Transport Economics and Other Infrastructure Working Papers

WP-TR-01

Privatizing the German Motorways –

Looking Beyond the A- and F-Models

Christian von Hirschhausen and Thorsten Beckers

Reprint from SMi’s 5th Annual Event, Private Finance and PPP/PFI in Germany

(May 2004)

Workgroup for Infrastructure Policy (WIP) Chair of Energy Economics and Public Sector Berlin University of Technology Dresden University of Technology

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PRIVATIZING THE GERMAN MOTORWAYSLooking Beyond the A- and F-Models

Prof. Dr. Christian von Hirschhausen

Dipl.-Ing. Thorsten Beckers

SMi’s 5th Annual EventPrivate Finance & PPP/PFI in Germany

May 27, 2004, Hotel Adlon, Berlin

���Berlin University of Technology

����orkgroup for ����nfrastructure ����olicy

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Agenda

1. Potential Benefits of the PPP-Approach

2. Economic Analysis and Evaluation of the A- and F-Model

3. Current Issues: Toll for Private Cars & Infrastructure Financing(VIFG)

4. Concession Models for the German Highways – An Outlook

5. Conclusions

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Potential Benefits of the PPP-Approach

Raising Private Capital- Private financing without raising tolls (pre-financing-model) passes the burden upon future

generations; private financing should be combined with raising tolls and earmarking the revenues

Avoiding “White Elephants”, more Transparent Subsidization of Projects, Higher Acceptance of Tolls

Efficiency Gains, Lower Production Costs- A study from UK pretends to prove efficiency gains of 15% due to the PPP-approach, but other

studies, from the UK and elsewhere indicate that PPP-projects are not always cheaper: complex sectors and projects � renegotiations � cost-plus (e.g. SAPPINGTON / STIGLITZ (1987)

- The realization of efficiency gains depends on the regulation, e.g. risk allocation, tendering procedure (VICKERS / YARROW (1991))

���� Application to the (German): highway sector: efficiency gains through PPP are possible, but regulation matters

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Agenda

1. Potential Benefits of the PPP-Approach

2. Economic Analysis and Evaluation of the A- and F-Model

3. Current Issues: Toll for Private Cars & Infrastructure Financing(VIFG)

4. Concession Models for the German Highways – An Outlook

5. Conclusions

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Structure of the F- and A-Model

Common Characteristics of the F- and A-Model- Competitive Tender for the Concession- Concessionaire has the obligation to construct / extend, maintain and operate the road for about 30 years (in

principle fixed term concession)

?

Planned & Realised ProjectsF-Model A-Model- FStrPrivFinG (Fernstraßenbauprivat-

finanzierungsgesetz / Private-Sector Funding of Trunk Road Construction Act)

- Private toll + subsidy (from the general budget, max. 20 % of estimated costs)

- Application• Tunnel, bridges, passes on

highways• national roads with 4 lanes

- Projects• 1 project opened for traffic

(Warnowquerung)• 1 project in realization• 1 failed tender• ? planned projects

- Different project characteristics

- Extension from 4 to 6 lanes- Stretches of 18 km to 74 km- Public toll + subsidy (from the general

budget, max. 50 % of estimated costs)

- Projects• Up to 10 projects (first round)• 4,4 % of the federal highways•� 3,6 Billion €

- Project characteristics: technically simple projects

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Risk Allocation:Theoretical Background & Rules of Thumb

Effects of Risk AllocationEffects of Risk AllocationTransaction Costs(CROCKER / MASTEN [1996])

- Information gathering before contracting

- Costs of contracting- Costs of re-negotiations- Cost of delay of contracts

Incentives- to influence the distribution

of the risky variable- to take into account and to

limit the effects of the realization of a risky variable

- to reduce risk

Costs of Risk Bearing- Users have lower costs of risk bearing

than concessionaire / private enterprise (risk spreading, ARROW / LIND [1970])

- For uncontrollable risks, the public sector has lower costs of risk bearing than the private sector (beware of „white elephants“, which politicians love)

Rules of Thumb for Risk Allocation in the Concession-ContractsRules of Thumb for Risk Allocation in the Concession-Contracts

X (if possible)X (small part)X (public toll)Demand Risk ���� Revenue Risk

Users

Planning Risk (higher costs, lower revenues)

Political Risk(related to the project)

Cost Risks

Concessionaire

X(X)? X

(small parts; to reduce transaction

costs of risk shifting)XX

X(X)(X)

(Indexation)

(Inflation ����Indexation)

X

X

Public Sector

Political Risk (not related to the project)

Market Risk

E.g. taxation in the transport sector

Force-Majeure-Risk

Financing

Construction, Operation & Maintenance

Competition Effects

Avoiding / Allowing White Elephants

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Risk Allocation in F-Model-Projects (sources: model concession contract and interviews in the field)

X (as much as

possible)

X

Eliminate juridical doubts:

- Tolls should be increasing in time!

- If revenues < costs in early periods

compensations in later periods should

be possible!

Users

Planning Risk (higher costs, lower revenues)

Political Risk (related to the project)

Demand Risk ���� Revenue Risk

Cost Risks

Remarks

X (rest of the duration)

X (costs < bid)

Indexation can avoid C+Rules

Job Creation Program for

Experts!

X(for 10 years)

X (cost overruns)

Concessionaire

X

X

X

X

(X)

(X)(X)

Public Sector

Political Risk (not related to the project)

Market Risk

Taxation in the transport sector

Force-Majeure-Risk

Financing

Construction, Operation & Maintenance

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Risk Allocation and Regulation of the F-Model:Suggestions for Improvement

Objectives- No indirect C+Regulation- Structure of the finance shall not influence the toll level - Demand risk

• Users should bear main part of the demand risk (if possible, in projects with sufficient demand in the long run)• concessionaire bears small part of the demand risk (if possible, in projects with sufficient demand in the long run),

concessionaire bears the risk of long term profitability in “critical projects”

Use of (modified) PVR-Auctions- Government fixes interest rate for discounting future cash flows (e.g. Libor + X)- Awarding the concession to lowest PVR-BID (PVR = present value of revenues)- (Additional) Rules for adapting the tariffs in time- Small lump sum payment per vehicle (to cover variable O & M expenditures and to give incentives to

stimulate demand)- Additionally option: Bonus-Malus-System (not to complicated!)

With (modified) PVR-Auctions Cost Orientation is assured- Privatization for an unlimited period in the utilities sectors requires regulatory decisions

for periods < privatization duration- Highways = not very dynamic sector � competition for the field is possible (regulation by contract)

- DEMSETZ-Competition: E(costs) = E (revenues) … and no welfare losses because of C+rules and high TAC!

… and good lawyers would be able to create an economically senseful “Highway-Gebührenrecht” or “Highway-Entgelt”

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Risk Allocation in A-Model-Projects… and Room for Improvement

“Toll-Collect-Risk”

Demand Risk X (main part)

Users

Planning Risk (higher costs, lower revenues)

Political Risk (related to the project)

X (partially)Revenue Risk

Cost Risks

No indexation is applied

Remarks

X = R

X

Concessionaire

X

X

(X)

X

(X)

Public Sector

Political Risk (not related to the project)

Market Risk

Taxation in the transport sector

Force-Majeure-Risk

Financing

Construction, Operation & Maintenance

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Looking Beyond the Current A- and F-Models

Conclusions on Risk Allocation- Improvements possible in A- and F-models (~more demand risk on users)

General Remarks on the F-Model- Use of (modified) PVR-Auctions- Extension of the F-Model-Law to all highways (not only bridges, tunnels and passes)

- Modification of the F-Model-Law: Better Risk Allocation / Regulation

General Remarks on the A-Model- Suboptimal size of A-Model-projects:

average size of 44 km < actual size of stretches of public O&M units

- Unclear if the A-Model adapts to future organizational models for the German highways

General Remarks on PPP in the Highway Sector- Establish a deal flow

- Too high transaction costs!, improve the project/conference-ration

- Bundesländer („German Regions“) have too much saying in the highway sector• Special knowledge should be centralized to reduce transactions costs (BMVBW, VIFG)

• German motorways should be managed and monitored at the federal level

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Agenda

1. Potential Benefits of the PPP-Approach

2. Economic Analysis and Evaluation of the A- and F-Model

3. Current Issues: Toll for Private Cars & Infrastructure Financing(VIFG)

4. Concession Models for the German Highways – An Outlook

5. Conclusions

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Toll for Private Cars and Infrastructure Financing (VIFG)

Toll for Private Cars- Tolls on ALL interurban roads in Germany are the dream of an economist- … but this can not yet be realized due to the high costs of the tolling systems- … so one should wait …- Network-wide tolls should then only be implemented jointly on the highways, the national

roads and parts of the secondary network to avoid inefficiencies

User-Financing can already be improved … earmarking revenues from the fuel-tax and the vehicle-tax (KFZ-Steuer) … and / or implementing a vignette

The “VIFG” (Transport Infrastructure Financing Corporation) should be developed to earmark SUFFICIENT revenues in the road sector

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Agenda

1. Potential Benefits of the PPP-Approach

2. Economic Analysis and Evaluation of the A- and F-Model

3. Current Issues: Toll for Private Cars & Infrastructure Financing(VIFG)

4. Concession Models for the German Highways – An Outlook

5. Conclusions

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Concessions of Individual Stretches

Future Privatisation and Organisation Models for Federal Highways:Concessions of “Individual Stretches” vs. “Network-Concessions”

Network-Concessions

„Privatization“ of the highway-network- A-Models would not compatible with the network concessions

- More research required

„Privatization“ of the highway-network- A-Models would not compatible with the network concessions

- More research required

Regional-Networks(„French System“) � C+elements economically

sound� Concessionaires can establish

know-how for the entire planning process

Assessment+ Synergy effects+ lower overall costs for tendering- less competition- disincentives applying C+rules (problems due to the information asymmetry between regulator and concessionaire)

Relatively low uncertainty� Fixed price rules:

economically sound� Auction possibleOnly viable for certain stretches with low insecurity about future cost� inefficiently small stretches?Exclusion of special engineering can reduce insecurity about future costs (KNOLL ET AL [1999])

Concession models („Chilean system “)I-Models (new construction or extension)B-Model („Bestand“, existing state)F*-Model: improved F-modelC-Model (urban highways, e.g. Santiago de Chile)remaining stretches with high cost risks

- public provision?- management contracts with short-term duration?

Future Research Requirements- Technical state, ability to forecast costs � economic risk

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Agenda

1. Potential Benefits of the PPP-Approach

2. Economic Analysis and Evaluation of the A- and F-Model

3. Current Issues: Toll for Private Cars & Infrastructure Financing(VIFG)

4. Concession Models for the German Highways – An Outlook

5. Conclusions

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Conclusion

Empirical evidence indicates that economically sound BOT-projects in the highway sector can lead to efficiency gains in Germany, too

- Even though PPP is not always more efficient (UK experience)

A- and F-Models- Improvements in risk allocation are possible

- Extension of the F-Model-Law to all highways

- More speed! Deal flow!

Future concession Models for a privatized highway-network- “Individual stretches” vs. “network concessions” (needles vs. olympic rings)

- Interesting question for regulation and contract theory and policy

- Industry suggests network concessions, but we do not yet know what is more efficient

- … topic for the next SMI conference in 2006

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