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Friday, 24 December 2010

BAA - should it ever have been privatised?

Heathrow: stranded planes
One of the more frustrating aspects of evaluating whether certain industries should be privatised or operated under public ownership is that at first glance the basic economic analysis of the advantages of both is very similar. Proponents of both argue that both a nationalised and a privatised industry will be run more efficiently and  provide lower prices, more choice and better quality services for consumers. Those anti-to either both argue that they lead to organisations having no incentive to be any of the above. So, privatisation or nationalisation? As with many economic concepts, it depends.

Since the main argument for privatisation is to introduce competition into a market in order to force organisations to operate more efficiently, the areas in which it makes the least sense to release an industry from public ownership are those in which a natural monopoly operates. This is where there is really only room for one firm in a market. The privatisation of the railways - where only one company can operate on a particular line, is an example of this. The privatisation of water supply is another as it's not possible for a competitor to come in and lay more pipes. This is probably why rail maintenance had to be re-nationalised earlier this decade and why the regulation of water companies has been so controversial.

But in the news recently has been another great example of an industry which should perhaps have never been privatised, and in particular, the effects that privatisation with no chance of competition has on the behaviour of firms. This is BAA limited - privatised in 1986 and responsible for operating many British Airports - including Heathrow, Gatwick and Stansted.

You'll notice immediately that BAA had a virtual monopoly of London Airports. The massive start up costs of airports and the economies of scale to be gained as they grow are enormous barriers to entry into that market, so much so that Gatwick had to be forcibly sold in 2009 - which was a first admission that privatisation hadn't worked in this industry.

You'll also notice that BAA is a private limited company. It was the British Airport Authority until 1986, then BAA plc until 2006 when it was taken over by a consortium led by a Spanish company called Ferrovial and delisted from the stock exchange. This means that those who run an industry as vital to the UK's economic health as its main airports answer to no-one. Not the government, and not the shareholders, no-one.

Hence, when last year BAA were charged with making sure there wasn't a repeat of the chaos that ensued during a tough winter in which many planes were grounded, they spent a very small amount (about £600k) on equipment that, as we have just seen, was insufficient for clearing the snow and ice that again formed on the runways at Heathrow. This grounded thousands of passengers, wrecking holidays and their travel plans.

You'd have thought it would hurt BAA too. But they ALSO operate the retail locations within the airports, in which so many passengers were stranded for so long. These locations charge a premium price, for they are also a local monopoly. They would have made a killing over the past two weeks. I am not saying BAA deliberately did this. I am talking about the difficulty they must have with incentives.

BAA lack the incentive to make long-term investments to ensure that conditions at their airports are conducive to planes arriving and leaving, because they make serious money from passengers having long stays at their airport. Furthermore, even though BAA provide a vital service to the UK, there is absolutely nothing the government can do when they don't provide that service, as they are a privately run company. Hence we have had Phillip Hammond, the Secretary of State for Transport, standing around looking sadly impotent. He offered resources to BAA to clear the runways, but BAA allegedly refused (because, he said, there is equipment (e.g. lights) embedded in the runway which needs to be protected so there is a level of expertise needed for clearing the snow and ice from a runway).

One of the main advantages of having a vital industry with long-term capital investment needs in public ownership is that those long-term capital investments can be made without worrying about short-term profits to shareholders. Even though BAA is not a public company, the consortium that bought it may have incurred debts to do so which need servicing so those profits are important. In this country, the water companies have negotiated to be allowed to raise their prices to take account of the long-term capital investment needed to maintain the country's antiquated piping system. Public ownership would mean that would not be an issue.

The point is not that Heathrow airport in particular would have been able to operate all planes under public ownership. I don't need to go into the problems that lack of competition causes in public ownership. BUT since in public ownership an industry is judged by its ability to run a service for consumers, not for its profits, there would have been more incentive over the past year to have made the long-term investment (short-term rise in costs) that would have meant this year's winter problems would not have been so serious.

Even the Daily Telegraph has raised this it must be a pertinent one. After all, in the last year Manchester Airport made some large investments in airfield de-icer and other equipment, enabling it to allow UK-bound flights that couldn't land in less-snowy London to land there and some Heathrow flights to have passengers bussed up to be flown out from there.

The difference between Manchester airport and the others I've mentioned? Manchester Airport is publicly owned. Profits go to Manchester Council, not to shareholders. Can I rest my case?

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