Rail Industry

Technology of Rail Travel
The oldest known railway is the Diolkos. Operational for roughly 600 years leading , it ran over the Isthmus of Corinth. It thereby connected the Aegean Sea between Greece and Turkey with the Ionian Sea between Greece and Italy. It was used to haul cargoes, and possibly small ships, from one sea to the next, and was powered either by oxen or human slaves. The feature that made it a railway, rather than a road, are the grooves cut into the limestone, which guided the trolleys on which the cargoes rode.

Railways began appearing in Europe in the 14th century. For several hundred years, they ran on wooden rails, which needed replacing at frequent intervals as they wore out. Typically, one set of wooden rails was nailed on top of another, so they could be replaced without disturbing the railway’s foundations. Commonly used to transport coal from the mine head to ships, they relied on human or animal power just as the Diolkos had two thousand years before. In many instances the railway could be designed to make the most of gravity so that full wagon loads rolled down to the coast or canal, and only the empty wagons needed to be hauled back up the hill.

The next major innovation was metal rails. Much longer-lasting than wood, they were first made out of iron in the early nineteenth century, then steel from the 1850s onwards. The key innovation leading to the rapid expansion of rail was the steam engine. The first-ever steam engine, known as The Rocket, was built in 1829 by George Stephenson. It ran on the first railway open to members of the public, the Stockton to Darlington Railway. Passengers went on to become an important source of revenue alongside freight. Over the next 25 years, over 7,000 miles of railways were built in the UK, all based on this new technology. Steam engines were in common use in Britain well into the 1960s, and were still used extensively in China up until the first decade of the twenty-first century.

Steam engines are labour intensive, requiring large numbers of operatives to clean the engines and load the coal. Electrification first took place on tramways, metal rails dug into road surfaces, on which specialised buses, known as trams, run. Mainly horse-drawn up until the First World War, after which they were steadily electrified. The major move away from coal took place after the Second World War, when rising wage rates made labour-intensive steam power less attractive. This is basically the technology that railways in Britain still use. Those 7,000 miles of track laid by Victorian entrepreneurs are still in use, accommodating trains powered by electricity or diesel rather than steam.

The next stage in the development of rail train was the high-speed train. For speeds much above 125 mph, new tracks normally have to be built, because existing tracks have curves which are too tight to accommodate these higher speeds. The trains would come off the rails at the bends, though the maximum speed on curved tracks can be raised to some extent through the use of tilting trains.

Japan showed what could be done with its Shinkansen or ‘bullet train’ which opened for service in 1964 between Tokyo and Osaka. Partly financed by the World Bank, the trains ran on newly-laid track. Running at a top speed of 210 kph (130 mph) this does not qualify as high-speed by today’s standards. A faster network was also constructed from the 1970s in France, known as TGV (Train à Grande Vitesse, i.e. high speed train), and subsequently in Belgium,Germany, Spain and Italy. Average speeds of 170 mph are common, and have since 2000 been matched on new high speed rail lines in South Korea, Taiwan and notably in China. Italy is currently running some new French-designed trains with a top speed of 225 mph


Magnetic levitation (maglev) uses magnets to raise the train a few millimetres above the track in order to reduce friction and to eliminate wear and tear on rail and train alike has been tested. Commercial systems are still in their infancy, although a 19 mile stretch has operated in Shanghai since 2004. The technology carries with it the potential to go very fast. For example, in 2011 the Japanese government approved the first stages of a maglev line from Tokyo to Osaka with a planned operating speed of 300 mph. More exotic still is the possibility of putting maglev trains in vacuum tubes, which would eliminate air resistance and make speeds of several thousand mph possible.

Ownership of the UK railways: 150 Years

Railways began as purely commercial enterprises owned by the proprietors of coal mines. They represented a capital investment that reduced transport costs from the pit-head to the nearest river, canal or port that could take the coal onwards. Early rail systems have either disappeared, or been turned into tourist attractions such as the Talyllyn railway. However, with the development of the steam engine, dozens of limited companies were set up in the UK to exploit the radical new technology, financed by eager members of the public looking for a good return on their savings. Shares in railway companies in the 1840s showed all the characteristics of internet stocks around 1995-2000: wild enthusiasm leading to a speculative bubble, a crash, fortunes made and lost. 

During World War I, the railways were run by the government as part of the war effort, and it soon became clear that the economies of scale were such that the railway network would develop faster under less fragmented ownership. Railways were, in effect, a natural monopoly. So after the war, the hundred or so companies with their 19,000 miles of track were merged into just four by an Act of Parliament. Each had a London base, and served the South of England, the West, the North & East, and the Midlands & Scotland respectively. However, the emergence of motorised vehicles resulted in investment in railways to be reduced  as profits were low. From the late 1920s onwards, the rail system shrunk until, by the 1970s, Britain was left with the main inter-city routes and commuter lines into the big cities, and especially into London.

After World War II , the incoming Labour government took into public ownership whole swathes of private industry (nationalisation). Coal, electricity, gas, road haulage and the railways were all subject to compulsory purchase by the government during 1947-49. However, changes in ownership could not alter the underlying advantages of road transport, and the newly-formed British Railways was soon making losses and a poor service reputation.


Rail was returned to the private sector over 1994-97. Its leading exponent was Margaret Thatcher, Prime Minister from 1979 to 1990. During her time as Prime Minister gas, electricity, water, telecommunications, airports, airlines, cars, steel, ship-building, sugar, buses and 2 million council houses were all sold off in a program that was widely imitated around the world. Based on the now-widely-accepted belief that business people almost always run enterprises more efficiently than governments. The railway network was one of the last privatizations in this series, and was carried out under Margaret Thatcher’s successor, John Major.
Separating train and track ownership

British Rail could have been sold off as one large company, or sold off as four regional companies. The latter option would have restored the ownership pattern existing before nationalisation, where four regional monopolies ran independent networks. However, by the 1990s there was a better understanding of the benefits of competition than had existed 50 years before, so the preferred plan was to introduce as much competition as possible. The problem is that the rail network forms a classic ‘network monopoly’ just like water pipes, gas pipes, telephone wires and the electricity grid. The point about these services is that the more people they serve, the cheaper they become to provide per person, so bigger companies will always push out smaller companies until only one is left.


The rail lines were sold off in 1994 to anyone who wanted to buy shares in a new company called Railtrack, while the train timetable was split up into 25 fixed-term franchises for which interested parties were invited to bid. Most of the franchises were awarded over 1995-97 to bus companies like Stagecoach, MTL (Merseytravel) and National Express, or to newly-formed companies whose directors had a bus industry background, like Prism Rail.6

Privatisation was completed in 1997, just before the arrival of an incoming Labour government, which had threatened to halt it. The current system, therefore, has three main parts
The track itself, owned by a single company. First this was Railtrack, now Network Rail.
Train Operating Companies (TOCs) run the trains on defined parts of the network on a franchise basis for limited periods.
The trains themselves  are owned by three rolling stock companies, known as ROSCOs. They are Angel Trains Ltd, Eversholt Rail Group and Porterbrook Leasing Company Ltd. The ROSCOs lease out their trains to the TOCs.

Labour, in power from 1997 to 2010, was opposed in principle to a national asset – the rail network – being run for private profit. When four people were killed in the Hatfield rail crash of 2000, caused by an inadequately maintained track, Railtrack was held to account. A very expensive program of track maintenance was imposed on Railtrack, together with over 1,200 emergency speed restrictions across the network.

The company never recovered financially from this setback, and was replaced by the government in 2002 with a state monopoly called Network Rail. Network Rail is a ‘not-for-dividend’ company, and any profits it makes must be ploughed back into the rail network. Effectively, it is a branch of the government. It operates under supervision from ORR (Office of Rail Regulation).

The current market structure of UK rail travel
A Government-controlled network monopoly of rail tracks on which rival train operating companies compete for franchises over 19 defined regions. The ORR is a government department, with 300 staff and an annual budget of £18 million, and is responsible for the efficient and safe running of the rail network and for competition issues.9 An example of the way this works is provided by the fine Network Rail is currently facing (September 2012) for failing to hit agreed targets for improvements in train punctuality.10 Competition among train operators is generated by holding regular competitions for the right to run trains over 19 defined regions. The bidding process itself is overseen by the Department for Transport (DfT). One example is the recent bid for the West Coast mainline franchise from 2013-2026. New franchisees have to take on all the employees of the former franchisee, employment rights are protected: the employees simply switch uniforms. Furthermore, there is no competition in the running of the rail network itself, with Network Rail operating as a monopoly. It may be that this is unavoidable, as there is a strong argument for saying that the rail network is a natural monopoly. That said, prior to 1947 the train companies ran the rail network too, and this gave them an incentive to reduce costs, which may be absent from Network Rail. The government is currently proposing to break up Network Rail into regions, so that each part may be benchmarked against the others

In conclusion, the current market structure of rail travel may be the best that can be achieved. While recognising the natural monopoly of the rail tracks themselves, there has been a serious attempt to generate competition among train operators. The current system also lends itself to increased competition from overseas operators. The Financial Times reports that the “rail sector is facing unprecedented turnover in operators as more than half of the franchises are due to be renewed in the next three years. The four listed UK transport groups – FirstGroup, Go-Ahead, National Express and Stagecoach – are facing growing competition from foreign-based, state-controlled operators.” Furthermore, the EU has taken the view that this is the ownership structure that it wishes member states to adopt, with the hope of encouraging competition between train companies across the continent.

UK rail travel: Who pays?
The short answer is that UK fare-paying passengers pay 66%  of the cost, with the remaining one-third paid for by the taxpayer, primarily through a government grant to Network Rail.


The London and the inter-city network pay three-quarters or more of their total costs, but the regional services are heavily subsidised to the tune of 61% of total cost. The 31 pence per mile subsidy for regional rail travel is not far off the 40 pence per mile that the tax authorities allowed individuals to claim (in 2010) for using their private cars for business purposes. Alternatively it would be cheaper for the government to close down regional rail travel altogether, and pay former passengers to make those journeys by car instead.

One aspect of the regional rail problem is the sheer number of stations that are hardly used. The least-used 50% of stations in Britain serve just 3% of rail passenger numbers.

The fare-paying passengers pay for the entire running costs of a franchisee, and for their profits. However, the franchisee also pays Network Rail an access charge for using the rail network, but these access charges do not cover the full cost of running the network. The remainder of the cost is, as already stated, paid for by government grant.

Rail fares are divided up into those which are regulated by the government, and those which are not. Regulated fares are allowed to increase each January by the inflation rate (as measured by the RPI the previous July) plus or minus an agreed percentage. It should be noted that these permitted fare increases only refer to the average regulated fare increase, which gives a train operating company considerable discretion to increase some fares by a lot more.


The recent rise in permitted fare increases to RPI + 3% (now withdrawn) was part of the government’s long-term strategy of reducing the amount by which the taxpayer had to subsidise the railways, which was over £3 billion. In fact, the government announced that the new RPI + 3% increase would come into effect from 2012 but got cold feet when the RPI for the previous July came in at a very high 5% pa, which – with RPI + 3% – would have resulted in regulated fares increasing by 8%. Now they have got cold feet and returned the permitted increase to RPI + 1% yet again! These flip-flops indicate how politically sensitive fare increases are. 

Regulated fares include saver returns, standard returns and commuter season tickets into the London area. Unregulated fares include all first class tickets and ‘advance purchase’ fares. However, there are practical obstacles in the way of train companies putting up unregulated fares by whatever they like. In particular, if a train company has been told what to charge for a standard return.

UK rail travel: Is the industry allocatively efficient?

One of the concerns of economists is that industries should be the right size, relative to each other, so that the net benefit to society is maximised. In competitive industries without significant externalities, the free-market system should produce this result through the ‘invisible hand’ of market forces.

Transport is nowhere near to this ideal, partly because of the natural monopolies formed by road and rail networks, and partly because of the very significant external costs caused by road traffic congestion, and the externalities associated with road traffic.  A move to congestion charging would result in sharply increased costs for commuting by car, leading to a large increase in demand for the substitute, rail travel. This would make possible increases in fares that would reduce or eliminate the need for a rail subsidy from the tax payer. Additionally, it would justify the expense of upgrading the most-used commuter lines to increase their capacity. It may, therefore be the case that the current size of rail network is not far off its allocatively efficient optimum, though some regional lines should probably be closed even as some commuter lines are upgraded. However, on first reading it is difficult to justify the eye-watering £32 billion required to expand the rail network by building the HS2 London-Birmingham-Manchester-Leeds line.

The subsidy that the government has to give to Network Rail is not an indication that the rail network is inefficiently large. Rather, it is a reflection of the weaknesses of democratic politics. Politicians have refused to implement the unpopular but necessary policy of congestion charging on the roads, preferring instead to level the playing field between competing modes of transport by spending tax-payers’ money on subsidies to bus companies and Network Rail. In the process, this has contributed to a national deficit which we are now discovering we can ill-afford.

In conclusion, the optimal solution to congested roads and trains during rush hour has to be an increase in the price of travel during these peak times. The free market will then respond in a number of ways. Home working will increase, as will working staggered hours. New housing estates and new business parks will be built in locations which have been chosen with an eye to the cost of commuting. House-buyers will pay greater attention to the costs of commuting when deciding where to buy. Workers who absolutely must travel along popular routes during rush hour will have to pay more – and companies that wish to retain these workers will need to increase wages to keep them.

The relationship in the UK between roads and rail travel

Bus travel has lost almost half its market share over the past 30 years, rail travel has grown at an average rate of 2% pa, matching the growth in car travel and therefore maintaining its market share, at a modest 7% of all miles travelled. Specifically, rail transport has grown its market share significantly since rail privatization in the mid-1990s.

Rail travel works particularly well on any route where there is a high daily volume of passenger traffic. On such routes, rail is entirely competitive, being often cheaper and quicker than going by car. The problem, of course, is that rail travel is not a door-to-door solution but a hub-to-hub experience. Often expensive taxis or slow buses or long walks have to be incorporated to complete the journey. In a country where 75% of households have at least one car, rail is not competing against car ownership as such. Instead, it has to persuade existing car owners to leave the car at home by offering a compelling time-and-money proposition for specific journeys relative to the car.

Rail travel is, therefore, best viewed as a niche market within the wider transport industry. Its dominant sub-segment are car-owning workers who can afford to live in a town of their choice and for whom the price of the commuter season ticket into London.

Light rail systems cater for travel within a major conurbation, and offer a service similar to buses. Light rail has fewer stations than buses, but offers higher average speeds. The more densely populated the area – and so the more congested the roads are – the stronger is the light rail proposition. Particularly in London, the light rail network (i.e. the Underground) is a vital part of travellers’ overall transport requirements. The same is true in many large cities around the world.

UK rail: Some current debates

One of the criticisms of the current system is that the Department for Transport is no match for the private-sector lawyers negotiating on behalf of the train operators when franchises come up for renewal.

The background is that, in 2009, National Express abandoned the franchise it had won to operate the line saying that, because of the recession, it could not afford the franchise payments it had promised to make. The then-Labour government took it back into public ownership.

In deciding whether or not to proceed with HS2, the government has factored in the external costs associated with degrading green spaces. Campaigners against the line have discovered, by using a Freedom of Information request, that the government has recently reduced its estimate of this cost by 78%. “In the official 2010 assessment of damage to the landscape, it emerged that the estimate by HS2 Ltd which is building the line, was £4.3 billion. But new figures reveal that the route's damage would cost £978 million - down 78 per cent.”The Department for Transport claim this reduced figure reflects the extra tunnelling put in to make the route quieter. The opposing campaigners claim this reduction has been implemented to bolster the case for building the line.

Rail freight is growing in common transport methods which include open wagons for bulk goods like coal, and the transport of standard containers. In terms of energy used per tonne per mile, rail is around three times more efficient than trucks with one gallon of fuel moving a tonne of goods 246 miles by rail but only 88 miles by road. In the United States, Russia and China, with many journeys of over 1,000 miles, rail freight has a better chance of being part of a truck-train-truck chain that delivers a lower-cost solution than simply driving a truck the whole way.

Nonetheless, in 2011-12, UK rail freight transported 101 million tons of goods with a value of over £30 billion. Like rail passenger journeys, rail freight has enjoyed a renaissance since the mid-1990s with rail freight activity up by 65% between 1995-96 and 2006-07.

The cost structure of rail travel

Inter-city railway lines are expensive to build and cannot generate any income until substantial routes have been completed in their entirety. In the late nineteenth century, railway networks could be built by private enterprise on a commercial basis, since they represented a genuine and transformational reduction in journey times compared to the previous fastest methods. However, since the early 20th century any new line has to face competition from the car and, on longer journeys, the aeroplane. State financing has, therefore, been the normal way of getting new railways built all over the world. The only recent privately-financed rail venture in the UK has been the Channel Tunnel, built over 1988-1994. It has not been a good advertisement for the private financing of rail infrastructure. Coming in at 80% over budget, it has been a financial disaster for the initial investors.

Where, as in the case of the USA, state financing has not been forthcoming, new lines have simply not been constructed. Instead, they have been built in centrally planned and mixed economies where governments have been prepared to take a strategic view, rather than simply look at immediate profits and losses. On the one hand, this may include faster economic growth than would otherwise have taken place. More recently, it may also include a reduction in carbon emissions as travellers and freight switch from the less-environmentally-friendly alternatives of road and air travel.

There is no doubt that high-speed rail systems do have the potential to take market share from road and air. When the French TGV reduced the rail travel-time between Paris and Lyon from four hours to two, their passenger market share increased from 49% to 72% while the airlines’ share shrank from 31% to just 7%. Similarly, the high-speed link between Madrid and Seville increased rail’s share from 16% to 52% while airlines’ share shrank from 40% to 13%. Much of the increase comes from offering a service that generates new journeys which would not otherwise have been undertaken.


While the UK rail network as a whole is loss-making, it remains the case that it costs nothing to fill an empty seat on a timetabled train.  This means that train companies have an incentive to fill off-peak seats which would otherwise remain vacant – even if this means selling them at very much reduced prices.

There are at least three ways this is done:
1. Selling tickets in advance. By offering lower prices in return for advance booking and travel-time inflexibility the rail companies have tapped into a creative method of price discrimination.

2. Selling rail cards. Typically these offer one-third price reductions for off-peak travel for those aged under 26 or over 59, or travelling with children. These market segments are unlikely to be compelled to travel for business purposes, so their demand for travel is likely to be price elastic. Once again, this is a method of maximising profits through price discrimination.

3. Allowing ‘ticket-splitting’. It is perfectly legal to buy two tickets for a single journey provided your train stops at the intermediate station.

By contrast, train companies have no incentive to offer discounts on commuter travel, where trains are filled to capacity with passengers who absolutely have to go to work. These prices are the most expensive per mile in Europe. For example, buying a yearly season ticket to London from Swindon (a commuter town 70 miles to the West of the capital) currently costs over £7,400 pa. Nevertheless, this is still cheaper than making the journey by car every working day. If the train is used 250 days a year, the 140-mile round trip ends up costing 21 pence a mile, which is well under the cost of running a car.


International rail: The biggest players

With 141,000 miles of track, the USA still has the world’s biggest rail network, though it has shrunk from its peak of 255,000 miles. The network relies heavily on freight, with passenger rail being confined to a dozen or so commuter networks into big cities and Amtrak’s passenger service in the North-East of the country between Boston and Washington DC. The freight network received a vote of confidence in 2009, when legendary investor Warren Buffet splashed out £26 billion to purchase the second-biggest freight rail network, Burlington Northern Santa Fe.

With large population centers situated thousands of miles apart, air travel has become the dominant form of passenger transport over long distances. Over shorter distances, America’s love affair with the automobile, and an unwillingness on the part of government to invest in rail infrastructure, has meant that the US has never developed a passenger rail network remotely comparable to that of Europe.

While America’s rail passenger provision is non-existent over most of the country, this may well be the allocatively efficient outcome. Free-market capitalism does not guarantee the survival of any one particular transport mode, and the USA’s low tax rates are in part a reflection of the government’s refusal to get involved in grandiose transport projects that are never going to be commercially viable.

The strictly commercial nature of America’s railways is also evident in their reluctance to embrace new technologies unless they can be shown to make a profit. Hardly any of the rail network is electrified, relying instead on diesel. Electrification reduces CO2 emissions but otherwise has very little to recommend it.

The BRIC economies are well-represented in the list of countries with the longest rail networks, starting with Russia on 50,000 miles of track. The most famous line, the Trans-Siberian Railway, was built over the 25 years prior to World War One. This was in many respects the golden age of rail, before the automobile became the dominant mode of transport. The network was greatly expanded after the Russian Revolution of 1917 as part of the new Communist government’s push to achieve rapid industrialisation.

Following the collapse of the Soviet Union in 1989, the rail network was split among the new countries that were formed, of which Russia was by far the largest. Currently employing around 950,000 staff, the network is in a poor state of repair with the government unwilling to pay for its modernization.

Passenger rail travel has been around for over 150 years, and many of the lines built over a century ago are still in use. The relatively low running cost of rail travel in a country with low wages has protected the network from becoming obsolete. This is particularly true of India, with its vast population of 1,200 million, most of whom are relatively poor and who therefore do not own cars. It currently has 71,000 miles of railway lines in use of which 40,000 were constructed before 1930 when the British ruled India.

With over 1.4 million employees, the state-owned Indian Railways earned $19 billion in 2011-12 – roughly 70% from freight and 30% from passengers. Over the course of a year it carries 7.5 billion passengers – more than one journey for every human being on the planet. Passenger fares are kept deliberately low, and currently this section of the enterprise is being run at a loss. The network is being slowly electrified, with 34% coverage achieved as of March 2012.

Whereas rail travel in America, Russia and India relies essentially on a network completed some decades ago, the Chinese network is in a phase of explosive growth. With 50,000 miles of track at the end of 2007, this is expected to grow to 68,000 miles by the end of 2012. Rail is the dominant form of long-distance travel within China, and the existing network is the most densely-used in the world. Each mile of track carries more freight and more passengers than any other network. In 2011, the system carried 600 billion passenger-miles and 1,800 billion tonne-miles of freight.