E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

CONSULTANCY REPORT TO THE MELBOURNE CITY LINK AUTHORITY

APRIL 1996

The Economic Impact of Melbourne City Link Transurban Project

The Allen Consulting Group Pty Ltd John B Cox Centre of Policy Studies

i E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

The Allen Consulting Group Pty Ltd 4th Floor, 128 Exhibition Street Melbourne VIC 3000 Telephone 03 9654 3800 Facsimile 03 9654 6363 ACN 007 061 930

ii E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Table of Contents

The Economic Impact of Melbourne City Link: Transurban Project Executive Summary i Chapter 1 City Link 1 1.1 This Study 1

1.2 The City Link Project 3

1.3 The Economic Significance of City Link 8

1.4 Review of the Methodology 9

Chapter 2 The Direct Impacts of City Link 11 2.1 The Benefits 11

2.2 Economic Evaluation 13

2.3 Impact of Direct Benefits Across Victorian Industries 15

Chapter 3: The Wider Economic Benefits 19 3.1 What Kinds of Wider Benefits? 19

3.2 Modelling the Benefits 20

3.3 Results for the Construction Phase with National Employment Unaffected 24

3.4 The Construction Phase With a Slack National Labour Market 29

3.5 The Operational Phase 33

3.6 Welfare Effects 39

3.7 Non-Modelled Wider Benefits 43

Appendix AThe Structure of MMRF 44 Appendix B Modelling Road Construction in MMRF 49 Appendix C Interest Payments and Trade Balances 51 References 52

iii E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

iv E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Executive Summary The Economic Impact of Melbourne City Link: Transurban Project

Introduction

This is an assessment of the economic impacts of the Melbourne City Link project. The assessment refers to the project by Transurban, the winning bidders. This assessment uses the same methodology as that used in our earlier report The Economic Impact of Melbourne City Link. However, our earlier report was based on an assessment of the project prior to determination of Transurban's route and assumed Government financing of the project.

Thus, this report and the earlier report are not comparable. There are a number of significant differences between the underlying physical projects, particularly with the longer Burnley tunnel for eastbound traffic; the Transurban project includes a number of significant environmental enhancements (e.g. noise walls to a higher standard of noise protection, upgrading parts of Moonee Ponds Creek and extensive landscaping of Grant Street); and the inclusion of additional pedestrian and bicycle paths. (Details on the differences are outlined in Chapter One.) Additionally, the traffic models underlying the economic evaluations in the two reports are also significantly different.

Significantly, the first report should be seen as a hypothetical case study only, as government financing of City Link is not a feasible option. The only realistic option to achieve the project is through private sector financing; City Link will be financed through the collection of tolls. Even if the effect of the tolls is to reduce the net economic benefit as a result of toll diversion, private sector financing will enable the economic benefits to be brought forward. City Link: How It Will Impact the Economy

In this report we analyse both the direct benefits of City Link and its wider economic benefits. The direct benefits are examined through a traditional analysis of the project's benefits and costs. We find that the discounted stream of the benefits to year 2030–31 to be just over twice the size of the discounted stream of costs. The wider benefits are calculated using the MONASH–MRF macroeconomic model. We find that, because City Link will lead to permanent cost savings to Victorian businesses which use the road transportation system, it will permanently benefit the Victorian and Australian economies.

City Link is a major infrastructure project involving expenditure of $1.5 billion in 1993 dollars over the years 1995–96 to 1999–2000. Between 6,000 and 8,000 jobs will be generated in Victoria for this construction phase.

These economic impacts from the construction phase, though substantial, are essentially once–off: the main benefits will be felt once the project is in full operation.

The potential for large benefits from City Link derives from the fact that the project will link three high–capacity freeways which are presently disconnected. The benefits of the linkage will be in terms of significantly decreased travel times, particularly around the CBD; lower vehicle operating costs and accident rates; also the mix of the truck freight fleet will shift to

i E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT include more larger, more efficient types. Off–road benefits will accrue across industries, particularly in lower inventory holding costs.

Consumers will benefit in lower prices for a wide range of goods and services with a direct or indirect freight or business/service travel component, as well as enjoying lower private travel times. The Direct Benefits of City Link in Operation: Lower Travel Times, Lower Vehicle Operating Costs and Accident Rates; A More Efficient Fleet Mix and Off–Road Cost Savings

Traffic flow modelling shows that the construction of the Melbourne City Link will lead to a significant increase in average travel speeds in the inner city area —particularly, of course, to the south and west of the CBD where the new bypasses will be constructed. This will bring travel time savings of approximately $118 million (in 1993 dollars) in 2000–01, the first full year of operation.

There will be a reduction in vehicle operating costs of over $3 million per year in that year, due to lower fuel, tyre and vehicle maintenance costs.

The new road system will lead to fewer accidents per unit of travel and lower costs per accident. This will lead to accident cost savings of $13 million per year in 2000–01.

Overseas evidence shows that as the percentage of total travel that occurs on freeways increases, so does the proportion of articulated trucks in the truck fleet on the road system.

The construction of City Link should therefore lead to proportionately more articulated trucks travelling on it. Because articulated trucks have a significantly lower freight carrying cost than rigid trucks, this change in the truck fleet mix will bring freight savings estimated to be over $50 million per year in 2000–01.

City Link will also bring off–road benefits including increased efficiency of warehousing operations, improved links between industrial zones in the Melbourne metropolitan area, and more flexible labour markets, as there will be easier access from those parts of Melbourne with high unemployment (the north and west) to areas where job growth is strongest (the south and east). These off–road benefits, primarily lower inventory holdings costs, are expected to be over $40 million per year in 2000–01. Total Direct Benefits and How the Community will Share these Benefits

Total benefits in 2000–1 in all these categories will be $228 million. The discounted future stream of City Link's benefits and costs implies a Net Present Value of $1,285 million and a benefit cost ratio of 2.04.

The industries which will directly benefit most from City Link are Domestic Trade (shops, warehouses etc), which will gain almost one–quarter per cent of the total benefits, Construction (one–sixth) and Manufacturing (almost one–sixth). Because of their dominance in the economy, and their heavy use of business travel (sales, service personnel etc) and light commercial vehicle services (couriers etc) the service sector as such, and service activities in all industries, will be big winners from City Link.

In addition to private travel time savings, Victorian consumers will benefit in terms of prices lower than they would otherwise have been for a wide range of goods and services, and Australians outside Victoria will also share in the benefits in this way.

ii E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Modelling the Flow of Benefits through the Wider Economy

Macroeconomic modelling is a very useful supplement to the traditional analysis of direct benefits and costs. This modelling reveals the impact on major categories of expenditure (consumption, investment, exports and imports), national and State, on employment, prices and many other economic variables. The Construction Phase

During the construction phase of the project, over the second half of the 1990s, it can be expected that the economy will be operating at high levels in some years; the project should not significantly affect total employment nationally in such years. In other years, the national labour market will be relatively slack. Both cases have been modelled.

In either case Victorian employment will certainly increase due to the project, through variations to future interstate migration of labour. Victorian employment will rise by 0.31 or 0.41 per cent in the two cases, that is by 6000 to 8000 jobs, and Australian employment by either zero or 0.16 per cent (i.e. up to 12000 jobs).

Australian GDP will either fall by an extremely small amount (less than 0.01 per cent), i.e. be essentially unchanged, or rise by 0.15 per cent (i.e. around $670 million). Victoria's GSP will rise by 0.27 or 0.37 per cent (i.e. around $310 million to $410 million)—all changes being relative to future levels that would otherwise be achieved. The Operating Phase

The benefits of the construction phase, substantial as they are, are essentially once–off. The benefits of the operating phase, over and above the servicing costs of the finance of the project (depending on the extent to which it is ultimately financed by domestic saving rather than foreign borrowing) are permanent—the main economic impact.

Australian GDP will be permanently higher by about 0.06 per cent (i.e. around $270 million annually), and Victorian GSP by even more: by about 0.3 per cent of State output or $340 million annually in the ongoing operating phase of the project. Moreover, while it cannot be assumed that there will be any long–run effect on total national employment, Victoria's employment will be permanently raised by about 0.1 per cent—i.e. by around 2000 jobs.

Significant ongoing gains will flow to the State's budget and ability to finance public expenditures, and private consumption per capita in the State will be 0.2 per cent higher, with Victorian prices (GSP deflator) more than 0.1 per cent lower—assuming an unaffected national price level. The Overall Balance Sheet: Effects on National Economic Welfare

The macroeconomic modelling (taking the case of unaffected national employment for the construction phase) suggests discounted net benefits from the project, measured in dollars of the year 2000–01 after the project is completed, of approximately:

• $809 million attributable to the construction phase; • $298 million attributable to the operational phase; and • $1107 million in total (0.16 per cent of one year's total Australian GDP).

iii E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT These estimates match quite closely the measures derived from the direct cost–benefit analysis, after allowing for the terms of trade effects linked to the ultimate use of additional foreign savings as part of the project's finance (an impact included in the macroeconomic analysis but not the benefit cost analysis).

iv E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Summary

The benefits of Melbourne City Link are summarised in Table 1.1.

TABLE 1.1 SUMMARY OF THE BENEFITS OF MELBOURNE CITY LINK

Direct Benefits1 Operating Phase Travel Time Savings $118 million p.a. Reduced Vehicle Operating Costs $3 million " " Accident Cost Savings $13 million " " Fleet Mix Savings $51 million " " Off Road Benefits $51 million " "

TOTAL $228 million p.a.

Benefit Cost Ratio 2.0

Net Present Value NPV of Project Benefits and Costs $1.3 billion

Economic Benefits Construction Phase Employment in Victoria extra 6,000 to 8,000 jobs Employment in Australia up to 12,000 extra jobs Output in Victoria2 up by $310–$410 million p.a. Output in Australia2 increase up to $670 million p.a.

Operating Phase Employment in Victoria extra 2,000 jobs Output in Victoria3 increase by $340 million Output in Australia3 increase by $270 million

Other Benefits Enhanced Property Values $25–$30 million Conservation of State's borrowing capacity

Notes: 1. In 2000–01, 1993 dollars. 2. In 1993 dollars. 3. In 2000–01, 1993 dollars.

v E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

Chapter 1 City Link

1.1 This Study

This study reports an economic evaluation of the Melbourne City Link project, to be built by the consortium Transurban, which will link three of Melbourne's major traffic arterials. The project is described in Section 1.2 below.

This report follows from our earlier report1 which examined the City Link Project (the 'reference case') before final decisions were made on which of the proposals to undertake the project, put forward by the two bidding consortia, would be preferred. Although the results of the analysis contained in this and the earlier report are not comparable, both reports use the same methodology, the details of which are contained in the earlier report.

In this report, we repeat the economic evaluation made earlier, but this time based on the details of the actual Transurban project, including the economic effects of the proposed tolling regime. Financing City Link through tolls has little effect on the way we conduct the cost–benefit analysis, but, because the tolls will lead to somewhat less traffic using the freeway than would be the case in the absence of tolls, it does affect the results of the cost– benefit analysis, and may increase or decrease the total project benefits.

The cost benefit analysis undertaken in this report also includes a number of substantial improvements to the project that were not assessed in the first study. These include:

• the long east bound tunnel to Burnley replacing a short tunnel option; • the relocation of the Lorimer Street exit ramp; • the construction of the weaving lane on the West Gate Freeway between Western Link 2 and Montague Street for city bound traffic; • additional widening on the South Eastern Arterial to convert the entry ramp at Punt Road from one lane to two lanes; • widening on Punt Road between Swan Street and the entrance to the South Eastern Arterial; • replacement of the Gibdon Street and Yarra Boulevard overpasses;

• improved intersections, e.g. at Racecourse Road; • structural enhancements to the existing bridges to be incorporated into the Link. • retention of the Upfield Railway line; • a higher standard of noise attenuation throughout the project to ensure that the standard of 63dBA (L1018 hour) is achieved, including the sound tube in the vicinity of the Debney Park housing estate;

1 Allen Consulting Group, John B Cox and Centre of Policy Studies, The Economic Impact of Melbourne City Link, Report to the Melbourne City Link Authority, May 1995. 1 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT • the lidding of Grant Street; • the provision of the Gateway at Flemington Road; • the Gateway on the Yarra River Bridge; • the provision of continuous bicycle and pedestrian paths, including a floating pontoon section between Church Street and Morell Bridge and the overpass at Flemington Road; • the higher standard of landscaping applied at the South Bank interchange; the portal near Gosch's Paddock; the portal at Burnley and also at the three air ventilation stations;

Apart from the fact that the projects assessed in each report are substantially different, the traffic modelling underlying the economic evaluation of the reference and Transurban cases is also substantially different. The reference case analysis consisted of:

• road networks(base and project) as specified by VicRoads; • a 2001 total traffic demand pattern also supplied by VicRoads; • a 2001 commercial vehicle travel demand pattern derived by Veitch Lister Consulting Pty Ltd for the Scoresby Corridor Project; and • using the above as inputs to the VLC–TRANSCEND travel forecasting package to produce estimates of project benefits.

In contrast, the Transurban project case consists of:

• a 2011 network constructed by Veitch Lister Consulting Pty Ltd based on the original VicRoads network but also including major changes to the inner-city road network and a number of other major projects deemed to have been completed by 2011 (e.g. F2 freeway, Scoresby Freeway, Mornington Peninsular Freeway); and • 2011 total travel and commercial vehicle travel demand patterns derived specifically by VLC for the City Link Project.

Thus the cases (reference and Transurban) are not directly compatible in terms of network specifications, travel demand estimates or time horizons. This means that the economic evaluations contained in the two reports cannot be meaningfully compared, as they would not be 'like–for–like' comparisons. Benefits of City Link

City Link has strongly beneficial effects, with the economic benefits twice as large as the costs. We find that, when it is fully operational, City Link will lead to a permanent increase in Victoria's Gross State Product (GSP) of 0.3 per cent, or about $340 million, in 1993 prices. Employment will be permanently increased by about 0.1 per cent. 2

2 These and other calculations in this report are derived from data provided to us by the Melbourne City Link Authority on how the project will affect travel times, vehicle operating costs and accident costs. These data are in turn derived from engineering estimates of how City Link will affect traffic flows in Melbourne. The modelling of the traffic flow effects was undertaken for the Authority by the engineering firm Veitch Lister. We take as given the results of the modelling of those traffic flow effects, as provided to us by the Authority. 2 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT The construction of City Link will significantly add to economic activity in Victoria. During the construction phase of the project (between now and the end of the decade), there will be an increase of between 6000 and 8000 jobs in Victoria.3

1.2 The City Link Project

Melbourne City Link

City Link is an infrastructure project designed to improve transport links to-and-from and within the Melbourne area. It is expected to be completed in the year 1999–2000. Total expenditure on the construction of City Link, between 1995–96 and 1999–2000, is expected to be $1.5 billion dollars (in 1993 prices), which is, in total, about 1.4 per cent of Victorian annual Gross State Product (GSP).4

When the project is operational, it is anticipated that the City Link will yield significant economic benefits in the form of cost savings to industry and households. Victoria's industries will benefit via reduced costs of transportation and general cost reductions associated with more efficient logistics (for example, with more efficient freight and courier networks, industry can economise on inventories). Consumers will gain through lower prices of goods and services and via savings in time they spend on road travel.

3 This is more than was estimated for the reference case (4,000 to 5,000 jobs) for two reasons: capital expenditure on City Link is now expected to be $1.5 billion (in 1993 prices) compared with $1.2 billion in the reference case, and the construction is now expected to occur over five financial years rather than six. 4 In 1993–94 Victoria's GSP was about $109 billion, in 1993 prices. Source: ABS Australian Economic Indicators, ABS Cat. No. 1350.0, April 1995. 3 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

FIGURE 1.1 LACK OF LINKAGE IN AUSTRALIA’S MAJOR URBAN ROAD SYSTEMS C.F. OVERSEAS EXAMPLES

Μ Melbourne

Brisbane Sydney

Singapore San Francisco Toronto

Source: The Allen Consulting Group (1993).

4 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Melbourne: A National Centre for Manufacturing and Services

The Melbourne area is the largest manufacturing centre in Australia and is a major warehousing and distribution centre for many national companies. The CBD in particular, and many other centres in the metropolitan area, are also home to a wide range of service sector industries as well as service activities within all industries.

Melbourne contains 80 per cent of Victoria's manufacturing establishments, generates 79 per cent of Victoria's employment and contributes 86 per cent of the State's production of goods and services. Melbourne is consequently the most important centre in Australia for freight handling and is the national leader in the number of interstate movements in road, rail, sea and air. Melbourne also has the largest inter-urban road freight movements of any capital city in Australia.

Along with freight movements, the functioning of the economy of the urban area involves an enormous volume of business passenger travel (e.g. sales and service staff etc) and light commercial travel. Importance of Efficient Transportation to the Urban Economy

It is clear, therefore, that the efficiency of the transportation system in the metropolitan area is critical to the performance of the Victorian economy. While Melbourne has a number of high–capacity freeways and arterials, they are not well connected to each other—something which is true also of the systems of major roads in other Australian capitals, by contrast with the well connected systems in many cities in competitor countries. The stylised maps of city road systems depicted in Figure 1.1 highlight the point.

This lack of linkage of major roadways means that the benefits that freeways can bring— faster travel times, reduced accident rates, lower vehicle operating costs etc, for both commercial and private traffic—have not been realised to their full potential. The City Link project will connect and upgrade three of Melbourne's most important freeways and arterials, the South Eastern Arterial, the West Gate Freeway and the Tullamarine Freeway, and in so doing bring benefits far in excess of the costs of the project. The Project

The City Link Project is in three parts:

• The Southern Link, which will comprise a six–lane freeway link between the West Gate Freeway and the South Eastern Arterial involving the construction of two tunnels under the Kings Domain and the Yarra river. The tunnels will have common portal at the western end near the intersection of Sturt Street and Grant Street, South Melbourne but will diverge under the Domain. • As part of the Southern Link, the South Eastern Arterial will also be upgraded and widened to six lanes from west of Toorak Road to the portal of the Burnley tunnel. From Burnley to the Domain tunnel there will be three lanes for west–bound traffic, and from Punt Road to Burnley there will be two lanes for east–bond traffic. • The Western Link, which will involve the upgrading and widening of the Tullamarine Freeway to eight lanes between Bulla Road and Flemington Road, and the construction of a new six–lane freeway–standard road from the city end of the Tullamarine Freeway to the West Gate Freeway.

5 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT A map of the project is shown on the following page. This map shows the tolls, by section, for a private vehicle making a single trip. The maximum toll for a single trip will be $3.00. 5 How the Project Will Improve Traffic Flow

Major traffic generators are currently concentrated in the city area—the central business district, major sports and entertainment facilities, and the port and rail facilities to the city's west. There is, moreover, no alternative route for traffic coming into this central area from the industrial regions in the south-east, west and north because of the radial nature of Melbourne's freeway system. Over 50 per cent of the traffic in the CBD is traversing this district and has no reason to be there.6 The efficiency of road travel is therefore quite low in this urban core as average travel speeds have decreased to nearly 20 km/h despite major improvements like those to Punt Road.7 The City Link Project will dramatically improve the efficiency of travel within central Melbourne as well as bringing greater connectivity to diverse economic areas in the south-east, west and north of the city. The Nature of the Benefits

Generally, the direct benefits of City Link will be reflected in reduced travel times, reductions in vehicle operating costs, fewer accidents, and efficiency gains in the transportation and other industries. More specifically, some (but certainly not all) of the major economic benefits of the City Link project are listed in Table 1.2.

TABLE 1.2 SOME MAJOR ECONOMIC BENEFITS FROM CITY LINK

Improved access for expanding industries in the south and east to the transport centres in the west, and to the national highway network and rail, airport and port facilities.

Improved deliveries between industries in the south-east and those in the western and Geelong industrial areas.

Improved access to job markets for people who must commute across the city

Improved vehicle utilisation (more trips per day) for business vehicles servicing the CBD and the transport hub area.

Better services to businesses due to quicker, more frequent and more reliable deliveries.

The use of larger vehicles because of the improved standard of roads, which may lower relevant freight costs by up to 30 per cent.

Changes in manufacturing processes which will need less inventory on hand and evolve towards just-in-time manufacturing procedures.

Fewer warehouses and stock levels due to a more efficient road transport system.

Better communications between CBD and outer urban businesses due to quicker, more frequent courier services.

5 This is in March quarter 1995 prices. The actual tolls, when City Link is operational, will be set by Transurban. However, the actual tolls in a particular quarter cannot exceed the tolls in the same quarter one year earlier by more than 2.5 per cent in real terms. Light commercial vehicles will pay 1.6 times the private toll, heavy commercial vehicles 1.9 times, and motor cycles one half. The maximum toll for commercial vehicles will be $4.00 for travel between 6 a.m. and 8 p.m. and $3.00 at other times. 6 Victorian Department of Transport (1991), Central Area Transport Strategy, March 1991. 7 Williams, P. J., Swanston Street Closure Travel Time Surveys, RACV, 1992. 6 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

Figure 1.2 Map

7 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT City Link will also yield some significant environmental benefits. Congestion levels will fall, as traffic is diverted from the urban street system to the freeways. Traffic noise levels will also decrease. In addition, the project involves the construction of extensive noise walls to provide surrounding areas with further protection from traffic noise. There will also be environmental benefits from the upgrading of the Moonee Ponds Creek, the establishment of a lake near the intersection of the Tullamarine Freeway and Flemington Road, and the construction of additional pedestrian and bicycle paths.

1.3 The Economic Significance of City Link

Impact of the Construction Phase

City Link is in national terms a major infrastructure project, and certainly one of the largest in Victorian history. In 1993 prices, about $1.5 billion will be spent on construction alone over the period, 1995–96 to 1999–2000. Between 6,000 and 8,000 jobs will be created during the construction phase of the project, not just in the construction industry, but throughout the State economy. New orders will be placed with manufacturers of road building machinery, with suppliers of petroleum, coal products, concrete products and other inputs into road building.

New employment will also result in the service sector of the economy, as accountants, surveyors, lawyers and other service providers undertake work generated either directly or indirectly by the City Link Project. Overall, the Victorian economy will receive a large and needed boost. Although Victoria has over the past two years broadly matched the rate of recovery of the rest of Australia from the recession, it still has a relatively high unemployment rate. Permanent Benefits from the Operating Phase

The lift to the Victorian economy during the construction phase, welcome though it will be, is essentially a once–off boost. The major benefits to Victoria will come in the operating phase, and will be permanent benefits. This is a vital point, which cannot be overemphasised. Virtually any major spending project can bring temporary benefits to an economy. However, an infrastructure project whose underlying economics are poor will leave a lasting legacy of net servicing and other costs exceeding its benefits, and which may come to outweigh greatly the temporary benefits from its construction phase—the Ord River Scheme is a famous example. Conversely, where the ongoing future benefits exceed the costs, an infrastructure project will bring permanent economic gains. These will show up as increases in productivity (or lower real costs) throughout the economy—both for its users directly, and indirectly for many other industries and their consumers.

City Link is in the latter category. The benefits flowing from it will permanently enhance the competitiveness of Victorian businesses, and by lifting productivity and reducing real costs and prices, the living standards of all Victorians.

The achievement of a significant more efficient road transportation system will not only improve the competitiveness of industries traditional to Victoria, such as in the manufacturing sector, but will enhance the development of new industries, such as in the modern service sector, which would otherwise be inhibited in developing.

There will also be national benefits, and not simply because Victoria represents about 25 per cent of the national economy. The economic links between Victoria and the rest of Australia

8 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT will ensure that the benefits will be felt throughout the country, even though they will be concentrated in Victoria.

1.4 Review of the Methodology

As mentioned, our May 1995 Report on the reference case contained a detailed description of how we calculate the economic effects of the project. Here we briefly describe this methodology. The Direct Impact of City Link

This is a traditional, 'partial–equilibrium' calculation in which the discounted stream of benefits is compared with the discounted stream of costs to evaluate the net present value of the project. A positive value indicates that the project is economically worthwhile i.e. the social returns from the City Link project exceed the value of the resources used in its construction and operation.

In making this calculation, we identify five types of benefits:

• time benefits, gained from the freer and faster flow of traffic in Melbourne; • vehicle operating cost savings, due to lower fuel, tyre and vehicle maintenance costs from travel being transferred from stop–start arterials to free–flowing tollways; • accident benefits, which result from the lower number of accidents on the tollways per unit of travel and the lower cost per accident; • fleet mix benefits, resulting from a change in the composition of the truck fleet away from rigid and towards articulated trucks, which will result in reductions in the cost of handling freight; and • off road benefits, such as increased efficiency of warehousing operations, better links between the industrial zones of the Melbourne metropolitan areas and more flexible labour markets as the high unemployment areas in the north and west of Melbourne will be better connected to the south and east, where most of the job growth is occurring.

These benefits (first subtracting time benefits accruing to private users) are then split amongst eleven industries on the basis of relative kilometres travelled by business cars and trucks in each industry, and relative travel costs. The Wider Economic Benefits

While the direct economic benefits of City link are of interest in themselves, also of interest are the wider benefits of the project to the Victorian and Australian economies. That is, how will the project affect Gross State (National) Product, employment, prices, the trade balance and other variables of economic interest?

To answer this question, we use the MONASH Multi Regional model of the Victorian and Australian economies (MONASH MRF or MMRF). This is a multi–regional and multi– sectoral computable general equilibrium model of the Australian economy. A summary description of MMRF is provided in Appendix A.

We compute the wider economic benefits in two phases. The first is the construction phase, where the expenditure on City Link is treated in a model as a positive shock to aggregate demand in the economy (or more particularly, to the industries supplying the inputs to the

9 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT construction). This shock affects demand, supply and prices throughout the economy, and the model calculates the new equilibrium (that is, when the effects of the shock are fully dissipated) with resultant changes in production, prices and other economic variables.

The construction phase is modelled using each of two scenarios. Under the first scenario, total employment in Australia is assumed to be fixed, and the spending shock just redistributes employment between the States (mainly toward Victoria, as it turns out). That is, under the first scenario, national full employment is assumed, and the shock is allowed to affect real wages.

Under the second scenario, the spending shock is allowed to increase national employment, and real wages are assumed to be fixed. The City Link project therefore imparts a traditional Keynesian stimulus to the economy.

Which of these scenarios is likely to be more realistic during the construction phase will depend on the state of the national economy at the time. It is beyond the scope of this report to estimate the Australian business cycle over the next five years—it will probably exhibit the usual mixture of recession and boom, though in precisely what proportions is difficult to say. Our two scenarios represent the upper and lower bounds of what is likely to happen, with reality somewhere between these bounds.

The second phase of the modelling involves a calculation of the wider benefits during the operational phase of City Link. Unlike the construction phase, these benefits are assumed to last forever (or at least for the life of the road). To model these permanent benefits, the direct industry benefits referred to above are interpreted as positive productivity shocks. A new equilibrium is then computed. Because these are permanent shocks, we compute this equilibrium under the assumption of national full employment. (It is reasonable to assume that economies can be at less than full employment for some time—say three or four years— but not forever.)

Finally, we compute a formal measure of the effects of City Link on social welfare, based on changes in consumption, less the capital servicing costs of the project.

10 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Chapter 2 The Direct Impacts of City Link

2.1 The Benefits

In this section we outline the direct benefits of City Link project. These are based on traffic modelling undertaken for City Link Authority by the engineering firm Veitch Lister. This modelling includes estimates of the diversionary effect of the tolls which will be used to finance the project. Travel Time Benefits

The travel times, in terms of vehicle hours per day, for freeway and arterial traffic of the project are given in Table 2.1. These are compared to the base case i.e. the case where City Link is not built.8

TABLE 2.1 DAILY VEHICLE HOURS (Year 2011, Thousands)

Base case Project Case Project minus Base Freeway Private 229 236 7 Commercial 97 95 -2 Total 326 331 5

Arterial Private 1,348 1,320 -28 Commercial 453 446 -7 Total 1,801 1,766 -35

Grand total 2,127 2,097 -30 Source: Veitch Lister Pty Ltd, for Melbourne City Link Authority

As Table 2.1 shows, the City Link project will result in about 30,000 fewer travelling hours than would be the case if it were not built. Total travel times on the freeway will increase by 5,000 hours due to a greater volume of traffic. However, this is more than offset by a large reduction in travel times on arterial roads (35,000 hours), as the composition of the traffic is more heavily weighted towards the freeways. (It is sometimes argued, against building freeways, that they generate traffic, and that this defeats their purpose. This argument misses the point that the very reason for projects like City Link is to move traffic off other arterial and local roads and onto the freeways. There is little evidence that providing freeways greatly changes total traffic in the overall catchment area.)

Based on a value of time of $19.15 per hour9, we estimate that these reductions in travel times will lead to (annual) savings of around $187 million in 2011–12.

8 These are for the year 2011, which was the typical year of operation for the project chosen for the traffic modelling. However, for our purposes, the particular year chosen is not important. 11 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Savings on Vehicle Operating Costs

Table 2.2 shows vehicle operating costs for the base and project cases.

TABLE 2.2 DAILY VEHICLE OPERATING COSTS (Year 2011, $'000)

Base case Project Case Project minus Base Freeway Private 3,749 3,930 181 Commercial 1,497 1,498 1 Total 5,247 5,428 182

Arterial Private 14,299 14,117 -182 Commercial 4,572 4,560 -12 Total 18,872 18,678 -194

Grand total 24,119 24,106 -13 Source: Veitch Lister Pty Ltd, for Melbourne City Link Authority

Daily vehicle operating costs will increase on the freeways (because of the increased traffic) by $182,000 but decrease on arterial roads, by $194,000. Total annual savings amount to around $4.3 million. Savings on Accident Costs

Table 2.3 shows impacts on accident costs.

TABLE 2.3 DAILY ACCIDENT COSTS (Year 2011 $'000)

Base case Project Case Project minus Base Freeway 547 566 19 Arterial 5,857 5,799 -59 Total 6,404 5,864 -39 Source: Veitch Lister Pty Ltd, for Melbourne City Link Authority

Daily accident costs will increase by $19,000 on the freeways (because of the increased traffic) but decrease by $59,000 on arterial roads. Annual savings on accident costs amount to $13 million. Fleet Mix Benefits

We estimate that City Link will lead to an increase in the proportion of freight carried by articulated trucks from 27 per cent to 28.6 per cent in 2011.10 Table 2.4 shows the estimated total freight costs, and its distribution between rigid and articulated trucks.

9 See Allen Consulting Group et al, The Economic Impact of City Link, May 1995, pp 21-22 for a discussion of how this figure is derived. 10 ibid, pp 25–27 for a detailed explanation of how increased freeway travel increases the proportion of freight carried by articulated trucks, and the consequent effects on freight costs. 12 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 2.4 ESTIMATED FREIGHT COSTS IN 2011 UNDER PROJECT CASE

Travel Share Travel Freight Freight Cost 2011 (%) (MVKT) (t–km) Articulated 28.6 618 8,101 964 Rigid 71.4 1,544 7,721 2,370 Total 100 2,163 15,822 3,334 Source: ACG analysis

Total freight costs with City Link are $3334 million. Without City Link, they are estimated to be $3394 million (based on an extrapolation of 1991 costs, but including the changes in fleet mix which would occur anyway in the absence of City Link). Fleet mix savings are estimated at $60 million. Off–Road Benefits

As we explained in our earlier report, these are the most difficult to calculate. We estimate that these amount to 20 per cent of the other benefits (in 2011), which is conservative. The resulting dollar estimate on this basis is $52 million.

2.2 Economic Evaluation

The economic evaluation involves a projection of costs and benefits over the analysis period being considered and discounting this stream back to present values using an appropriate discount rate. We use a discount rate of 8 per cent, as recommended for general public sector project evaluation use in Department of Finance (1991) and based on a 5 per cent risk free cost of capital and a 3 per cent allowance for risk.11

The time distribution of capital construction costs, and both routine and periodic maintenance costs (including the tolling equipment) are those supplied by the City Link Authority. The streams of benefits for each component of benefits are calculated from the estimated benefits in the year 2011, as indicated below:

• Time benefits grow at 4.25 per cent per year.

• Accident benefits are assumed to be constant, with a 2 per cent increase in travel being balanced by an assumed 2 per cent decrease in the rate of major accidents.

• The VOC benefits are assumed to increase at the same 2 per cent average increase in overall traffic growth rates.

• The technology (fleet mix) benefits due to improvements in freight productivity are assumed to increase at the conservative rate of 1.5 per cent.

• The off road benefits are assumed to grow at the same rate as overall traffic growth rates of 2 per cent.

The streams of benefits and costs are given in Table 2.5.

11 We believe use of this discount rate is conservative for this type of project. The overall benefits from infrastructure projects such as City Link are not very sensitive to the economic cycle (i.e. they have low risk or "beta"), implying a lower rate (around 6 per cent real) could be justified— see The Allen Consulting Group (1994). Thus use of the 8 per cent rate makes our NPV results if anything conservative on this score. 13 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 2.5 BENEFIT–COST ANALYSIS (IN 1993 $MILLIONS)

Benefits Year Year Capital Periodic Total Time Accid– VOC Fleet Off-Road Total Benefits- # Cost Mainten– Costs ents Mix Costs ance 1 1995–96 96.2 96.2 0 -96.2 2 1996–97 144.4 144.4 0 -144.4 3 1997–98 367.8 367.8 11.8 1.3 0.3 5.1 4.2 22.7 -345.1 4 1998–99 505.2 505.2 11.8 1.3 0.3 5.1 4.2 22.7 -482.5 5 1999–00 401.1 401.1 59.1 6.5 1.7 25.3 20.9 113.7 -287.3 6 2000–01 8.8 8.8 118.1 13.0 3.3 50.6 41.8 227.5 218.7 7 2001–02 8.8 8.8 123.2 13.0 3.4 51.4 42.6 234.2 225.4 8 2002–03 8.8 8.8 128.4 13.0 3.5 52.1 43.5 241.1 232.3 9 2003–04 9.2 9.2 133.8 13.0 3.5 52.9 44.3 248.3 239.1 10 2004–05 10.4 10.4 139.5 13.0 3.6 53.7 45.2 255.8 245.4 11 2005–06 8.8 8.8 145.5 13.0 3.7 54.5 46.1 263.5 254.7 12 2006–07 15.2 15.2 151.7 13.0 3.8 55.3 47.0 271.5 256.3 13 2007–08 12.3 12.3 158.1 13.0 3.8 56.2 48.0 279.8 267.5 14 2008–09 9.2 9.2 164.8 13.0 3.9 57.0 48.9 288.4 279.2 15 2009–10 12.6 12.6 171.8 13.0 4.0 57.9 49.9 297.3 284.7 16 2010–11 8.8 8.8 179.1 13.0 4.1 58.7 50.9 306.6 297.8 17 2011–12 8.8 8.8 186.7 13.0 4.2 59.6 51.9 316.2 307.4 18 2012–13 8.8 8.8 194.7 13.0 4.2 60.5 53.0 326.2 317.4 19 2013–14 9.2 9.2 202.9 13.0 4.3 61.4 54.0 336.5 327.3 20 2014–15 37.4 37.4 211.6 13.0 4.4 62.3 55.1 347.2 309.9 21 2015–16 12.3 12.3 220.6 13.0 4.5 63.3 56.2 358.4 346.1 22 2016–17 8.8 8.8 229.9 13.0 4.6 64.2 57.3 369.9 361.2 23 2017–18 8.8 8.8 239.7 13.0 4.7 65.2 58.5 381.9 373.2 24 2018–19 9.2 9.2 249.9 13.0 4.8 66.2 59.7 394.4 385.1 25 2019–20 32.3 32.3 260.5 13.0 4.9 67.1 60.8 407.3 375.0 26 2020–21 8.8 8.8 271.6 13.0 5.0 68.1 62.1 420.7 411.9 27 2021–22 8.8 8.8 283.1 13.0 5.1 69.2 63.3 434.6 425.9 28 2022–23 15.2 15.2 295.2 13.0 5.2 70.2 64.6 449.1 433.9 29 2023–24 12.8 12.8 307.7 13.0 5.3 71.3 65.9 464.1 451.3 30 2024–25 15.7 15.7 320.8 13.0 5.4 72.3 67.2 479.7 464.0 31 2025–26 8.8 8.8 334.4 13.0 5.5 73.4 68.5 495.9 487.1 32 2026–27 8.8 8.8 348.6 13.0 5.6 74.5 69.9 512.7 503.9 33 2027–28 8.8 8.8 363.4 13.0 5.7 75.6 71.3 530.2 521.4 34 2028–29 9.2 9.2 378.9 13.0 5.8 76.8 72.7 548.3 539.0 35 2029–30 41.1 41.1 395.0 13.0 5.9 77.9 74.2 567.1 526.0 36 2030–31 15.2 15.2 411.8 13.0 6.1 79.1 75.7 586.7 571.5

At an 8 per cent discount rate, the analysis gives a Net Present Value for the project of $1,285 million and a benefit cost ratio of 2.04. The net benefit of City Link is therefore strongly positive.

2.3 Impact of Direct Benefits Across Victorian Industries

In this section of the report we show how the direct commercial benefits of City Link are distributed across four types of commercial vehicles, and 11 Victorian industries. These 14 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT impact effects are then used as inputs into the MMRF macroeconomic model, which is described in Chapter 3.

The distribution methodology is outlined schematically in Figure 2.1. Private vs Commercial Time Benefits and Allocation to Industries

The time benefits of the project are first split into those accruing to private users and to commercial users. (The private benefits are real benefits, but are not counted in the conventional economic statistics GDP/GSP, incomes and consumption.) This split is done on the basis of the proportions of traffic in the inner city cordon that is private and commercial respectively. The commercial benefits are then divided into those going to business cars, light commercial vehicles, rigid trucks and articulated trucks based on the relative value of time for each, as outlined in Table 2.7.

For each vehicle type, the time benefits were then apportioned to industries. For light commercial vehicles, rigid trucks and articulated trucks this was done on the basis of kilometres travelled by each of these vehicle types in each industry. There are no reliable direct data on travel for business cars, so the industry benefits were apportioned on the basis of relative employment in Melbourne, which proxied relative travel. Allocation of Vehicle Operating cost Savings to Industries

Vehicle operating cost savings were distributed among the four vehicle types on the basis of their existing relative operating costs. They were then distributed by industry on the same basis as the commercial time savings. Allocation of Accident Benefits

The bulk of the accident savings are modelled as labour productivity increases, and distributed in the same way as the Vehicle Operating Cost benefits. The remaining accident savings are reductions in expenditure on insurance, legal services, and transportation, which are modelled as reductions in industries' demands for these services.

15 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

FIGURE 2.1 MAPPING OF DIRECT BENEFITS TO INDUSTRIES IN MACRO MODEL

Direct Benefits in Operational Phase

Vehicle Accident Off-Road Fleet–Mix Time Benefits Operating Reduction Benefits Benefits Costs

Commercial Private

Distribution To

Rigid Articulated Business Light Total Car Commercial Truck Truck Rural Mining Manufacturing Public Utilities Construction Domestic Trade Transport & Communication Finance Public Services Community Services Personal Services Total

Servicing Costs of Monash Project Finance MRF

Change in: •GDP / GSP •Employment •Trade Balance etc.

16 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Off–Road Benefits, Including Fleet Mix Benefits

The off-road benefits were distributed to light commercial vehicle, rigid trucks and articulated trucks on the basis of relative travel costs and distributed by industry on the basis of relative kilometres travelled. The fleet mix benefits went entirely to rigid trucks and again distributed to industries by relative distance travelled.

Once all this has this been done, the proportion of all the direct benefits accruing to each vehicle type and industry can easily be calculated. The results, for the year 2011, are shown in Figures 2.2 and 2.3, with the distribution of each type of direct benefit to each industry shown in Table 2.7.

FIGURE 2.2 DISTRIBUTION OF DIRECT BENEFITS TO VEHICLE TYPES (%)

Articulated Truck (2.9%)

Business Car (41.5%)

Rigid Truck (35.3%)

Light Commercial Vehicle (20.3%)

17 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

FIGURE 2.3 DISTRIBUTION OF DIRECT BENEFITS TO INDUSTRIES (%)

Rural (2.6%) Personal Services (4.6%) Mining (0.5%)

Community Services (11.0%) Manufacturing (15.9%)

Public Services (4.8%) Public Utilities (2.0%)

Finance (9.1%)

Construction (16.6%)

Transport & Communication (9.7%)

Domestic Trade (23.0%)

TABLE 2.6 INDUSTRY DISTRIBUTION OF EACH BENEFIT TYPE (%)

Time VOC Accidents Off–Road Fleet–Mix Rural 1.69 2.12 0.76 4.25 3.70 Mining 0.38 0.43 0.21 0.80 0.75 Manufacturing 16.63 16.54 18.63 12.99 16.24 Public Utilities 1.84 1.87 0.65 3.86 1.25 Construction 12.20 13.58 5.94 26.31 20.71 Domestic Trade 21.89 22.17 22.48 21.91 26.63 Transport & 7.69 8.91 6.81 11.89 12.96 Communication Finance 12.27 11.05 14.92 4.73 4.49 Public Services 4.41 4.43 4.07 5.17 5.58 Community 14.80 13.33 18.00 5.71 5.42 Services Personal 6.20 5.58 7.54 2.39 2.27 Services TOTAL 100.00 100.00 100.00 100.00 100.00

18 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Chapter 3 The Wider Economic Benefits

3.1 What Kinds of Wider Benefits?

In this Chapter we report the results of modelling the City Link Project using the MONASH Multi Regional model of the Victorian and Australian economies (MONASH MRF or MMRF). The modelling approach is described in the next section of this chapter. In this section we give a general overview if the types of indirect benefits that can be expected to be uncovered using a macroeconomic model to evaluate infrastructure projects. Does Traditional Cost–Benefit Analysis Capture All Benefits?

It has been argued by some commentators12 that when the direct cost and benefits of road projects are evaluated fully and accurately, the differences between the results of a traditional cost–benefit analysis, such as reported in Chapter 2, and the results using a macroeconomic model, should be relatively minor. That is, the economic benefits that flow on to the economy that are not captured in the cost–benefit analysis should be relatively small. This will be the case when the road confers relatively few productivity benefits, other than to the users of the road. In other words, there are few 'spillover' effects. On the other hand, the direct productivity effects from a project may lead to substantially more investment as firms take advantage of the initial improvements. In this case, the overall economic benefits will be significantly larger than the direct benefits. Macroeconomic Modelling Reveals a Further Dimension of Benefits

Either way, macroeconomic modelling is a very useful supplement to traditional cost–benefit analyses. Such modelling examines the effects on the major components of national and State expenditure (consumption, investment, exports and imports), on the aggregate price level in the economy, on employment, on output levels in various industries, and many other variables of interest. This information cannot be obtained from a traditional cost–benefit analysis.

Whether the modelling reveals substantial indirect gains will also depend on whether the level of national employment is taken to be unaffected by the project, or whether it will change in response to changes in aggregate demand generated by the project. In Australia in the 1990s, this is an open question, particularly for the modelling of the construction phase of the project. Significance of Treatment of National Employment

In any case, whatever is assumed for the level of national employment, Victorian employment will certainly increase as a result of the City Link project. If national employment is taken not to be affected by the project, Victorian employment can nevertheless increase as a result of adjustments to flows of migration between Victoria and

12 See for example Kinhill Economics (1994). 19 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT the other States, in which case employment in the rest of Australia will be lower than it would otherwise have been. If it is taken that national employment can vary in response to the project, employment can increase both in Victoria and elsewhere in the country. The Two Project Phases

The wider benefits of City Link will occur in two distinct phases. The first will be the construction phase, when $1.5 billion in 1993 prices will be spent over five years to build the Southern and Western Bypasses and the Tullamarine extension. Given the scale of the project, this will lead to more economic activity in Victoria, with State output being appreciably closer to its capacity level than would be the case in the absence of the project.

The second phase of benefits will come after the construction is complete, and City Link is in operation. Obviously, the boost to the Victorian economy from the construction of the project will no longer be present at this time. Instead, the gains to the economy will come from the productivity benefits to Victorian industries described in Chapter 2, together with any other associated productivity improvements.

Unlike the construction phase, which by its nature must yield benefits which are only temporary, the benefits arising from the ongoing operation of City Link will be permanent. Victorian (and national) income will be higher, and prices for a range of goods and services will be lower than they would otherwise have been. The competitiveness of Victorian businesses will be improved, and this will be reflected in an improvement in Victoria's trade balance. Because of the rise in productivity, wages will also increase. In short, Victoria will be permanently wealthier because of the beneficial structural effects of the City Link Project, and similar benefits will flow to other Australians through more competitively priced Victorian goods and services.

3.2 Modelling the Benefits

Introduction

MMRF is a multisectoral applied general equilibrium model of the Australian economy. The theoretical structure and database of MMRF recognise the economies of the Australian States and Territories as interdependent economies linked by interstate trade flows in commodities, labour and capital. MMRF also provides a detailed treatment of State and Federal government finances on both the revenue and expenditure sides of the governments' balance sheets. An overview of the theoretical structure and database of MMRF can be found in the Peter (1994) and Naqvi and Peter (1995).

In our analysis, we treat the impact of the City Link as the sum of the effects of the construction phase of the road and the operational phase of the road. We assume that the construction phase precedes the operational phase, with the construction phase completed before the road is operational. In this way, we can assess the total effects of the City Link by adding the effects of the construction and operational phases.

In the construction phase, we model the impact of the expenditure on road construction. In the operational phase, we model the effects of (i) productivity gains to industry induced by the road, (ii) ongoing maintenance costs of the road, (iii) the impact on industry costs of a toll, and (iv) servicing debt accrued in the construction phase.

Given these inputs, MMRF produces results for a range of macroeconomic variables for each of the eight State and Territory economies and for the national economy. MMRF also produces industry results by region at a thirteen-industry level of disaggregation. The final 20 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT piece of analysis is to use MMRF results to indicate the net economic benefits of the City Link project at the national level. Methodology

The construction phase and operational phase experiments are comparative-static experiments for a typical year of the relevant phase. MMRF results are reported as percentage deviations of variables from their base–case values (i.e., in the case where the City Link is not built) in a typical year. We assume that the effects of the typical year are representative of all other years of the relevant construction or operational phase.

The database for the typical year is a forecast of the State and national economies developed at the Centre of Policy Studies. For the City Link Project, we use our forecast of the year 2000-01 as the typical year database for both the construction phase and the operational phase. This should not be interpreted as meaning that our typical year is the year 2000-01. The base-case data is only our best guess at what the structure of the national and State economies may look like in the typical years.

Appendix B contains technical details about modelling the construction phase of City Link. Modelling the Financing Arrangements of the City Link Financing Arrangements during the Construction Phase

The City Link is assumed to be privately funded. We assume that, in the typical year, investors can borrow as much as they require at a rate of interest, which after allowance for risk, equates with the economy-wide rate of return on capital. To the extent that the change in domestic private saving in response to the construction of the City Link is insufficient to fully fund the project, it is assumed that the additional demand for funds is met by foreign borrowing. The model captures the extent to which the project is not fully funded from domestic savings by the amount to which the economy must move toward trade deficit.

No constraints are placed on State or Federal government budgets. The budgets are allowed to move toward deficit or surplus depending on the direct and indirect effects of the construction-phase experiment. Paying for the City Link in the Operational Phase

Two types of payment are made in the operational phase. First, a toll is paid by Victorian industry and the Victorian household. Second, each State and Territory pays interest on regional debt accrued during the construction phase. For example, in Victoria, City-Link- related expenditures can be expected to impact on the pattern of demand, employment and output throughout the Victorian economy. In response, the Victorian economy may run a trade deficit with its trading partners (including foreigners) or a trade surplus depending on the net impact of the road construction on the demand for and supply of Victorian goods and services. A move of the Victorian economy's trade balance towards deficit during the construction phase, would add to the Victorian economy's level of interstate and overseas indebtedness. The additional debt faced by the Victorian economy increases the future burden of interest payments. We assume that these payments are in perpetuity, and their present value is equal to the principal.

To service the additional debt, in the operational phase, we assume that the Victorian economy moves toward an annual trade surplus (relative to base) equal to the annual interest payments on the additional (construction-phase) debt. Likewise, any other State economy which moves towards deficit during the construction phase would be required to run a trade surplus during the operational phase equal to the interest payments on the accrued debt. 21 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT In order to run the required trade surplus/deficit in the operational phase, we force household spending to adjust. In the long run, with the rate of return on capital given by world real interest rates, the incidence of interest payments on debt accrued in the construction phase ultimately falls on the household sector. Key Assumptions of the Economic Environment of the Typical Year in the Construction Phase Supply-side assumptions.

Labour markets: At the national level, labour supply and employment are assumed to be fixed at their base-case levels. The national real wage rate is assumed to vary to accommodate this assumption. Interstate differentials in wages and unemployment rates are assumed to be unaffected by the construction of the City Link. Interstate population movements occur in order to accommodate the labour market assumptions.

Capital formation: Capital stock is mobile between industries and across State borders. The average economy-wide rate of return on capital is assumed to be fixed at its base-case value. The capital stock can be added to by increasing domestic savings and/or borrowing from overseas.

Technology: The rate of technological change is assumed to be unaffected in the construction phase.

Funding: The City Link is assumed to be privately funded. In the typical year, the rates of return on capital are assumed to be equal to the fixed economy-wide average, and that investors can borrow as much as they require at a rate of interest, which after allowance for risk, equates with the economy-wide rate of return. To the extent that the change in domestic private saving in response to the construction of the City Link is insufficient to fully fund the project, it is assumed that the additional demand for funds is met by foreign borrowing. The model captures the extent to which the project is not fully funded from domestic savings in the amount to which the economy must move toward trade deficit. Implications of supply-side assumptions

The supply-side assumptions, along with the model's specifications of constant returns to scale production technology, competitive market structures, given national employment and real rate of return on capital are enough to determine the aggregate use of capital. With no change in national employment, rates of return and technology, the national rate of capital accumulation will be largely unaffected by expenditure increases. Hence, national GDP will be mostly unaffected in the construction phase. Demand-side assumptions

Household expenditure is assumed constrained by the level of household disposable income. Budget constraints are not imposed on the business sector or on governments. Further, we assume the ratio of private consumption expenditure to public consumption expenditure is constant. Implications of demand-side assumptions

22 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Aggregate domestic expenditure in not constrained by aggregate income. The State and national economies' run trade deficits/surpluses to the extent that aggregate expenditure levels are greater than/less than aggregate income. At the national level, non-road aggregate domestic absorption (GNE) is modelled to move approximately with final domestic output. Therefore, the additional aggregate domestic demand generated by road construction will be satisfied by a crowding out of foreigners' demands for Australian produced goods and services and a switching of demand by domestic agents away from domestically produced goods and services in favour of imports. Inputs for the Construction Phase

We assume that expenditure on the City Link is evenly distributed over the construction phase. Average annual expenditure is equal to $303 million per annum in 1993 prices which translates to $393 million per annum in typical-year base-case values of 2000-01, given the base-case rate of inflation.

We recognise two broad types of expenditure associated with the construction of the City Link. They are: (i) expenditure on materials, labour and capital, and (ii) expenditure on real estate. Ninety-four per cent of total expenditure is on materials, labour and capital, while six per cent is on real estate. In 1993 dollars, the annual expenditure on materials, labour and capital is $285m and expenditure on real estate is $18m. In 2000-01 typical year dollars, the expenditures are $370m and $23m.

The distribution of the typical year construction-phase expenditure on materials, labour and capital is reported in Table 3.1. The distribution of expenditure in Table 3.1 is based on the shares reported in Table B1 in Appendix B.

TABLE 3.1 ANNUAL EXPENDITURE ON THE CITY LINK BY INPUT TYPE

Share Expenditure (%) ($m, 2000-01) Intermediate Inputs 64.60 239.02 Mining 1.53 5.66 Manufacturing 47.73 176.60 Domestic Trade 7.88 29.16 Transport and Communication 5.93 21.94 Finance 1.53 5.66

Labour Costs (wage bill) 28.77 106.45

Capital and Other costs 6.63 24.53 Fixed Capital Cost 3.94 14.57 Other Costs 2.69 9.95 Total Cost 100.00 370.00

The construction of the City Link also requires the acquisition of real estate. This is property used for housing which now must be used for the City Link. We assume that the current owners of the real estate use the funds received for their properties to purchase replacement properties. That is, we assume that they use the funds to maintain the value of their total assets rather than use the funds to increase current consumption expenditure. We assume that the effect is to add $23 million of investment expenditure on housing in Victoria in the typical year. The stock of housing in Victoria, however, is assumed to be unaffected by the relocation of households caused by the construction of the City Link. Housing stock is lost in the process of the construction of the City Link, while investment replaces the lost housing

23 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT stock in a new location leaving the net impact of this effect on Victoria's housing stock equal to zero. This is not to say that the total impact on housing in the construction phase is zero. Investment in housing during the construction phase is also influenced by changes in the level of household formation and income in Victoria.

The total construction-phase expenditure on the City Link Project is equal to 0.28 per cent of national GDP and 1.07 per cent of Victorian GSP in our typical year database. Average annual City Link expenditure is equal to 0.06 per cent of national GDP and 0.21 per cent of Victorian GSP in our typical year.

3.3 Results for the Construction Phase with National Employment Unaffected

Outputs for the Construction Phase

Results for a selection of main macroeconomic variables at the State and national levels are reported in Table 3.2 Results for output and employment of industries at the State and national level are reported in Table 3.3 (In the next section, we present results under the assumption that national employment does respond to the project over the construction phase.)

24 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 3.2 AGGREGATE VARIABLES FOR AUSTRALIA, THE STATES AND TERRITORIES: PERCENTAGE CHANGES IN THE TYPICAL YEAR OF THE CONSTRUCTION PHASE

Aggregate Variables AUST. NSW VIC. QLD SA WA TAS NT ACT

(1) (2) (3) (4) (5) (6) (7) (8) (9)

Real GDP, GSP -0.011 -0.064 0.267 -0.137 -0.041 -0.289 -0.060 -0.324 0.012

Employment 0.000 -0.072 0.306 -0.140 -0.044 -0.278 -0.073 -0.280 0.012

Capital Stock -0.026 -0.050 0.211 -0.137 -0.034 -0.309 -0.036 -0.385 0.004

Real Private Consumption Expenditure 0.015 -0.039 0.289 -0.107 -0.016 -0.251 -0.034 -0.271 0.037

Real Investment Expenditure* -0.015 -0.051 0.255 -0.128 -0.032 -0.290 -0.040 -0.342 0.009

Real State Govt. Consumption Expenditure 0.006 -0.039 0.289 -0.107 -0.016 -0.251 -0.034 -0.271 0.037

Real Federal Govt. Consumption Expenditure 0.015 0.015 0.015 0.015 0.015 0.015 0.015 0.015 0.015

City Link as % of GDP, GSP (excl. exp. on 0.054 na 0.202 na na na na na na property)

Interstate Export Volumes na 0.042 -0.088 -0.019 0.018 -0.101 0.086 -0.118 -0.041

Interstate Import Volumes na -0.064 0.334 -0.149 -0.049 -0.266 -0.057 -0.311 0.013

Interstate Trade Balance ($Abillions) na 0.061 -0.177 0.050 0.011 0.038 0.009 0.010 -0.001

International Export Volumes -0.355 -0.365 -0.326 -0.302 -0.320 -0.402 -0.401 -0.472 -0.491

International Import Volumes 0.050 -0.014 0.385 -0.091 0.006 -0.238 -0.001 -0.274 0.062

International Trade Balance ($Abillions) -0.466 -0.093 -0.146 -0.081 -0.019 -0.097 -0.011 -0.019 0.000

Total Trade Balance ($Abillions, 11+14) -0.466 -0.032 -0.323 -0.031 -0.008 -0.058 -0.002 -0.009 -0.001

GDP, GSP Deflator 0.009 0.009 0.016 0.001 0.008 0.001 0.003 0.003 0.016

Nominal Wage 0.029 0.029 0.029 0.029 0.029 0.029 0.029 0.029 0.029

Population 0.000 -0.061 0.316 -0.129 -0.034 -0.268 -0.062 -0.270 0.022

Unemployment Rate 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 * Includes expenditure on housing due to the acquisition of property for the City Link and excludes all other City Link expenditure. E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 3.3 INDUSTRY VARIABLES FOR AUSTRALIA, THE STATES AND TERRITORIES: PERCENTAGE CHANGES IN THE TYPICAL YEAR OF THE CONSTRUCTION PHASE

Industry Variables Aust. NSW VIC QLD SA WA TAS NT ACT

Output (1) (2) (3) (4) (5) (6) (7) (8) (9) Rural -0.105 -0.107 -0.026 -0.107 -0.120 -0.209 -0.103 -0.130 -0.075 Mining -0.276 -0.361 0.095 -0.275 -0.149 -0.394 -0.571 -0.439 -0.213 Manufacturing -0.047 -0.075 0.111 -0.165 -0.062 -0.301 -0.037 -0.334 -0.009 Public utilities -0.009 -0.054 0.195 -0.132 -0.038 -0.289 -0.055 -0.340 0.018 Construction (incl. City Link) 0.373 -0.045 1.679 -0.119 -0.029 -0.277 -0.032 -0.307 0.015 Domestic trade -0.010 -0.067 0.260 -0.136 -0.045 -0.282 -0.065 -0.304 0.032 Transport & Communication -0.031 -0.056 0.193 -0.110 -0.034 -0.240 -0.039 -0.293 0.022 Finance -0.026 -0.065 0.166 -0.146 -0.042 -0.308 -0.063 -0.378 -0.024 Housing 0.003 -0.043 0.244 -0.118 -0.023 -0.279 -0.026 -0.336 0.023 Public services 0.009 -0.017 0.145 -0.064 -0.005 -0.160 -0.020 -0.185 0.018 Community services 0.016 -0.041 0.260 -0.106 -0.019 -0.249 -0.037 -0.256 0.020 Personal services -0.041 -0.055 0.144 -0.133 -0.014 -0.257 -0.002 -0.195 -0.018 Non-comp imports -0.083 -0.126 0.136 -0.375 -0.159 -0.524 -0.246 -0.520 0.036 Employment Rural -0.161 -0.156 -0.074 -0.159 -0.175 -0.274 -0.152 -0.186 -0.108 Mining -0.396 -0.432 -0.041 -0.356 -0.238 -0.471 -0.617 -0.522 -0.247 Manufacturing -0.051 -0.080 0.099 -0.172 -0.068 -0.304 -0.040 -0.332 -0.013 Public utilities -0.002 -0.061 0.187 -0.140 -0.045 -0.288 -0.067 -0.331 0.016 Construction (incl. City Link) 0.253 -0.047 1.219 -0.119 -0.030 -0.276 -0.034 -0.304 0.014 Domestic trade -0.010 -0.070 0.266 -0.138 -0.049 -0.279 -0.073 -0.293 0.035 Transport & Communication -0.031 -0.061 0.186 -0.110 -0.037 -0.231 -0.044 -0.274 0.020 Finance -0.041 -0.075 0.137 -0.157 -0.052 -0.314 -0.082 -0.381 -0.052 Housing 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 Public services 0.010 -0.016 0.142 -0.062 -0.004 -0.153 -0.020 -0.181 0.018 Community services 0.017 -0.041 0.261 -0.105 -0.018 -0.247 -0.038 -0.254 0.020 Personal services -0.046 -0.059 0.122 -0.135 -0.011 -0.245 0.004 -0.147 -0.025 Non-comp imports -0.083 -0.126 0.136 -0.375 -0.159 -0.524 -0.246 -0.520 0.036 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Overview

• The State results show that the construction phase favours growth in the Victorian economy. Annual addition to Victorian GSP during the construction phase is 0.267 per cent. • Victoria expands at the expense of the other States. The assumption that national employment is unaffected by the City Link expenditure constrains the possibility for national expansion in output. National GDP experiences a small annual decline during the construction phase of 0.011 per cent as the national economy uses less capital. • The increase in domestic demand induced by road expenditure leads to higher domestic costs. This reduces the international competitiveness of the traded-goods sectors. The mining industry is particularly affected due to its exposure to competitive international markets. • Those regional economies most exposed to competitive international export markets, Qld., WA and NT are the most adversely affected.

National Outcomes

National outcomes are reported in column 1 of Tables 3.2 and 3.3. With aggregate employment fixed (Table 3.2, row 2), the increase in demand created by the expenditure on road construction will be met by crowding out other sources of demand rather than by an increase in aggregate output, which is largely unaffected by the City Link expenditure (Table 3.2, row 1). The small decline in GDP is explained by the reduction in the economy's capital/labour ratio (cf. rows 2 & 3). Road construction is a relatively labour intensive production process. Industries which are contracting have relatively capital intensive production processes. Hence, the given level of national employment is maintained with less capital.

In aggregate we can identify four sources of demand in the model: demand by households for final consumption; demand by investors for capital creation; demand by foreigners for our exports; and demand by the government sectors. In the construction phase, the increased demand created by the construction of the City Link leads to crowding out of other forms of demand. In the construction phase, movements in the non-road components of aggregate domestic expenditure are constrained by movements in GDP (see rows 4 to 7). Hence, the additional road expenditure crowds out export demand by foreigners (row 12) and some domestic demand for domestically-produced commodities leading to an increase in imports (row 13).

In summary, the increased domestic demand created by road expenditure leads to a movement towards trade deficit. Below, we briefly discuss the response of each of the aggregate demand-side components of GDP in the construction phase.

27 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT • Private consumption expenditure of households (Table 3.2, row 4). With aggregate income constrained from the supply side, household disposable income and, hence, private consumption expenditure is relatively constrained. Table 4 shows a small increase in real private consumption expenditure despite a small decline in GDP. This is because of the relatively high weight that returns from labour, and low weight of returns from capital, have in household disposable income relative to GDP. With national employment fixed, the increased demand for labour induced by road expenditure leads to pressure on wages (row 17). The increase in wages, with fixed employment, increases the wage income of the household and allows for a small rise in real private consumption expenditure. • Government consumption expenditure (Table 3.2, rows 6 & 7). As mentioned, government consumption expenditure is modelled to move in-line with private consumption expenditure. This explains the small increases in State and Federal governments' consumption expenditures. • Investment expenditure (Table 3.2, row 5). Partly offsetting the rises in consumption expenditures is a fall in investment expenditure. The road construction industry is labour intensive in its production process relative to the economy-wide average. Therefore, as the road construction industry expands, and other (more capital intensive) industries contract, the economy on average becomes less capital intensive, which leads to a fall in capital accumulation (row 3). The fall in capital formation reduces investment expenditure. • Exports and imports (Table 3.2, rows 12, 13 &14). In the absence of a decline in non-road domestic absorption, for resources to be made available for road construction, the model requires expenditure switching away from domestically produced goods and services in favour of foreign produced goods and services. This requires a rise in the costs of domestically-produced commodities relative to their foreign competitors. The result is a contraction in the traded-goods industries, which release resources to be absorbed by road construction and other expanding industries. International export volumes fall (row 12), international import volumes rise (row 13) and the trade balance moves towards deficit (row 14). The increase in domestic demand, in a capacity-constrained economy, places pressure on domestic cost/price conditions. Prices of foreign goods are assumed to be unaffected by the construction of the City Link, therefore, as domestic costs rise throughout the economy, industries competing with foreign-produced goods are caught in a price/cost squeeze and contract. The industry facing the most intense foreign competition (in terms of demand elasticity) is the mining industry (Table 3.3, row 2).

State Outcomes

State outcomes are reported in columns 2-9 of Tables 3.2 and 3.3. The State results show the construction phase favours growth in the Victorian economy. Victoria expands at the expense of the other States. Those economies most exposed to competitive international export markets, Queensland, Western Australia and Northern Territory are the most adversely affected. The annual addition to Victorian Gross State Product in the construction phase is 0.267 per cent for six years.

28 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT The State outcomes can be understood in the light of (i) the main mechanisms explaining the national outcome and (ii) local multiplier effects. The Main Mechanisms Explaining The National Results

The initial expansion in demand is concentrated in Victoria where the construction of the City Link increases expenditure. However, the resulting rise in the economy's cost structure reduces activity in the traded-goods sectors, especially the mining industry. Those States with a high representation of mining in their industrial structure are the most adversely affected. These States are Queensland, Western Australia and Northern Territory (Table 3.2, row 1, columns 4, 6, & 8). Mining is also particularly capital intensive, therefore, States with a high representation of mining will experience the greatest fall in investment expenditure as the mining industries contract and reduce their rate of capital formation (Table 3.2, row 5). Local multipliers

As Victoria expands and the other States contract, local multiplier effects reinforce the first- round changes. As labour migrates to Victoria (Table 3.2, row 18), the rate of household formation in Victoria increases leading to an expansion in Victorian private consumption expenditure. Likewise, contraction in household formation in the other States reduces household demand. State government consumption expenditure is assumed to move with State private consumption expenditure adding further to the multiplier effects. Assessment

The Victorian economy will clearly benefit from the construction of City Link. State output, consumption, investment and employment will all be significantly higher. It must be stressed that our assumption that national output and employment will be (essentially) unchanged by City Link means that our estimates of the improvements in the Victorian economy are the minimum that can be expected. The following section explores the upper end of the range of possible effects, assuming a slack national labour market.

3.4 The Construction Phase With a Slack National Labour Market

In the construction-phase experiment reported in section 3.3 above, it was assumed that expenditure on road construction in the typical year did not disturb the base rate of unemployment. It was there assumed that the national real wage adjusted in response to expenditure induced changes in the demand for labour. An alternative assumption would be that the national real wage is fixed and national employment is variable. In an economy experiencing recession, this assumption may be a preferred alternative. Under this assumption, an expansion in output of one sector of the economy could be accommodated by absorbing labour from the ranks of the unemployed rather than by attracting employed labour from non-expanding sectors.

In the experiment presented in this section, we recompute the construction phase with the a slack labour market assumption. By this we mean that increases in the demand for labour do not affect the real wage rate, i.e., as much labour as desired can be employed at the going real wage.

The period of time covered by the construction phases is relatively long (5 years). It is most likely that such a period would traverse a business cycle with some years representing recession, with slack labour markets characterised by high unemployment, and other years

29 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT representing boom, with tight labour markets characterised by low unemployment and strong wage growth. Therefore, the tight labour market assumption is likely to be appropriate for some years and the slack labour market assumption appropriate for other years. The two cases thus provide a range. Outputs

Results for a selection of main macroeconomic variables at the State and national levels are reported in Table 3.4. Results for output and employment of industries at the State and national level are reported in Table 3.5. Overview of the national results

Without employment constraints on the economy, the increase in domestic demand induced by road expenditure can be met by an increase in output rather than a crowding out of alternative demands. Multiplier effects linking consumption to output and investment to capital reinforce the expansion of the economy initially generated by the expenditure on road construction. The spending multiplier at the national level is 2.8, and is calculated by dividing the result for GDP in row 1, column 1 of Table 3.4, by the value of the initial spending shock given in row 8, column 1 of Table 3.4. The expansion in the economy allows for an increase in employment of 0.161 per cent from base (row 2, column 1 Table 3.4) and a fall in the unemployment rate of 0.144 percentage points (row 19, column 1 Table 3.4).

Overview of the State results

The State results show expansion in each of the regions. Victoria, which benefits from the initial expenditure increase, expands at the most rapid rate with GSP increasing by 0.372 per cent compared to the base. However, in an economy without employment constraints, the expansion in the Victorian economy places little pressure on domestic cost conditions (see row 16, column 1, Table 3.4).

To the extent that the other States supply goods and services to the Victorian economy, their economies expand in response to the expansion in demand emanating from Victoria. Local multiplier effects reinforce the initial impetus to expansion. Expansion in GSP leads to increases in consumption, and expansion in capital formation leads to increased investment demand.

The result is an approximately balanced growth in industry outputs (see Table 3.5) as all industries experience an increase in demand for their commodity and are able to supply without facing higher costs. The one exception is the rural industry which does possess a fixed factor in agricultural land. As the rural industries seek to expand output, the cost of their fixed factor rises, increasing the cost and price of the rural commodity and subduing the industry's rate of expansion.

30 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 3.4 AGGREGATE VARIABLES FOR AUSTRALIA, THE STATES AND TERRITORIES: PERCENTAGE CHANGES IN THE TYPICAL YEAR OF THE CONSTRUCTION PHASE WITH SLACK LABOUR MARKETS

Aggregate Variable AUST. NSW VIC. QLD SA WA TAS NT ACT

(1) (2) (3) (4) (5) (6) (7) (8) (9) Real GDP, GSP 0.151 0.079 0.372 0.057 0.094 0.039 0.105 0.055 0.098

Employment 0.161 0.081 0.406 0.058 0.093 0.039 0.103 0.053 0.103

Capital Stock (rental weights) 0.144 0.080 0.333 0.061 0.098 0.041 0.119 0.060 0.091

Real Private Consumption Expenditure 0.115 0.060 0.298 0.040 0.067 0.029 0.074 0.039 0.077

Real Investment Expenditure* 0.149 0.080 0.372 0.062 0.098 0.041 0.116 0.058 0.094

Real State Govt. Consumption Expenditure 0.115 0.060 0.298 0.040 0.067 0.029 0.074 0.039 0.077

Real Federal Govt. Consumption Expenditure 0.115 0.115 0.115 0.115 0.115 0.115 0.115 0.115 0.115

City Link as % of GDP, GSP (excl. exp. on property) 0.054 na 0.202 na na na na na na

Interstate Export Volumes na 0.203 0.111 0.134 0.198 0.126 0.235 0.105 0.114

Interstate Import Volumes na 0.100 0.446 0.057 0.105 0.049 0.113 0.048 0.088

Interstate Trade Balance ($Abillions) na 0.058 -0.099 0.013 0.020 0.004 0.005 0.000 -0.002

International Export Volumes 0.023 0.009 0.039 0.034 -0.012 0.025 0.014 0.043 -0.021

International Import Volumes 0.166 0.083 0.441 0.055 0.100 0.039 0.113 0.051 0.091

International Trade Balance ($Abillions) -0.146 -0.027 -0.111 0.000 -0.009 0.003 -0.002 0.001 -0.001

Total Trade Balance ($Abillions, 11+14) -0.146 0.032 -0.210 0.013 0.011 0.007 0.003 0.001 -0.003

GDP, GSP Deflator 0.002 0.000 0.006 0.001 0.000 0.000 0.002 0.001 0.000

Nominal Wage 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000

Population 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000

Unemployment Rate -0.144 -0.076 -0.379 -0.055 -0.088 -0.037 -0.096 -0.051 -0.098 * Includes expenditure on housing due to the acquisition of property for the City Link and excludes all other City Link expenditure. E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 3.5 INDUSTRY VARIABLES FOR AUSTRALIA, THE STATES AND TERRITORIES PERCENTAGE CHANGES IN THE TYPICAL YEAR OF THE CONSTRUCTION PHASE WITH SLACK LABOUR MARKETS

Industry Variables Aust. NSW VIC QLD SA WA TAS NT ACT Output (1) (2) (3) (4) (5) (6) (7) (8) (9) Rural 0.057 0.057 0.097 0.046 0.046 0.021 0.065 0.033 0.066 Mining 0.098 0.067 0.300 0.064 0.095 0.043 0.094 0.062 0.077 Manufacturing 0.167 0.118 0.305 0.073 0.138 0.055 0.166 0.064 0.086 Public utilities 0.142 0.088 0.280 0.054 0.106 0.042 0.080 0.062 0.078 Construction (incl. City Link) 0.168 0.078 0.429 0.062 0.097 0.042 0.109 0.060 0.091 Domestic trade 0.126 0.063 0.319 0.042 0.072 0.030 0.079 0.040 0.079 Transport & Communication 0.131 0.090 0.321 0.064 0.107 0.029 0.120 0.039 0.131 Finance 0.135 0.076 0.279 0.056 0.093 0.039 0.106 0.056 0.085 Housing 0.151 0.077 0.372 0.063 0.098 0.044 0.128 0.065 0.094 Public services 0.121 0.090 0.213 0.074 0.095 0.064 0.094 0.066 0.110 Community services 0.128 0.069 0.294 0.051 0.073 0.037 0.082 0.051 0.108 Personal services 0.122 0.086 0.264 0.070 0.122 0.047 0.143 0.078 0.120 Non-comp. Imports 0.126 0.065 0.203 0.036 0.066 0.023 0.058 0.028 0.077 Employment Rural 0.074 0.078 0.122 0.067 0.058 0.027 0.086 0.051 0.087 Mining 0.074 0.064 0.266 0.064 0.093 0.043 0.091 0.064 0.075 Manufacturing 0.171 0.122 0.303 0.074 0.143 0.058 0.172 0.064 0.086 Public utilities 0.145 0.091 0.266 0.051 0.108 0.041 0.069 0.063 0.075 Construction 0.165 0.078 0.419 0.062 0.097 0.042 0.108 0.060 0.091 Domestic trade 0.123 0.061 0.317 0.039 0.068 0.028 0.071 0.037 0.077 Transport & Communication 0.133 0.092 0.320 0.065 0.108 0.027 0.120 0.033 0.139 Finance 0.121 0.075 0.250 0.053 0.090 0.037 0.100 0.053 0.080 Housing 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 Public services 0.120 0.090 0.208 0.075 0.095 0.065 0.093 0.066 0.110 Community services 0.128 0.068 0.293 0.050 0.072 0.036 0.081 0.051 0.108 Personal services 0.119 0.087 0.244 0.072 0.127 0.048 0.150 0.082 0.126 Non-comp. Imports 0.126 0.065 0.203 0.036 0.066 0.023 0.058 0.028 0.077 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

Comparison of Construction Phase Results: Unaffected National Employment vs Slack National Labour Market

Under the assumption of a slack national labour market, otherwise unemployed resources become employed over the late 1990s due to the increased aggregate demand that comes from City Link and its multiplier effects. Australia's GDP increases by 0.15 per cent in the typical construction year, compared with a (very small) fall when national employment is fixed. Victorian output increases in both cases, but by more when the national labour market is slack (0.37 per cent versus 0.27 per cent). Victorian employment also increases more under a slack labour market (0.41 per cent versus 0.31 per cent).

A major difference under the alternative scenarios is the effect on wages. If national employment is unaffected, the increase in aggregate demand as a consequence of City Link leads to national nominal wage inflation of 0.029 per cent, or real wages 0.02 per cent higher, compared with a zero effect (by assumption) on real wages when the national labour market is slack. There is also a big difference in the effect of City Link on the balance of payments. When national employment is fixed, there are no free resources to help finance the City Link investment. Consequently, there is a large call on foreign savings which manifests itself in a decline in the national trade balance of about $466 million. When the national labour market is slack, on the other hand, the increase in GDP following from City Link's construction generates extra domestic savings which provide part of the finance of the project investment. There is consequently a smaller deterioration in the balance of trade, of about $150 million. This is reflected, for example, in higher output in the mining and rural industries (which are major exporters) when the labour market is slack.

3.5 The Operational Phase

Key Assumptions of the Economic Environment of the Typical Year in the Operational Phase

Moving from the construction phase to the operational phase, we make five changes in the economic environment.

(i) The State economies operate with a budget constraint in the form of a given trade- balance outcome.

(ii) Victorian users of the City Link must pay a toll.

(iii) The State households are required to spend and save in a way that accommodates the economy's budget constraint and, in Victoria, to pay for the private-use portion of City Link toll revenue.

(iv) Productivity gains to Victorian industries are assumed to flow from the operation of the City Link. This is a change in a supply-side assumption of the construction phase, where technological change was fixed at base-case rates.

(v) Victorian road expenditure is of an amount that is required to maintain the City Link.

Note that because it is depicting the long run situation, the operational phase is modelled only with future national employment unaffected.

33 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Inputs for the Operational Phase

The inputs are divided into four categories:

(i) Productivity gains: These consist of on-road productivity gains, off-road productivity gains and labour-saving productivity gains. On-road productivity gains are modelled as reductions in an industry's required input of transport per unit of the industry's output. These cost savings consist of City Link induced: reductions in vehicle operating costs (VOC); technological enhancements; and reductions in accidents. Another small item of on-road cost savings is less expenditure by an industry on the finance input to production. This saving is associated with reduced insurance and legal costs due to less accidents. Off-road productivity gains are modelled as uniform reductions in an industry's requirements of all inputs per unit of output. Labour-saving productivity gains are modelled as reductions in an industry's requirements of labour per unit of output. Lower labour costs result from less time spent in 'unproductive' travel and from less accidents. The cost savings, in 2000-01 prices are reported in Table 3.6.

(ii) Road maintenance costs: These are associated with the ongoing maintenance of the City Link. Their annual value is $11.48m in 2000-01 prices.

(iii) Interest payments on accrued debt: Each State repays interest on its interstate and foreign debt accumulated during the construction phase. This involves the annual repayment schedule (in year 2000-01 prices) modelled as a surplus in the States' net trade account. Row 15, columns 2-9 of Table 3.2 report the average annual change in the States' trade balances over the construction phases. Accumulating the trade balance figure for each State over the five years of the construction phase gives the additional accumulated State debt associated with the City Link project. In each year of the operational phase, the States trade balances must move toward surplus of a sufficient size to service the additional debt accrued during the construction phase. The formula for the interest payments by each State in perpetuity is given in Appendix C.

(iv) Toll Payments: Toll payments are made by Victorian industries for commercial use of the City Link and by the Victorian household for private use of the City Link. We treat commercial-use toll revenue as representing an increase in costs for Victorian industries and private-use toll revenue as a reduction in disposable income of Victorian households. The rise in industries' costs due to the toll is implemented in MMRF through a general cost variable; 'other costs'. The distribution of commercial-use toll revenue across Victorian industries is proportional to each industries projected use of the City Link. As the distribution of industry productivity gains is also proportional to City Link use, the industry shares in commercial-use toll revenue are the same as those in the productivity gains.

34 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 3.6 TYPICAL YEAR COST SAVINGS

On-road Cost Savings Off-road Cost Savings Labour Savings Totals

VOC Technology Accident Accident Time Accidents (transport) (finance)

Industry $m, 2000-01 $m, 2000-01 $m,2000-01 $m, 2000-01 $m, 2000-01 $m, 2000-01 $m, 2000-01 $m, 2000-01

Rural 0.11 2.46 0.02 0.01 2.34 2.12 0.11 7.16

Mining 0.00 0.45 0.00 0.00 0.43 0.48 0.00 1.35

Manufacturing 0.74 10.85 0.41 0.14 7.13 20.80 2.57 42.64

Public utilities 0.11 0.78 0.02 0.01 2.13 2.33 0.11 5.47

Construction 0.63 13.76 0.14 0.05 14.59 15.26 0.86 45.28

Domestic trade 0.95 17.79 0.49 0.17 12.14 27.37 3.10 62.01

Transport & Communication 0.42 8.61 0.15 0.05 6.60 9.65 0.96 26.45

Finance 0.53 3.02 0.32 0.11 2.66 15.33 2.03 24.00

Housing 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Public services 0.21 3.69 0.08 0.03 2.88 5.54 0.53 12.97

Community services 0.63 3.58 0.39 0.13 3.19 18.55 2.46 28.93

Personal services 0.21 1.57 0.17 0.06 1.28 7.73 1.07 12.08

Non-comp. Imports 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Total 4.52 66.57 2.19 0.76 55.37 125.1 13.79 268.36 6

Totals as a percent of National GDP 0.001 0.010 0.000 0.000 0.008 0.018 0.002 0.039

Totals as a percent of Victorian GSP 0.002 0.036 0.001 0.000 0.030 0.068 0.008 0.146 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Outputs of the Operational Phase

Results for a selection of main macroeconomic variables at the State and National levels are reported in Table 3.7. Results for output and employment of industries at the State and National level are reported in Table 3.8. Overview

• Results from the operational phase experiment indicates a strong impact on national GDP of 1.5 times the initial cost savings to industry associated with the road. The annual percentage increases in GDP in the operational phase is 0.059 per cent. • The road-induced cost savings enhance the competitiveness of the Victorian economy compared with the other State economies leading to an expansion of the Victorian economy relative to the other State economies. Local multiplier effects are important in intensifying the initial trend of expansion in Victoria. The annual percentage increase in Victorian GSP in the operational phase is 0.301 per cent.

National Outcomes

National outcomes are reported in column 1 of Tables 3.7 and 3.8. Dominating the results of the operational phase are the efficiency gains flowing from the City Link.

Table 3.6 shows that initial productivity gains of the City Link project would allow for an increase in GDP of 0.039 per cent with the base-case levels of employment and capital. The assumption that employment is constant results in these productivity gains increasing the marginal product of the workforce and inducing firms to expand their rate of capital formation (Table 3.7, row 3) and investment (Table 3.7, row 5). The expansion of the capital stock adds further to the economy's productive capacity (already increased by 0.039 per cent by the City Link productivity gains) and GDP increases by 0.059 per cent (Table 3.7, row 1).

On the demand side of GDP, the national economy is required to run a surplus on its trade account of $220m (Table 3.7, row 14) to meet interest payments on foreign debt accrued during the construction phase. The required trade surplus represents 0.03 per cent of GDP in 2000-01. With only a small required movement toward trade surplus, aggregate domestic expenditure (rows 4 to 7 of Table 3.7) can grow in line with the growth in GDP. State Outcomes

State outcomes are reported in columns 2-9 of Tables 3.7 and 3.8. As in the construction phase, the operational phase is characterised by an expansion of the Victorian economy. This result is due to the impact of a net reduction in costs to Victorian industries in the operation phase of the City Link. Table 6 shows that cost reductions due to productivity gains are equal to 0.15 per cent of Victorian GSP in the typical year. This reduction in costs improves the competitiveness of Victorian industries relative to their interstate competitors. Victoria is relatively intensive in interstate trade, therefore, Victorian industries expand while interstate competitors contract. Victoria's main interstate export is manufactures and its main competitors in interstate markets are NSW and SA. Row 3, Table 3.8 reveals strong growth in manufacturing output in Victoria and strong contraction in NSW and SA manufacturing.

36 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 3.7 AGGREGATE VARIABLES FOR AUSTRALIA, THE STATES AND TERRITORIES: PERCENTAGE CHANGES IN THE TYPICAL YEAR OF THE OPERATIONAL PHASE

Aggregate Variable AUST. NSW VIC. QLD SA WA TAS NT ACT

(1) (2) (3) (4) (5) (6) (7) (8) (9)

Real GDP, GSP 0.059 -0.068 0.301 0.004 -0.042 0.020 0.040 0.173 -0.034

Employment 0.000 -0.067 0.086 0.002 -0.042 0.015 0.040 0.151 -0.023

Capital Stock 0.050 -0.069 0.238 0.011 -0.038 0.029 0.046 0.202 -0.051

Real Private Consumption Expenditure 0.018 -0.073 0.187 0.000 -0.040 -0.007 0.052 0.173 -0.068

Real Investment Expenditure 0.040 -0.069 0.236 0.007 -0.040 0.023 0.045 0.183 -0.056

Real State Govt. Consumption Expenditure 0.037 -0.073 0.235 0.000 -0.040 -0.007 0.052 0.173 -0.068

Real Federal Govt. Consumption Expenditure 0.018 0.018 0.018 0.018 0.018 0.018 0.018 0.018 0.018

Interstate Export Volumes na -0.060 0.276 -0.103 -0.048 -0.088 -0.007 -0.001 -0.068

Interstate Import Volumes na 0.074 -0.025 0.055 0.064 0.105 0.109 0.178 -0.039

Interstate Trade Balance ($Abillions) na -0.046 0.117 -0.030 -0.010 -0.021 -0.005 -0.006 0.000

International Export Volumes 0.192 0.086 0.628 0.109 0.117 0.134 0.187 0.240 0.043

International Import Volumes 0.004 -0.111 0.221 -0.033 -0.088 -0.015 -0.015 0.144 -0.071

International Trade Balance ($Abillions) 0.220 0.061 0.035 0.045 0.013 0.049 0.005 0.010 0.000

Total Trade Balance ($Abillions, 10+13) 0.220 0.015 0.152 0.015 0.004 0.027 0.001 0.004 0.001

GDP, GSP Deflator -0.001 0.042 -0.117 0.041 0.040 0.040 0.040 0.041 0.044

Nominal Wage 0.045 0.045 0.045 0.045 0.045 0.045 0.045 0.045 0.045

Population 0.000 -0.066 0.087 0.003 -0.041 0.016 0.041 0.152 -0.022

Unemployment Rate 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 3.8 INDUSTRY VARIABLES FOR AUSTRALIA, THE STATES AND TERRITORIES: PERCENTAGE CHANGES IN THE TYPICAL YEAR OF THE OPERATIONAL PHASE

Industry Variables Aust. NSW VIC QLD SA WA TAS NT ACT

Output (1) (2) (3) (4) (5) (6) (7) (8) (9) Rural 0.067 0.018 0.251 0.012 0.032 0.039 0.058 0.043 -0.011 Mining 0.113 0.037 0.332 0.067 -0.001 0.060 0.235 0.222 0.001 Manufacturing 0.104 -0.100 0.478 -0.024 -0.063 0.002 0.001 0.118 -0.101 Public utilities 0.052 -0.070 0.225 0.004 -0.043 0.016 0.041 0.181 -0.040 Construction 0.054 -0.065 0.274 0.008 -0.038 0.017 0.047 0.172 -0.056 Domestic trade 0.040 -0.066 0.233 0.006 -0.038 0.018 0.047 0.169 -0.058 Transport & Communication -0.029 -0.127 0.154 -0.039 -0.128 0.011 -0.058 0.141 -0.187 Finance 0.042 -0.067 0.203 0.010 -0.042 0.027 0.046 0.192 -0.031 Housing 0.033 -0.073 0.243 0.006 -0.040 0.005 0.051 0.196 -0.068 Public services 0.027 -0.031 0.120 0.007 -0.013 0.007 0.037 0.120 0.005 Community services 0.027 -0.068 0.176 0.000 -0.038 -0.006 0.047 0.157 -0.007 Personal services 0.042 -0.030 0.203 0.023 0.017 0.017 0.069 0.112 0.011 Non-comp. Imports 0.058 -0.001 0.315 0.122 0.055 0.205 0.162 0.244 -0.068 Employment Rural 0.070 0.032 0.242 0.017 0.050 0.052 0.081 0.051 -0.012 Mining 0.102 0.060 0.331 0.096 0.021 0.082 0.251 0.242 0.009 Manufacturing 0.061 -0.104 0.341 -0.030 -0.067 -0.003 -0.006 0.109 -0.106 Public utilities -0.002 -0.072 0.060 -0.002 -0.047 0.009 0.037 0.173 -0.038 Construction -0.005 -0.065 0.054 0.007 -0.038 0.016 0.046 0.171 -0.057 Domestic trade -0.018 -0.066 0.018 0.005 -0.039 0.016 0.046 0.163 -0.059 Transport & Communication -0.084 -0.137 -0.053 -0.050 -0.142 0.007 -0.078 0.124 -0.214 Finance -0.013 -0.068 0.050 0.007 -0.046 0.023 0.042 0.183 -0.017 Housing 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 0.000 Public services -0.004 -0.029 0.003 0.007 -0.012 0.006 0.036 0.118 0.006 Community services -0.002 -0.068 0.068 -0.001 -0.038 -0.008 0.046 0.157 -0.007 Personal services -0.014 -0.021 -0.079 0.026 0.030 0.013 0.073 0.087 0.024 Non-comp. Imports 0.058 -0.001 0.315 0.122 0.055 0.205 0.162 0.244 -0.068 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT The movement toward international trade surplus at the national level, in the operational phase, requires a devaluation of the real exchange rate. In the operational phase, the nominal exchange rate devalues by 0.060 per cent. The foreign price of imports is fixed at zero change and domestic prices (as measured by the GDP deflator) fall by 0.001 per cent. Hence the real exchange rate devalues by 0.061 per cent; i.e., 0.060 + 0.000 - (-0.001). The fall in the real exchange rate improves the international competitiveness of the traded-goods sectors stimulating exports and dampening imports. The fall in the real exchange rate has the most profound impact on the mining sector. Those States most reliant on mining are Queensland, Western Australia and Northern Territory. This explains the modest expansions in these States GSPs.

As for the construction-phase experiment, the initial expansions/contractions are reinforced by local multiplier effects.

3.6 Welfare Effects

The MMRF output from the construction phase and operational phase experiments can be used as input for a calculation of the net economic benefits accruing from the City Link project. It must be stated at the outset that the net benefits reported here are based only on the input explicitly modelled in the construction and operational phase experiments using MMRF. A major cost saving induced by the City Link, but not modelled in the MMRF experiments, is private vehicle passenger time savings. These savings should be added to the calculation of net benefits derived from the MMRF output.

We associate changes in economic welfare with changes in society's consumption. Other studies have used the change in aggregate final output (such as GDP) as the preferred measure of the change in economic welfare (see for example, The Allen Consulting Group, 1993). Although consumption and output are closely linked, not all of aggregate final output is necessarily available for domestic consumption. For example, to service foreign debt, it is necessary to export some amount of domestic output rather than consume it domestically.

Our measure of the net benefits accruing from the City Link is the sum of the present values of the changes in private and public consumption in the construction and the operational phases of the project. We calculate these values using from the MMRF experiments reported in Tables 3.2 and 3.7.

In using output on private and public consumption from MMRF in our calculation of the welfare effects of the City Link, we must make adjustments for the costs of induced investment. By the costs of induced investment, we mean the cost of additional 'non-road' capital creation. Row 3 of Table 3.7 indicates that the City Link productivity gains increase the size of the capital stock relative to the base. However, in our 'snapshot' typical year, the increase in investment (Table 3.7, row 5) reports only the investment expenditure required to maintain the capital stock at its higher level, meaning that additional investment is sufficient to maintain the capital stock at its base growth rate. The investment result of the typical year, does not account for the resources that were required to raise the capital stock from its base level to its higher level. This means that for some years of the operational phase prior to the typical year, investment must have increased by more than the amount for the typical year. A similar story is true for the results of the construction phase, except that in the construction phase, the capital stock fell relative to base implying that investment could have been less in the period prior to the construction-phase typical year (see BTCE 1995 for further elaboration on this point).

39 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT This raises the question of how such additional investment was funded? If it was funded domestically, then either private and/or government consumption expenditure must have been lower in some period prior to the typical year relative to consumption reported in the typical year. Alternatively, the investment could have been funded by overseas borrowing or equity. In this case, the foreign trade balance, in some period prior to the typical year, would have been further toward deficit than in the typical year, and interest payments on foreign debt or income payments to foreign-owned equity would be higher in the typical year than modelled in our typical year simulations.

If we assume domestic funding of induced investment, then the returns to capital reported in the typical year experiments are really compensation for consumption forgone prior to the typical year. If we assume that the Australian household's rate of time preference is equal to the rate of return on capital, the net benefit of the typical-year returns to capital are zero and should be excluded from any welfare calculation. If we assume that the funding was foreign sourced and that the interest on foreign debt is equal to the rate of return on capital, the capital rentals of the typical year experiments represents income to foreigners and not to domestic agents. For either assumption (domestic funding or foreign funding) returns to capital should be excluded from any welfare calculation which is based on output of the typical-year experiments. Welfare Effects in the Construction Phase

Our measure of the construction-phase welfare effects is the change in the present value of ∆ consumption ( PVc) defined as T 1-()1+d ∆PV =(∆PC + ∆GC - ∆RK ) c c c c è1-()1+d ∆ ∆ ∆ where PCc, GCc,and RKc are the typical-year changes in real private consumption, real government consumption (States and Federal) and real capital rentals respectively, all measured in prices of the year 2000-01. The second term in brackets on the right-hand side of (2) is the discount factor consisting of the real interest rate (d) and the length, in years, of the construction phase (T). The welfare measure is calculated relative to 2000-01. ∆ The value of PCc is derived by multiplying the number in row 4, column 1 of Table 3.2 by the database value of private consumption, dividing by 100 (for the percentage). The value for ∆GCc is derived in a similar fashion using the values reported in rows 6 & 7, column 1 of Table 3.2. The percentage change in the rentals to capital is not reported in Table 3.2, but is a variable of the model. Its value in the construction phase is -0.04 per cent. Using this number, the value of ∆RKc is calculated in a similar way to the other values. The relevant values for the calculation are outlined in Table 3.9. The last row of Table 3.9 shows the present value of the change in consumption of the construction phase is $809.20m.

40 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE 3.9 THE ∆PV OF CONSUMPTION IN THE CONSTRUCTION PHASE: NATIONAL EMPLOYMENT UNAFFECTED

Real Absolute Change in $m, 2000-01 prices Private Consumption 59.33 State Govt. Consumption 5.61 Federal Govt. Consumption 6.20 Capital Rentals (less) -66.80 Total 137.94 Discount Rate 0.08 Discount Factor 5.87 ∆ Present Value ( PVc) 809.20

TABLE 3.10 THE ∆PV OF CONSUMPTION IN THE OPERATIONAL PHASE

Real Absolute Change in $m, 2000-01 prices Private Consumption 71.19 State Govt. Consumption 23.13 Federal Govt. Consumption 7.44 Capital Rentals (less) 77.96 Total 22.8 Discount Rate 0.08 Discount Factor 12.50 Present Value (PVo) 297.50

Welfare Effects in the Operational Phase

The operational phase is infinitely lived. Hence the present value of the change in ∆ consumption in the operational phase ( PVo) is the standard formula for the present value of a perpetual income stream,

∆PVo =(∆PCo + ∆GCo - ∆RKo)/d ∆ ∆ ∆ where PCo, GCo,and RKo are the operational phase typical-year changes in private consumption, government consumption (States and Federal) and capital rentals respectively, all measured in the prices of the year 2000-01. The change in real total consumption is divided by the discount rate to give the present value. Table 3.10 summarises the change in the present value of consumption in the operational phase.

The values used in calculating PVo in Table 3.10 come from the year 2000-01 database and the results of the operational phase reported in Table 3.7. As we would anticipate, ∆PVo is dominated by the increase in private consumption which occurs in the operational-phase experiment as a consequence of the productivity gains associated with the City Link. Summary of the Net Benefits of the City Link Project

Table 3.11 summarises the net benefits of the City Link project using the results from the MMRF construction phase and operational phase experiments.

We can compare the results in Table 3.11 with results given by traditional cost/benefit analysis. The present value of the net benefit of the City Link project using the traditional cost/benefit approach is simply the present value of the initial cost savings of the project (net 41 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT of maintenance costs) less the construction costs of the project. Table 3.6 shows that in year 2000-01 prices, the annual initial cost savings of the City Link project are $268.36m. The annual maintenance costs are $11.48m. The present value of the initial cost savings less maintenance costs are reported in row 2, column 1 of Table 3.12. Row 2, column 2 of Table 3.12 reports the present value as a percentage of GDP.

Deducting the total cost of constructing the City Link of $1965m in year 2000-01 prices from the present value of the cost savings gives an approximation of the net present value of the project as measured by traditional cost/benefit analysis. Our approximation of the traditional cost/benefit estimate is reported in row 3, column 1 of Table 3.12. The net present value in year 2000-01 prices is $1246.0m representing 0.18 per cent of year 2000-01 GDP (see row 3 column 2 of Table 3.12).

The MMRF results are reproduced in row 1 of Table 3.12. Table 3.12 shows the net benefits calculated from the MMRF experiments are slightly less than the net benefits calculated from the traditional cost/benefit method. The difference can be explained by the influence of various distortions in the economy which are captured in the MMRF experiments, but which are ignored in the traditional cost/benefit calculation. Examples of such distortions are changes in terms of trade, sales taxes on commodities, tariffs and differential rates of return on capital across industries. We do not attempt to further reconcile the traditional costs/benefit calculation with the MMRF calculation of net benefits. Our conclusion is that the net benefits of the City Link project are close to the present value of the net benefits calculated using traditional cost/benefit techniques.

TABLE 3.11 THE NET BENEFITS OF THE CITY LINK PROJECT

Estimate of Benefit ($m, 2000-01 prices) MMRF Estimate ∆ PVc (construction phase) 809.20 ∆ PVo (operational phase) 297.50 Total 1106.70 ∆PV as a per cent of GDP 0.16

TABLE 3.12 THE NET BENEFITS OF THE CITY LINK PROJECT: RECONCILING TRADITIONAL COST/BENEFIT ESTIMATES WITH MMRF ESTIMATES

Estimate Estimate of Benefit Estimate of Benefit ($m, 2000-01 prices) (% of 2000-01 GDP) (1) (2) 1. MMRF (Net Benefit) 1,106.7 0.16 2. Benefit 3,211.0 3. Benefit less Cost 1,246.0 0.18 (row 2 less $1965m)

3.7 Non-Modelled Wider Benefits

As we outlined in our previous report (pp 64–66) City Link will bring a number of other wider benefits. These include

• increased property values of between $25.0 and $31.1 million;

42 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT • a positive contribution to an integrated transport strategy; and • enhanced urban development, by removing traffic from congested roads.

43 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Appendix A

The Structure Of MMRF13

MMRF is a multi-regional CGE model of the Australian economy that recognises the economies of the six States and two Territories. MMRF identifies the production of thirteen types of commodity, with each type distinguished by its regional source of production. There are five classifications of agents in the model. They are producers, investors, households, governments, and foreign (international) consumers. Within each region, there are thirteen producers each producing a single commodity. Hence, MMRF recognises a total of 104 (i.e., 13∞8) producers. The producers are also responsible for arranging for capital creation in each industry. There is a single household in each region, giving a total of eight. There are eight regional governments and a Federal government. Finally, there is a single foreign consumer who trades with each region.

MMRF has a core set of equations which determine supplies and demands of commodities based on assumptions of optimising behaviour of agents at the microeconomic level within the context of competitive market structures. Further, MMRF specifies demands and supplies of factors of production. The factors of production can cross regional borders so that each region's endowment of productive resources need not be fixed. The supply, demand and market clearing equations comprise the CGE core of the model.

In addition to the core equations are blocks of equations describing: (i) regional and Federal government finances, (ii) accumulation relations between capital and investment, population and population growth, foreign debt and the foreign balance of trade, and (iii) regional labour market settings. The various equation blocks provide linkages between variables within a region and between regions. The description of MMRF begins with the CGE core followed by brief comments on the additional four blocks of equations. The CGE Core

The CGE core equations of MMRF are based on the equation system of the ORANI model of the national Australian economy (see Dixon et al (1982)). The ORANI equations system describes the economy of a 'single-region', where Australia is the region. The transformation of the ORANI system into the MMRF system, in principle, means adding a regional dimension to all equations and adding interregional trade flow and market clearing equations. The basic theoretical assumption made in the CGE core module are as follows: TheNatureofMarkets

The market system in each region is assumed to be perfectly competitive. Demand is assumed to equal supply in all markets other than the labour market (where excess supply conditions can hold). Competition guarantees that a level of output is produced in each industry where the producer's price equals marginal cost and no monopoly profits are earned.

13 Full technical documentation of MMRF is given in Naqvi and Peter (1995). 44 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT The government intervenes in the market by imposing ad-valorem sales taxes on commodities. This places a tax wedge between the price paid by the consumer and the price received by the producer. The model also recognises two margin commodities (Domestic Trade and Transport and Communication) which are required for each market transaction (the commodity movement from the producer to the consumer). The cost of the margins are included in the consumer's price. Production: Demand for Inputs to the Production Process

MMRF recognises two broad categories of inputs to the production process; intermediate inputs and primary factors. Firms in each industry are assumed to choose a mix of inputs which minimises the costs of production for given input and output prices and for a given level of output. They are constrained in their choice of inputs by a nested production technology.

At the first level of the nest, source-composite bundles of intermediate inputs and a composite bundle of primary-factor inputs are used in fixed proportions to output.

For the intermediate input bundles, producers can source the composition of the bundles from a constant-elasticity-of-substitution (CES) combination of a domestic composite of the eight regional versions of the commodity and the foreign (internationally imported) version.

For the primary-factor bundle, producers choose a CES combination of the three primary factors; labour, capital and land. Working capital is added to the production process in fixed proportion to output. The labour bundle is a CES combination of eight labour occupations. Household Demands

The household determines the composition of consumption by choosing commodities to maximise a Stone-Geary utility function subject to a household expenditure constraint. A Keynesian consumption function determines household expenditure as a function of household disposable income. The household demand structure also follows a nesting arrangement where for each commodity the household's consumption bundle is a CES combination of a domestic composite of the eight regional versions and a foreign sourced version. Investment Demand

Given the level of investment expenditure, the firm chooses inputs to minimise the costs of capital creation. The input demand functions to capital creation follow a nesting pattern similar to that of household demands, with the difference being that at the top level of the nest, the firm uses inputs in a Leontief combination, but can substitute in their source between regions and between regions and overseas.

The determination of the level of industries' investment expenditure depends on whether the model is being run in comparative-static or forecasting mode. In comparative-static mode, the determination of industry investment also depends on whether the experiment is short run or long run. In the short run, national aggregate investment is exogenously determined and is distributed between the 104 industries on the basis of industry rates of return.

In the long run, it is assumed that industry investment is sufficient to enable growth in industry capital stock at its underlying long-run trend growth rate. Aggregate national investment is determined by summing across industries and regions. In forecasting mode, industry investment is determined by an assumption on the rate of growth of industry capital stock (which need not be one of long-run trend growth) and an accumulation relation linking capital stock and investment between the forecast year and the year immediately following 45 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT the forecast year. In forecasting mode, aggregate national investment is the sum of the industries investment. Governments' Demands for Current Consumption

In each region, there are two types of government expenditures; expenditure of the regional government and expenditure of the Federal government. There is no explicit theory determining governments' consumption expenditures. There are three general ways of determining government expenditures: (i) endogenously, by a rule such as moving government expenditures with household consumption expenditure or domestic absorption; (ii) endogenously, as a policy instrument which varies in order to accommodate an exogenously determined policy target; and (iii) exogenously. Foreign Demand (International Exports)

In each region, the exporting industries face downwardly-sloping demand curves for their commodity on international markets. Government Finances

MMRF includes a system of equations determining various sources of income and expenditures of the eight regional governments and the Federal government. The major sources of government income are tax revenues, interest payments on government-owned assets and (for the regional governments) commonwealth grants from the Federal government. The major government expenditures are current expenditure, investment, and personal benefits to households. The specification of government finances allows the imposition of government budget constraints and the explicit modelling of regional government and Federal government budget and tax policy.

Calculated within the government finance accounts are unemployment benefits, other personal benefits (e.g., pensions and sickness benefits), PAYE taxes and taxes on non-wage primary-factor income of the households. This facilitates the calculation of net benefits accruing to the households. Dynamics for Forecasting

This block of equations facilitates medium-run and long-run forecasting experiments using MMRF. The equations link key flow variables with their associated stock variables. The base-year data for MMRF is currently for the year 1990-91. Forecasts have been made for the years 1996-97 and 2000-01.

The dynamics of MMRF are confined to accumulation relations connecting industry capital stock with industry investment, regional population with regional natural growth in population and foreign and interregional migration, and the foreign debt with the trade balance. Presented below are the capital/investment equations. The other equations determining the other stock/flow relationships follow a similar structure.

Investment for industry i in region r in the forecast year (I(i,r)T) is determined by the following two sets of equations:

K(i,r)T+1 =K(i,r)T(1-d) + I(i,r)Ti=1,...,13, r=1,...,8 and

1 K(i,r)T+1 K(i,r)Tt = , K(i,r)T èK(i,r)0

46 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT where K(i,r)T is the capital stock in the forecast year of industry i in region r, K(i,r)T+1 is the capital stock in the year immediately following the forecast year, K(i,r)0 is the base-year value of the capital stock and d is the constant annual rate of depreciation. The first equation is a standard capital-accumulation relation with one year gestation between the capital stock and capital creation.

The second equation sets the growth in the capital stock between the forecast year and the year following equal to the average annual growth rate over the forecast period, i.e. the average between year 0 and year T. The constant t in the exponent is the length (in years) of the forecast period, i.e., it is the number of years separating year 0 and year T. The value of K(i,r)T is determined in the CGE core module as a function of industry output levels and relative rates of return to primary factors. Regional Labour Markets

This block of equations is designed to allow flexibility in the modelling of regional labour markets. The labour market setting is determined by the modeller's choice of the value of labour-market parameters and exogenous/endogenous variables in a series of identities relating: regional population to population of working age; regional population of working age to the labour supply; and the regional unemployment rate to the demand and supply of labour.

There are three main possible settings for regional labour markets; (i) regional labour supply and unemployment rates are exogenous and regional wage differentials are endogenous, (ii) regional wage differentials and unemployment rates are exogenous and regional labour supply is endogenous or (iii) regional labour supply and wage differentials are exogenous and regional unemployment rates are endogenous. Data Requirements

MMRF requires data for each of the blocks of equations described above. The CGE core requires a multi-regional input-output database and behavioural parameters describing various elasticities of substitution. The government finance block requires data on regional and Federal governments' budgets. The accumulation relations require base-year values of various stock and flow variables and depreciation and interest rates. The regional labour market block requires various demographic and labour market data.

Regional data for all blocks but the CGE core are published in various sources by the Australian Bureau of Statistics (ABS); see Peter (1994) for a description of the ABS data sources used in the MMRF database. Unfortunately in Australia, an official multi-regional IO table is not compiled by the ABS. IO data for MMRF was synthetically created by disaggregating the national IO table used to calibrate the national CGE model MONASH (see Dixon and McDonald (1992) for a description of the construction of the MONASH IO data).

The regional disaggregation of the national IO table involves two basic procedures: (i) split the columns of the IO table to identify the location of the purchasing agent and (ii) split the rows to identify the supply source by commodity of the purchasing agent's consumption bundle. A version of this method is described in Han (1992) and Han and Peter (1994). Computing Solutions for MMRF

MMRF is a system of non-linear equations solved using GEMPACK. GEMPACK (see Harrison and Pearson (1994)), is a suite of general-purpose software for implementing and solving general and partial equilibrium models. A linearised version of the MMRF equation system is specified in a syntax similar to ordinary algebra. GEMPACK solves the system of 47 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT non linear equations arising from MMRF by converting it to an Initial Value problem and then using one of the standard methods, including Euler and midpoint (see, for example, Press et al (1986) for solving such problems; see Pearson (1991) for details).

48 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Appendix B

Modelling Road Construction in MMRF

In its standard configuration, MMRF recognises a single construction industry in each region which is an aggregate of road and non-road construction. An unpublished survey of State road authorities by the Bureau of Transport and Communications Economics (BTCE) shows that the input structure of road construction is different from that of non-road construction. We have modified our database to incorporate the input structure of road construction.

Table B.1 lists the shares of intermediate inputs and primary factor inputs for road construction developed at the Centre of Policy Studies, based on the results of the BTCE survey. It shows that road construction is intensive in the use of manufactured goods and labour and that the direct use of capital is low. The shares of manufactured goods and capital reflect our treatment of machinery used in road construction. We assume that the machinery used in road construction is consumed over the period of construction. The machinery is therefore treated as a current input for the purpose of road construction and is purchased from the various manufacturing industries (see the shares of intermediate inputs of "construction machinery" and "other machinery" in road construction in Table B.1). To the extent that the manufacturing industry must expand in order to supply machinery to road construction, the manufacturing industry's capital stock and investment level will increase as expenditure on road construction increases. In our database the manufacturing industries are aggregated into one sector. Table B.2 reports input shares by sectors in road construction in our database.

49 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT

TABLE B.1 PERCENTAGE COST SHARES OF ROAD CONSTRUCTION BASED ON A BTCE UNPUBLISHED SURVEY OF STATE ROAD AUTHORITIES

Domestic Imported Total Intermediate Inputs 53.899 10.614 64.512 Other Minerals 1.499 0.031 1.530 Petrol and Coal Products 6.431 0.499 8.496 Ready Mixed Concrete 5.100 0.000 5.100 Concrete Products 4.080 0.000 4.080 Non-metallic Minerals 12.454 2.846 15.300 Structural Steel Products 3.483 0.087 3.570 Construction Machinery 3.672 6.528 10.200 Other Machinery 1.953 0.597 2.550 Wholesale Trade 7.787 0.000 7.878 Road Transport 5.934 0.000 5.934 Other Business Services 1.505 0.026 1.531

Labour Costs (wage bill) 28.855 Managers and Administrators 1.788 1.788 Professional 3.328 3.328 Para-professionals 3.072 3.072 Trade Persons 2.610 2.610 Clerks 2.135 2.135 Sales persons & Pers. Srvs Workers 0.010 0.010 Plant & Machine Operators & Drivers 10.265 10.265 Labourers and related Workers 5.647 5.647

Capital and Other costs 6.630 Fixed Capital Cost 3.940 3.940 Other Costs 2.690 2.690 Total Cost 100.0

TABLE B.2 PERCENTAGE COST SHARES IN THE ROAD CONSTRUCTION INDUSTRY OF MMRF

Domestic Imported Total Intermediate Inputs 53.899 10.614 64.512 Mining 1.499 0.031 1.530 Manufacturing 37.173 10.557 47.73 Domestic Trade 7.787 0.000 7.878 Transport and Communication 5.934 0.000 5.934 Finance 1.505 0.026 1.531

Labour Costs (wage bill) 28.855 Managers and Administrators 1.788 1.788 Professional 3.328 3.328 Para-professionals 3.072 3.072 Trade Persons 2.610 2.610 Clerks 2.135 2.135 Sales persons & Pers. Srvs. Workers 0.010 0.010 Plant & Machine Operators & Drivers 10.265 10.265 Labourers and related Workers 5.647 5.647

Capital and Other costs 6.630 Fixed Capital Cost 3.940 3.940 Other Costs 2.690 2.690 Total Cost 100.0

50 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT Appendix C

Interest Payments and Trade Balances Resulting from City Link

The formula for the interest payments by each State in perpetuity is:

ℜæℜ1− (1 + d)T ℜ ∆B =∆B d so sc ℜ 1− (1 + d) ℜ

Where ∆Bso is the change in the State's trade balance imposed in the operational phase, ∆Bsc is the change in the State's trade balance from the construction phase (i.e., the value reported in row 15 of Table 4), d is the real interest rate (assumed to be 8 per cent) and T is the number of years of the construction phase (i.e., T=5). The product of ∆Bsc and the term in brackets on the right hand side of equation (1) is the value of the State's accumulated debt during the construction phase. When multiplied by the interest rate, d, we get the annual interest payments for the operational phase.

The required annual trade balance surpluses for the States implied by the additional accumulated debt of the construction phase are: NSW $15.1m, VIC $152.6m, QLD $14.7m, SA $3.7m, WA $27.4m, TAS $1.0m, NT $4.1m and ACT $0.7m.

51 E CONOMIC I MPACT OF C ITY L INK:TRANSURBAN P ROJECT References

ABS (1995), Australian Economic Indicators, ABS Cat. No. 1350.0, April, Australian Bureau of Statistics.

ABS (1993), Survey of Motor Vehicle Use, 30 September 1991, Cat. No. 9208.0, Australian Bureau of Statistics.

Allen Consulting Group (1993), Land Transport Infrastructure: Maximising the Contribution to Economic Growth, Report to the Australian Automobile Association, November 1993.

Allen Consulting Group (1995), The Economic Impact of City Link, May, 1995.

Allen Consulting Group (1994), Neutral Evaluation of Infrastructure Projects: Alternative Road Pavements, Report to the Steel Reinforcement Institute of Australia, October 1994.

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