High Speed 2: failed economics

The Prime Minister has announced the Government’s decision to go ahead with High Speed 2 (HS2), the new rail route from London to the cities of the Midlands and the North, despite the dramatic escalation in construction costs, from £37.5bn in 2011, to £50bn in 2013, to £65bn in 2015, to excess of £100m in 2019 and probably in eventual outturn.

The value for money (VfM) of the investment has been computed according to the Department for Transport’s (DfT) standard approach to appraisal of proposed investments. This compares benefits with costs according to long-established principles of cost-benefit analysis as applied to public sector investments. The main benefit to users of a faster rail route is assumed to be journey time savings, which are supposed to allow us more productive work or enjoyable leisure. To these time savings are added lesser contributions from improved reliability and reduced overcrowding, as well as some wider economic impacts such as productivity gains and environmental impacts.

It was noteworthy that the initial increases in the cost of HS2 did not change the supposed economic benefit, as measured by the benefit-to-cost ration (BCR), which held steady at close to 2.0, or £2 of benefit for every £1 of cost. Substantial additional benefits were recognised by the promoters, even though nothing fundamental had changed in the business case. However, the independent review by Douglas Oakervee, commissioned by the Government and just published, puts the BCR at 1.1 to 1.5, reflecting the increase in costs. The National Audit Office’s recent report on HS2 estimated a BCR of 1.4.

The DfT is yet to issue a revised Business Case for HS2 that takes account of the latest plans and possible cost savings. When it does, I expect to see the usual tweaking and massaging of assumptions about an uncertain future state of the world that can be defended as a legitimate exercise of professional judgement by transport economists who wish to please their clients, in this case Ministers who have decided to press ahead. The objective will be to achieve a BCR of 2, which is the threshold for the DfT’s High Value for Money (VFM) category.

Apart from such malleability in analysis, there are two big problems with the standard approach to the economic appraisal of proposed transport investments. First, the time saving benefits arise from trips between cities and say nothing about economic development within cities. The strategic case for HS2 is to boost the economies of the cities of the Midlands and the North by improving their connectivity to London and the South East. But the impact on cities, as seen in the form of property development and increased real estate values from productivity enhancement and employment creation, does not enter into the cost-benefit calculus, which is silent on the geographical distribution of benefits. The Oakervee review concluded that the economic case does not currently fully align with the strategic case because economic rebalancing, one of the primary drivers in the strategic case for HS2, is not currently reflected in the economic case.

The second problem is that average travel time, as measured in the National Travel Survey, has hardly changed over the past 45 years, despite many £billions of public investments in the transport system justified by the value of journey time savings. What actually happens is that investments that result in increased speed of travel allows us to travel further, to gain access to more distant destinations, opportunities and choices, which are the real benefits experienced by users, not the hypothetical time savings assumed by the economists. Such transport investments lead to changes in land use as people and businesses take advantage of the improved access to land and property capable of better use.

The standard approach to economic appraisal of transport investments is quite narrowly focused and disregards the value implied by changed land use and the geographical distribution of economic activity. The DfT has not required or supported modelling of the land use impacts of transport investment, which has contributed to the failure to value the real benefits of HS2. These might turn out to be quite substantial if the linked cities can take advantage of the modern high-speed connection to London to boost their economies by local investment in property development near to new stations and in urban rail to enlarge the benefits to surrounding districts.

The purpose of HS2, as with any new railway, is to move more people through space, so spatial impacts are what are of interest. The focus of the transport economics profession on time savings has been quite misconceived.

This blog was also published in Transport Times on 13 February 2020