How far New Zealand's land transport funding system has fallen. Part 2: What's wrong?

Nobody can really claim that there is any such thing as a perfect land transport funding system in existence, although elements of systems in different jurisdictions can be seen as better than others. As New Zealand reformed its system in the late 1980s through 1990s a lot of limitations of the previous system were addressed. Before those reforms road maintenance was funded more haphazardly, Governments would pick projects in part based on the electoral advantages seen (at one time the Chairman of the National Roads Board, who was the Minister, made sure his electorate got the projects it wanted), projects were advanced based on the capacity of the Ministry of Works to build, and without a hypothecated roads fund, funding competed with hospitals, schools and other activities.  Some of these are disadvantages seen in other jurisdictions. Australia's federal Government has long funded projects based on Cabinet's assessment of the political advantage of some projects over others. In the United States despite hypothecated roads funds, politicians regularly pick high value, high profile projects to be funded over road maintenance, and the results are seen in many states (although some states are rather good at prioritising maintenance). 

For a while New Zealand looked like it had overcome these two big disadvantages. It had a system that did not struggle to pay for road maintenance, that would fund capital spending after maintenance, based almost entirely on appraising the net economic benefits of proposed works, and although it would be unable to fund all proposals for capital spending, it did mean that high value projects were advanced. While Ministers would send unofficial signals about preferences through board members, this would not be able to get low value projects advanced over high value ones, but rather tinker on the edges. If there were two high value projects at the threshold of funding, then maybe one got preferred over the other, but at a BCR of 5:1, it hardly mattered overall (other than the system ought to have had capacity to fund both with that rate of return).

The genesis of the changes was what was called the "Next Steps" review of the land transport sector at the tail end of the Clark Government.  When the Bill was introduced by Associate Transport Minister Harry Duynhoven he said that merging Transit New Zealand with Land Transport New Zealand would "integrate decision making and improve accountability", quite how was not clear.  Land Transport New Zealand and Transit New Zealand were merged, in part because it was thought there would be efficiencies through "reduced bureaucracy", although a review of the annual reports in 2008 for Transit New Zealand and Land Transport New Zealand for personnel costs, and then 2010 for the NZTA, showed around a 25% increase.

The 2008 personnel budget for the two separate agencies combined was just short of $80m but in 2010 the merged NZTA had personnel costs of just over $100m. While some officials in Treasury superficially thought a single larger bureaucracy is more efficient than several smaller ones, what is forgotten is that the separate of funder and provider generated incentives for better efficiency than combining the roles.

The funding system was previously managed by Land Transport New Zealand (previously Transfund), which would prudently manage the NLTF and although it would accept some direction of priorities, it would warn that it could not fund projects for which there was insufficient revenue from the NLTF, or additional Crown funding, and it would not expand the scope of the NLTP in ways that would generate such a large deficit over subsequent years.  In short, it wanted to be able to spend as much as possible on high value projects, and it also scrutinised administrative budgets for Transit New Zealand (and local authorities for their road and public transport management functions). Transit New Zealand was also aware of this, and knew that it would be held accountable if its proposal for funding was seen to be excessive. Although the merger was intended to include safeguards to ensure accountability, the incentives simply were different.

However, the merger in itself whilst poor public policy was only part of the issue. The creation of the Government Policy Statement (GPS) process to direct funding is where the biggest inefficiencies arise.

The press release on the Next Steps review talked about the state sector being more collaborative and cohesive and delivering value for money, but was unclear how having the Minister dictate what money should be spent on, and how much would be spent on each output class would ensure value for money.  Indeed, it appears to have been obfuscated largely because the reforms were really designed to subvert a system that worked to limit direction of funding to inefficient capital spending. 

So rather than using Crown funding to fund specific lower value projects (which is of course what happened eventually), the NLTF was used to direct funds from higher to lower value activities. 

Instead of having statutorily defined objectives (which were previously to fund a safe and efficient road system), objectives could pivot according to Ministerial preferences.  Since 2008, there have been four distinct versions of this.  Output classes would not be defined by an assessment of how best to prioritise spending of maintenance over capital, and the classes of capital spending based on assessment of proposals from the state highway manager and local government, but based on Ministerial priorities. Finally, a system designed to not fund specific projects, is now able to specify projects that should be given consideration when funding.  

With the GPS changing regularly the effects of this on the efficiency of the system are fairly obvious.

The effects of these changes are palpable and directly responsible for years of deferred maintenance as funds were redirected from maintenance to capital under the previous Government, and more recently generating higher cost inflation as large projects were cancelled and then re-started, but with Crown funding.

Essentially by the late 2010s the scale of political ambition was such that the NLTF could not accommodate funding road maintenance, road capital spending (even on a reduced scale) and large scale public transport infrastructure spending, so the response was to allocate funds from general taxation (Crown funding). 

Indeed it is the scale of Crown funding that is demonstrating how broken the system has become, there is now more Crown funding each year in the NLTP than there was total NLTP funding in 2018. 

The Cabinet Paper for the latest draft Government Policy Statement (PDF) (GPS) indicates that there is now a deficit in the National Land Transport Fund (NLTF) of $5.3b in the next three years for what is called "essential expenditure", being road maintenance, maintaining public transport subsidies and commitments for new works already underway and servicing debt.  The reasons for this are a mix of factors that are largely outside the control of the current government:

• Costs of deferred maintenance that occurred under the previous National Government (a problem which occurred after 1991 when budgets for maintenance were cut severely as part of the "Mother of All Budgets" of Finance Minister Ruth Richardson that year, which was the reason why subsequent years of land transport funding guaranteed 97% of the previous year's revenue to avoid further deferred maintenance);
• Increased interest on debt for PPPs and Crown debt projects (which ought simply to have been factored into forecasts);
• Significant inflation in road construction and maintenance (stated to be 45% over an 18 month period, covering labour and materials);
• Increased weather-related maintenance (including storm damage);
• Downwards revenue projections due to decline economic growth;

and those that are entirely within its control:

• No increase in RUC and FED since September 2020 (despite inflation);
• Increase in the scope of activities to be funded by the NLTF (specifically adding rail and coastal shipping);
• Greater demand for more spending (and a political willingness to respond to that demand);
• Increased political "ambition" to fund resilience, safety and public transport projects;
• A "bow-wave" of approved but delayed projects due to the pandemic.

So the system itself now enables the Minister to defer essential spending on maintenance, to increase demands for spending, including approval for projects for which there is insufficient revenue to fund it, and of course for Cabinet to not approve additional revenue from the motoring taxes that fund most of the National Land Transport Programme (NLTP)

The latest draft GPS notes no fewer than 21 different activities to receive direct Crown funding, including activities that are part of a much wider programme of work (such as the NZUP) and those that are highly specific such as Auckland Light Rail specific planning.  It comes to over $4b in the 2025 year alone. All in all between 22-27% of funding in the NLTP for the first two years of the GPS comes from general taxation.  While it may make sense for NZTA to manage the allocation of those funds, it blurs its overall funding role, which is primarily to allocate funds from the NLTF to maximise value for money against the Government's objectives, but now is also to deliver specific activities for which there is Crown funding.  

There are now more objectives in the draft GPS than before:

• Maintaining and operating the system (which should be without question, it is indicative that it has to be mentioned to be a priority)
• Increasing resilience (there used to be specified emergency works funding to partly address this, but resilience ought to be part of prudent asset management in any case)
• Reducing emissions (noting that unless the number of emissions units available under the Emissions Trading Scheme are also reduced, it can't actually reduce emissions as they become available for purchase for another activity)
• Safety (now defined as making the system substantially safer for all, rather than the previous "zero deaths and serious injuries" objective, which was a copy of similarly fanciful ideas from some European countries)
• Sustainable urban and regional development (which is code for funding alternatives to driving); and
• Integrated freight system (described as "well-designed and operated" transport corridors, although it unclear what any of this means in practice).

Somehow, NZTA is meant to fund to meet all of these objectives, which previously would largely have been delivered through the old system of prioritising road maintenance and public transport subsidies, then funding efficient capital spending (which would include safety, resilience and projects that reduce externalities and travel times).

However, the Minister has also expanded the list of output classes. The land transport funding system used to fund maintenance of state highways and local roads, public transport services, capital improvements and renewals of state highways and local roads and public transport infrastructure. Walking and cycling improvements appeared around 20 years ago, but in more recent years coastal shipping, rail (which means rail infrastructure not public transport) and now inter-regional public transport (which means rail, as there is nearly zero chance of inter-regional bus, ferry or air services being funded).  

Reforms only three years ago now mean that Kiwirail pays Track User Charges into the NLTF, set at a rate well below the marginal cost of maintaining the rail network. Then NZTA funds Kiwirail to maintain and upgrade its track infrastructure, in part funded from the NLTF (not separating out revenue from Track User Charges from revenue from motorists) and in part from the Crown.  This accounting exercise seems to deliver little public policy purpose. It does not create a "level playing field" because Track User Charges are not set on the same basis as Road User Charges, but it also does not incentivise Kiwirail to provide access to its network on easier terms, because the funding it gets from the NLTP is not directly dependent on Track User Charge revenue.

Of course the Minister has also specified the upper and lower bounds of spending by output class, which itself adds to the inefficiency of spending. Some of those ranges are enormous. In 2026/27 funding for rail could be anywhere between $180m and $620m, but coastal shipping has only a range of $5m. Public transport infrastructure could be $520m or $1.01b.  While all of this allows some funding to vary across output classes, it is likely to be more efficient to give an indicative number and leave it to NZTA to decide how best to spend available funds against the objectives.

There are other objectives though.  Following on from the Roads of National Significance of the previous National Government, is the new Strategic Investment Programme, which is a wishlist of projects which NZTA should give "particular consideration" of their "strategic importance" in NLTP development.  The Minister having already decided that these projects will contribute to the Government's strategic objectives.

In short, it is a wishlist of politically defined projects to be advanced regardless of their actual relative net benefits.

So New Zealand now has a funding system characterised by:

• A crisis in funding of road maintenance
• Regularly changing objectives according to political whim
• An ever growing and changing list of output classes according to political whim (with funding moved between them every few years, in part to reflect changing political optics)
• Funding levels by output classes to meet the political ambitions of having such output classes in the first place (see "inter-regional public transport" which literally means two trains (Hamilton-Auckland and Palmerston North-Wellington)
• A wishlist of projects of mixed value which are basically expected to be funded.

It also continues with key flaws identified in the 1990s. These include:

• Most capital funded from cashflow (although a proportion is now debt funded);
• Poor capacity to fund large capital works (unless funded directly from general taxation or borrowing on a case by case basis);
• Little incentive to achieve economies of scale in road maintenance and operations through consolidation of the over 60 road controlling authorities;
• Next to no pricing signals on road use (largely confined to the structure of Road User Charges encouraging use of heavy vehicles with additional axles) and little prospect of better price signals in the next three years;
• Little scope for the inputs of users and their preferences to be taken into account in funding decisions;
• Local government road improvements heavily constrained by the need for significant ratepayer funding (but not for walking and cycling improvements which can receive up to 90% financial support which conversely risks development of proposals with little local authority accountability for performance);
• Limited scope for innovation in delivery and operations.

If the Government changes after the general election, expect a completely different GPS. Presumably it might look more like the ones produced under the Key Government, which prioritised productivity and economic growth, and would further restructure output classes and funding levels, and a different set of priority projects.  However the system will remain unstable, in that much funding will come from the Crown.  There will remain poor incentives for efficiencies at NZTA and local government levels, and limited scrutiny of the net benefits of strategic projects.  Furthermore, another six or nine years later, it could all be altered again (if not in three years) as Ministers and Governments change, and the political winds shift towards new priorities (and funding swiftly cut from old ones).

It is a system that treats motorists as simply revenue sources, not as customers who might expect a basic level of service for what they pay for. It treats the suppliers of roads (NZTA and local government) as essentially bureaucracies that provide what they think road users should receive, and the link between what motorists pay and what they get has become increasingly blurred as the NLTF revenue is outstripped by demand. Is user pays no longer seen as important in road funding? It certainly appears to have been significantly eroded for rail funding.

The funding system does not incentivise efficiencies in maintenance or construction, let along usage of the network, and rather treats road user's taxes as a fund to be used according to political whim, and to be topped up by general taxes as it all gets too hard. Ironically, road spending has not been so heavily subsidised by general tax revenue for decades, given the Government's goals of reducing road transport. 

New Zealand has had three main land transport funding models in the past thirty years:

• Integrated state highway manager and land transport funder, with a National Land Transport Programme guaranteed at 97% of the previous year's funding, with the rest approved by the Minister each year
• Independent funding agency, with fully hypothecated fund determining total funding availability and no direct political input into funding decisions
• Integrated state highway manager and land transport funder and regulatory authority, with three year funding cycles defined by Ministerial objectives, output classes and strategic priorities, with Crown funding topping up a wide range of programmes.

However what should be done by whatever government is elected in October?  How can the land transport funding system be made more sustainable, be made more responsive to the needs and wants of users, and incentivise value for money, as well as enabling high quality capital spending to proceed?  How can long term ambitions for the development of land transport networks be met, without skewing capital spending away from high value projects in the short term?

How far New Zealand's land transport funding system has fallen. Part 1: Where has it come from?  

How far New Zealand's land transport funding system has fallen. Part 3: What could fix it?