South West Trains fares increases

This entry was added to http://www.reckon.co.uk/headlines-franckblog on 9 May 2007.

Passenger Focus, the statutory rail passenger council, has complained to ORR about South West Trains' plans to increase its late-morning off-peak walk-on fares.

This looks like it might be a good test case for the application of the prohibition on exploitative abuse to fares charged by railway franchises, to add to the limited information available in this area (a four-page ORR decision from 2002 and a three-page ORR policy note).

So how might the law on abuse apply to this case? This article speculates on the issues that might be raised by this complaint, on the assumption that I can believe everything I read in the newspaper (TimesOnline in this case).

Follow-up, 1 June 2007: Fares increases: can Passenger Focus appeal?

Is this an administrative priority?

The first question that seems to arise these days when a complaint of competition law infringement is made to the UK administrative authorities is whether it is important enough to investigate.

I have some problems with this approach myself, but leaving those aside for today it seems that administrative priority would not be a barrier to the consideration of this particular complaint:

We are talking about 20 per cent increases in prices paid by real people for fairly standard basic transportation services.

The alleged victims are “Families making day trips to London” — not big corporations with lots of lawyers that can be alleged (as the OFT is fond of doing) to be trying to use the regulatory process as a cheap form of litigation.

So I'll assume that the complaint will proceed to a substantive examination.

Is there any basis for the complaint?

The first step in a substantive examination is presumably to find out whether there is any possible basis for a claim of competition law infringement.

The essential ingredients of exploitative abuse seem likely to be present:

The company seems likely to have a dominant position in many of the markets that it serves, as competition from other modes of transport is unlikely to be effective for commuter routes into London.

Government policy restricts competition on many of these routes, by granting a franchise to South West Trains that includes substantially all track capacity.

The company's ability to raise its fares as it proposes is an exploitation of this restriction of competition. This is indicated by the fact that increases as restricted to routes where there is no competition, and also by the fact that there is no apparent change of circumstances (e.g. cost shocks) that could have led to such sharp increases in fares under conditions of normal competition.

On that basis, the complaint does seem to state a case, and the company's emphasis (according to the newspaper) on justifying its proposals seems well placed.

Thus, ORR would probably want to see whether these justifications can dispose of the case without the need for further time-consuming analysis of market definition, competitors or price-cost relationships.

The company seems to have two separate points that it thinks can justify the fare increases:

An SWT spokeswoman ... added: "We are trying to spread the demand a bit across the day. We also have to raise money to invest in the railway, though there would be no point in pricing people off the railway and losing our off-peak market."

Does overcrowding justify the fares increases?

I consider first the overcrowding / spreading demand across the day line of justification.

Reducing overcrowding on late morning trains seems a legitimate objective, and using fare structures to do so seems reasonable.

But the complainants have two arguments to rebut this:

It claims that there are other measures “such as dropping the price at the end of the peak” which should have been tried first.

It points to the fact that the fares increases are restricted to routes where there is no competition, and that South West Trains is not increasing fares to a similar extent on routes where it competes with First Great Western. If large fares increases are not needed to control overcrowding on these routes, why are they needed where South West Trains faces less competition?

These points seem to cast real doubt on the appropriateness and proportionality of these fare increases as a load management tool. So it seems worth checking the other possible justification before doing more work on this.

Does the franchise premium justify the fares increases?

Continuing with a cursory first look at the case, we therefore seem to have cast enough doubts on the legitimacy of the increases to make it necessary to consider the company's last line of defence: “We also have to raise money to invest in the railway”.

As a train operator, South West Trains does not have to invest much in the railway, so presumably the need to raise money to invest should be interpreted as the need to raise money to pay the franchise premium to the Government (who can, if it wishes, spend the cash on the railway).

So the question is whether the need to honour financial terms which the company voluntarily agreed with the Government can justify the exploitation by the company of a Government-granted monopoly position.

The answer to this presumably lies in Article 86(2) (and Paragraph 4, Schedule 3 of the Competition Act 1998):

Undertakings entrusted with the operation of services of general economic interest or having the character of a revenue-producing monopoly shall be subject to [rules including the prohibition on abuse of a dominant position] insofar as the application of such rules does not obstruct the performance, in law or in fact, of the particular tasks assigned to them.

ORR's competition law guidance is curiously quiet on how Article 86(2) applies to railway franchises. But it seems fairly clear to me that a railway franchise amounts to the entrustment of the company the operation of services of general economic interest and that on the facts assumed above it has the character of a revenue-producing monopoly since Government restricted on-rail competition in order to make franchises more attractive and likely to raise higher premium payments.

So let's assume that we are within the scope of the Article 86(2) justification. Does it stretch far enough to justify the fares increases in question?

Using a very narrow interpretation of the Treaty words quoted above, one might argue that the prohibition on exploitative abuse does not, by itself, prevent the company from running trains or from making large payments to the Government out of its shareholders' funds. Therefore it does not obstruct the performance of any revenue-producing or public-service aspect of the franchise agreement, and cannot justify any form of exploitation of consumers.

This narrow view is arguable on the Treaty words, and is a possible interpretation of the claim in the relevant OFT guidance document that the revenue-producing monopoly part of Article 86(2) is of no relevance in the UK.

But it seems to me to be wrong, as it would deprive Article 86(2) of any effect in all cases where the Government contractually entrusts a profit-making company to run public service or revenue-producing monopoly functions. Discriminating between contracted-out operators and Government-owned operations seems too much at odds with the objectives of the EC Treaty to be a plausible interpretation of Article 86(2).

On that basis, it seems necessary to read the "obstruct" requirement in Article 86(2) as including indirect forms of obstruction to public-service or revenue-producing objectives as well as direct obstruction.

This would mean that it would be sufficient for South West Trains to show (by reference to objective facts rather than its own intentions or preferences, of course) that it would not have offered the franchise premium that it did if it thought that the prohibition on abuse of a dominant position would restrict its ability to make the type of changes to fares that it is now proposing.

The fact that these fare increases come a short time after the beginning of the new South West Trains franchise (4 February 2007) lends support to the idea that they are connected to the large premium payments agreed for the new franchise.

If that link between ability to increase fares and willingness to offer large premium payments can be established, then on the broader reading of Article 86(2) which I think is appropriate, the prohibition on abuse would be found to obstruct the performance of the revenue-producing monopoly tasks assigned by the Government. Therefore the prohibition would not apply, and the fares increases would be permissible.

Summary

This article is speculative and relies on a single news report for its "facts". Subject to that (quite a big caveat!), I expect the initial ORR sifting process for Passenger Focus' complaint to produce something like the following results:

Does the complaint have a chance of being an administrative priority? Yes.

Does the complaint allege a competition law infringement? Yes (but more evidence would be needed on dominance and costs).

The company says that the fare rises are to counter overcrowding. Does this dispose of the case? No.

The company says that the fare rises are necessary to fund franchise premium payments. Does this dispose of the case? Possibly.