its funding for 5 years from April 2004. The funding allowed by the Rail Regulator was £22.2 billion,[42] an increase of £7.2 billion over the settlement made in 2000.[43] Mr Winsor calculates that train operating companies will pay £18.892 billion in track access charges over the same period.[44]

38. Mr Winsor is prepared to seek the detailed outputs he wants. For example, when announcing his final conclusions on the Review on 12 December he put forward significant changes to the terms of the West Coast Main Line (WCML) upgrade project:

We explore the WCML project in more detail in Chapter 4.

39. The SRA responded sharply to what it saw as an attack on its WCML enhancement strategy,[46] while Mr John Armitt, Chief Executive of Network Rail, told us:

broad

In terms of where we spend it that is our decision at the end of the day (

On 7 January he repeated:

40. But there is nothing "broad brush" about the Review's conclusions. Funding is parcelled by activity heading on an annual basis reflecting the nature of the railway operations, maintenance and renewals work the Regulator has concluded is required.[49] The Regulator's Review findings give a clear blueprint for operational, maintenance and renewals activity on the national rail network over the next 5 years. In a Press Release, the ORR stated "Network Rail is now equipped with a very clear specification of how much money it is entitled to receive, what it must do for that money and where the necessary outputs are to be delivered (emphasis added)."[50]

41. The Regulator, Network Rail and the SRA clearly differ about who exactly runs the railway infrastructure in the UK. Although we understand the need for a measure of regulation to prevent a monopoly company abusing its position, the Regulator is not the customer, and should not specify what the customer should be buying. It seems that the Regulator cannot do the job of economic regulation without effectively acting as the informed customer. This is to confuse the roles of economic regulation with the SRA's job of purchasing services. In those circumstances, it is clear that the railway structure must be fundamentally changed.

Financial impact of the Regulator's settlement on the SRA

42. Section 224(6)(a) of the Transport Act 2000 imposed on the Regulator a duty to have regard to 'any general guidance from the Secretary of State about railway services or other matters relating to the railways'. Such guidance was issued on 26 September 2002 and stated that:

"It is particularly important that the Rail Regulator should be mindful of SRA strategies and financial position in the context of the review of access charges…"[

The Department wrote to Mr Winsor on 16 December 2003. That letter contained a reminder of "his duty to have regard to the SRA's budget".[52] The Minister of Transport wrote to us prior to giving evidence on 5 November repeating the same point .[53]

43. When he appeared before us on 29 October, Mr Winsor, emphasised that the private sector train operators enjoyed an open-ended indemnity from the SRA covering increases in the level of track access charges which might occur as a result of the Rail Regulator's decisions.[54] Mr Winsor explained the consequences of any refusal to honour this:

44. The position was confirmed at our request by the Minister who responded in rather more nuanced terms "If we want to continue to achieve the outputs that the Office of the Rail Regulator has itemised and costed we will have to pick it up and pay for it and that has been the case ever since the railways were privatised and, by the way, it was the case when it was in public ownership."[56] We pressed the Minister on this vital point:

"Clive Efford: I just want to be clear about the Government's role in it because these are decisions that are being made outside Treasury and everywhere else in effect by the Rail Regulator, but the taxpayer is basically just going to sign the cheque?

there are no assumptions we can make about the taxpayer and taxpayer's money paying for these costs.

Clive Efford: '… Mr Winsor… was quite clear that he had the power to impose these increased charges and that those charges would be passed on to the Government and that the Government had no choice but to pass them on to the taxpayer.

The Government always has a choice (

)

45. However, Mr Winsor characterised the position as follows:

Nevertheless, Mr Winsor failed to square this position with his other clear responsibility to "have regard to the budget of the SRA".

46. The ORR's Track Access Charges Review 2003: Final Conclusions, published on 12 December 2003, notes:

47. The Review states that the Regulator considered it "regrettable that such fundamental issues should be raised at such a late stage in the review, given the considerable efforts he has made to establish the SRA's financial position, in accordance with the statutory duties."[60]

48. Our inquiry exposed an astonishing and fundamental disagreement between the Government and the Regulator about the extent of the latter's powers. According to the Minister, the Government had a choice about whether to accept the Regulator's access charges settlement; but the Regulator considered that the Government had no option but to accept his decision. This is a prime example of the confusion which lies at the heart of the present structure of the railway and why it is essential that this structure must be streamlined. Since we took this evidence, the Secretary of State has made clear, in answer to a parliamentary question, that the Government is committed to the Regulator's access charges settlement. We were pleased to note that in the same answer the Secretary of State indicated that the Government would need to consider "whether options for changes to the industry structure might imply consequential changes to the details of economic regulation." [61]

49. It appears that both the Government and the SRA were unprepared for the result of the Rail Regulator's Interim Review of track access charges and that a last minute panic took place about how the financial implications of the Regulator's settlement for the SRA were to be met. The SRA and the Government should not have been surprised that the Regulator was proposing to set aside his duty to have regard to the SRA's budget because Mr Winsor said so specifically in his Draft Conclusions document published in October 2003.[62] The Regulator chose not to give appropriate weight to his statutory duty by ignoring the SRA's budget; and the Government and the SRA failed to challenge this decision.

50. This whole episode is not only an example of the high handed manner in which the Regulator approaches his role; it is an example of a deep failure in the structure of rail governance which has allowed the Regulator to act as a "Rail Czar", something that was never intended and which must be corrected.

Conclusion

51. The private sector needs appropriate protection from arbitrary Government decisions. But the current power of the Regulator goes far beyond reasonable bounds and must be reined back. The enormous sums of public money directed to the railways by the Regulator are ones over which, astonishingly, neither the Government, nor the SRA, have any practical control. The Government has little choice but to honour the cheques which the Regulator writes for it.

52. The present situation is an intolerable restriction on the Government. The sums of money decided by the Rail Regulator are so large, and the issues for the transport infrastructure of the country so important, that the Government needs to take back from the Regulator decisions over the level of infrastructure funding.

23 The Secretary of State issued Guidance to the Rail Regulator on 26 September 2002. The Guidance includes, the context in which the Regulator works, his relations with the HSE and the SRA, the requirement for the Regulator to work to a 'common agenda' with the other railway regulators, and to have regard to the SRA's policies and budget. The Guidance may be found on the website of the Office of the Rail Regulator. Back

24 For 77B Back

25 The present main functions of the Rail Regulator are described in the letter from David Rowlands, Permanent Secretary of the Department for Transport to Tom Winsor, 16 December 2003, FOR 99B and FOR 77A. Full details of the Rail Regulator's functions may be found on the website of the Office of the Rail Regulator. Back

26 Concordat Between the Strategic Rail Authority and the Office of the Rail Regulator, 25 February 2002 Back

27 HC 18-l Back

28 HC 18-I, para 32 Back

29 HC 239-I, para 52 Back

30 Q25 Back

31 Q1290 Back