Success Diagnosed

png-roads

Very pleased to see PNG and Australia have signed an Agency Support Arrangement for the PNG Department of Transport this month.  I led an earlier Agency Capacity Diagnostic of the Department for the PNG Transport Sector Support Program.

“These diagnostics are undertaken by independent consultants and provide the agency management with objective assessments of capacity, including through the identification of existing strengths and skills gaps. The diagnostics also provide recommendations for addressing agency needs.  TSSP then works closely with the Australian High Commission and agency heads to develop programs of structured capacity support to improve performance and address identified priority capacity gaps.  This is formalised through  Agency Support Arrangements (ASAs) which detail the multi-year frameworks for funded activities to bridge some of the gaps highlighted by the diagnostics.” (Source: TSSP website)

A great outcome which also included a lot of hard work from senior officers in the Department, the Transport Sector Support Program and at the Australian High Commission.

[Link to article]

 

Transport Planning Award

aitpm-2017-winning-presentation

A great collaboration with the Department of Transport and Main Roads and Aurecon.

Lytton Advisory prepared cost benefit analysis modelling of this active transport infrastructure program for TMR, drawing on great research and analysis undertaken by the project team.

Queenslanders will continue to benefit from TMR’s engagement in developing further active transport infrastructure.

Many thanks to all who contributed to this.

Economic Benefits of Cycling Infrastructure

cycling-brisbane

Very pleased to see that my colleagues at Queensland Department of Transport and Main Roads and Aurecon will be presenting our analysis on the economic benefits of cycling infrastructure at the National Traffic and Transport Conference of AITPM in mid-August.  The abstract is available here:

https://www.aitpm.com.au/economic-benefits-of-cycling-infrastructure/

 

Image: Southbank, Brisbane. Source: Brisbane Tourism.

Cross River Rail Dice Roll?

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In this note we consider there is a 25% possibility that Cross River Rail may fail to achieve a positive economic net present value and explain how we arrive at that opinion.

Building Queensland reported in its cost benefit analysis summary that Cross River Rail produces a Net Present Value (NPV) of $966 million with a Benefit Cost Ratio (BCR) of 1.21. However, its summary did not publish the actual present value totals of the benefits or costs from the study. The full report is not available for public scrutiny.  Also, the government’s website for Cross River Rail has still not published the business case.

The BCR was expressed in terms of P50, which implies there is a 50% probability that it could be lower than 1.21. Similarly, if the NPV was expressed as P50 that implies a 50% probability the NPV could be less than $966 million. Interestingly, no formal sensitivity analysis was presented in the summary.

Is it possible to assess the probability that the net present value of the project could be less than zero or the benefit cost ratio less than one?

Using the NPV and BCR information from the summary we calculate the implied present value of benefits (B) and the present value of costs (C). Since NPV = B – C = $966 million, and BCR = B / C = 1.21, we can solve for C. This gives us a present value figure for C of $4,742 million. Therefore, the present value for B is $5,738 million.

Since we do not know the risk profile of these values, let’s assume variability in the estimates are normally distributed around the benefit and cost values implied by the NPV and BCR figures. This is a generous interpretation of the variability of the actual result compared to the estimate because we know that costs are typically skewed towards overruns and realized benefits fall short of estimates more often than exceed them.

We assume a standard deviation that is approximately 20% for each cost and benefit estimate. We assume in the absence of any guidance that the estimate is the mean for the purpose of this analysis. This applies both to costs and benefits. Under a standard normal distribution the estimate statistic is also a P50 estimate.

Benefits and costs in the tails of each distribution are likely to be extreme values. We assume that values in the 5% tails either side of the mean are not sampled. That is, values are drawn from a normal distribution that represents 90% of possible values for benefits and costs.

One final consideration – no correlation is assumed between benefits and costs. What it costs to build and operate Cross River Rail has no influence on the level of demand achieved. The same project is delivered irrespective of cost.

Running @Risk probability software over this, we find that running the NPV calculation through 1,000 iterations there is a 25% chance that the project will generate a negative NPV. No formal consideration is given to optimism bias, which would tend to increase this value.

Is this a risk worth taking? Hard to say because some of the fundamental information is still not in the public domain. Also, components of both benefit and cost may be well identified and estimated. As a consequence, their probability profiles might be within a much smaller range.

Within the project, further work would be required to minimise and mitigate risks that could affect benefit realisation or lead to increased costs. Release of further detail about the project would enable the public to assess this.

Image: Brisbane Times.

Value Uplift and Capture

money_bridgeValue capture and uplift associated with infrastructure projects are often discussed but not well understood. This is because the issue sits at the crossroads of competing public and private interests, as well as institutional imperatives of project proponents.

From an economic perspective, it is a method of generating funds from economic rents – unearned private benefits from public investments – to deliver infrastructure projects. In the Australian context it is increasingly heralded as a potential new source of investment funds. However aspects of this approach have been used in both the US and the UK.

While there are over one hundred studies on value uplift around transport modes, impacts of other infrastructure types remain less well understood.

The Bureau of Transport, Infrastructure and Regional Economics has identified a range of factors assessing land value uplift challenging:

  • separating factors driving uplift to identify the infrastructure impact;
  • sampling errors in the estimation of land prices;
  • determining the catchment for beneficiaries / the project area of influence; and
  • isolating value uplift from network effects.

In essence, value uplift is where value flows from an infrastructure network are capitalised into land values. This is often observed regarding transport networks.

For the reasons outlined above, identifying value uplift is difficult in terms of identifying both who benefits and at what value. It is also why it has not been widely used to fund public infrastructure. However, there are two factors driving consideration of value capture funding:

  • economic rents accrue to landholders benefiting from economic infrastructure – in effect private, unearned returns from public investment in public assets – these are above and beyond use benefits and raises a critical equity issue; and
  • use revenues, particularly from public transport investments, are insufficient to fund infrastructure expenditures and are often complemented with significant subsidies from the public purse – value capture is seen as an alternative to increasing the general level of taxation revenue.

Overseas experience provides some guide to the types of value capture approaches, and each approach has its own pros and cons:

  • tax inventive funding – hypothecated value uplift based on an expected increase in property tax revenue. Commonly, a government issues a bond, effectively guaranteeing a return that matches the expected value uplift increment. The value at risk, however, remains with the government issuer.  This is one of the reasons most government treasuries oppose issuing these bonds – there is no transfer of financial risk associated with the value uplift increment.
  • betterment taxes – land owners thought to be direct beneficiaries of an infrastructure development – but not necessarily users themselves – pay a levy. The levey is typivally on the unimproved capital value of the land. A key challenge with this approach is achieving a correct attribution of the increase in land value from the provision of the infrastructure and related services.
  • transaction taxes – typically levied on property transfers. In this case, some of the property value increase attributed to the provision of publicly funded infrastructure will be collected by these taxes. However, this attribution is again difficult to to assess.
  • joint development – usually where a licence or concession is given to a private agency to develop surrounding land in exchange for delivering economic infrastructure and services. This is a significant model for railway development, and is currently in use for heavy rail in Asian countries.

While a range of estimation problems have been identified above, network architecture remains the most significant factor. Hierarchy, connections and density influence this. While the literature on network architecture largely focuses on transport infrastructure, specifically road and rail assets, further analysis is needed of other linear infrastructure (i.e. water, electricity and gas).

Two broad solutions emerge: either a more to a more general land tax; or further detailed investigation of each specific infrastructure project. The important point is to adopt an approach that minimises market distortions and promotes economic efficiency.

Inland Freight

canola

Recently I have been thinking about inland freight and logistics to see how this affects Australia’s seaports. Volumes may be constrained by production factors – you can only grow what you can grow when the environment allows you to grow it – but where these volumes go can be determined by these inland costs.

Policy can have consequences as NSW’s freight and logistics strategy shows. Improvements in freight handling and inland cargo aggregation can reduce costs. Some of these improvements reduce the cost of multi modal handling, as well as reduce the cost of line haul by mode – whether that is by rail or road.

For an economist like me it is a relative comparison game. Relatively lower costs will shift the movement of commodities from one mode to another, as well as shift the direction of commodities. Subject, of course, to existing commercial agreements.

However this is not the only story. The other story is around the development of vertically and horizontally integrated businesses that develop their own end-to-end freight and logistics systems. This means they are able to profit maximize by using less profitable parts of their networks to feed the more profitable parts. These firms are also taking equity stakes in their clients.

This is different to geographically and modally constrained freight and logistics operators – they have to maximize efficiency of throughput at a single point or along the linear operation of a particular mode. They certainly do not own parts of their client’s operations. Also, singular operations cannot transfer price because the other parts of the network or system are owned by other parties, and often singular operations cannot aggregate the volumes of goods required to develop leverage over prices.

This article also provides a gratuitous opportunity to show some of the canola fields near my home town in the South West Slopes region of NSW. I took this picture last week on a visit there. Primary production remains an important part of the freight task, albeit a volatile one that is hostage to world demand, weather and yields.

How Would We Know?

The absence of a publicly available cost benefit analysis for the proposed Bus and Train (BAT) Tunnel project in Brisbane raises a couple of obvious questions.  The first is the simplest.

The previous Cross River Rail (CRR) proposal was expected to cost around $6.4 billion to construct.  At this stage the BAT Tunnel is expected to cost around $5 billion.  Queenslanders save $1.4 billion right?

Financially they do.  But without a full CBA we cannot know what benefits are being left on the table.  If more than $1.4 billion in benefits under CRR are not realised in the BAT Tunnel we are actually reducing the net economic benefit of getting a decent public transport solution.

How would we know?