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REVIEW OF THE VICTORIAN RAIL ACCESS REGIME FINAL REPORT VOLUME II: DETAILED ANALYSIS AND DISCUSSION OF ISSUES

FEBRUARY 2010

An appropriate citation for this paper is:

Essential Services Commission 2010, Review of the Victorian Rail Access Regime Final Report: Volume II Analysis and Discussion of Issues , February.

 Essential Services Commission. This publication is copyright. No part may be reproduced by any process except in accordance with the provisions of the Copyright Act 1968 and the permission of the Essential Services Commission.

STRUCTURE OF THE FINAL REPORT

The Commission’s final report on its review of the Victorian rail access regime is set out in three volumes:

• Volume I sets out the Commission’s findings and recommendations to the Minister for Finance.

• This volume provides a comprehensive explanation of the Commission’s analysis and its findings on each part of the terms of reference. It elaborates on the reasoning behind its recommendations and discusses responses received from stakeholders and notes some of the wider issues raised.

• The third volume comprises supplementary material set out as appendices to the report. The appendices provide background information and more technical analysis related to the review.

Essential Services Commission Review of the Victorian Rail Structure of the Final Report 3 Access Regime

ESSENTIAL SERVICES COMMISSION REVIEW OF THE VICTORIAN CHAIRPERSON’S 4 VICTORIA RAIL ACCESS REGIME: INTRODUCTION DRAFT REPORT

ACRONYMS

ABARE Australian Bureau of Agricultural and Resource Economics

ACCC Australian Competition and Consumer Commission

ACRFD Alliance of Councils for Rail Freight Development

AEMO Australian Energy Market Operator

AER Australian Energy Regulator

ARA Australasian Railway Association

ARG Australian Railroad Group Pty Ltd

ARTC Australian Rail Track

BITRE Bureau of , and Regional Economics

CIRA Competition and Infrastructure Reform Agreement

COAG Council of Australian

CPA Competition Principles Agreement

CRT CRT Group

DOI Victorian Department of Infrastructure

ESC Essential Services Commission

ESCOSA Essential Services Commission of

GIFT Intermodal Freight Terminal

GTK Gross Tonne Kilometres

GVFLC Goulburn Valley Freight & Logistics

GWI Genesee & Wyoming Incorporated

IMT Intermodal Terminal

Essential Services Commission Review of the Victorian Rail Acronyms 5 Victoria Access Regime

IPART Independent Pricing and Regulatory Tribunal

ISO Independent System Operator

MCE Ministerial Council on Energy

MFT Melbourne Freight Terminal

MFTN Metropolitan Freight Terminal Network

MOU Memorandum of Understanding

MTM

NCC National Competition Council

NERA National Economic Research Associates

PBRT Port Botany Rail Team

PFN Principal Freight Network

PoMC Port of Melbourne Corporation

POTA P&O Trans Australia

PPP Public-Private Partnerships

QCA Competition Authority

QR

RCA Rail Corporation Act 1996

RFNR Victorian Rail Freight Network Review

RFR Regional Fast Rail

RIC Rail Infrastructure Committee

SCT SCT Group

TPA Trade Practices Act 1974

VBS Vehicle Booking System

VFF Victorian Farmers

VFLC Victorian Freight and Logistics Council

VRAR Victorian Rail Access Regime

Essential Services Commission Review of the Victorian Rail Acronyms 6 Victoria Access Regime

GLOSSARY

Access agreement An agreement between an access provider and an access seeker for the provision of one or more declared services.

Access arrangement A mandatory access undertaking under the current VRAR.

Access provider A provider of a declared rail transport service.

Access regime Procedures to govern access to rail track including setting an access pricing , criteria for permitting access and operating conditions.

Access seeker A person seeking access to a declared rail transport service or seeking interconnection.

Access undertaking A document which establishes the terms and conditions under which a service provider is willing to offer or negotiate access to service(s) provided by an essential facility to an access seeker.

Broad gauge Means that the distance between the rails (rail gauge) is 1 greater than the standard gauge of 1,435 mm (4 ft 8 ⁄2 in).

Container A reusable steel rectangular box for carrying .

Container terminal A docking, unloading and loading area within a port designed to suit the sizes and needs of container ships.

Declaration Order An Order of the Governor in Council pursuant to s.38I of the RCA (Declaration of rail transport services).

Declared rail transport A rail transport service declared under a Declaration service Order.

Essential Services Commission Review of the Victorian Rail Glossary 7 Victoria Access Regime

Interconnection Means that access seekers who own or operate, or intend to own or operate, railway track or sidings, may connect that infrastructure to the access provider’s declared railway track.

Intermodal A system whereby standard-sized cargo containers can be moved seamlessly between different ‘modes’ of transport, typically specially adapted ships, barges, trucks and trains.

Line haul The distance ‘point to point’ between terminals.

Multi-user rail Intermodal A facility that provides: a rail terminal service; rail access terminal services; transfer interfaces with other non-rail logistics and transport modes; and support services, to any and all organisations within and related to the rail industry subject to capability, capacity and the completion of agreements with those organisations on reasonable commercial terms.

Non-reference service A declared rail transport service that is not a reference service.

Pricing Order or Pricing An Order of the Governor in Council pursuant to s.38J of Principles Order the RCA (Pricing Principles Order) specifying the principles and/or authorising the Commission to the methodology for calculating prices for declared rail transport services.

Rail corridor A rail network running from one location to another.

Rail gauge The distance or width, between the inner sides of the rails.

Rail infrastructure A facility that is used to operate a railway and includes- railway track, railway track sidings, associated track structures and works (such as cuttings, tunnels, bridges, stations, platforms, excavations, land fill, track support earthworks and drainage works), over-track structures, under-track structures, service roads, signalling systems, rolling stock control systems, communications systems, notices and signs, overhead electrical power supply systems and associated buildings, depots, yards, plant, machinery and equipment.

Rail sidings A low-speed track section distinct from a main track or branch track. It may connect to main track or to other sidings at either end. The distinction between sidings and other types of track is that a "siding" generally denotes an

Essential Services Commission Review of the Victorian Rail Glossary 8 Victoria Access Regime

auxiliary or not exactly specified usage. Sidings often have lighter rails, meant for lower speed or less heavy traffic, and few, if any, signals.

Reference service A declared rail transport service that is likely to represent a significant proportion of demand by access seekers, or a service provided by the access provider to itself or an affiliate.

Reference tariff or price The price, or an indicative price, for a reference service.

Rolling stock A vehicle that operates on or uses a railway track or tramway track, and includes a locomotive, carriage, rail car, rail motor, light rail vehicle, train, , light inspection vehicle, road/rail vehicle, trolley, wagon or monorail vehicle.

Standard gauge The distance between the inside edges of the rails of standard gauge track is 1,435 mm (4 ft 8½ in).

Stevedore Individual or firm employed for the purpose of loading and unloading a vessel.

Supply chain A sequence of activities related to transportation of raw materials into saleable products. These activities are typically performed by multiple firms in a ‘chain’ or network.

TEU ‘Twenty-foot Equivalent Unit’ is the industry standard to measure containers. A 20-foot container’s dimensions are twenty feet long (6.09 metres), 8 feet wide (2.4 metres) and 8 feet six inches high (2.6 metres).

Terminal A facility at which freight is loaded or unloaded from rolling stock, or stored, and includes hard stands, equipment and other infrastructure used for the loading or unloading of freight from rolling stock at the facility.

Terminal ancillary services Terminal services which include shunting, wagon maintenance and storage, which a user may not necessarily need to use when acquiring other terminal services.

Train kilometres Distance travelled by a train.

Essential Services Commission Review of the Victorian Rail Glossary 9 Victoria Access Regime

Vertical integration The degree to which a firm owns its upstream suppliers and its downstream buyers.

Essential Services Commission Review of the Victorian Rail Glossary 10 Victoria Access Regime

CONTENTS

STRUCTURE OF THE FINAL REPORT 3

ACRONYMS 5

GLOSSARY 7

CONTENTS 11

1 INTRODUCTION 13

1.1 Purpose and scope of the review 13 1.2 Objectives of the Commission and relevant principles 14 1.3 Review process 15 1.4 Structure of the Report 16 2 POLICY CONTEXT 17

2.1 Freight Futures 17 2.2 Rail Freight Network Review (Fischer Review) 19 2.3 CIRA 20 2.4 Transport Integration Bill 2009 21 3 THE NEED FOR CONTINUING ECONOMIC 23

3.1 When is economic regulation desirable? 24 3.2 views on merits of retaining regulation 26 3.3 Market power 31 3.4 Case for regulating train infrastructure services to passenger trains 44 3.5 Case for regulating rail infrastructure services to freight trains 45 3.6 The case for regulating access to certain terminals 54 3.7 Conclusions – the need for continuing economic regulation 60 4 THE FORM OF ECONOMIC REGULATION 63

4.1 Approach to selecting the form of regulation for the VRAR 64 4.2 Stakeholders' views on the form of access regulation 69 4.3 Assessment of the appropriate form of access regulation 73 4.4 Choosing a preferred form of light-handed access regulation 78 4.5 Overview of how it may work – the VRAR 81

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4.6 The monitoring regime for certain terminals 105 5 REGULATORY OBJECTIVES 107

5.1 Introduction 107 5.2 Discussion of key issues 108 5.3 Conclusions 115 6 NETWORK PERFORMANCE STANDARDS 117

6.1 Introduction 117 6.2 Present framework for setting standards, approving works and allocating subsidies 118 6.3 Performance standards and the roles of the Commission and the Director of 123 6.4 An Alternative Framework 125 7 RAIL ACCESS “ONE-STOP-SHOP” 129

7.1 What is the “one-stop-shop” concept? 129 7.2 Current arrangement 129 7.3 Options for implementing a “one-stop-shop” 132 7.4 Concluding comment 133 8 COMMENTS IN SUBMISSIONS ON BROADER ISSUES 135

8.1 Sustainability of current rail and road freight 135 8.2 A common approach to road and rail pricing 136 8.3 Institutional considerations 138 8.4 Network performance standards 138 9 IMPLEMENTATION & TRANSITIONAL ISSUES 141

9.1 Summary of the changes required to implement the recommendations 141 9.2 Implementation timeframes 145

Essential Services Commission Review of the Victorian Rail Contents 12 Victoria Access Regime

1 INTRODUCTION

The Essential Services Commission (the Commission) is the independent economic regulator of the Victorian rail sector under the Rail Act 1996 (RCA). Part 2A of the RCA establishes the Victorian Rail Access Regime (VRAR). The current VRAR came into effect on 1 January 2006.

The Commission also carries out inquiries and provides recommendations to the Victorian on various economic and regulation matters under Part 5 of the Essential Services Commission Act 2001 (‘ESC Act’).

1.1 Purpose and scope of the review

On 26 June 2009, the Minister for Finance (Minister), asked the Commission to undertake a review of the VRAR. Specifically, the Minister asked the Commission to 1

examine, report on, and make recommendations in relation to:

i Whether a Victorian rail access regime is still required given the current and likely future structure of the industry, and having regard to the costs and benefits of economic regulation.

ii If continuing the access regime is recommended:

a. whether the current objectives for the Victorian Rail Access Regime (VRAR) remain relevant, and if not, what new objectives the VRAR should adopt;

b. what services the VRAR should regulate; and

c. what form the regulation of those services should take.

In conducting its review, the Commission is to have regard to factors that affect the efficient operation of the Victorian rail industry, including market conditions, the Government's investment in, and funding of, rail infrastructure and the rail industry and the Government's and priorities for the rail freight network.

In conducting its review, the Commission is to have regard to:

i. the objectives set out in section 38F of the Rail Corporations Act 1996 and section 8 of the Essential Services Commission

1 See Appendix A of Volume 3 for the full Terms of Reference

Essential Services Commission Review of the Victorian Rail 1 Introduction 13 Victoria Access Regime

Act 2001, and the matters which the Commission must have regard to as specified in sections 8A of the Essential Services Commission Act 2001 (ESC Act);

ii. relevant principles in the Competition Principles Agreement and Part 3A of the ESC Act; and

iii. Victoria's obligations under the Competition and Infrastructure Reform Agreement.

This review reflects the commitment that the Victorian Governments has made to review its existing rail access regimes for compliance with the principles in the Competition and Infrastructure Reform Agreement (CIRA) and then submit them for certification no later than the end of 2010.

1.2 Objectives of the Commission and relevant principles

The Terms of Reference requires us to have regard to the Commission’s rail industry specific objectives set out in s.38F of the RCA, namely: (a) to ensure access seekers, and any other person the Commission considers may want to be provided declared rail transport services, have a fair and reasonable opportunity to be provided declared rail transport services; and (b) to promote competition in rail transport services to achieve an increase in the use of, and efficient investment in, rail infrastructure.

The Terms of Reference also directs us to consider whether these objectives remain relevant.

The Commission has regard to general regulatory objectives that are set out in s.8 of the ESC Act, namely:

(1) In performing its functions and exercising its powers, the objective of the Commission is to promote the long term interests of Victorian consumers.

(2) Without derogating from subsection (1), in performing its functions and exercising its powers in relation to essential services, the Commission must in seeking to achieve the objective specified in subsection (1) have regard to the price, quality and reliability of essential services.

Section 8A of the ESC Act states that in seeking to achieve these general objectives, we must have regard to the following matters where relevant:

(a) efficiency in the industry and incentives for long-term investment;

(b) the financial viability of regulated industry;

(c) the degree of, and scope for, competition within the industry, including countervailing market power and information asymmetries;

(d) the relevant health, safety, environmental and social applying to the industry;

Essential Services Commission Review of the Victorian Rail 1 Introduction 14 Victoria Access Regime

(e) the benefits and costs of regulation (including externalities and the gains from competition and efficiency) for –

o consumers and users of products or services (including low income and vulnerable consumers); and

o regulated entities.

(f) consistency in regulation between States and on a national basis;

(g) any matters specified in the empowering instrument.

The Terms of Reference require the Commission to have regard to relevant principles in the Competition Principles Agreement (CPA) and the CIRA. The CPA and the CIRA are discussed in sections 2.3 and 4.1 of this Report. 2

Clause 6(5)(a) of the CPA and Part 3A of the ESC Act (Third Party Access Regimes) include the following objective:

The object of this Part is to promote the economically efficient operation of, use of and investment in, the infrastructure by means of which services are provided, thereby promoting effective competition in upstream and downstream markets.

We must also to have regard to the Government's policies and priorities for the rail freight network. In this regard,we have considered the goals and objectives of the Freight Futures policy document (December 2008) where relevant.

1.3 Review process

The review was conducted in accordance with Part 5 of the ESC Act (Inquiries and Reports).

An Issues Paper was released on 16 July 2009, to which ten submissions were received from: the Alliance of Councils for Rail Freight Development (ACRFD); Asciano; BlueScope Steel; ; P&O Trans Australia (POTA); Port of Melbourne Corporation (PoMC) (including a confidential supplement); V/Line Passenger Pty Ltd (V/Line); the Victorian Farmers Federation (VFF); the Victorian Freight and Logistics Council (VFLC); and Wakefield Transport Group (Wakefield) (including a confidential part).

Two public hearings were held: • in Melbourne on 1 September 2009 and • in on 8 September 2009.

At these hearings, presentations were made by representatives of the Commission, Asciano, ACRFD, the VFF, the VFLC and DIIRD. Transcripts of the proceedings are available on the Commission’s website.

2 Appendix B of Volume 3 reproduces clause 6 of the CPA in full

Essential Services Commission Review of the Victorian Rail 1 Introduction 15 Victoria Access Regime

The Commission released its draft report on 4 December 2009. It received eight submissions in response from: the ACRFD; Asciano; the Australian Rail Track Corporation (ARTC); El Zorro; PoMC; POTA; QR Freight; V/Line; and the VFLC.3

A workshop was also held on 17 December 2009, to which access providers, all of the submitters to the review and the Department of Transport were invited. Represented at the workshop were: the ACRFD; Asciano; Metro Trains Melbourne (MTM); POTA; PoMC; QR Freight; V/Line; and the VFLC.

1.4 Structure of the Report

The structure of this Report is as follows: • Chapter 2 is an overview of the policy context for the review. • Chapter 3 presents our assessment of whether there is a need for economic regulation of any rail infrastructure services in Victoria, and hence whether the Victorian rail access regime is still required. • Chapter 4 examines the options for the form of access regulation that should be applied to those infrastructure services that are recommended to be retained under the VRAR and identifies the most appropriate form of regulation. • Chapter 5 considers the on-going relevance of the existing VRAR objectives and identifies desirable changes to those objectives. • Chapter 6 examines the arrangements between the Government and V/Line and MTM respectively which have bearing on maintenance works and network performance standards. The chapter addresses the existing framework for establishing rail network performance standards on the freight-only rail network and alternative options, having regard to the Government subsidies to maintenance of the freight network. • Chapter 7 identifies options in regard to one of the institutional reforms recommended by the Fischer Review to facilitate and simplify the process of obtaining rail access, such as a “one-stop-shop” for track access. • Chapter 8 summarises stakeholder views on a number of broader issues outside the specific terms of reference of this review. • Chapter 9 makes some observations relating to implementation of the recommendations, as well as transitional issues.

3 A list of all submissions received is included at Appendix C.

Essential Services Commission Review of the Victorian Rail 1 Introduction 16 Victoria Access Regime

2 POLICY CONTEXT

In carrying out this review we have had regard to relevant government policies and objectives related to the rail industry and economic regulation. This chapter provides a brief overview of the policy context for the review.

Of most relevance are the Government’s recent policy statement Freight Futures and, although not formally adopted as policy, the findings of the 2007 Rail Freight Network Review (or ‘Fischer Review’). The regulatory principles in the CIRA are also relevant. Legislation is presently before the Victorian Parliament that will, if passed, establish transport system objectives and decision making principles that are also relevant to this review. 4 This chapter summarises the key aspects of these policies and objectives relevant for this report.

2.1 Freight Futures

The Victorian Government’s freight strategy is set out in the policy document Freight Futures (December 2008). This strategy should be read in conjunction with the Victorian Transport Plan (December 2008) and the recent Port Futures strategy.

The elements of the freight strategy most pertinent to the present review can be summarised as follows. Objectives The policy objectives of Freight Futures include: • facilitating the efficient movement of freight in Victoria • reducing the cost and improving the reliability of supply chains in Victoria • managing and mitigating any adverse impacts of freight planning and operations on communities and the environment • optimising the use of existing network infrastructure • providing appropriate priority for freight on the network in the context of competing demands • planning and delivering new network infrastructure in a timely manner • identifying and protecting freight network options where necessary, and • providing a policy environment that encourages private sector investment.

4 Transport Integration Bill 2009 (Vic).

Essential Services Commission Review of the Victorian Rail 2 Policy Context 17 Victoria Access Regime

Key strategies relevant to this Review

The Freight Futures strategy includes: • identifying and developing a Principal Freight Network (PFN) comprising certain major arterial roads and expressways, as well as railway lines commonly used for carrying freight. The PFN will have priority of investment to improve the efficiency of freight supply chains. Future freight corridors will also be identified and protected • improving the integration of freight network planning with land use planning. To this end, Freight Activity Centres will be identified, which will be protected with appropriate zoning to facilitate these centres achieving the mass and concentration important to freight efficiency. The logistics city planning concept will also be developed • establishing a Metropolitan Freight Terminal Network (‘MFTN’), including a new Melbourne International Freight Terminal north of Footscray Road; a series of major ‘open access’ terminals located in the west, north and south- east industrial areas of Melbourne; and an integrated system of high capacity transport links to connect these terminals to the port • revitalising the rail network, including rehabilitating prioritised sections of the regional rail network to maintain operating speeds where a sustainable commercial economic benefit will result, and facilitating the development of new Intermodal terminals and • alleviating the impact of road freight transport in the inner west through the Truck Action Plan – a combination of road works to enhance capacity on selected routes and restrictions on truck movements on residential streets. Freight Futures emphasises that it is ‘the role of Government to establish appropriate policy settings and create the right and regulatory environment to ensure effective coordination of the network as a whole’, enabling the private sector (and, for that matter, State-owned enterprises) to invest and participate with confidence. 5

It also emphasises the need to establish appropriate governance arrangements, and to maximise the efficient use of the Principal Freight Network. One of the directions of Freight Futures is to undertake regulatory reform and reduce the regulatory burden on the freight industry.

Effective regulation of freight transport requires continual reform due to changes to economic and business conditions. Effective regulation is also an important driver of productivity growth in the state and national economies. 6

5 Victorian Department of Infrastructure 2008, Freight Futures, p.35 6 ibid, p.71

Essential Services Commission Review of the Victorian Rail 2 Policy Context 18 Victoria Access Regime

2.2 Rail Freight Network Review (Fischer Review)

The Fischer Review was tasked with conducting a review of the Victorian rail freight network and identifying opportunities for future development and improvement. The Fischer Review recommended that:

the Government provides a fit-for-purpose regional rail freight system at a reasonable cost, which is capable of efficiently transporting known freight volumes at prices competitive with road.7

The importance of this was emphasised as follows:

the below-rail network is unviable and requires ongoing significant support, due to the relatively low and seasonal volumes on it. However, the condition of the network and associated infrastructure are fundamental to the viability of above-rail operations, which need to be profitable to be able to provide adequate rolling stock. 8

The freight-only network was prioritised for rehabilitation works as follows: • Platinum – the base network – included only the to line, which was already being upgraded to a 70 km/h standard with funding • Gold – the first priority for rehabilitation – were the core grain lines to be maintained at a class 4 or 5 standard 9 • Silver lines were only to receive funds for major maintenance if there were co- commitments by grain bulk handlers (if so they should be maintained to class 4 or 5 standard) and . • Bronze lines were those that should not have major maintenance carried out.

Although not policy, it is notable that the Fischer Review also recommended: • the adoption of the access prices that apply to the NSW regional network owned by the Rail Infrastructure Corporation (RIC) and managed by ARTC. The Fischer Review was concerned that the prevailing access prices, established in negotiations between the Government and at the time of the buy-back, were likely to cause a loss of freight volumes from the rail network. • that a simpler access regime be adopted, and consideration be given to the Commission’s ongoing role in rail freight access • a “one-stop-shop” for track access to simplify the process of obtaining access for train operators. (According to the Fischer Review, this would reduce the

7 Fischer Review (2007), p.5. 8 ibid., p.6. 9 The class of rail line is defined by the speed that trains are allowed to operate i.e. classes 1 and 2 are >80 km/h; class 3 is 65 to 80 km/h; class 4 is 50 -65km/h; and class 5 is < 50km/h.

Essential Services Commission Review of the Victorian Rail 2 Policy Context 19 Victoria Access Regime

transaction costs and operational complexity of train operations, including improving the efficiency of interfaces between networks, in order to better compete against road transport which does not have these transaction costs and complexities.) • that government consider the option of offering some of the Bronze lines to local communities or groups • that a Government-owned entity be made responsible for developing the rail freight business, and • establishing an ongoing asset management regime to maintain the network at designated speeds post-rehabilitation, with an ongoing audit framework to monitor track condition.

Most of these recommendations are directly relevant to the current review.

2.3 CIRA

On 10 February 2006, COAG agreed to a new National Reform Agenda, part of which is the CIRA. The CIRA also outlines some specific objectives for the regulation of rail freight infrastructure. Central to this was the agreement to implement a simpler and consistent national system of rail access regulation.

It was agreed that the proposed national system of rail access regulation should have the following features: • it would use the Australian Rail Track Corporation (ARTC) access undertaking to the Australian Competition and Consumer Commission (ACCC) as a model • it should apply to nationally significant railways including the interstate network, and to major intra-state freight corridors where the benefits exceed the costs • pricing and access mechanisms should be appropriately modified if vertically integrated operators have control of relevant track, and • State-based rail access regimes should be effective state-based regimes conforming to the requirements of clause 6 of the Competition Principles Agreement (CPA) and must be submitted for certification before the end of 2010.

These principles are at a high level, and it is not clear: • whether a ‘major freight corridor’ corresponds to a ‘significant infrastructure facility’ within the meaning of the National Access Regime • how consistency might best be served with respect to a network that contains some major and minor freight routes, or • whether a ‘lighter-handed’ form of regulation than the ARTC access undertaking might be applicable to some rail networks that are significant to State or regional economies, but perhaps not nationally significant. 10

10 For example, ESCOSA states that “whilst the South Australian Rail Access Regime is considered by the Commission to be more light-handed compared to other access regimes (eg. Victoria or ARTC), the Commission notes that this in part reflects different

Essential Services Commission Review of the Victorian Rail 2 Policy Context 20 Victoria Access Regime

The CIRA also contains other principles with respect to access regimes generally, including: • the objectives of the access regime should promote the economically efficient use of, operation and investment in, significant infrastructure thereby promoting competition in upstream and downstream markets • in the first instance the terms and conditions of access should be commercially agreed between the access seeker and the operator • price monitoring of services provided by means of significant infrastructure facilities (ie. in the context of access regimes) should be considered where it would aid transparency, or as a first step where price regulation may be required, or when scaling back from more intrusive regulation • pricing principles should: provide for revenue adequacy to meet the efficient economic costs of providing access; provide for efficient multi-part pricing and price discrimination; and prevent vertically integrated businesses setting prices in a way which unfairly advantages their downstream operations, and • merits reviews should be limited to the information submitted to the regulator.

The COAG Reform Council has recently observed that:

the task of establishing a national rail access regime has not been completed and … the review of the CIRA due to commence in 2011 may need to reconsider if and how it is to be achieved. 11

While COAG has not yet agreed or implemented a specific national rail model the Commission has sought to ensure that its recommendations are consistent with the CIRA principles.

2.4 Transport Integration Bill 2009

Presently before Parliament is a Bill that will establish a new policy framework for transport in Victoria. The Transport Integration Bill 2009 will establish the following objectives for the transport system: • Social and economic inclusion: This includes ‘minimising barriers to access so that, as far as possible, the transport system is available to as many people as wish to use it’ 12

market conditions and industry structures.” ESCOSA (2009) ‘2009 SA Rail Access Regime Inquiry: Draft Inquiry Report’, p.11. 11 COAG Reform Council (March 2009) ‘COAG Reform Council Report: Report to the Council of Australian Governments on Implementation of the National Reform Agenda’, p.59. 12 Transport Integration Bill 2009 Explanatory Memorandum, p.16

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• Economic prosperity: This includes ‘enabling efficient and effective access for persons and goods to employment, markets and services; increasing efficiency through reducing costs and improving timeliness; fostering competition and providing access to markets; facilitating investment in Victoria; supporting financial sustainability’ 13 • Environmental sustainability: among other things this includes ‘promoting forms of transport and the use of forms of energy and transport technologies that have the least impact on the natural environment’ 14 • Integration of transport and land use decisions • Efficiency, coordination and reliability: the transport system should ‘facilitate network-wide efficient, co-ordinated and reliable movements of persons and goods at all times’ 15 • Safety, health and wellbeing: among other things this includes ‘promoting forms of transport and the use of forms of energy that have the greater benefit for, and least negative impact on, health and wellbeing’ 16

The Bill establishes the following decision making principles which apply to all transport agencies and government-owned enterprises: • integrated decision making • triple bottom line assessment (including economic, social and environmental costs and benefits when assessing value for money) • equity • the principle of the transport system user perspective (understanding the requirements of transport system users) • the precautionary principle (in relation to environmental impacts) • stakeholder engagement and community participation, and • transparency (giving members of the public access to reliable and relevant information to facilitate a good understanding of transport system issues and the process by which decisions in relation to the transport system are made). 17

13 ibid., p.17 14 ibid., p.17 15 ibid., p.19 16 ibid., p.19 17 Transport Integration Bill 2009 clauses 14-21; Transport Integration Bill 2009 Explanatory Memorandum, pp. 1, 20-21.

Essential Services Commission Review of the Victorian Rail 2 Policy Context 22 Victoria Access Regime

3 THE NEED FOR CONTINUING ECONOMIC REGULATION

Key points o Foremost, the rail supply chain does not have sustainable market power against road transport alternatives. A degree of market power exists in the long haul interstate freight market. o However, competition between above-rail freight operators has an important role in facilitating economic efficiency within the rail industry. The bottleneck nature of many rail infrastructure facilities and the vertically integrated nature of service provision raises the risk that competition in the above-rail freight market may be distorted in the absence of an access regime. o Within the rail supply chain we have identified several benefits from ensuring access to rail infrastructure. o It is likely to be necessary to facilitate rail freight competitiveness and above-rail competition given the lack of incentives for below-rail operators that also operate passenger services. Facilitating rail freight has associated regional development implications. o In a subsidised environment ensuring above-rail contestability assists in minimising the risk that parties, such as the vertically integrated stevedore and freight service providers, are able to capture some of the benefits from the rail subsidies. o Access to on-dock freight terminals is essential for an above-rail competitor in the Victorian intra-state market. Rail terminal operators in the Dynon and Swanson precincts are vertically integrated above-rail operators in the intra-state and/or interstate freight markets. Greater assurance is needed that the existing leasehold access obligations will be effective. o In the short term, access to South Dynon will be necessary for any significant scale of competitive entry in the interstate rail linehaul market (until Government plans for further development of major rail terminals are advanced).

This chapter addresses whether access regulation continues to be needed for each of the services and facilities currently subject to regulation under the regime, and whether any other services and facilities should be subject to regulation. By doing so, it also addresses whether the Victorian rail access regime is still required.

Essential Services Commission Review of the Victorian Rail 3 The Need for Continuing 23 Victoria Access Regime Economic Regulation

Since the Victorian Government has committed to future certification of its rail access regime (should it continue), consistency with the principles for coverage of services under the national access framework is also examined. The chapter outlines: • the decision framework that we have employed when addressing the questions outlined above. • stakeholders’ views on the merits of retaining regulation • whether there is market power in the rail supply chain • the case for regulating passenger services • the case for regulating rail freight services and • the case for regulating terminal services.

3.1 When is economic regulation desirable? Net social benefits – the public interest test

The case for economic regulation of an industry or a service is typically based on an assessment of whether the social benefits of such regulation outweigh the social costs. This is interpreted broadly to include all benefits and costs, and having regard to whether there are alternative market-based approaches that yield similar net benefits.

Examples of where economic regulation may be well suited to generating net benefits include: • natural monopolies or poorly contestable markets – where there are large sunk costs and economies of scale • legislated monopolies (other than franchises where there is competition for the market), and • where vertical integration, and control of key facilities, can be used to inhibit or reduce competition.

Access regimes have been applied in the rail industry to reduce or prevent the misuse of market power, facilitate above-rail competition and promote a more innovative and efficient industry. Firms that possess market power have the ability to charge excessive prices or constrain competition in related markets, thus reducing economic efficiency.

The benefits of regulation will be less important where there is little scope for the misuse of market power and where there are no incentives to inhibit competition. However, assessing the benefits of regulation is more complex than a simple analysis of market power.

Other benefits of regulation – notwithstanding a lack of monopoly returns – can include facilitating the requirements of users by providing greater certainty over access, facilitating efficient competition in the rail industry and achieving public policy objectives given the subsidised nature of the rail industry.

Essential Services Commission Review of the Victorian Rail 3 The Need for Continuing 24 Victoria Access Regime Economic Regulation

The assessment of the benefits of rail access regulation is a forward looking exercise that involves balancing the risks if regulation is withdrawn − such as the risk and economic cost of the misuse of market power − against the costs of regulation and the risks of regulatory failure or risks of discouraging economically efficient investment.

The costs of regulation include both the direct and indirect costs. The Productivity Commission identified the following potential costs of regulation:18 • administrative costs for government and compliance costs for businesses • constraints on the scope for infrastructure providers to deliver and price their services efficiently • reduced incentives to invest in infrastructure facilities and/or inefficient investment in related markets, and • potential for wasteful strategic behaviour by both service providers and access seekers.

The costs of regulation are likely to be higher where there is potential competition between infrastructure services providers that could be inhibited by regulation, or where there is potential for investment that may be impeded or delayed by certain forms of regulation. Monopoly bottleneck facilities

The exercise of market power by the providers of infrastructure services can be particularly damaging where providers supply key inputs into other related firms and industries. For instance, where a facility is a monopoly bottleneck facility, the owner may have the ability and incentive to leverage its market power into a related market, thereby reducing competition in that market also. The National Access Regime 19 is a specific regulatory framework established to address market circumstances of this kind.

A necessary condition for applying access regulation is that the services are provided by infrastructure facilities that meet the criteria in Clause 6 of the CPA: • it would not be economically feasible to duplicate the facility • access to the service is necessary in order to permit effective competition in a downstream or upstream market • the safe use of the facility by the person seeking access can be ensured at an economically feasible cost, and 20 • the facility is significant to the State or regional economy.

The criterion that it would not be economically feasible to duplicate the facility means that:

18 Productivity Commission, September 2001, Review of the National Access Regime, Inquiry Report . 19 The National Access Framework is established in clause 6 of the Competition Principles Agreement and Part IIIA of the Trade Practices Act 1974 (Cth). 20 NCC (2003), p.23.

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over a relevant range of demand for the service … it is less costly for a single facility, rather than multiple facilities, to provide the service .21

The second criteria, namely that access is needed to permit competition in a dependent market, requires:

a comparison of the future state of competition in the dependent market with a right or ability to use [the] service and the future state of competition in the dependent market without any right or ability or with a restricted right or ability to use the service.22

This criteria is only satisfied if there would be a material difference in the degree of competition in a dependent market if access rights to the facility were, or were not, applied.

The National Access Framework also requires that access regulation must not be applied to a service if it would be contrary to the public interest. In the context of the certification of a state-based access regime, there is no explicit public interest test, although the NCC expects state to have assessed whether the public interest test is met. 23 Summary

In summary, the following conditions should both be met if economic regulation is to be applied to an industry: • the social benefits outweigh the social costs and similar benefits cannot be achieved through market-based reforms, and • the facilities are ‘significant infrastructure facilities’ and meet the criteria in clause 6 of the CPA .

3.2 Stakeholder views on merits of retaining regulation

3.2.1 Rail infrastructure

Most stakeholders agreed that the VRAR should be retained for the intra-state rail network. This view was held by: • train operators such as Asciano, El Zorro and QR Freight • other interested supply chain participants such as Wakefield, PoMC, BlueScope Steel, GrainCorp and ARTC • representative bodies with a regional Victoria focus, namely the VFF and ACRFD, and • access providers including V/Line and Connex.

21 National Competition Council (2007) ‘Tasmanian Rail Network: Application for declaration of a service provided by the Tasmanian Railway Network’, p.13. 22 Airport Corporation Ltd v Australian Competition Tribunal [2006] FCAFC 146, [83]. 23 NCC (2009) ‘Certification of State and Territory Access Regimes’, p.31

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A common theme was the belief that regulation of the intra-state rail network is necessary due to vertical integration of access providers with above-rail passenger services, resulting in a conflict of interest when providing access to freight trains. Some submitters were of the view that structural changes are required, a topic discussed in chapter 7 of this report.

The following are some of the key comments from the submissions.

ACRFD stated that:

Access to regional and metropolitan railway track services is essential in order to permit effective competition in the market for the movement of many products moved by the intra-state rail network. 24

V/Line had the following view:

The current regime for the regional rail network needs to be modified to reflect the changed management arrangements for the network … V/Line considers in these circumstances that there is still a role for a modified regime to approve commercial terms (excluding track standards) for standard forms of access and the resolution of disputes concerning non-standard applications.25

The VFF stated:

There is obviously no easy answer to this question since the State government has taken over ownership of the non ARTC freight network but the VFF feels that there appears to be evidence supporting a light-handed Access Regime.26

Wakefield was of the view that the VRAR will be required until the network is all standard gauge.

I feel the current form of regulation appropriate. Market power is still an issue as the infrastructure does not provide the level of efficiencies required to attract new entrants and the Gauge is a major hurdle also. 27

Asciano maintained:

V/Line and Connex (soon to be MTM) are monopoly service providers. Where freight has no alternative mode to rail, then the track providers will have the incentive to raise prices and output will be reduced when compared to the efficient level. … regulation is vital. The track owners, particularly as they are vertically

24 ACRFD (2009) submission on the Issues Paper, 11 August, p.9. 25 V/Line (2009) submission on the Issues Paper, 12 August, p.6. 26 VFF (2009) submission on the Issues Paper, August, p.2. 27 Wakefield (2009) submission on the Issues Paper, August, p.3.

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integrated providing passenger services, will have an incentive to discriminate against freight traffic and so to shift wherever possible all non price risk to freight operators. … All other non vertically integrated track providers (WestNet, ARTC, RailCorp, CRIC) both government owned and private, are subject to regulation. 28

The ARTC said:

ARTC understands that the regional intra-state network currently used for freight services (and not transferred to ARTC) remains vertically integrated where V/Line Passenger is the access provider, and operator of passenger trains. Whilst not directly competing in the same markets it is possible that incentives to discriminate against the use of the network for freight may exist. As such, it is not unreasonable to retain regulation to address these incentives. 29

In summary, stakeholders see benefit in retaining the rail access regime. However, a number of stakeholders were of the view that a light-handed regime may be more appropriate than the current VRAR.

3.2.2 Dynon terminals

There were differing views on whether there should be continued access regulation applied to the Dynon terminals.

Wakefield noted that ‘most serious rail operators would have their own facility’ but saw a need to retain access obligations at the Dynon terminals in the short term, until the Melbourne Intermodal Freight Terminal (MIFT) is established:

Rail operators could currently be greatly disadvantaged by terminals not providing access to suit pathing of trains adding costs to stable at Tottenham. 30

Bluescope saw the need for continued access obligations to apply to the Dynon terminals:

we believe the access regime for terminals is a key requirement for competition as well as ensuring rail capability is available to meet the growing needs of manufacturers such as BlueScope Steel. OneSteel and BlueScope Steel jointly share a ‘steel industry’ rail terminal in the Dynon precinct on Footscray Road, which is also co-located with the Pacific National gauge transfer operation ensuring our products connect with interstate networks. We certainly see the need for open and competitive access to capable terminal operations for industry solutions, as we currently operate.

28 Asciano (2009) submission on the Issues Paper, August, p.2. 29 ARTC (2009) submission on the Draft Report, December, p.4. 30 Wakefield (2009) submission on the Issues Paper, August, p.2.

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ACRFD was of the view that South Dynon should ideally operate as a common user facility, although Asciano may remain for the time being the main user. ACRFD suggested that for the future:

As the Dynon-Swanson precinct develops over the next decade, it is likely that the configuration of tracks and terminals in this area will be subject to significant change. It will be important that the future design of the Intermodal terminal will accommodate efficient logistics and the capacity for multiple operators and new entrants. 31

With regard to a future Metropolitan Freight Terminal Network, El Zorro suggested:

The proposed MFTN should have a “light-handed” regulatory approach based on the four guiding principles first raised in 2007 by ESC. 32

Asciano saw no need for the access regime to apply to South Dynon:

An access undertaking has been in place at South Dynon for over three years. Pacific National has not received a single access application in that time. 33

Further, Asciano observed that there have been significant costs associated with declaration.

In addition to the Commission’s costs, Asciano incurs significant compliance costs including audit costs. … it is Asciano’s view that the declaration of South Dynon has not resulted so far in lower investment in the terminal. However as the economy recovers and investment funds are freed up this concern will become more relevant. 34

In response to the Draft Report, Asciano considered that the rail terminals did not meet the declaration criteria in particular the requirement that the facility be uneconomic to duplicate. Asciano argued that South Dynon has already been duplicated (with the Dynon Intermodal and SCT facilities) and that relative scale is not relevant.

POTA indicated that it has a ‘Multi-User Terminal Access Policy’ as part of its terminal management contract with VicTrack, and this makes the access obligations within the VRAR redundant.

QR Freight was concerned by the Draft Report recommendation to remove coverage of Dynon Intermodal. QR Freight argued that POTA’s vertical integration of the terminal operator with above-rail services means that an access regime is

31 ACRFD (2009) submission on the Issues Paper, August, p.16. 32 El Zorro (2009) submission on the Issues Paper, August, p.7. 33 Asciano submission on the Issues Paper, p.4. Asciano has since advised the Commission that during the course of the present review it has received an access application. 34 Asciano (2009) submission on the Issues Paper, August, p.5.

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required to protect QR Freight’s position as a terminal user. QR Freight is a direct competitor of POTA, since the latter recently commenced rail freight services in its own right (replacing QR as its sub-contractor). QR considered that this was also true of South Dynon, where Asciano is both the terminal operator and the single user.

ARTC supported:

the continued VRAR coverage of the South Dynon Intermodal Terminal, and the inclusion of the Swanson Dock rail terminals. Access to strategically located intermodal facilities in Australian capital cities is critical to efficient national and regional intermodal operations. The consolidation and control of such facilities, particularly where control of both key intermodal facilities and port facilities in a capital city is consolidated, can provide an industry participant with the opportunity to gain substantial power in national and regional intermodal markets. Further market power can be gained where port and intermodal facilities are integrated with short haul (metropolitan shunt) and long haul rail operations. 35

ARTC commented that the diminished role and competitiveness of the Dynon Intermodal Terminal may be relevant considering to whether it needs to continue to be covered by the VRAR.

PoMC supported continuing to apply access regulation to the South Dynon and Dynon terminals and indicated that the MIFT should also be covered under the VRAR once it is constructed.

In summary, the vertical integration of POTA and Asciano, as both freight train operators and as terminal operators, was seen as potentially imposing an impediment to competition by QR Freight and ARTC. Asciano maintained that the existence of two alternative terminals meant that there was duplication – and hence these facilities cannot be considered as monopoly bottleneck facilities.

3.2.3 On-dock rail terminals

Differing views were also expressed about the Draft Report view that access regulation should be extended to the East and West Swanson rail terminals.

PoMC stated that:

PoMC, through its leases with Patrick Stevedores Operations No 2 Pty Ltd, P&O Trans Australia (Victoria) Pty Ltd and Westgate Ports Pty Ltd, has formal commitments related to rail operations that vary between tenants but which generally include:

• Provision of access to the on port rail terminals by rail operators under specified terms

• Rail terminal throughput, and

35 ARTC (2009) submission on the Draft Report, December, p.7.

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• Mix of port and non-port cargo.

Notwithstanding these arrangements, PoMC noted that:

the creation of a metropolitan freight terminal network will be extremely difficult to deliver without significant structural and operational change. … In summary, PoMC supports the extension of VRAR coverage to all on port rail terminals. 36

ARTC, as noted above, also supported the extension of the VRAR to the Swanson Dock rail terminals.

On the other hand, Asciano argued that competition between the East and West Swanston Docks had been ignored by the Commission, and that off-dock terminals can compete with the two on-dock terminals because the operational movements and hence costs are similar.

3.3 Market power

The benefits of regulation are most commonly associated with preventing the misuse of market power. In this context, market power should be interpreted broadly to include the ability to maintain prices at levels above costs, or the ability to affect competition in related markets. There are potentially a wider range of benefits to consider in addition to redressing the inefficiencies associated with market power being exercised.

This section considers whether there is market power in the rail supply chain or its elements.

3.3.1 Defining the markets

The component parts of the Victorian rail industry include: • Railway access providers (or providers of below-rail services) • Freight train operators (or providers of above-rail freight services) • Passenger train operators • Rail terminal operators, covering intermodal terminals and grain loading terminals, and • Users of freight and passenger rail services.

The rail freight supply chain also includes short-distance truck haulage for moving freight between terminals and the origins/destinations. This supply chain as a whole competes against long-distance direct road haulage. Each separate functional level of the rail freight supply chain is a dependent market of the others.

By and large the Victorian intra-state rail freight market can be seen as a geographically separate market to other States, with the main exception being the area of southern NSW. That said, there is competition for this freight in the

36 PoMC (2009) submission on the Draft Report, December, p.7.

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border areas from road transport with some “leakage” of contestable freight from the Victorian market transferred into the South Australian grain networks by road.

It is evident that below-rail services and above-rail freight services are economically separable services given the existence of several non-integrated below-rail service providers in the Australian rail sector, such as ARTC, as well as above-rail operators that specialise in rail line haul services and terminal operations, such as Pacific National and SCT. Relevant to the promotion of competition criterion in clause 6(5)(a) of the CPA, the rail line haul market is a separable dependent market.

Similarly, it is also common for terminal services to be provided by separate entities. In Victoria, for example, there are several terminal operators: Wakefield Transport, WestVic Containers, Wimmera Container Lines and VicTrack, to name just a few. Some of the terminal operators have their own short-haul truck fleets. Several terminals are operated by the stevedores and their affiliates, for example terminals in the Swanson/Dynon precincts, Somerton and Shepparton.

The market is separated or segmented in several ways: • Some of the rolling stock, such as wagons, are often specialised for certain freight types – for example, grain wagons, container flats or cement wagons. This imposes some limits on rolling stock substitutability between these different tasks. Similarly, loading and unloading terminals tend to be specialised – for example, bulk grain receival sites, and intermodal container terminals. • Virtually all interstate freight services are carried on the ARTC interstate network. The rail infrastructure included within the VRAR serves only part of the intra-state freight market. Some intra-state freight is carried on the ARTC network. On the intra-state rail network there are two rail gauges, although most of the intra-state track is broad gauge. The majority of standard gauge track is on the interstate network. This also affects the mobility of resources within the industry since rolling stock is not readily transferable between standard and broad gauge networks, and therefore each network tends to have a separate inventory of rolling stock used on those lines. The lack of mobility of resources across the Victorian intra-state network has significant implications for rolling stock utilisation and efficiency. • On the regional rail network there is also a distinction between the freight- only network and the shared passenger network. Train path availability is potentially constrained on the passenger network because passenger services take priority. There is only one provider of above-rail regional (intra- state) passenger services, V/Line, and no plans at present to change this situation.

The containerised rail freight supply chain is depicted in Figure 3.1. Containerised freight and grain freight are the two major rail freight tasks in Victoria but there are other types of freight carried by rail such as steel, logs, cement, and stone. All of these markets are described in greater detail in Appendix D.

Figure 3.1 shows that containerised rail freight is typically accumulated at an inland rail terminal and then carried by rail either directly to a port terminal for export, or

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alternatively to an off-dock terminal and transported by road from there to the port terminal. A third alternative is for the freight to be transported by truck from its origins to the port. The Victorian intra-state rail task for containers is predominantly export goods transported from regional Victoria to the port of Melbourne.

The supply chain for bulk grain (not shown in Figure 3.1) has similarities to the export container supply chain. Most of the rail task for grain is export grain railed to bulk export terminals in Portland, Geelong and Melbourne, although some domestic grain is railed in bulk to a domestic terminal in Sunshine.

For containerised export freight, in broad terms, there are three supply chain options: • road transport from origin to port • road transport from origin to inland rail terminal and rail transport to the port terminal, using an on-dock rail terminal, and • road transport from origin to inland rail terminal and rail transport to an off- dock terminal, then road transfer from that terminal to the port.

For bulk export grain, only options (a) and (b) apply.

By implication, a market power assessment should consider: • the degree to which any of the rail supply chain options has market power against the road transport option • for containerised freight, the extent to which option (c) is competitive against option (b) and hence the degree of competition between off-dock terminals and on-dock terminals for intra-state freight tasks, and • for either type of freight, whether there is more than one competing supply chain eg., because there are alternative inland terminals for freight at a given point of origin, or because a given inland terminal has effective choice between alternative train operators and/or on-dock port terminals.

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Figure 3.1 Illustrative rail supply chain for containers

B Intra-state and Inland Rail metropolitan freight trains Terminal A

PTS

Inter-state Train

PTS Off-Dock Terminals C

PTS

West East

On -Dock Terminals D

PTS - Passenger - freight origin

- road transport - intra-state freight only track

- intra-state passenger and freight track - inter-state track

A Intra-state operators are Asciano and El Zorro B Inland rail terminal operators mostly independent (a few affiliated with above rail operators) C Off-dock terminal operators are Asciano and POTA D On-dock terminal operators are Asciano and POTA

Data source: Essential Services Commission

3.3.2 Competition from road transport

In assessing the extent of the competition from road transport, it is appropriate to consider the affordability of full recovery of rail access provider costs having regard to competitive road prices. One approach of undertaking this assessment involves calculating the cost of road transport and subtracting the additional pickup and

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delivery (PUD) costs associated with rail freight and the incremental above-rail costs. This methodology was applied under the regulatory regime for the Tarcoola to Darwin rail line 37 and can be used to determine the maximum rail supply chain freight rates that the market will bear, given the competition from road transport. If the maximum rail freight rate is less than the total costs of all of the components of the rail supply chain, then there is an affordability gap.

A further consideration is whether there is a shift in modal choice over a range of price relativities between modes. This notion is depicted in Figure 3.2. The mode share is a smooth function of the road and rail prices for grain haulage. For example, substitution of this kind may arise where freight tasks are heterogeneous (eg. in relation to origins and destinations).

Figure 3.2 Illustration of mode substitution

Data source: Pacific National, submission to ESC Draft Decision on PN and Connex proposed access arrangements, 2 May 2006

In 2006, we analysed the extent to which full recovery of rail access provider costs was likely to be affordable taking into account the level of competitive road prices. 38 Although there was considerable uncertainty in the estimates, we concluded that the affordability gap may be as high as $19 million per annum for freight rail access services.

37 See: Essential Services Commission of South Australia (February 2004) ‘Rail Industry (Tarcoola-Darwin) Guideline No.2, Arbitrator Pricing requirements’. 38 Essential Services Commission (June 2006) ‘Victorian intra-state country rail network affordability – Information Paper’.

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When the Government bought back the rail infrastructure six months later, the Government agreed the charges to be levied to Pacific National (as user) under a 10-year access agreement. The agreed prices can be regarded as the best estimates of the affordable market access prices. Those prices were expected to recover approximately 40 per cent of below-rail costs in an average year only.39

Notwithstanding the subsidies, recently Sd+D found that below-rail grain prices in many areas are no longer demonstrably cheaper than road. Exporters using road transport (including direct from farm) will see little price disadvantage in many areas compared to GrainCorp’s rail-based chain. 40 Similarly, for containerised freight, Booz & Company noted that there is increased competition from road operators using higher performance vehicles. This has extended the range at which road operations are competitive with rail to at least 300-500 km. 41

The affordability gap suggests that the rail supply chain does not have market power in terms of being able to raise prices above the economic cost of supply.42 Conversely, some stakeholders held that V/Line still maintains some market power of this kind:

V/Line is a monopoly service provider and has incentives to increase price and lower demand below efficient levels for some freight and achieve a non-commercial outcome on risk allocation for all types of freight. 43

We believe that the rail supply chain as a whole within the intra-state freight market is not able to raise prices above the economic cost of supply. Further, the components of that supply chain are limited in their ability to do so on a sustainable basis.

The same cannot be said about long-haul containerised freight between Melbourne and or Melbourne and , nor heavy heavy-haul rail tasks (eg. coal) if they were to emerge in Victoria. In these types of freight tasks, rail tends to maintain a significant advantage over road transport. While coastal shipping has grown to 20 per cent of the Perth-Eastern States market, Meyrick and Associates argued that it is inherently constrained because it is only carried by international container ships and hence limited to the volume of surplus capacity. 44 The long- haul interstate market is most relevant to South Dynon.

39 Media release “Bracks Government to Subsidise Regional Rail Freight Network” (8 June 2007). 40 Strategic Design + Development (2008), Grain Supply Chain Pilot Study, Stage 1 Final Report, National Transport Commission, p.44. 41 Booz & Company (January 2009), ‘Capacity Constraints and Intermodal, Working Paper #1, Understanding the Intermodal Supply Chain’, National Transport Commission, p.23. 42 Market power refers to the power to behave in a market in a manner not constrained by competitors in that market for a sustained period. 43 Asciano (2009) submission on the Issues Paper, August, p.7. 44 Meyrick and Associates et. al. (May 2007) ‘International and Domestic Shipping and Ports Study’, p.115

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3.3.3 Competition within the rail sector Regional intermodal terminals

Economies of scale are important in freight terminals and the costs of short road movements and extra handling in the pick-up and delivery of freight can be crucial to the economics of a terminal operation. For these reasons, regional intermodal terminal operators tend to be localised monopolies.

On the other hand, this is not always the case with grain receival centres. Competing bulk handlers in several localities have rival facilities located in close proximity.

Regional intermodal terminal operators handle containerised freight for logistics businesses, freight forwarders and freight owners. They can also provide truck pick-up and delivery services to and from their intermodal terminal. They contract for a single rail service provider to operate services from their terminal, usually on take-or-pay terms, with ideally a minimum of five services per week.45 Competition in the above-rail market takes the form of competition for contracts offered by the peripheral rail terminal operators, who essentially offer a concession in respect of train operations at their terminal. However, this will not always be the case because some train services visit several intermodal terminals along a rail corridor and in some cases rail operators manage regional intermodal terminals.

In February 2008, the Victorian Government announced a two-year package to provide a temporary rebate to regional terminal operators for container freight carried on rail services from , Horsham, Mildura and Shepparton/. These subsidies are based on a benchmark of $100 per TEU. Similarly, in December 2007 the Victorian government decided to increase subsidies for grain shipments by means of a rebate system for grain handlers of approximately $6 per tonne. 46

The competitiveness of road transport and the heavy reliance of these terminals on rebates from Government indicates that they do not have substantial market power.

Access to the regional terminals is not necessary for above-rail competition because operators can compete for the contract to service the terminal. Competition in below-rail services

Generally there is only one set of railway tracks of a particular gauge along each corridor. Exceptions include Geelong to Footscray and Somerton to Seymour. In both instances V/Line or MTM operate a broad gauge line adjacent to the standard gauge ARTC line. In all other corridors there is a single rail infrastructure provider.

45 At present most are operating less than this as shown in Table 3.1 46 Media Release, Minister for Public Transport, Rail Freight Network Review Released, 21 December 2007.

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In most instances rail freight terminals are located close to the origins or destinations of freight, and for this reason, the ARTC network offers a limited degree of direct competition to the intra-state network.

Given the sunk nature of investments in rail infrastructure, there are significant barriers to entry of a new rail access (infrastructure) provider, unless on an entirely new corridor. Hence the railway access providers are typically monopoly service providers within the localities they service. Factors constraining the degree of competition in above-rail freight services

Above-rail operations are relatively contestable activities because trains are highly mobile and can be moved from market to market in the absence of impediments. Some of the factors inhibiting competition in Victoria are: • the market fragmentation (discussed earlier), and constraints (or additional costs) to mobility associated with incompatible rail gauges. This imposes sunk costs on the investor in rolling-stock which might deter entry • the small size of the market in which even modest economies of scale in fleet operation may become an important factor, and • the lack of growth and year-to-year volatility of the market, which increases risks associated with investing in rolling-stock and the difficulties for an entrant to ensure that it will achieve a consistently high rate of rolling-stock utilisation.

Given these risks, take-or-pay contracts between terminal operators and train operators have formed the basis of competitive entry into the Victorian market in recent times. 47

Access to terminals can also be a constraint to above-rail competition. ARTC has emphasised that this is particularly relevant on the interstate rail network, that it manages. Given the mergers and consolidations that have occurred in the industry that have concentrated the interstate rail freight market, control over the terminals may impose a significant barrier to entry:

ARTC is of the view that recent and significant aggregation of the above-rail interstate market and some regional markets and the concentration of control of strategic assets in the market will substantially affect the ease of entry into these markets, and consequently the future potential for competition. This may erode some of the previous benefits gained, particularly where the strength of intermodal competition (road) is not as great. 48

47 ESC (2009) Grain Handling Regulation Review Final Report, p.36. 48 ARTC submission to the Productivity Commission inquiry ‘Review of National Competition Policy Arrangements’, 2005

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Dynon terminals

The Dynon/Swanson terminal precincts form a hub for containerised rail freight movements for export through the port of Melbourne and for interstate domestic container shipments by rail.

Traditionally the larger South Dynon terminal has been used for interstate trains and Dynon Intermodal terminal for intra-state freight trains, with port-related freight trucked to the stevedore terminals at Swanson Dock. In recent years this specialisation has been changed by the following factors: • in 2003 rail terminals were constructed at East and West Swanson Dock, operated by the two container stevedores, Patrick (now a subsidiary of Asciano) and P&O (now DP World), and • in 2006 Pacific National (now a subsidiary of Asciano) relinquished the lease over the Dynon Intermodal Terminal and in 2007 it extended the term of its lease over the South Dynon terminal. As a result of these changes, most of the intra-state container services operated by Pacific National are now handled at the East Swanson terminal. The Australian Paper train is now handled at the Westgate Ports terminal at Victoria Dock. The -Melbourne trains of Pacific National and POTA are handled at the East and West Swanson terminals respectively. The Dynon Intermodal terminal is now used for only one intra-state freight service (El Zorro, transporting mineral sands from Portland). At the same time Dynon Intermodal is emerging as a competitor to South Dynon for interstate trains, particularly those of QR Freight. South Dynon continues to handle the great majority of interstate rail freight, with SCT’s Altona terminal representing another smaller competitor.

The dominant position of South Dynon for interstate rail freight reflects Pacific National’s dominant market share of interstate line haul operations. Thus the ability of other rail terminals to offer competition to South Dynon with respect to handling interstate freight will be limited by the ability of the competing interstate hauliers, such as QR Freight, POTA and SCT, to capture market share from Pacific National. At the same time, the vertical integration of South Dynon, with Asciano being both terminal operator and its only current user, is a source of concern to potential access seekers.

A related competitive factor is the scale advantages of South Dynon. The much shorter track lengths at the Dynon Intermodal terminal 49 require more shunting to handle the larger trains used for interstate haulage. 50 Shorter track lengths can increase relative costs and reduce competitiveness relative to the South Dynon Terminal, which has greater track length requiring less shunting.

49 The Dynon terminal has 8 rail paths for freight loading, each of 500m. The North Dynon Agent’s Sidings can be used to split 1500m interstate trains into 3 parts for accommodating in the terminal. South Dynon has 4 x 850m sidings and 2 x 1200m sidings. 50 On the East-West rail corridor, the majority of train services have 1500m lengths between Melbourne and Adelaide.

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In this regard, the ACCC made the following comments regarding North Dynon Terminal in the context of Toll Holding’s acquisition of Patrick Corporation:

Market inquiries revealed that the Dynon terminal would face significant difficulties in accommodating trains of the length required to operate an efficient east-west service. Although Dynon has accommodated such trains in the past, significant degradation of the terminal over recent years and increased rail line congestion in the entire Dynon precinct would make it very difficult to find suitable times to be able to shunt long trains into the Dynon terminal. Furthermore, market inquiries revealed that road access at Dynon would be inadequate if a new east-west service of reasonable scale were to commence. 51 In response to the Draft Report, QR Freight indicated that shunting costs are not in fact material relative to the full operating cost of train services.52 It appears that VicTrack and POTA have subsequently started to address the degradation of the terminal referred to by the ACCC, although the road limitations of the terminal may remain relevant (although this may be addressed by VicTrack).53

However, terminals also have pronounced economies of scale, which can make them natural monopoly facilities. Technical estimates of the average cost for handling containers at intermodal terminals of various sizes and technologies suggest that terminals may need to be as large as 400000 TEU or more, to be fully efficient. 54

Consistent with this view, Booz & Company’s recent intermodal supply chain study for the National Transport Commission recommended a preferred model of large common-user intermodal terminals “to create economies of scale and scope, and facilitate greater line haul competition.” 55 P&O has previously suggested that a metropolitan Intermodal terminal should handle ‘at least 100000 TEU p.a. and ideally up to at least 500000 TEU p.a.’ 56

The South Dynon terminal is an efficient scale. Investment options to expand the terminal area and configuration, which would expand capacity (see Appendix E of Volume 3). To date these options have not been explored fully. DIT currently has a very low usage levels and is subject to diseconomies of scale. It would therefore have a strong incentive to grant access to gain volume. However, the terminal is

51 ACCC media release, 18 January 2006. 52 QR submission to the draft Report, 4 th December 2009, section 2.2 53 South Dynon also has some road access limitations due to the on Dock Link Road 54 A. Ballis, J. Gollias (2002) ‘Comparative evaluation of innovative and existing rail-road transportation terminals’ Transport Research Part A, 36, 593-611 55 Booz & Company (2009), Capacity Constraints & Supply Chain Performance – Intermodal. Final Report – Towards Co-modalism. Report prepared for the National Transport Commission, p. 7. 56 P&O Ports Limited (2005), submission to VCEC, Inquiry into Managing Transport Congestion, p.5.

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currently unprofitable and if it is unable to gain substantial new volumes, there is a legitimate concern over the sustainability of this operation as a competitor to South Dynon. DIT also has expansion opportunities, and is currently pursuing efficiencies, but further developments may depend on achieving volume growth.

Our conclusion with respect to interstate freight terminals is that at present although the four interstate rail operators, Pacific National, QR Freight, POTA and SCT mostly use separate terminals in Melbourne, Pacific National has a dominant share of the interstate market, and other than South Dynon the interstate rail freight terminals are of small scale (and in the case of the SCT terminal, designed for palletised freight in rail vans rather than containerised freight). In the case of DIT, the current level of operations is unlikely to be sustainable. While it may gain market share, uncertainty remains about whether it will continue to provide competition to South Dynon over the whole of the period we must consider. Given the evidence on economies of scale and uncertainty over the sustainability of the main existing alternative, South Dynon appears to enjoy a natural monopoly advantage. Limitations to the availability of efficient scale terminals in Melbourne therefore suggests a terminal infrastructure constraint to interstate rail competition.

In the longer term the Victorian Government’s freight strategies have highlighted alternative sites that may be developed for combined intra-state and interstate container terminals. It has previously been believed that the Dynon precinct is strategically advantaged in its geographical position close to the centre of Melbourne. However, urban locations are now considered to offer potentially greater efficiency due to lower congestion and efficient access to industrial areas via the ring-roads. For this reason the current roles of South Dynon and Dynon Intermodal may evolve as the Freight Futures plan is implemented. These issues are explored in further detail in Appendix E. Swanson terminals At present the great majority of intra-state containerised freight is railed to the East Swanson terminal destined for the export market. It is notable that all of the train services handled at Asciano’s East Swanson terminal are Asciano trains and all of the train services handled at POTA’s 57 West Swanson terminal are POTA services.

While the Dynon Intermodal terminal handles a small amount of this freight, it is likely to be relatively inefficient to rail the freight to the Dynon precincts and then truck the containers from Dynon to the Swanson Dock terminals. The cost of on- dock container movements is likely to be lower because more efficient vehicles (such as B triples) can be used, and the fact that it avoids the complexity of entering into the port vehicle booking system. This situation may be exacerbated with the introduction of a Road Freight Access Charge at Swanson Dock, which is expected in 2010. The details of the charge are as yet unknown. However, if the purpose of the levy is to relieve congestion around the vicinity of the port the effect would be to significantly advantage on-dock terminals over those outside the port.

Table 3.1 provides indicative estimates of rail costs associated with the alternative rail terminal options to demonstrate these observations.

57 POTA is 50 per cent owned by DP World.

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Table 3.1 Indicative estimates of comparable costs for discharging freight at alternative terminals ($/20’ container)* East Swanson rail East Swanson rail Dynon to terminal to East terminal to West Swanson Dock Swanson Dock Swanson Dock

Rail line haul a 300 300 300 Terminal handling 40 40 55 Transfer 55 65 80 VBS 0 0 5 Road Port Levy b 0 0 25 c Access Charge Total 395 405 465 * Note that these costs are for a 20’ container only. Typically terminal handling and road transfer costs of a 40’ container may only have a small premium (e.g. 0 - 30 per cent) compared to a 20’ box. a Assumes 10c/NTK, 10 tonnes per box and 300 km journey b VicTrack’s $12.50 per wagon day is equivalent to approximately $6 per TEU. POTA lifting charges are assumed to be $50 per container, similar to the lifting charge of Pacific National at South Dynon (as indicated in the QR submission) c Assumption based on Sydney Port Corporation’s announced levy at Port Botany of $180 per truck from 5am to 1pm; $80 from 1pm to 9pm; 0 from 9pm to 5am; and -$20 on weekends. Average cost assumes an even distribution of trucks over time and 2 TEU per truck. Source: industry estimates unless otherwise stated

Shippers determine the shipping lines that will carry their freight and hence the stevedore port terminal that containers must be loaded or unloaded. Freight from an upcountry intermodal terminal will often be destined for both stevedore terminals. Each on-dock rail terminal is advantaged to handle freight to the adjacent export container terminal it serves.

This raises questions about the ability of any rail terminal located further from the port terminals to effectively compete against the on-dock terminals, given the additional handling and transport costs associated with trucking from other rail terminals into port. The near comprehensive shift in intra-state freight to the on- dock terminals supports a conclusion that the on-dock terminals have strong locational advantages that would impose a high barrier to entry for any prospective off-dock competitor.

Recently, a third rail terminal has been established within the Port of Melbourne precincts by Westgate Ports at its Victoria Dock site. On 28 October 2009, it was announced that it received its first train under an agreement reached for Australian Paper to use the terminal for trains from Maryvale. Westgate Ports also plans to

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use this terminal as the port-based hub to service the Salta/Westgate Group’s two proposed inland freight terminals at Lyndhurst and Altona.

The question then becomes whether there is sufficient competition between the East and West Swanson terminals, or between Westgate Ports and these terminals, and whether access is freely available under the current lease arrangements.

At present, freight is regularly transferred from Patrick’s East Swanson rail terminal to the DP World container terminal. However, within the next five years PoMC has plans to close parts of Coode Road 58 , which provides access for vehicles to move between East and West Swanson Docks. Once the closure is completed, transferring containers between East to West Swanson will require road (rather than port internal transfer) vehicles and use of the road system external to the port, such as Footscray Road. This will make transfers between East and West Swanson significantly more costly and analogous to off-dock transfers to the port.

The Coode Road closure would similarly mean that Westgate Ports will be separated from the West Swanson Dock, but trucks from Victoria Dock will still be able to use Enterprize Road to access the East Swanson Dock without leaving the port. The Coode Road closure will strengthen the market power of the on-dock rail terminals with respect to the adjacent docks they serve, but scope remains for contestability between East Swanson rail terminal and Westgate Ports.

The vertically integrated operators of the East and West Swanson rail terminals – each of whom are freight train operators – have an incentive to restrict access to their terminal by other train operators. Such constraints might hinder competition between above-rail operators if they do not have access to alternative intermodal terminals that could provide broadly equivalent services, and unless there is some degree of competitive tension between those substitute terminals.

In particular, an inland intermodal terminal operator needs to secure access to a rail terminal at or near the port so that the rail services can deliver export containers to the port terminal. Given vertical integration between on-dock terminal operations and above-rail operations, and the relative inefficiency of railing freight via an off-dock metropolitan terminal, the inland intermodal terminal operator may face a lack of choice between rail service operators.

To date, only Pacific National and POTA have a demonstrated ability to access the East and West Swanson dock terminals. Prospective above-rail competitors in the intra-state market would most likely need to have access to those on-dock terminals in order to compete in the intra-state containerized freight market. Asciano indicated that no request for access to East Swanson has been forthcoming, and this raises the question as to whether such requests would be treated fairly under existing open access arrangements. PoMC indicated that leasehold terms require access on specified terms and conditions, and it is not aware of any concerns to date.

58 Port of Melbourne Corporation (August 2009) Port Development Strategy 2035 Vision , p.32; PoMC communication

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The structure of the market is such that the control of the Swanson Dock rail terminals by the two stevedores appears to provide an ability to limit competition in the intra-state container rail freight market, since most of that freight needs to be delivered directly to a stevedore port terminal. The East and West Swanson Dock rail terminals appear to have characteristics of bottleneck facilities that confer market power on their vertically integrated operators Asciano and POTA. This view was supported by ARTC.

The lack of requests for access to date can be interpreted alternative ways: • there has been no requirement for access and access would be forthcoming when requested, • future requests for access may be hindered due to vertical integration, or • requests have been discouraged by vertical integration.

If the former, the Commission could simply monitor access requests rather than implementing a formal access regime under the VRAR. The question is whether the presumption can be made that the existing arrangements will or will not work in the absence of direct evidence. Notably, PoMC, to whom the existing access commitments have been made, has supported the Commission taking a regulatory role over the on-dock terminals.

3.4 Case for regulating train infrastructure services to passenger trains

The below-rail services provided to V/Line for regional passenger operations on the rural and metropolitan rail networks are currently covered by the VRAR through the Passenger Network Declaration Order 2005. On the regional rail network V/Line provides rail transport services to itself.

In 2009, the Government appointed MTM as the new franchise operator of the metropolitan rail network for an eight year period (with the right to extend that period for up to six years). MTM was required to enter into a Track Access Agreement with the State and V/Line under which it will provide V/Line with access rights to the metropolitan network over the term of the franchise. This agreement establishes the terms and conditions of V/Line’s access and a dispute resolution process for any contractual issues that may arise.

This contractual arrangement between the parties remove the need for an independently administered access regime. In the event that changes are made to the management of the regional rail network, the Government could similarly establish a track access agreement for V/Line on that network prior to carrying out such a restructure.

This effectively means that the Passenger Network Declaration Order is redundant. In these circumstances, we can see no purpose to the continued operation of the Passenger Network Declaration Order.

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Recommendation 1 Rail infrastructure services provided by MTM to V/Line, and V/Line to itself, for passenger services should cease to be declared services.

3.5 Case for regulating rail infrastructure services to freight trains

3.5.1 Compliance with the CPA coverage criteria

Significance

On the Victorian regional rail network, grain is the largest freight task in average climate conditions and the vast majority of the bulk grain carried on rail is exported. Intermodal containerised freight is second in terms of importance and primarily comprises export containers railed from regional Victorian industries to the Port of Melbourne. 59 Other general freight tasks transported by rail and exported from Victoria include logs, which are railed to the port of Geelong, chipped at port, and exported as woodchips.

In addition to carrying freight with origins in Gippsland, the metropolitan rail network carries approximately 300 000 tonnes per annum of steel products from the BlueScope WesternPort steel mill, which are railed to interstate markets.

Asciano observed:

The facility is significant to the State economy, particularly when you consider its importance for grain and for steel, it is likely to become more important as Government seeks to limit the impact on the environment of the anticipated growth in freight. 60

On the regional network, the Mildura line is part of the declared Auslink network and may therefore be considered of national not just regional significance. Federal and State Governments have committed $73 million to its recently completed rehabilitation.

A number of other projects of national or regional significance currently underway on the Victorian network include: the bypass; standardisation of lines between Donnybrook and Wodonga; and upgrading of the Maroona-Portland rail line. Most of these projects are being undertaken in the context of also transferring lines to ARTC management. However, to date, not all of the lines transferred have been brought within ARTC’s access undertaking with the ACCC.

The State Government’s identification in its Freight Futures policy of the whole of the freight rail network, and parts of the metropolitan rail network, as forming part

59 Meyrick and Associates (2006), ‘Rail Freight Task – Victoria’. prepared for the Essential Services Commission Victoria. 60 Asciano (2009) submission on the Issues Paper, August, p.6.

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of the Principal Freight Network of Victoria is also relevant from a State or regional significance perspective.

Our conclusion is that the whole intra-state rail freight network is significant to freight logistics in Victoria and on that basis, when having regard to freight services, the regional rail network and the parts of the metropolitan networks used for freight services are significant infrastructure facilities.

Safe use

The imposition of access obligations must be consistent with the safe use of services at an economically feasible cost and, where safety requirements exist, consistent with those safety requirements. In Victoria, the Rail Safety Act 2006 establishes: 61 • the statutory role of the Director, Public Transport Safety • duties that apply to operators, rail contractors and rail safety workers • a strengthened accreditation scheme, and • sanctions and penalties for safety breaches.

Asciano indicated:

safe use of the facility is possible, as has been demonstrated under the current access regime. 62

Our conclusion is that this criterion is met.

Economic feasibility of duplication

An effective access regime can only be applied to a facility if it would not be economically feasible to duplicate. In order to assess this criterion, it is necessary to assess whether the declared rail infrastructure has sufficient available capacity to serve the range of reasonably foreseeable demand for the service(s), and if this is not the case, assess whether the existing facility can be expanded to provide additional capacity at lower cost than developing another facility.

This test will nearly always be met for a railway line, because where there is excess capacity on an existing line, it will be lower cost to use that capacity rather than constructing a new line, and where capacity is constrained, augmentation of the existing rail infrastructure, whether through the addition of new passing loops or double tracking, will nearly always be a lower cost outcome than constructing a completely new facility.

There does not appear to be any significant capacity constraints on the regional network at current volumes. Evidence that the regional Victorian rail network maintains a considerable degree of excess capacity is shown from the V/Line’s

61 Public Transport Safety Victoria website: http://www.ptsv.vic.gov.au/web26/home.nsf/AllDocs/3AF8B48986647F87CA2570A1000B 0A65?OpenDocument 62 Asciano (2009) submission on the Issues Paper, August, p.6.

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monthly Capacity Use reports summarised in Table 3.2. Overall, approximately one quarter of available train paths were used in the period January 2009 to June 2009.

Table 3.2 V/Line network capacity use Month Schedu led Scheduled Unscheduled Unscheduled Overall train paths % utilised train paths % utilised % utilised (No.) (No.) Jan ‘09 565 49.9 848 3.3 21.9 Feb ‘09 510 60.2 780 5.1 26.9 Mar ‘09 510 69.4 849 8.1 31.1 Apr ‘09 540 53.2 838 6.1 24.5 May ‘09 525 53.0 879 4.2 22.4 Jun ‘09 536 46.6 725 4.4 22.4 Average per 531 55.2 820 5.2 24.9 month Source: V/Line

Although the poor condition of parts of the regional network could potentially constrain future growth in freight volumes in some localities, the data presented above and the heavy reliance of V/Line on government support is consistent with Asciano’s view that:

No one could credibly argue that it would be economically feasible to duplicate the network. The economics of the current network are challenging and there could be no reasonable business case put forward for duplication of the current network. 63

The metropolitan network is more capacity-constrained due to the intensive use of passenger services and the strong growth in passenger rail demand in recent years. Connex has advised the Commission that there is currently available capacity for approximately two freight train paths per hour (each way) overnight and approximately one per hour (each way) through the day, but only within the inter-peak period, on the Dandenong and Frankston rail lines. In addition, Connex expects a significant growth in inter-peak services for passenger operation during the day in the next few years and this will further restrict the available paths for freight movements. 64

On the Metropolitan rail network there are formidable physical constraints to duplication and new passenger rail corridors will involve very large costs. 65

63 Asciano (2009) submission on the Issues Paper, August, p.6. 64 As MTM is the franchisee for the Melbourne metropolitan rail network from 30 November 2009 the above availability is subject to MTM's operating plans. 65 The East West Link Needs Assessment study recommended a “Melbourne Metro” rail tunnel be constructed, running from Caulfield, through Domain, Flinders Street, University to Footscray and Sunbury. The Study states that the new rail tunnel could be completed

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The foregoing observations indicate that it would be uneconomical for another party to develop a competing rail infrastructure facility to provide the same services to freight trains as the regional and metropolitan networks currently provide.

Is access necessary to compete in a related market?

A further consideration is whether access to the service is likely to promote a material increase in competition in a dependent market. When certification of an access regime is sought, that access regime is typically already in place, and the test should consider whether withdrawal of the access regime would be likely detrimental to competition in any of the related markets. This involves:

a comparison of the future state of competition in the dependent market with a right or ability to use [the] service and the future state of competition in the dependent market without any right or ability or with a restricted right or ability to use the service. 66

Relevant dependent markets for rail infrastructure will include above-rail operations and terminal services, and could potentially include logistics or freight forwarding services to freight owners.

The rail line haul services markets are predominantly intra-state, with demand for the services coming from primary producers, freight forwarders, logistics providers and end customers.

Stakeholders felt that access is important for above-rail competition. Asciano maintained:

Access to below-rail is necessary in order to permit effective competition in the market for above-rail services. 67

Wakefield argued that there were formidable market barriers to effective competition on the broad gauge network due to the investment required in broad gauge rolling stock. To date, Pacific National (Asciano) retains the great majority of this rolling stock. Wakefield felt that this gives greater emphasis to the need for the access regime. It was suggested that in the absence of the VRAR, Asciano may face an insignificant degree of competition on the broad gauge network.

Asciano observed that to facilitate competition:

as early as 2019, and it is expected to cost more than $4.5 billion. See: http://www4.transport.vic.gov.au/vtp/projects/melbournemetro.html. The Victorian Government also proposes to construct a new Regional Rail Link from Werribee to Deer Park, and to upgrade lines from Southern Cross Station to Werribee. The project is expected to cost over $4 billion. See: http://www4.transport.vic.gov.au/vtp/pdfs/factsheets/VTP_FS_regional_rail_link.pdf. 66 Sydney Airport Corporation Ltd v Australian Competition Tribunal [2006] FCAFC 146, [83]. 67 Asciano (2009) submission on the Issues Paper, August, p.6.

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It is important to provide above-rail operators with appropriate incentives to invest which will need a non-discriminatory access regime with a degree of certainty about how their services will be treated. 68

The introduction of the VRAR in 2006 was followed by the entry of a number of new operators. Previously, Pacific National (now part of Asciano) was the only freight operator on both the regional and the metropolitan networks. Competitive entry commenced prior to the buy-back, with the entry of El Zorro in late 2006 and other operators entering into access agreements more recently (see Appendix D). There is little doubt that the degree of above-rail competition has increased over the period since the introduction of the regime. However, there are also some market and infrastructure impediments to the development of fully effective competition between above-rail operators.

Not all agree that access regulation has facilitated competition, for example, El Zorro stated:

Our view is that the VRAR reduced competition because it raised the barrier to entry for small rail operators wanting to access the network. 69

The consultation with stakeholders has found that stakeholders see significant benefit from the greater degree of competition now in the market and see competition as vitally important for driving efficiency improvements in the industry and reducing above-rail transport costs.

Absent the access regime, there are a number of potential risks to the ongoing development of above-rail freight competition.

First, although V/Line and MTM are not vertically integrated freight service providers, they are vertically-integrated passenger operators, and this has represented a source of concern to several stakeholders. Specifically, V/Line and MTM do not have strong commercial incentives to facilitate the use of the rail network by rail freight operators, since freight trains contribute only small increments of revenue and establishing access agreements with freight operators diverts scarce executive time away from what they regard as core business activities.

To date, V/Line has not had a specific statutory mandate to maintain the freight network or provide access to freight trains. However, under legislation currently before the Victorian Parliament, V/Line will have a much clearer statutory responsibility in regard to facilitating rail freight.

Nevertheless, most of the stakeholders to this review were concerned about the implications of vertical integration for equitable treatment of rail freight. Perhaps in support of this, El Zorro claimed:

68 Asciano (2009) submission on the Issues Paper, August, p.7. 69 El Zorro (2009) submission on the Issues Paper, August 2006, p.5.

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we have had the experience of the passenger operator unreasonably claiming priority for the movement of non-revenue trains to stabling yards at the expense of regional freight movements. 70

On the other hand, V/Line contested this example and suggested that some empty passenger train movements may need to be given priority in order to meet timetabling requirements.

Asciano’s submission also highlighted a concern about the risk of access providers discriminating between competing operators in regard to the same service. This concern may arise due to the weakness of the access provider’s commercial incentives overall and therefore the lack of normal commercial disciplines.

A contrasting view was expressed by El Zorro, who considered it a shortcoming of the present access regime that it discourages discrimination between operators:

Regulatory costs have been onerous, mostly on account of a “one size fits all” mentality applied by regulators and track managers. A more flexible approach would be helpful for new entrants to the market place. 71

However, El Zorro did not consider that removal of the access regime would be likely to increase the flexibility of pricing.

Another potential risk to competition that could arise in the absence of the access regime could result from inefficient line closure or track maintenance conditions. In V/Line’s application for variation of its access arrangement in 2007 it sought to reduce the track standards to 20 kmph. However, we have maintained that ‘fit for purpose’ track standards are an essential and important element of the terms and conditions of access to railway tracks, and must be specified in an access arrangement.

In V/Line’s recent application for renewal of its access arrangement, it again sought to remove any effective obligation to maintain track standards. The Commission found that the effect of its proposal was to provide V/Line with the unilateral discretion to amend the Performance Standard and decided that V/Line cannot book lines out of service without obtaining the Commission's prior approval through varying its access arrangement. In relation to this issue, Asciano noted in its submission to that renewal process:

The lack of commitment to a network standard creates significant uncertainty for above-rail operators. … Business cases for investment in long lived assets such as locomotives and wagons will be undermined given there is no certainty, even for the length of the access agreement, that the network will support a viable above-rail service.

70 El Zorro (2009) submission on the Issues Paper, August 2006, p.3. 71 Ibid., p.5.

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Between the approval of the Pacific National access arrangement in 2006 and the renewal of the access arrangement by V/Line in 2009, approximately 380 km of freight track had been booked out of service, and V/Line retained 1,434 km of freight track. Since June 2009, the Government allocated funds to reinstate the Ouyen to Murrayville line (106km) reducing the lines booked out to approximately 275 km.

While these line closures may be efficient, the Commission is not aware of any benefit-cost analysis undertaken by V/Line in support of these line closures, and notes that they do not appear to conform closely to the prioritisation of rail lines indicated in the Fischer Review.

In reply, V/Line commented that this statement does not take into account that the network priorities are set by the Department of Transport and the Fischer Review is only one of the considerations in determining the priorities. For example, some lines may be booked out due to lack of traffic.

Closure of rail tracks may impact on the competitiveness of above-rail freight operations. In the absence of the access regime there may be a relatively greater risk of changes to network conditions that impact on above-rail competition.

Further, there may be some market segments in which an access provider has the ability to raise prices above economic costs, and given the low incentives to provide access, access providers may shift excessive risk to freight train operators. Asciano observed:

V/Line is a monopoly service provider and has incentives to increase price and lower demand below efficient levels for some freight and achieve a non-commercial outcome for risk allocation for all types of freight.

The foregoing discussion indicates that the access regime has coincided with the development of competition in the Victorian above-rail market, and absent the access regime, there are material risks of conduct by access providers that may be detrimental to the ongoing development of competition in the above-rail market. This view is strongly supported by all train operators submitting to this review.

The Commission’s conclusion is that access to the below-rail networks is necessary to permit effective competition in the above-rail freight market.

However, access by freight trains is not needed to metropolitan rail lines that are not part of the Principal Freight Network because they are not used by freight trains at the present time.

Conclusions – coverage criteria

The Commission’s assessment is that all of the coverage criteria under the CPA are met in respect of rail infrastructure services provided to freight trains.

3.5.2 Public interest

The discussion in section 3.3 highlighted that there is little evidence of an ability to raise prices above the economic cost of supply in the provision of rail infrastructure

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services to freight trains. Nevertheless, there appears to be an ability of rail infrastructure managers to inhibit competition between freight train operators, and their vertical integration with passenger services provides a context in which there is little incentive to provide access to freight train operators, thereby potentially restricting the development of competition.

The question of whether there is a public interest in retaining the VRAR also depends on a consideration of other potential benefits of economic regulation as well as the costs. Commercial incentive to provide access

Because the revenue from freight reference services represents a relatively insignificant proportion of total revenues, V/Line and MTM may have insufficient commercial incentive to provide access to freight services. In these circumstances, there may be benefit in ensuring freight trains have a statutory entitlement to access and a dispute resolution mechanism to which the parties can have recourse in the event that they are not able to negotiate a commercial outcome.

The submissions suggest that this is seen as a benefit by stakeholders. Competitive neutrality issues

Rail operators attach importance to the principle of paying ‘the same rate for the same service’ and this is a feature of the access arrangements at present. Absent the access regime, rail operators may carry an additional risk that V/Line or MTM might enter into more advantageous terms and conditions with one or some of the operators. Although neither of the access providers would have a strong incentive to discriminate between users of ‘like-for-like’ services, given their weak incentives overall, it is possible that they may seek to limit the number of operators for greater operational and transactional simplicity.

If these concerns are important, as they seem to be to rail operators, then there may be some ongoing benefit in the Commission having an ongoing dispute resolution role, so that the Commission can hear and resolve matters where a party claim that discrimination of this kind has occurred. Transaction cost issues

There is a potential benefit in terms of reducing transaction costs for market participants. Trucks travel freely on the road system and do not incur the costs of entering into access agreements, scheduling train paths, providing train manifests and dealing with interface issues between networks – all of which give rise to a significant transaction cost disadvantage of rail over road.

Elements of regulatory frameworks which reduce transaction costs by establishing more standardised agreements and formalised access processes may yield benefits in terms of reducing these transaction costs. Both V/Line and Connex have suggested to the Commission that the ex ante approval of the terms and conditions under the existing access regime reduces their costs of negotiating access agreements with access seekers.

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Incentives to pursue efficient pricing

Where the government is a major provider of subsidies it may prefer to ensure there are no impediments to competition in the above-rail market in order to minimise the risk that individual businesses in the supply chain could capture private benefits from the subsidies and thereby obtain rents.

Regional development

A number of submitters to this review have a regional development focus, most significantly the ACRFD. The support of such submitters for the ongoing application of the rail access regime suggests that they regard it as supportive of regional economic development. Arguably, the promotion of market entry by smaller regionally focused operators supports this objective. Consistency with wider policy objectives

The Transport Integration Bill 2009, currently before the Victorian Parliament, establishes a clearer mandate for V/Line to facilitate rail freight. According to the Explanatory Memorandum, the Bill also promotes free and open access to transport infrastructure:

The objective of social and economic inclusion includes minimising the barriers to access, so that, so far as possible, the transport system is available to as many people as wish to use it. 72

Costs

The costs of access regulation are examined in Appendix I. To summarise the conclusions of that analysis, the costs of the VRAR in its present heavy-handed form are relatively high. The Commission’s estimate is approximately $560 000 per annum in total or $140 000 per access provider. Similar analysis undertaken recently by the Commission for its reviews of the Grain Handling and Storage Access Regime and the Victorian ports price monitoring regime suggest that the costs associated with light-handed regulation are considerably lower – approximately half the cost of full regulation.

This estimate suggests that the total cost of retaining access regulation of the intra- state rail infrastructure can be expected to be around $140 000 per annum per access provider.

Conclusion

The VRAR does not provide any substantial benefits associated with preventing the rail infrastructure providers raising prices above the economic cost of supply. At the very least this suggests that access regulation should be scaled back if it is retained. However, in the context of vertical integration of track operation and passenger service provision, it is found that the VRAR does provide greater certainty that competition in above-rail freight operations will be facilitated. There are also several other identified benefits of the access framework. Although these

72 Transport Integration Bill 2009 Explanatory Memorandum, p.17

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benefits are difficult to quantify individually, taken together they appear to be significant. The Commission’s conclusion is that the benefits outweigh the expected costs of regulation.

3.5.3 Conclusions - regulating rail infrastructure services to freight trains

The Commission’s conclusions are that: o the intra-state rail infrastructure services meet all of the requirements under the CPA for facilities to be covered under a State-based access regime, and o there is a net public benefit to retaining access regulation of rail infrastructure services for freight trains if a light-handed form of access regulation is employed.

Therefore the VRAR should be retained, albeit in a more light-handed form.

Recommendation 2

The VRAR should be retained in a more light-handed form.

Recommendation 3

Intra-state rail infrastructure services provided to freight trains should remain covered by the VRAR. All of the intra-state regional rail network and those parts of the metropolitan rail network that are part of the Principal Freight Network should remain declared facilities.

3.6 The case for regulating access to certain terminals

Terminal services form an integral part of the rail supply chain. Freight transported by rail must access a terminal at the ‘rail head’ and at the end of the journey.

In the grain market, inland terminals are regarded as contestable or competitive activities, whereas port grain handling terminals are for the most part considered monopoly facilities. Hence most are currently subject to access obligations under voluntary undertakings recently approved by the ACCC.

Rail terminals such as intermodal container terminals can be declared under the RCA as “rail infrastructure”, and as such the scope of this review includes whether intermodal container terminals should be covered by access regulation.

There is limited NCC precedent in relation to the certification or declaration of access to rail terminal infrastructure. In recently recommending declaration of the Tasmanian Railway Network, terminals formed part of the declared services. However, there was no specific discussion in the NCC’s draft or final recommendations regarding these terminals.

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Although the application of formal access regimes to terminals is limited in other Australian jurisdictions, the imposition of multi-user arrangements on Intermodal terminals is relatively common. Examples include Acacia Ridge near Brisbane and the Enfield terminal currently being developed in Sydney.

3.6.1 Compliance with the CPA coverage criteria

Significance

The Commission is cognisant of the need to consider the rail freight supply chain as a network of services with a high degree of interdependency. For instance, the significance of an individual branch line taken in isolation may not be high but a network of branch lines would likely be significant. Because terminals are an integral part of the rail freight supply chain, then to the extent intra-state freight services are significant and access to specific terminals is necessary to promote competition for those services, those terminals will be significant. This is a more relevant test than considering the usage of individual terminals, sidings or branch lines in isolation – but it does rely on an assessment of how necessary access to a terminal is to promoting competition.

Based on present information, the Commission’s conclusion is that the Melbourne intermodal terminals are an integral component of the supply chain for rail freight services and are significant infrastructure facilities. The discussion in section 3.3.3 above supports the view that the on-dock rail terminals are essential to the supply chain for intra-state freight (including its future development) and are therefore significant.

Given the importance of South Dynon to Victoria’s interstate containerised freight, there is little doubt that it is significant to trade and commerce within Victoria. On the other hand there is less certainty that Dynon Intermodal Terminal (DIT) could be considered as significant to the interstate freight market based on its current levels of usage. The freight handled at DIT (and other terminals) would appear to be readily able to be accommodated at another terminal with some investment in additional equipment such as gantries. Safe use

We do not consider that the VRAR imposes operational constraints that would affect the safe use of the facility. This conclusion is supported by Asciano’s submission to the Issues Paper, stating ‘it is clear that it is possible to allow safe access’ at South Dynon. Economic feasibility of duplication

Location is a critical factor in the establishing an intermodal terminal. In this regard, Meyrick and Associates/ARUP have noted:

The primary characteristics which make a terminal work are its location relative to a traffic base and its location relative to road

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and rail links. If these criteria are not met, then whatever other characteristics the terminal has will be largely irrelevant. 73

There are a number of Intermodal terminals in operation in Melbourne, and a key question is the extent to which the services provided by either the South Dynon or DIT are already duplicated. It was Asciano’s view with respect to South Dynon that:

The facility has already been duplicated with competitors in above- rail interstate haulage (QR and SCT) utilising alternate facilities within the state. 74

The location, scale and design factors suggest that the SCT facility should not be regarded as a duplication of the South Dynon facility, but a relatively small niche operation. 75 The Somerton and CRT terminals do not currently handle rail freight. DIT is adjacent to South Dynon, has a significant potential for expansion, and therefore represents the most relevant test of whether South Dynon services are effectively duplicated.

Prior to Pacific National’s relinquishment of the lease, DIT was mainly used to handle intra-state freight from regional locations and ultimately destined for the port. Since VicTrack and POTA have taken over management of DIT much of Pacific National’s intra-state freight is now handled at East Swanson, while some interstate freight has been attracted to the terminal. 76 As a result, the terminal can be regarded more directly competing against both Asciano’s South Dynon and East Swanson terminals in the interstate and intra-state markets respectively.

However its ability to compete in these markets may be constrained by: • the ability of Asciano’s above-rail competitors to gain market share in the intra-state and interstate rail haul markets • its relatively inefficient location for handling intra-state container freight compared to the East and West Swanson rail terminals • possible competitive disadvantage to South Dynon from the smaller site with shorter sidings and other aspects of the terminal layout, and • lack of economies of scale at current volumes.

The discussion above indicates that there are very significant economies of scale in terminal operation. The freight volumes at DIT are low relative to South Dynon and there are concerns about the economic viability of DIT under the current configuration, so that it is not yet demonstrated to be an economically sustainable competitor.

73 Meyrick and Associates/ARUP (2006) ‘National Intermodal Terminal Study: Final Report’, p.9. 74 Asciano submission to the Issues Paper, p.4 75 Asciano states that SCT has 26 per cent of Perth freight. SCT specialises primarily in rail vans carrying palletised freight, rather than containerised freight, and Its Altona terminal is designed for loading and unloading freight in this form under cover. It is not designed to efficiently handle containerised freight. 76 Previously handled at the North Dynon Agents’ Sidings

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In a letter to the Commission dated 24 December 2009, Asciano stated:

The well established test to determine whether it is economically feasible to duplicate the facility requires one to determine whether it is more efficient to meet the likely range of reasonably foreseeable demand for the services by means of one facility or more than one facility. … The representatives from Queensland Rail made clear that neither the Dynon nor the South Dynon terminals alone have the capacity to meet the existing demand.

Asciano has also indicated that there is presently an access seeker at South Dynon. South Dynon is currently handling the great majority of interstate containerised rail freight in Victoria. Were another train operator to shift its operations to South Dynon then it can be assumed this dominance would be even greater. Such a move would tend to reinforce the view that South Dynon has natural monopoly characteristics. Hence, Asciano’s argument does not demonstrate that South Dynon can be economically duplicated.

In summary, while DIT is currently competing with South Dynon, it is not yet demonstrated to be an economically sustainable competitor, and the available evidence supports the conclusion that South Dynon meets the test of being a natural monopoly facility, unable to be efficiently duplicated at foreseeable demand levels for interstate containerised freight.

On the other hand, it is clear that South Dynon provides duplicated facilities for the interstate terminal services provided by DIT. Asciano’s claims that South Dynon would not be able to handle all foreseeable traffic do not appear to take into account options for investment in additional gantries and improved terminal configurations. Further, it is clear that DIT’s previous role as an intra-state terminal has been duplicated by the East and West Swanson on-dock terminals.

With regard to the on-dock terminals, it is questionable whether the services provided by the Swanson dock rail terminals can be economically duplicated by an off-dock terminal such as DIT. As shown in Table 3.1, any off-dock location for a receiving rail terminal would involve a more expensive truck movement, which would likely render the alternative service uncompetitive with railing to the on-dock terminals and possibly uncompetitive with road transport overall. It would also involve more complicated access to port via the vehicle booking system (VBS), and possibly additional costs for port access via the proposed port access charge for trucks.

On the other hand, the newly commissioned Westgate Ports rail terminal may offer some on-dock competition to Asciano’s East Swanson rail terminal. Inhibiting this competition will be Asciano’s vertical integration as a stevedore, rail terminal operator and train operations. Given the relatively recent introduction of Westgate Ports, it is difficult at the present time to assess the degree of potential competition it might provide to the East Swanson rail terminal in future.

Overall, the on-dock terminals have considerable locational advantages over off- dock terminals and this is evidenced by the strong shift of freight to the on-dock terminals since they were introduced. The on-dock terminals appear to have bottleneck characteristics with regard to the container port terminals they serve,

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and this is likely to be increasingly important as the freight strategy of facilitating urban rail shuttles between the port and outer urban terminals is developed. To some degree these bottleneck characteristics are being challenged by the new entrant Westgate Ports. On the other hand, planned changes to the road configuration within the port are likely to diminish the potential for substitution between some of the terminals.

As the government progresses its MFTN strategy the existing market structure may change with the development of new ‘greenfields’ terminals, which adds a further dimension of uncertainty with regard to development of competition in the industry. Vertical integration

Currently most of the capacity in the Dynon and Swanson precincts is controlled by the two container stevedores or their affiliates. Both Asciano and POTA (an affiliate of DP World) are rail operators as well as terminal operators. Hence there is vertical integration in the provision of terminal services in the Dynon and Swanson precincts. The degree of control of these two businesses over terminal capacity and their vertical integration appears to provide both the ability and the incentive for them to restrict competition in the above-rail freight market.

This was a concern expressed by QR Freight and ARTC. Although vertical integration can provide efficiency gains from integrated operations, it raises concerns about “level-playing fields” and incentives to discriminate against third party operators (such as QR Freight and El Zorro), which in turn gives rise to a need for effective access obligations.

The bottleneck nature of the facilities and the vertical integration of the terminal operators together imply that competition in long-haul containerised freight and in intra-state containerised freight could be impeded by the terminal operators without effective access obligations in place.

Therefore we consider the criterion that access to the facilities is essential for effective competition in a related market to be met by the Dynon and the Swanson Dock terminals.

3.6.2 Public interest

An important question to be considered is whether access to a terminal is essential for a party to provide services in the rail freight supply chain. Where access to the facility is essential, then the benefits of access regulation of rail infrastructure can not be realised without the associated application of access regulation to the essential terminal. The benefit of regulating to the essential terminals is derived from the benefit of applying access regulation to rail infrastructure.

However, as discussed above (section 3.5.2), the cost of regulation increases with the number of entities regulated.

With regard to interstate freight, it has been concluded that access to South Dynon is essential to the development of effective competition in the interstate line haul market. If the benefits of the national access framework applying to the interstate network are to be fully realised then, at the present time and until new interstate rail terminal capacity is established in Victoria, access to that terminal continues to

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provide a significant benefit. Under a light-handed form of regulation, the benefits are likely to outweigh the costs.

On the other hand, it has been found that DIT would be unlikely to meet the criteria for coverage under the VRAR. However, given the potential for change in the industry, there would be merit in the Commission monitoring the effectiveness of the existing access commitments of POTA established under the leasehold arrangements with VicTrack.

With regard to intra-state freight, we understand that if regional intermodal terminals are to provide a competitive alternative service to road transport, it is necessary for the train operators to have assured access to the on-dock rail terminals at the port in order to efficiently deliver the freight. If one operator has access to an on-dock terminal and another does not, then the party with access will have a crucial advantage. This would diminish competition or prevent the emergence of competition in rail operations for intra-state container freight. The vertical integration of the on-dock rail terminal operators with rail freight services implies an incentive to discriminate against third party competitors in terms of access to the on-dock terminals, and thereby inhibit competition in intra-state rail freight.

Having noted these structural aspects of the market, PoMC has noted that there are existing leasehold commitments by the on-dock terminal managers to provide access on specified terms and conditions. There does not appear to have been any applications for access to the East and West Swanson rail terminals in recent years. In addition, East Swanson is recently faced with a new potential on-dock rail terminal competitor at Victoria Dock. Given these circumstances, we see merit in monitoring the three on-dock terminals – rather than including those terminals within the VRAR – giving the Commission the ability to investigate complaints and provide advice to the Government on whether the access provisions in the leasehold arrangements with PoMC are effective in providing access on fair and reasonable terms and conditions to above-rail competitors.

There is also the question of consistency of regulatory treatment between terminals. Asciano was concerned that declaring South Dynon and not other terminals might give Asciano’s competitors an advantage.

Although consistency between competitors is an important issue, the Commission has concluded that South Dynon confers Asciano with a degree of market power with respect to interstate train operations, and that DIT cannot at present sustainably offer competition to South Dynon. This difference in circumstances supports the application of a formal access framework to South Dynon, whilst only relying on monitoring at DIT. Further, the fact that South Dynon enjoys substantial economies of scale (currently unavailable to other terminals given existing patterns of freight) suggests that South Dynon is unlikely to be disadvantaged to any significant effect as a result of an access regime being applied to South Dynon and a monitoring regime to DIT.

3.6.3 Conclusions – regulating rail terminals

In summary, our analysis leads to the following conclusions:

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• South Dynon terminal meets the test that access is necessary to enable effective competition in the interstate line haul containerised freight market and the available evidence suggests that it has not yet been economically duplicated, and perhaps cannot be economically duplicated. There remains some uncertainty in regard to this question because it depends on Government plans for DIT and the remainder of the Dynon precincts. • The East and West Swanson terminals also have many of the characteristics of monopoly bottleneck facilities due to their localised competitive advantages, the high proportion of intra-state freight that utilises these facilities, and the vertical integration of the terminal operators with rail haulage operations. It is noted that there are existing leasehold obligations to provide open access apply to both these terminals. • It is also noted that existing leasehold obligations to provide open access apply to both DIT and Westgate Ports terminals. • There is a net public benefit to applying effective access obligations to the hub terminals that must be accessed by export/import container trains or by long haul interstate trains. The benefits from competition in above-rail services cannot be effectively realised without such access obligations. • Access regulation should continue to apply to the South Dynon terminal for an interim period, until Government strategies for developing other efficient- scale terminals are more advanced, associated with the benefit of above-rail competition in the interstate freight market. • The East and West Swanson terminals, Westgate Ports and the other Dynon terminals (including DIT and the Agents’ Sidings), should be monitored by the Commission to ensure that the existing leasehold access obligations are effective in ensuring access to these terminals for above-rail competitors on fair and reasonable terms and conditions.

Recommendation 4

South Dynon terminal should remain covered by the VRAR (under a light- handed framework) and the Dynon Intermodal terminal and the North Dynon Agent’s Sidings should no longer be covered.

Recommendation 5

The other Dynon terminals (including DIT and the Agents’ Sidings), the East and West Swanson rail terminals and the Westgate Ports rail terminal at Victoria Dock should all be subject to monitoring of terms and conditions (including price) by the Commission in regard to existing contractual access obligations.

3.7 Conclusions – the need for continuing economic regulation

The VRAR does not appear to provide any substantial benefits associated with preventing access providers from capturing monopoly rents. However, there may be some benefit in the context of long haul interstate services, which originate

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primarily from South Dynon. Moreover, the VRAR provides a valuable role in facilitating access by freight operators to the rail network. There are also several other identified benefits of the access framework. These include facilitating wider policy objectives of competition and inclusiveness in a context where the rail networks are subsidised by the Government, and facilitating regional Victorian economic, social and environmental objectives.

From our analysis, the costs associated with light-handed regulation are relatively modest and the expected benefits outweigh the costs of light-handed regulation of access to the rail network for freight trains.

We have concluded is that there is benefit in retaining the VRAR and continuing the coverage of rail infrastructure services, albeit with consideration given to a more light-handed approach because of the lack of pricing power held by participants in the intra-state rail freight supply chain and the relatively high costs of heavy-handed regulation.

Because intermodal rail terminals are an integral part of the rail freight supply chain, there is a prima-facie case for ensuring effective accessibility for competing train operators to some intermodal terminals under the VRAR. Because of the uncertainty surrounding the potential for competition and scope for major terminal expansions or developments within the Dynon precincts, we recommend this be limited to monitoring existing access obligations where possible, and a light- handed form of access regulation in the case of South Dynon (which has no existing contractual access obligations).

The need for coverage of South Dynon is considered to be temporary until such time as Government strategies for the development of major new rail terminals are closer to realisation. Since access to the interstate rail network is covered under the National Rail Access Regime, in principle access could be dealt with under the national regime. If Asciano were to opt for coverage under the national access framework then its coverage by the VRAR should cease.

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4 THE FORM OF ECONOMIC REGULATION

Key points The minimal market power of the rail supply chain suggests light-handed regulation of declared rail infrastructure services is to be preferred to heavy- handed forms of regulation An assessment against the general principles of good regulation, consistency with similar jurisdictions and the applicable principles from the CPA and the CIRA indicates that a negotiate/arbitrate model is the preferred form of light- handed access regulation for the intra-state rail networks and the South Dynon terminal. The ability to submit a voluntary access undertaking is also consistent with national access framework If market power emerges or a line becomes a major corridor then a mandatory ARTC-type undertaking would be appropriate, consistent with the CIRA. The VRAR should provide for a smooth transition to Commonwealth if rail lines are transferred to the ARTC and as they become incorporated in an ACCC-approved undertaking. Price monitoring has been recommended for the Dynon Intermodal Terminal and the Agents’ Sidings, the East and West Swanson rail terminals and the Westgate Ports Victoria Dock.

This Chapter examines the options for the form of regulation that should be applied to those infrastructure services that are recommended to continue to be regulated, whether under the VRAR or under a price monitoring framework. The recommendations in Chapter 3 were that the intra-state rail network (excluding some Metropolitan rail lines that do not carry freight trains) and the South Dynon rail terminal be covered under the access regime. The Dynon intermodal terminal (including the Agents’ Sidings) and the on-dock rail terminals in the Port of Melbourne precincts would be subject to price monitoring, specifically with regard to monitoring whether existing contractual access obligations are effective for providing access on fair and reasonable and non-discriminatory terms to third parties.

This Chapter is structured as follows: • Section 4.1 discusses the key principles used by the Commission toguide the choice of the form of access regulation for the VRAR. These include the general principles of good regulation, the specific requirements of an effective access regime under the CPA and a decision framework proposed by NERA for assessing when light-handed regulation may be appropriate.

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• Section 4.2 summarises the views of stakeholders in relation to the form of regulation. It is found that there are a range of views from those preferring the current framework or the form of the ARTC undertaking, to those preferring a light-handed form of regulation. • Section 4.3 makes a high level assessment of whether heavy-handed or light-handed access regulation would be appropriate. This section employs the decision framework discussed in section 4.1 and, having regard to the limited market power and the costs and risks of prescriptive regulation, reaches the conclusion that light-handed regulation is appropriate. • Section 4.4 sets out the Commission’s views on the preferred form of light- handed access regulation, and discusses whether the preferred regime could be certified as an effective access regime under Part IIIA of the TPA and whether it would promote national consistency among rail access regimes. The Commission’s recommendation is for a two tier approach. • Section 4.5 examines each of the elements of the access regime and considers what changes ought to be made to the current VRAR. In doing so it considers the specific requirements that the light-handed regime would need to satisfy in order to be certified as an effective access regime under Part IIIA of the TPA. A number of recommendations on the specific elements of the regime are developed in this section. • Section 4.6 considers the appropriate form for the price monitoring framework that is recommended to apply to the Dynon terminals (DIT and the Agents’ Sidings), the East and West Swanson rail terminals and the Westgate Ports Victoria Dock. This price monitoring framework would not form part of the VRAR.

4.1 Approach to selecting the form of regulation for the VRAR

This chapter addresses the form of access regulation that should be applied to those infrastructure services that are recommended to be retained under the VRAR. The price monitoring framework that would apply to other rail terminals in the Dynon and ports precincts is considered in detail in section 4.6.

4.1.1 Forms of regulation

There are several types of economic regulation, which can be presented along a spectrum from 'light-handed', to 'heavy-handed'. So called 'heavy-handed' forms of economic regulation typically include some form of price control such as prior regulatory approval of prices and/or price caps or revenue caps, whereas 'light- handed' forms of regulation generally give primacy to negotiated outcomes between access providers and access seekers, and may involve price and service quality monitoring and/or dispute resolution.

Price regulation is not the only element of a regulatory framework, which may encompass standard terms and conditions, service quality standards, market and operational conduct, ring-fencing, to mention only a few examples. The ‘heavy- handedness’ of a regulatory regime may relate to the form of price regulation, but

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may also reflect the breadth of variables the regulator controls and the compliance costs imposed on businesses. 77 The most common forms of price regulation are: • Formal price controls — this includes price and revenue caps, and/or formal approval of reference prices. For example, the regulator may adopt a building block approach to estimating efficient costs of supply for the purpose of approving prices that are expected to generate appropriate levels of revenue, or for setting revenue caps. Other methodologies such as indexing are sometimes used. Examples include the reference price determinations for Queensland Rail's coal networks and the Victorian intra- state rail network. • Negotiate/arbitrate models — this form of regulation provides customers with a legislated right to negotiate access with an access provider backed up by arbitration where disputes occur or negotiations fail. Negotiate/arbitrate regimes are often supported by some form of access application process and pricing principles. They give emphasis to facilitating commercial agreement over terms and conditions, with regulatory intervention by means of arbitration only if commercial agreement cannot be reached. This form of regulation may or may not require transparency with regard to standard terms and conditions including prices. • Undertakings — within the National Access Framework undertakings are an alternative to the default negotiate/arbitrate framework. Undertakings provide for ex ante regulatory approval of the standard terms and conditions of access including reference prices. Because the reference services are typically only a subset of the regulated services, this form of regulation combines elements of both price control and negotiate/arbitrate models. • Price monitoring regimes — this form of regulation generally involves transparency obligations on businesses in regard to their standard terms and conditions; disclosure of certain business and financial information to facilitate the monitoring of prices, service quality and performance standards; and public reporting by the regulator of price and service quality outcomes. This form of regulation typically relies on the threat of more prescriptive regulation if market power is misused. To date price monitoring has not been used in the Australian rail industry.

These forms of price regulation are not necessarily mutually exclusive and there are significant overlaps between them. For example, negotiate/arbitrate models can contain some aspects of cost of service regulation, or they can be combined with transparency obligations and price monitoring. Access regimes may include a mix of ex ante and ex post price regulation, with prices for certain reference services pre-approved by the regulator and published to inform potential access seekers of the prices they would incur, with the prices for other services

77 NERA (2004) ‘Alternative Approaches to Light-handed Regulation: A report to the Essential Services Commission Victoria’, p.8.

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determined through negotiation and the regulator involved only in the context of resolving access disputes.

4.1.2 Decision framework for the form of access regulation The following specific regulatory options were identified in the Issues Paper for comment: • no change • minimal amendments to the RCA in order to replace the current model with an undertaking-based negotiate/arbitrate framework broadly consistent with the ARTC undertaking • substantial revision of Part 2A of the RCA to implement an effective State- based access regime incorporating light-handed regulatory principles such as price monitoring and negotiate/arbitrate provisions, and • adopting the national access regime under which access providers can voluntarily submit an undertaking to the ACCC.

In selecting among the alternatives, the benefits of reduced transaction costs and increased transparency are typically balanced against the costs of limiting flexibility and the costs of compliance, having regard to the balance of market power in the industry. The degree of prescription in the form of regulation is usually related to the degree of market power and the scope for enhancement of competition over time. Thus, the heavier-handed models such as formal price control are typically more appropriate where an access provider has substantial market power. The existence of vertical integration will also be an important influence on the incentives of an access provider to exercise market power, and hence on the appropriate form of regulation. Lighter-handed models may be preferable where the market is in transition from conditions of substantial market power to more competitive conditions, but where competition is not yet fully effective.

ARTC previously set out a market power matrix (in a submission to the Productivity Commission). The matrix is presented in Table 4.1 and provides a useful summary of the way in which the proportionate regulatory response might vary along the spectrum of market power and according to the circumstances where market power is present.

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Table 4.1 ARTC’s market power matrix

Source: ARTC submissions to Productivity Commission ‘Review of National Competition Policy Arrangements’

NERA has also proposed a decision framework for assessing the likely effectiveness of alternative forms of regulation. The key considerations include: • The prevailing market circumstances : The form of regulation needs to be suited to the circumstances, including: the degree of market power and scope for substitution; the presence of vertical integration; the extent to which there is productive inefficiency; the size or importance of the industry and the scope for price discrimination. • The institutional context : The clarity with which a threat of regulatory sanction is articulated through guidelines and rules and the extent to which information asymmetries are overcome through information disclosure requirements, will be crucial to the effectiveness of any regulatory framework, whether it is more or less prescriptive. The historical context which provides participants with an understanding of regulatory sanctions may also be important to a regime’s effectiveness. • Dynamic considerations : The incentives for regulated businesses to undertake efficient investments and the regulatory risks they face will be particularly important in industries with a relatively high potential for efficient investment. Light-handed regulatory frameworks provide businesses with greater flexibility over pricing and hence less exposure to regulatory risk – but this will depend on the nature of the threat of more heavy-handed regulation. • Stage of market development : In markets that are experiencing high rates of growth and/or technology change, there is a greater risk that heavier handed forms of regulation may impose unforseen and unwarranted efficiency losses.

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Overall, a light-handed regulatory regime must be well designed and be “effective” for the market circumstances. Otherwise the practical application of the framework may give rise to a regime that is not in fact light-handed.

There are a number of examples of regulatory regimes that were intended to be light-handed but, in practice, turned out not to be so, as the processes for administering the regulatory principles became increasingly burdensome.

… An important lesson is that unless the characteristics of the industry are conducive to particular forms of light-handed regulation, simply establishing ‘loose’ pricing principles accompanied by poorly designed procedures is unlikely to result in the desired outcome. … it does not necessarily follow that a regime will be lighter-handed than alternatives. 78

4.1.3 Principles for the form of access regulation

The Commission has previously employed the following principles when considering appropriate forms of regulation 79 : • Preference for market solutions. This is consistent with the principle in the CIRA that in the first instance negotiated outcomes are to be preferred. • Proportionality. The extent to which management behaviour is constrained is proportional to the likely economic or social harm that would flow from the market failure that it seeks to address. • Promotion and protection of competition. The regulatory framework should provide scope and incentive for pro-active competitive conduct by the regulated entity, and not stifle innovation. • Consistency. This principle is reflected in the CIRA’s aim to make third party access regimes simpler and more consistent. • Balancing short and long term benefits to consumers. Regulation should strike an effective balance between protecting users from monopolistic pricing and facilitating efficient investment and other dynamic efficiencies.

4.1.4 Effective access regimes

The Commission has also considered the requirements for an effective state-based access regime. The NCC has published guidelines on the matters it will consider when making recommendations on the effectiveness of access regimes. 80 In addition to satisfying the Clause 6 principles in defining the scope of services to be regulated, other key requirements include:

78 Ibid, pp.9-10. 79 ESC (June 2004) 'Regulation of the Victorian Ports: Final Report' p.91. 80 NCC, May 2009, 'Certification of State and Territory Access Regimes: A Guide to Certification under Part IIIA of the Trade Practices Act 1974 (Cth)'.

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• the negotiation and dispute resolution frameworks must be well specified, with dispute resolution by an independent arbitrator • regulatory accounts should be maintained for the services under the access regime that are separate from other services that are not subject to the access regime, and with appropriate cost allocation principles • where vertical integration issues arise, appropriate competitive neutrality provisions should apply, such as the 'prohibition of anti-competitive price discrimination between affiliated users and third party access seekers operating in the same market' 81 • a price regulation framework, if applied, should appropriately address market power asymmetries that could reduce the effectiveness of a pure negotiate/arbitrate framework. In particular, price outcomes should ultimately fall within an efficient range that would be expected in an effectively or workably competitive market 82 • any price regulation should be by an independent regulator • the negotiate-arbitrate framework and any price regulation arrangements should facilitate efficient price discrimination between users, and • there must be credible enforcement mechanisms.

4.2 Stakeholders' views on the form of access regulation

4.2.1 Railway track services

There were differing views on the appropriate form that regulation should take. Many were of the view that it should be a lighter-handed form, some considered that the existing framework should be retained, or with modification to be more similar to the ARTC undertaking.

The view that regulation should be lighter-handed was implied in VFLC’s first submission, which commented that ‘there is a reduced need to continue regulation’ but ‘regulatory oversight would still be required’. In its submission to the Draft Report, VFLC supported the transition to light-handed regulation.

The VFF similarly indicated that ‘the necessity for a heavy-handed approach has somewhat relaxed’. Wakefield suggested:

My view (given its limitations) would be Negotiate/Arbitrate with some formal pricing aspects. And a light-handed approach.

V/Line proposed that the access regime should be limited to:

• The approval of the commercial terms (excluding track standards) for standard forms of access, and

81 Ibid, p.55. 82 Ibid, p.58.

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• The resolution of disputes concerning non-standard access applications – eg for connections or other access seeker funded network enhancements.

V/Line also indicated that a price monitoring role would be likely to have relatively little impact, but could be included in the new framework.

Other submitters held that the regulatory model should be based on the ARTC undertaking, for example Asciano stated:

The level of detail in the current regulatory framework provides a reasonable level of certainty … generally speaking Asciano believes that the structure and form of the ARTC access undertaking is an appropriate starting point. In particular, the level of intrusiveness would seem appropriate for the Victorian situation. … It is vital, if an ARTC style regulatory approach is adopted that it is obligatory for the access providers to seek approval of their undertakings. 83

Asciano re-emphasised these views in its response to the Draft Report, giving emphasis to the vertical integration of track access providers.

without appropriate regulation, it is likely freight will be disadvantaged and more freight will end up on road than would be the case if the track providers were incented differently.

El Zorro also held that ‘the ARTC model has proven satisfactory over an extended period of time. It is supported by El Zorro’, but noted that ‘price monitoring should be considered if the form of regulation is to be modified’.

With regard to the appropriateness of the ARTC undertaking as a model, the VFF indicated:

While there can be benefits of national consistency, it should only be pursued if there are proven efficiency gains and reductions in transaction costs delivered. Since there is significant uncertainty around the nationally consistent approach a Victorian rail access regime should not be withdrawn until there is a clear … nationally consistent approach that is of benefit to rail access providers and access seekers.

Wakefield similarly expressed the view that there is some way to go before a common approach is agreed on national regulation, and at the present time regional issues are paramount. The current State government rebates may not be possible under a national system.

Some stakeholders preferred the current model, such as ACRFD who stated:

The VRAR should be retained for a five year period with access arrangements approved by the regulator, reference tariffs for all

83 Asciano submission on the Issues Paper, pp. 8-10.

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services likely to be used by a significant proportion of access seekers, indicative principles for the negotiation of non-reference prices, a revenue cap, the Commission instruments and scope for the regulator to resolve disputes. The Alliance considers that a move toward light-handed regulation or the adoption of the ARTC model is premature.

V/Line observed that there is already a considerable degree of similarity between its own undertaking and ARTC’s:

Although the ARTC Indicative Access Agreement has drafting differences from V/Line’s Access Agreement, the documents are not substantially different. … One difference … is the obligation imposed on Operators … to grant security to ARTC … V/Line does not see that adopting greater similarities to the ARTC Agreement would have any significant impact on freight operations.

ARTC considered:

It is reasonable for an undertaking to be voluntary. … there should be a minimum level of regulation applied to address matters such as negotiation and arbitration, and regulatory reporting

QR Freight supported the development of a two tiered approach to rail access regulation as outline in the Draft Report, namely a lighter-handed negotiate/arbitrate model with scope for a voluntary undertaking as the first tier, and with a mandatory undertaking in certain circumstances where heavier handed regulation is required. QR was of the view that this model should be applicable throughout Australia.

4.2.2 Terminal services

Among the submitters that favoured continued application of access regulation to the Dynon rail terminals there were no detailed discussions of the form that regulation should take.

Wakefield indicated:

There just needs to be a mechanism whereby rail operators have some price guidelines for access and ancillary services to access Dynon precinct prior to the MFT (Metropolitan Freight Terminal). Rail operators could currently be greatly disadvantaged by terminals not providing access to terminals to suit pathing of trains.

El Zorro suggested:

The most suitable access obligation is to allow all above-rail operators to use the facility in accordance with known rules applied impartially by an independent terminal manager.

POTA felt that access entitlements could be ensured through a contractually established Multi-User Policy. On the other hand, QR Freight indicated it:

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does not believe that a separate requirement from the terminal owner that the terminal be operated as a multi-user facility provides any basis for removing the terminal from the scope of access regulation. In fact, QR’s recent experience indicates that the terms of the lease agreement between VicTrack and POTA cannot be relied upon by an access seeker to resolve a dispute with the terminal operator.

ACRFD was of the view that the Victorian Government should buy back the lease to the South Dynon terminal and then operate it as a common user facility.

Asciano maintained that access regulation should not apply to either the Dynon rail terminals or the East and West Swanson rail terminals. In each case, the coverage of these terminals under the VRAR would not meet the CPA criteria because in each precinct the terminals are effectively duplicated.

PoMC supported the negotiate/arbitrate regulatory model for on-dock rail terminals. In the long term, if there is a considerably greater volume of metropolitan port freight, then a mandatory undertaking model may be appropriate.

QR Freight emphasised that where there is vertical integration, there should be:

• Ringfencing of management of declared services from competitive services;

• Maintenance of confidentiality of access seeker’s information;

• Cost allocation between the declared service and competitive services; and

• Requirements for consistent treatment of operators, including measures to give confidence to operators that they will be treated consistently.

4.2.3 Summary

In regard to the regulation of rail infrastructure, the views of stakeholders were divided between: • those preferring the current framework of mandatory access arrangements to continue, perhaps with some modifications, for example that the form of the access arrangement be more similar to the ARTC undertaking (e.g. Asciano and ACRFD), and • those who suggested a more light-handed negotiate/arbitrate framework (e.g. Wakefield, VFLC, VFF, QR Freight, V/Line and ARTC).

In regard to terminals, there was less detail in regard to the proposed form of regulation, but the emphasis appeared to be on transparency and equity between operators and other measures to address vertical integration.

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4.3 Assessment of the appropriate form of access regulation

4.3.1 High level assessment against the decision criteria

The Commission’s approach to establishing whether a more light-handed form of access regulation is warranted or whether heavier-handed regulation should continue to be imposed is to apply the NERA decision framework set out in section 4.1.2 above.

Table 4.1 identifies, for rail infrastructure regulation, some of the key considerations against each of the decision criteria. The implication of this high- level assessment is that a light-handed form of regulation, if appropriately designed, is found to be most effective.

Table 4.1 Application of decision framework – rail infrastructure NERA decision criteria Situation Conclusion

The prevailing market Little or no market power. Vertical The ARTC matrix suggests little circumstances integration of track and passenger prescription. operations, but not with respect to rail freight

The institutional The RCA and Commission guidelines This supports the view that light- context provide for clear enforcement and handed regulation is likely to be dispute resolution processes. Historical sufficiently effective. experience is one of prescriptive regulation.

Dynamic The major dynamics are the incentives Heavy-handed regulation may considerations for ongoing major maintenance a ctivities impose a disincentive by on the regional rail network and reducing flexibility or through decisions on closure of lines (i.e. conflicts between disinvestment). franchise/lease obligations and regulatory obligations.

Stage of market The rail industry is in a relative declining The costs of heavier-handed development stage, although there are some regulation would be relatively prospects for renewal under alternative onerous in this context. road, fuel or congestion pricing scenarios, or major new mining or corridor projects.

Table 4.2 presents a corresponding assessment for the regulation of South Dynon terminal. The high-level assessment finds that – for slightly different reasons – a light-handed form of regulation would also be warranted for that terminal.

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Table 4.2 Application of decision framework –South Dynon terminal NERA decision criteria Assessment Conclusion

The prevailing market Some degree of market power in The ARTC matrix suggests highly circumstances long haul freight and there is vertical prescriptive regulation with respect integration of terminal and train to anti-competitive behaviours but operations. less prescriptive on pricing.

The institutional The RCA and Commission This tends to support the context guidelines provide for clear effectiveness of light-handed enforcement and dispute resolution regulation. processes. Historical experience is one of prescriptive regulation of the South Dynon terminal.

Dynamic Significant investments in terminal Heavy-handed regulation may considerations capacity may be needed to cater for impose a disincentive to investment interstate market growth. in terminal infrastructure or equipment.

Stage of market The rail share of shorter haul The costs of heavier-handed development interstate container freight is regulation would be relatively relatively low and is relatively onerous in this context. constrained by road transport.

The Commission’s assessment is that a light-handed form of regulation would be most appropriate for both rail infrastructure and for South Dynon terminal.

4.3.2 Elements of a light-handed regime

This section describes some of the elements of an access regime that are typical of more light-handed regulation, although they are not necessarily present in all light-handed regimes. (a) Definition of scope

In an effective light-handed regime the scope of regulation is usually well defined. The legislation that establishes the regime identifies clearly those services provided by the infrastructure that are within the scope of the regime and therefore subject to its regulation and those services that fall outside the scope of the regime. There may be limitations to widening the coverage of the regime, or varying its form, through subordinate regulatory instruments. The scope of the regime may be defined in the establishing legislation itself or through declaration orders.

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(b) Prescription on operational matters

As shown in Appendix G, rail access regimes also differ in regard to whether they include operating rules. Some access regimes address issues such as train management and train path allocation policies, such as (WA) and Queensland. This is especially important where the access provider is vertically integrated. The VRAR has regulatory instruments that deal with capacity allocation and real-time network management. However, in a non-vertically integrated setting, a light-handed access regime may deal with some of these issues in less detail, or may leave some of these operational matters to be dealt with under separate regulation. (c) Access undertakings

A light-handed regime is more likely to be an ex post regime, although it may have some ex ante elements. One ex ante element that may be present in a light- handed regime is an access undertaking, although an undertaking is more likely to be voluntary in a light-handed regime, rather than being a mandatory requirement.

In the alternative, the regime may permit the regulator to require nominated access providers to provide access undertakings to the regulator for approval. An access provider may be nominated in this way because it has a certain level of market power or because it is a vertically integrated entity that both provides and acquires the infrastructure services. The regulator may take the view that the requirements of competition and efficiency are such that the access provider should be obliged to submit an access undertaking to the regulator for approval. (d) Ex post price regulation

A common feature of light-handed regimes is that the regulator does not have responsibility for pre-approving reference tariffs. In other words, access providers are not required to obtain the regulator's prior approval to the prices they charge for access to the access provider's infrastructure.

The role of the regulator in a light-handed regime is typically to resolve access disputes if they arise. For example, the South Australian, Tarcoola-Darwin, Western Australian and rail access frameworks are all of this form. In each of these regimes, the regulator has the power to determine access prices in the context of resolving disputes over access prices.

A light-handed regime may also include some price monitoring or transparency requirements. The regulator may 'track' prices, profits and service quality and ensure that pricing is transparent. If the tracking shows a need for greater intervention by the regulator, then the regulator may have the power to exercise more direct price control.

As an example, the Economic Regulatory Authority in WA carries out the following ‘tracking’ roles: 84

84 http://www.era.wa.gov.au/3/198/48/role_of_the_era.pm

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• providing advice, on request, to access seekers that the price offered is consistent with access prices charged to the railway owner or its associates • maintaining a public register of access agreements (although the access agreements themselves are not public), and • obtaining information and documents from the railway owners and releasing information that will benefit negotiations (other than commercially confidential information), if appropriate. (e) Pricing Principles

In most cases in light-handed frameworks there is some level of price guidance issued by the regulator, for example in terms of high-level pricing principles that guide access providers when calculating prices for access. For example, in the SA, WA and NSW regimes the pricing principles require that negotiated access prices must be between a ceiling (stand alone cost) and a floor (short-run marginal cost). The regulator may also have a role in determining asset valuations or other parameters to be used for calculating the ceiling price (e.g. WA and NSW).

In a negotiate/arbitrate regime the regulator is bound by the pricing principles when determining access disputes relating to prices. In a price monitoring framework the regulator may ‘track’ whether these pricing principles are being complied with. This form of compliance monitoring is also common in negotiate/arbitrate regimes. 85 IPART conducts a formal annual review of compliance with the pricing principles. 86 (f) Dispute resolution

A dispute resolution regime is a fundamental part of a light-handed regulatory access regime, particularly if the regime is to be certified as an effective State- based access regime for the purposes of Part IIIA of the TPA. Clause 6(4)(g) of the CPA requires a State-based access regime to include an independent arbitration mechanism. Price monitoring alone is not considered by the NCC as effective within the context of an access regime, which must include a mechanism for resolving access disputes. 87

Many light-handed rail regimes adopt a negotiate/arbitrate model for dealing with requests for access, and the regulator usually fulfils the role of the independent arbitrator of disputes. However, some regimes also include processes for the appointment of other independent arbitrators (e.g. SA and WA). 88

85 For example, see: Essential Services Commission of South Australia (2008) ‘Rail Industry (Tarcoola-Darwin) Guideline No. 2: Arbitrator Pricing Requirements’, section 1.2, p.1. 86 IPART (2006) ‘NSW Rail Access Undertaking Annual Review of Compliance: IPART Guidelines’, November. 87 National Competition Council (March 2004), ‘Submission in response to Productivity Commission’s draft report on the review of the National Gas Access Regime’, p.13. 88 For SA see: Essential Services Commission of South Australia (2008) ‘Information Kit 2.1: South Australian Rail Access Regime’, p.8; and for WA see: http://www.era.wa.gov.au/3/198/48/role_of_the_era.pm

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A dispute resolution mechanism in a light-handed regime can require the arbitrator to resolve access disputes, such as: • disputes over the terms and conditions of access including access prices • whether the access provider has made reasonable endeavours to provide access or has hindered access, or • whether the access provider has complied with other statutory obligations.

The regulator may in some circumstances have the discretion not to hear or determine certain types of disputes, for example, vexatious or trivial disputes, and in some cases, if there is no prima facie case that market power has been misused. To illustrate, under the legislated Victorian shipping channel access regime, the Commission can, under s.60(8)(b) of the Port Services Act 1995 (Vic), refuse to make a determination: • if it is satisfied that the access provider has complied with its statutory obligations • if it is satisfied that the terms and conditions of access being offered do not constitute a taking advantage of a substantial degree of market power, or • having regard to its statutory objectives.

As another example, the Australian Energy Regulator (AER) also has the discretion to decline to determine a dispute where there is an access agreement in place between the access provider and the user, and the dispute concerns an issue which is the subject of the access agreement. An example is the access prices already agreed between the parties (section 186 of the National Gas , a schedule to the National Gas (South Australia) Act 2008 (SA)). (g) Access provider obligations and enforcement

Most light-handed access regimes impose an obligation on access providers not to hinder or prevent access to the access provider's infrastructure or to do anything that has the effect of hindering or preventing access. Most light-handed access regimes also require access providers to provide requisite information to access seekers, to use reasonable endeavours to accommodate the access seeker and to negotiate in good faith. The regulator usually has the power to enforce these obligations by seeking a civil penalty or other order against the access provider for infringement.

Light-handed access regimes often impose additional obligations on access providers. These include minimum requirements regarding negotiation processes, treatment of confidential access seeker information, provision of accounts to the regulator and ring fencing. The SA rail regime requires access providers to establish and adhere to a Compliance System. They must provide an annual compliance report to the regulator, and the latter may undertake ad hoc audits of compliance systems at any time. 89 The WA regime includes ring fencing of the railway owners.

89 Essential Services Commission of South Australia (2008) ‘Information Kit 2.1: South Australian Rail Access Regime’, chapter 6.

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The VRAR can require access providers to comply with the ring fencing rules (although at present none are subject to this requirement), account keeping rules, negotiation guidelines and provisions of the RCA relating to the treatment of confidential information. The latter requires access providers and access seekers to keep certain information confidential and to use that information only for access- related purposes. Access providers must also have an approved business system for managing confidential information. While these obligations support the VRAR, they are not all necessarily essential parts of the access regime. (h) Overall simplicity

It is desirable that a light-handed rail access regime should be kept relatively simple in order to reduce the risk that specific aspects of the regime may be impediments to certification under Part IIIA of the TPA. However, a simplified regime must still meet the minimum requirements of the Clause 6 principles set out in Appendix B. These include well specified negotiation and dispute regulation frameworks and credible enforcement mechanisms.

4.4 Choosing a preferred form of light-handed access regulation

The previous section described the main elements that can be used within light- handed access regulation regimes. This section assesses which of these are appropriate in the Victorian rail context, having regard to the Commission’s principles set out in section 4.1. It concludes with the recommendations on the preferred form of access regulation.

4.4.1 Assessment of light-handed access regulation options Preference for market solutions

The CIRA requires that in the first instance access terms and conditions should be determined if possible by negotiation. This suggests that ex post regulation is generally to be preferred. Since, as discussed above, all effective access regimes must have an enforceable dispute resolution mechanism, this suggests that the minimum regulatory response under the access regime is a negotiate/arbitrate model.

The national access framework permits access providers to submit voluntary access undertakings for approval, even after a service has been declared. The effect of the latter is to replace the default negotiate/arbitrate framework with a voluntary undertaking. This ability was introduced in 2006, when it was explained as a measure:

to enhance the incentives for commercial negotiation between access providers and access seekers. … Post-declaration undertakings will reduce the need to determine terms and conditions of access through arbitration procedures. This will

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improve certainty for service providers and access seekers and will facilitate commercial negotiations between them. 90 Therefore, it is also consistent with the CIRA principle of facilitating commercial negotiation to permit rail access providers to submit a voluntary access undertaking. Proportionality & promotion and protection of competition In section 4.2, the Commission found that a light-handed regulatory framework representing a minimal regulatory response is to be regarded as the most appropriate to the circumstances of the Victorian rail industry at the present time. However, there are circumstances where a rail access provider may acquire greater market power, for example, the development of a mineral deposit may result in a ‘heavy haul’ rail task, where rail has a considerable advantage over road transport. There is currently a feasibility study being undertaken into development of a major coal deposit at Oaklands, on the Victorian rail network. 91 As another example, an intra-state rail line could become part of a longer rail freight corridor. In short, there are possible circumstances where a Victorian rail line could become a ‘major corridor’. The CIRA indicates that the appropriate regulatory framework for a ‘major corridor’ is the ARTC undertaking model. For the present purposes a ‘major corridor’ is defined as one carrying: • long distance containerised freight trains, and • a significant ‘heavy haul’ task, such as coal or iron ore trains. Consistency The Victorian rail network is most closely comparable to regional NSW (but excluding the Hunter Valley coal network), SA, and the south western part of WA which is covered by the WA access regime. The access regimes applying to these networks are all negotiate/arbitrate frameworks. Although there are differences between them, there are also broad similarities. Therefore, consistency with other jurisdictions most relevant to Victoria would suggest that the negotiate/arbitrate model should be used in Victoria. At the same time, the ‘major corridors’ such as the ARTC interstate track and the Queensland and Hunter Valley NSW coal networks, all have similar undertaking frameworks (with the Queensland undertaking having additional ring fencing requirements due to the vertical integration of QR). This suggests that if any Victorian rail lines were to become ‘major corridors’ the access model should be a mandatory undertaking similar to ARTC’s.

90 House of Representatives, Trade Practices Amendment (National Access Regime) Bill 2005 : Second Reading Speech , 8 February 2006. 91 Coal Mining 21 May 2009, ‘Coalworks is confident about Oaklands coal project’. Note: The base case is for mining 3 million tonnes of thermal coal per annum via open pit at Oaklands increasing to 6 million tonnes per annum. http://www.miningcoal.com.au/article/coalworks-is-confident-about-oaklands-coal- project/482273.aspx

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Balancing short and long term benefits to consumers The rail industry in Victoria is currently facing significant change from two directions: • firstly, considerable weakening of its traditional freight-customer base associated with lack of competitiveness against road transport, and • secondly, strong policy directions promoting short-haul urban container port shuttles. Both these circumstances demand large improvements in rail industry efficiency if it is to be viable in the longer term. The key implication for regulation is that it will need to be flexible and enable industry participants to be adaptable. It should also strongly support, while not being an impediment to, efficiency improvement. The ex post regulatory role under the negotiate/arbitrate model is likely to be relatively more flexible than the alternative options because the regulator is primarily called upon to deal with circumstances that are current at the time of regulatory decision making. As less reliance is put on forecasts of market conditions over a regulatory period, the regulatory model is less likely to impose inefficient constraints (because it imposes less ex ante constraints on market conduct overall). These considerations suggest that a mandatory undertaking is likely to be less consistent with the long-term interests of consumers than a negotiate/arbitrate regime. They also highlight the importance of a regular review of the regime.

4.4.2 Conclusion on the form of access regulation

The foregoing section concluded that a light-handed rail access regime, if based on a negotiate/arbitrate model and containing some of the elements of the current ARTC access regime, would appear to be a reasonable and satisfactory alternative to the current VRAR.

Such a regime could have a two-tier system of regulation:

(a) The first tier could establish a basic negotiate/arbitrate access regime that would apply to all declared rail track infrastructure services and basic terminal services at declared terminals. 92 The regime would adopt an ex post regulatory framework. Access providers and access seekers would be free to negotiate terms of access. If access providers and access seekers were unable to agree on terms and conditions of access, they would be able to refer their dispute to the Commission for a dispute resolution determination. Access providers would be entitled to, but not required to, maintain an access undertaking approved by the Commission.

(b) The second tier could apply to rail transport services declared to be national ‘major corridors’. In addition to the elements of the basic regime, affected access providers would be obliged to maintain an approved access undertaking. The Commission could have the discretion to require affected

92 Under the Commission’s recommendations the terminal services that would remain declared would be those at the South Dynon rail terminal

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access providers to provide indicative pricing in their access undertaking or even standing offer prices. The form of the undertaking should be similar to the ARTC undertaking.

For the avoidance of doubt, if the access provider were ARTC, then it would be able to satisfy the mandatory access undertaking requirement by submitting the undertaking to the ACCC instead of the Commission.

Recommendation 6 The VRAR be amended to provide a two tier system of regulation for declared rail track services:

(a) the first tier should apply to all declared rail transport services. The default form of regulation should be a negotiate/arbitrate framework and access providers should be able to submit a voluntary access undertaking to the Commission for approval.

(b) the second tier should apply to all declared rail transport services designated as ‘major corridors’, thus obliging the access provider to submit an access undertaking to the Commission for approval. The undertaking must have a form similar to the ARTC undertaking. A ‘major corridor’ can be defined as one carrying long distance (interstate) containerised freight trains, or a significant ‘heavy haul’ task, such as coal or iron ore trains.

4.5 Overview of how it may work – the VRAR

This section examines how a light-handed rail access regime may be formulated in Victoria having regard to the existing VRAR and the requirements for certification. It considers issues such as: • defining the scope of the regime • the extent of prescription on operational matters • the role of access undertakings • the negotiation framework • pricing principles • the framework for resolving access disputes • access provider obligations and enforcement • regular reviews • appropriate treatment of interstate issues, and • overall simplicity and effectiveness.

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4.5.1 Defining the scope of the regime How would the two tiers be determined?

The model would require the Governor-in-Council to declare the basic rail infrastructure and services to be subject to the regime. The Commission’s view is that all of the initial declared rail transport services would fall under the first tier negotiate/arbitrate framework.

However, if circumstances changed and the Commission believed that a declared rail transport service had become a ‘major freight corridor’ (as defined in Recommendation 6) then there may be merit in the Commission having the discretion to determine whether it was a ‘major freight corridor’ and whether a mandatory undertaking should apply. The exercise of this discretion would be subject to conducting a public consultation process.

Recommendation 7

No declared facilities should be designated ‘major corridors’ for the purposes of recommendation 6.

The Commission should be able to designate a facility covered by the VRAR as a ‘major corridor’ if the nature of the freight tasks on any facilities change significantly, or the interconnectivity of those facilities with other ‘major freight corridors’ changes. Before exercising this discretion, the Commission should be required to conduct public consultation on the question. What terminal services should be covered by the regime?

The range of terminal services provided in Victoria can be divided into three categories. The first category includes train control functions, including train movements, within a terminal. The second category of services includes lifting services at the terminal and temporary container storage, which are necessary parts of using the terminal. The third category covers ancillary services such as shunting, wagon maintenance and storage, which a user may not necessarily need to use when acquiring other terminal services.

Under a light-handed rail access regime, terminal services in the first two categories would necessarily be subject to the regime if the terminal were to be declared. PoMC stated in its submission that it does not consider that services in the third category are a necessary service, and that the default light-handed VRAR should only include services of the first two kind. Asciano also held that ancillary services should be excluded.

The Commission agrees that ancillary services need not be included under the regime.

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Recommendation 8

The declared terminal services at South Dynon should include only necessary services such as train control functions, lifting services at the terminal and temporary container storage. Ancillary services do not to be declared.

Is the scope of the regime tightly defined?

There are some shortcomings with the current declaration orders because the infrastructure from which rail transport services are provided is defined in terms of leases held by specific railway track managers which can change. There is a risk that the services may no longer be declared if the parties to a lease change, or the name of a lease changes, or some of the tracks that are subject to a lease change. Since the introduction of the VRAR, all of these circumstances have occurred.

This has led to uncertainty over whether some services remain covered under the VRAR. For example, some rail infrastructure has passed out of V/Line’s Regional Infrastructure Lease into leases held by ARTC. Some of these lines have not yet been incorporated in ARTC’s interstate access undertaking with the ACCC, and for those lines, no access regime is currently in place.

This situation gives rise to considerable uncertainty because there are no requirements obliging ARTC to include the transferred tracks into its interstate access undertaking. The Commission’s view is that the uncovered lines held by ARTC should continue to be included in the VRAR until such time as ARTC includes them in an undertaking with the ACCC, at which time they should automatically be excluded from the VRAR.

The ARTC endorsed this view as follows:

The parts of the interstate network transferred to ARTC have been incorporated in ARTC’s original lease of the Victorian interstate network. The lease contemplates the leased network being covered under the provisions of Part 2A of the Rail Corporations Act 1996 (where declared pursuant to section 38C of the Act) whenever an ARTC access undertaking approved by the ACCC was not in place. … Given that ARTC agreed under the interstate lease that these parts of the network would be covered where there was no ARTC undertaking with the ACCC, ARTC would have no issue with the Commission’s recommendations, but if the infrastructure is re-declared, more light regulation than what is currently prescribed under the VRAR would be appropriate.

Asciano also supported this approach, commenting that this will avoid confusion over what services are covered.

A second shortcoming is the ability of the Minister to apply the VRAR to a wide range of rail infrastructure and rail transport services that are not covered by other access regimes, such as tram tracks, rolling stock or infrastructure maintenance services. This gives rise to a potential inconsistency with other rail access regimes.

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Furthermore, some of these services may not meet the coverage criteria in the CPA. This could give rise to difficulties in the certification process, because the NCC would need to have regard to this risk when considering its compliance with the CPA.

A third shortcoming is the fact that access providers are identified by reference to their accreditation as 'rail infrastructure managers' under Part 5 of the Rail Safety Act 2006 (Vic). Some declared rail transport services provided by means of declared rail infrastructure – for example, some terminal services – do not require the provider of those services to be accredited under Part 5 of the Rail Safety Act. If the provider does not need to be accredited, the provider is not an 'access provider' for the purposes of the VRAR. As a result, much of the VRAR – including the dispute resolution regime – may not apply to that provider.

To remedy these deficiencies: • the VRAR could be amended so that certain ‘associated infrastructure’ and non-core access services are excluded from the access regime and the definition of 'access provider' broadened slightly to include providers of declared rail transport services who are not otherwise required to be accredited under Part 5 of the Rail Safety Act, and • the criteria for declaring rail transport services to be 'declared rail transport services' under the RCA should be amended to reflect more closely the criteria set out in the CPA and the TPA for declaring services to be subject to an access regime.

Recommendation 9

Intra-state rail lines transferred to ARTC should remain covered by the VRAR until such time as they are included in an undertaking approved by the ACCC.

The services potentially covered by the regime should be more tightly defined so that it cannot be applied, for example, to tram tracks or to rolling stock. The definition of 'access provider' should be broadened slightly to include providers of declared rail transport services who are not otherwise required to be accredited under Part 5 of the Rail Safety Act.

The criteria for declaring rail transport services to be 'declared rail transport services' under the Rail Corporations Act should be amended to reflect more closely the criteria set out in the CPA and the Trade Practices Act 1974 for declaring services in the context of a State-based access regime.

4.5.2 Regulation of operational matters

Under the current VRAR, the Commission is required93 to develop and publish a number of Commission Instruments, such as those dealing with negotiation

93 RCA, Part 2A, Division 2.

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processes, provision of information to the Commission and ring fencing. These are discussed in more detail below (section 4.5.4). Others govern the access provider's allocation of capacity and the management of its rail network – the capacity use rules and network management rules. Access providers are required to comply with these rules and to establish: • protocols for train path allocation procedures and reallocation of unused paths, and • an Operating Handbook encompassing protocols for train control activities, short-term scheduling and planning, managing operational conflicts, dealing with network blockages and emergencies, possessions, communications, safe working systems and rolling stock interface standards.

Some of the other light-handed access regimes applying to comparable rail networks, such as in NSW and SA, do not include network management functions in the access regime itself. On the other hand, the WA regime is an example of a light-handed regime which has such requirements. WestNet Rail is required to have its Train Management Guidelines and a Statement of Train Path Policy approved by the regulator. WestNet is vertically-integrated because it is a wholly- owned subsidiary of Australian Railroad Group Pty Ltd (ARG). The ARTC undertaking establishes broad network management principles for the interstate network, although it is not vertically integrated.

The NCC has said on this subject:

The resolution of capacity issues is a critical matter in the negotiation of access to services. In rail, for example, capacity issues are more closely linked to train path allocation (that is, the timetabling and the use of various sections of the track) and network management principles. Access seekers need to negotiate a suitable train path, day-to-day network management and mechanisms for reallocating unused train paths. Transparent mechanisms that are open to independent scrutiny are needed to assure market participants that capacity issues are resolved in a manner that promotes competitive outcomes. Such an approach is especially important if the access provider also operates a vertically affiliated entity. 94

Some broader issues regarding network management and capacity allocation are discussed in detail in chapter 7, which addresses the concept of a “one-stop-shop” for rail access to be responsible for dealing with applications for access to the Victorian rail network and certain terminals, allocating capacity and undertaking some network management functions.

In the Draft Report, the Commission proposed that in the absence of rail infrastructure providers having vertically affiliated freight operations, the successful administration of the Victorian rail access regime arguably does not require the capacity use rules and the network management rules to form part of the access

94 NCC (May 2009), p.36.

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regime itself. Instead the RCA may simply require access providers to maintain such protocols that meet certain statutory requirements, but these need not be subject to approval by the Commission. The Commission would then retain the power to satisfy itself that the obligations have been met.

Asciano did not support this approach and maintained that network management protocols and capacity allocation processes should continue to be subject to approval by the Commission, as is the case in WA:

This will provide a degree of certainty as to how potential operational conflicts between freight and passenger will be managed.

In the Commission’s view, the key obligations of access providers established in the Network Management Rules and the Capacity Use Rules remain relevant, namely: • prohibition of the access provider unreasonably favouring itself or another person over any other person when carrying our either a relevant capacity allocation activity or relevant network management activity 95 • requirement of the access provider to maintain and publish protocols for train path allocation and reallocation of unused paths which: o requires a user (including any affiliate of the access provider) to surrender unutilised or under-utilised train paths allocated to them 96 (i.e. the ‘use it or lose it’ principle) o establishes rules for managing conflicts with respect to freight train paths o is consistent with the principle of passenger priority • requirement of the access provider to maintain and publish an Operating Handbook that contains protocols for train control activities, short-term scheduling and planning, managing operational conflicts, dealing with network blockages and emergencies, possessions, communications, safe working systems and rolling stock interface standards.

As the Government’s plans for the MFTN develop, the capacity use rules and the network management rules are likely to become more important, as they would establish the parameters within which the more intensive used of the metropolitan rail network for freight trains would be required to operate. A requirement for the Commission to approve protocols for capacity allocation and train management may continue to be appropriate in these circumstances. However, as noted above, this requirement need not form part of the access regime.

95 See s.38T(4)(b) & s.38U(3)(b) of the RCA. 96 See s.38T(2)(b) of the RCA.

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Recommendation 10 The existing requirement that the Commission establish Capacity Use Rules and Network Management Rules should continue in order to ensure that access providers: • establish transparent protocols for capacity allocation and network management (retaining the ‘use it or lose it’ principle), and • do not discriminate between users when carrying out those activities. .

4.5.3 Access undertakings

Under the ‘first tier’ form of regulation, the negotiate/arbitrate model permits access providers to set their own prices and adopt their preferred method for calculating prices subject to the pricing principles (see section 4.5.5). The regulator’s role in relation to prices only arises in the context of resolving access disputes or if an access provider submits a voluntary access undertaking for approval. Voluntary access undertakings

Some light-handed access regimes, such as the legislated channel access regime, allow access providers to submit a voluntary access undertaking to the regulator for approval. Although access providers are often required to include pricing terms and conditions in their voluntary access undertakings which must be approved by the regulator (e.g. the ARTC interstate undertaking), in some cases the prices in a voluntary undertaking may not be subject to approval by the regulator. Instead, all prices remain subject to the dispute resolution process contained in the undertaking.

For example, in its recent approval process for grain handling undertakings, the ACCC said of its approach:

Given the circumstances in which GrainCorp has submitted its proposed Undertaking, the ACCC is of the view that a prescriptive regulatory approach including ex ante price setting is not warranted, and that a less prescriptive publish-negotiate-arbitrate approach is appropriate 97 .

As another example, under the 'light regulation' gas access regime, access providers who submit a voluntary access undertaking to the AER for approval are not required to include price terms and conditions. Once approved though, the access provider is required to comply with that access undertaking. The NCC has described the ‘light regulation’ model under the National Gas Law as employing:

regulatory methods that do not control prices directly, but emphasise commercial negotiation and information transparency,

97 ACCC (2009) GrainCorp Operations Limited, Port Terminal Access Undertaking, Further Draft, p.99.

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with regulatory intervention through the right to the arbitration of disputes, being retained as a default.

...

Light regulation may provide timelier and lesser cost outcomes than full regulation. Where negotiations are successful light regulation is likely to result in reduced front end costs and delay. However, if a negotiation is unsuccessful additional time will be required in order to resolve an access issue and back end costs are likely to be higher.

In some cases, an access provider may prefer that the regulator approve prices in a voluntary undertaking to reduce the risks of costs at a later date arising from dispute resolution processes over prices.

In the Draft Report, the Commission proposed that it may be of practical benefit, when an access provider submits a voluntary proposed access undertaking for approval, if it is able to propose that the Commission either approve indicative reference prices included in the access undertaking (and thereby be bound by that approval in any future access dispute), or adopt the “publish/arbitrate/negotiate” approach under which the reference prices would not be approved ex ante , but instead be subject to the dispute resolution process. In the event of a dispute, the Commission would form its own view on the appropriate approach to pricing.

Asciano and V/Line both suggested that reference prices should be approved as part of the undertaking as this provides certainty for both the access seeker and provider.

Since the undertaking is voluntary, it is reasonable to expect that it will only be submitted in circumstances where certainty over reference prices is sought, and for this reason the “publish/negotiate/arbitrate” undertaking model doesn’t seem to be applicable.

The concept of reference services has an important role to play in defining the scope of an access arrangement. In the RCA, a “reference service” is a declared rail transport service that: (a) is provided by an access provider to itself or a related body corporate, or (b) is likely to represent a significant proportion of demand by access seekers for declared rail transport services, or (c) is provided by means of a terminal. When the VRAR was first implemented, all of the declared rail infrastructure services on the regional rail network were reference services under (a) above. Following the buy-back of the rail network, item (a) no longer applies, and the definition of reference services is now much less broad. The terms and conditions contained in an undertaking need only apply to those services for which demand is most significant.

Once an access undertaking is approved by the Commission it should be binding on an arbitrator of an access dispute in the same way as s.38ZZD of the RCA currently requires that the Commission not make a dispute resolution decision that is inconsistent with a binding access arrangement.

As a consequence, principles established in the CPA must be taken into account by an arbitrator of an access dispute (namely clauses 6(4)(i) and (j)).By implication

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these are also relevant principles for the Commission when approving a voluntary access undertaking. This requirement is already met by s.38ZI of the RCA.

In the Commission’s view the following requirements are appropriate for voluntary access undertakings (in addition to, or in place of, requirements in s.38X of the RCA): • the form of the undertaking should be similar to the ARTC access undertaking to facilitate the objective of national consistency • it must include indicative terms and conditions of access to reference services but need not specify standing offer terms and conditions (consistent with the ARTC undertaking), and • it should have a nominated expiry date between three and ten years (the latter being the term of ARTC’s interstate undertaking).

Once approved by the Commission, the access providers would be required to comply with their access undertakings for the duration of the term. In the event that an access provider does not comply with its voluntary undertaking, the Commission could have recourse to its existing enforcement options discussed in section 4.5.4 below.

The process for approving voluntary access undertakings is envisaged to be broadly similar to the process that is currently set out in the RCA 98 . However, the provisions requiring or enabling to the Commission to make an access arrangement in certain circumstances 99 would not apply to voluntary undertakings, nor would the requirement for deemed access arrangements. 100 That is, if a voluntary access undertaking is not approved it may be withdrawn by the access provider, who may instead rely on the negotiate/arbitrate framework. Mandatory access undertakings

Where a declared facility meets the definition of a ‘major corridor’ and the Commission adopts the ‘second tier’ form of regulation, the Commission would require the relevant access provider to submit an access undertaking for approval in respect of those lines or services. As stated, the access undertaking should be similar to the ARTC undertaking, which contains indicative prices and other terms and conditions of access to reference services. These terms and conditions would be subject to the Commission’s approval.

Under Queensland's rail access regime, for example, the Queensland Competition Authority can require access providers to maintain an access undertaking approved by the Authority. The Authority can impose such a requirement on access providers where the Authority considers that an access provider has market power in the relevant market for rail transport services, and that there is a net benefit in requiring that access provider to maintain an access undertaking. The access undertaking must set out general terms and conditions for the negotiation

98 s.38Y to s.38ZI 99 s.38J 100 s.38ZK

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of access arrangements and contains reference tariffs for certain rail transport services.

Where a mandatory access undertaking applies, the RCA provisions relating to the Commission make an access arrangement in certain circumstances would apply.

Recommendation 11 For either a voluntary and mandatory access undertaking, the undertaking should (in addition to, or in place of, requirements in s.38X of the RCA): • have a form similar to the ARTC access undertaking • include indicative terms and conditions of access to reference services, and • have a nominated expiry date between three and ten years. Provisions of the RCA requiring or enabling to the Commission to make an access arrangement in certain circumstances should not apply where an access undertaking is not mandatory.

4.5.4 Negotiation frameworks

A fundamental requirement of access regimes is that the form of regulation be proportionate to the overall balance of bargaining power and information asymmetry, such that there is a reasonable expectation that access seekers will be able to obtain access on fair and reasonable terms under the regime. The NCC considers that commercial negotiation provides:

a cornerstone in determining access outcomes. Commercial negotiation allows parties to reach mutually beneficial agreements. 101

To support the effectiveness of negotiation, an effective access regime should: • require the access provider to use reasonable endeavours to accommodate the requirements of an access seeker • provide appropriate price guidance – e.g. pricing principles or methodologies (discussed in section 4.5.5 below) • establish a process whereby relevant information will be provided by an access provider to an access seeker to permit informed decisions 102 • appropriately deal with interoperability issues and interconnection • provide incentives for improving service quality, including the publication of performance indicators

101 NCC (May 2009), p.31 102 NCC (May 2009), p.39

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• require separate accounts for access activities and, where relevant, ring fencing • ensure protection of the confidential information of the access seeker • prohibit the owner or another user hindering of access to a service by a user • provide for enforceability of access rights, and • ensure regulatory intervention promotes commercial outcomes and is administered by an independent economic regulator with transparent regulatory processes. Reasonable endeavours

The VRAR ensures access providers use reasonable endeavours to accommodate an access seeker in the following ways: • The RCA prohibits an access provider from engaging in conduct that hinders or prevents an access seeker from entering into an access agreement (s.38ZZS). • The Negotiation Guidelines require that access providers and access seekers act in good faith when following the procedures in the Guidelines. • The Capacity Use Rules require an access provider to use all reasonable endeavours to allocate to an access seeker any train path requested by the access seeker in an access application (clause 2(b)). The Negotiation Guidelines establish explicit negotiation processes that require the access provider to respond to access requests within specified periods, and establish a negotiation protocol establishing reasonable time periods within which negotiation should be conducted, and alternative dispute resolution processes if the parties are unable to agree, among other things.

However, under the existing VRAR the Negotiation Guidelines only have effect in the context of establishing access arrangements 103 The access provider does not have an ongoing responsibility to comply with the Negotiation Guidelines 104 (because the processes in the Negotiation Guidelines are reflected in a binding access arrangement). Under Recommendation 6, however, the requirement for access providers to have a binding access arrangement would no longer apply. Therefore, unless compliance with the Negotiation Guidelines is made an ongoing obligation of access providers, the reasonable endeavours obligations would be significantly weakened.

In the Commission’s view, this is a sufficient reason for the Negotiation Guidelines to be retained in the VRAR, and for compliance with the Negotiation Guidelines to be included as an explicit obligation of an access provider. The RCA should expressly include an obligation for access providers to use all reasonable endeavours to accommodate an access seeker’s application for a train path.

103 See s.38ZF(2)(b)(v), s.38ZO(3)(e) and s.38ZP(3)(e). 104 See RCA Part 2A, Division 6 (Access Provider Obligations).

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Recommendation 12 The Negotiation Guidelines should be retained and the VRAR should require: • compliance with the Negotiation Guidelines as an ongoing obligation of access providers • access provider to use all reasonable endeavours to allocate to an access seeker the capacity requested by the access seeker in an access application. Transparency, interoperability and reasonable endeavours

Information provision, transparency requirements, interoperability and interconnection are all addressed in the Negotiation Guidelines.

The transparency obligations in the Negotiation Guidelines – requiring the publication of the access arrangement 105 – are not well designed for a negotiate/arbitrate regime. This should be complemented by an obligation for the standard terms and conditions of access to be published if there is no undertaking in place.

Further, the Negotiation Guidelines do not include a requirement to publish performance measures, such as entry and exit times, track quality and speed restrictions, as suggested by the NCC. 106 At present, the access arrangements contain requirements to publish performance measures, but if the obligation to maintain access arrangements is removed then there would be no remaining obligation of this kind.

The Commission’s view is that the publication of performance indicators is an important element in enabling access seekers to be informed about the quality of services provided and therefore support effective commercial negotiation, transparency and efficient planning and resource utilisation in the rail industry more generally. It is noted that V/Line and Asciano both supported this.

105 s.2(a) 106 NCC (May 2009), p.37

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Recommendation 13

The Negotiation Guidelines should be amended to include requirements for access providers to:

• publish standard or indicative terms and conditions of access to reference services (as defined in the RCA), and • publish appropriate performance indicators. The Guidelines should specify those indicators (or a minimum set of indicators). Account keeping and ring fencing

Account keeping and ring fencing provisions are useful to include in a light-handed rail access regime. Account keeping and ring fencing provisions appear in the national gas pipeline access regime, but in a much abbreviated form.

There is scope to have more abbreviated provisions in the Act in relation to Account Keeping. Some access regimes include only a short provision requiring access providers to maintain certain financial and accounting records and to provide them to the Commission on demand. Such an obligation would usually be supplemented by a Guideline issued by the regulator should the need arise to expand upon the principles contained in the Act. This may have the benefit of being less prescriptive concerning the Commission’s formulation of the account keeping requirements.

Given that there is currently little vertical integration in the Victorian rail industry, the Ring Fencing Rules are not applied to any access providers. The regime could include a statutory requirement for access providers to maintain separate accounting records for access activities, and provide the ability for the Commission to make Ring Fencing Rules, but need not make the establishment of those rules mandatory.

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Recommendation 14

The current statutory requirement for the Commission to issue Account Keeping Rules and Ring Fencing Rules should be replaced by:

• statutory obligations for access providers to maintain separate accounting records for access activities • an ability for the Commission to make record keeping guidelines including specifying appropriate cost allocation principles and the form of annual regulatory accounts (or Ring Fencing Rules if an access provider were to become a vertically integrated freight rail operator), and • statutory obligations for access providers to provide financial records to the Commission in accordance with the Guideline.

Confidential information

The VRAR contains clear principles governing the protection of confidential access seeker and access provider information. An access provider must not: (a) use information given to them by an access seeker or a user in confidence other than solely for a relevant purpose (b) disclose information given to them by an access seeker or a user in confidence without the written consent of the access seeker or the user (c) submit for approval of the Commission a system and business rules for handling confidential information, and (d) maintain the system and business rules as approved.

Obligations (a) and (b) also apply to access seekers with respect to access provider information.

All of these obligations are appropriate. However, the RCA requires that obligation (c) be met at the same time as an access provider submits a proposed access arrangement under section 38W for approval. Given that the Commission has recommended the mandatory requirement to submit an access arrangement be removed, it is necessary to consider whether submitting the system and business rules for handling confidential information should remain as a stand alone obligation, and if not how it ought be amended.

In the Draft Report, the Commission proposed that a lesser obligation might be imposed, namely: (i) an obligation to maintain a system and business rules for handling confidential information which is fit for its purpose, and (ii) an ability for the Commission to audit the system and business rules for handling confidential information, and the access provider’s compliance with it, at any time.

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Both Asciano and V/Line queried the purpose and/or effectiveness of these proposed changes.

The Commission has given further consideration to this question. An alternative to item (i) is a requirement that an access provider have at all times a system and business rules for handling confidential information which has been approved by the Commission. Such an obligation would need to apply whether or not the access provider submitted a voluntary access undertaking to the Commission.

Item (ii) above, which is in addition to existing specific obligations under the RCA, appears reasonable to the Commission. Indeed, to date, the Commission has imposed this as a condition of approval. 107

These changes would not reduce the overall obligations of the access provider, nor increase them, but they may be more suited to the ex post regulatory principle that is employed in the Commission’s recommended form of access regulation.

Recommendation 15

The present requirement that an access provider submit a system and business rules for handling confidential information to the Commission for approval at the same time as submitting an access arrangement be replaced by:

• an obligation for the access provider to have at all times a system and business rules for handling confidential information which has been approved by the Commission, and

• an explicitly provision for the Commission to audit it and the access provider’s to compliance with it, at any time.

Hindering of access

Access regimes generally impose an obligation on access providers and users not to engage in conduct with the purpose of, or that has the effect of, preventing or hindering access by another person to the access provider's services. The VRAR prohibits an access provider hindering access by an access seeker to a declared rail transport service, or hindering an existing user from using a declared rail transport service it is entitled to, or hindering interconnection. 108 Although the VRAR does not include a prohibition on a user hindering access by another user, the Commission’s view is that the ‘use it or lose it’ principle in the Capacity User

107 Under s.38ZZZB(2) the Commission’s approval may be subject to such conditions as it considers appropriate. Typically the Commission has used this provision to reserve for itself the ability to later audit the system. For example in the 2009 V/Line access arrangement renewal the Commssion stated that: “If the Commission considers it appropriate, the Commission will conduct a further examination of V/Line’s system and for dealing with confidential access seeker and user information in the future.” 108 Section 38ZZS of the RCA.

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Rules, retained under Recommendation 10, adequately addresses this requirement.

If a light-handed rail access regime were implemented in Victoria, it should retain the access provider obligation not to prevent or hinder access (which is in s.38ZZS of the RCA), as an obligation of this type is required in an effective State-based access regime.

Recommendation 16

The existing obligation of access providers not to hinder or prevent access, in s.38ZZS of the RCA, should be retained.

Enforcement

The effectiveness of the access rights will depend importantly on the enforceability of those rights. The NCC requires that an access regime must have credible enforcement mechanisms, such as through arbitration or regulation. For some types of breaches, such as hindering or obstructing the regulator, there should be an effective penalty regime and ability to seek an injunction against the action.

The enforcement regime in the RCA includes: • an access seeker or a user may seek arbitration by the Commission of an alleged non-compliance by an access provider with its obligations, including hindering access, not complying with the pricing principles or negotiation guidelines or an approved access arrangement • a party may bring civil proceedings against another party in regard to non- compliance with the statutory provisions of the VRAR, and • in regard to a penalty provision, the Commission may apply to the Supreme Court for an penalty order and/or an injunction or declaratory relief directing the party to cease the contravention, remedy it or prevent its reoccurrence.

If an access dispute decision of the Commission is not complied with, a party to the dispute can apply to the Supreme Court to enforce the decision and compensate the applicant for damages.

The VRAR therefore provides for adequate enforceability of access rights.

The enforceability of the access regime is supported by the ability of the regulator to monitor and enforce compliance with the regime. For example, if there is a voluntary access undertaking in place, the Commission should be able to monitor compliance by an access provider with its undertaking and to enforce compliance through civil penalty provisions and the availability of injunctive and declaratory relief. This will require a suitable level of transparency as well as adequate information gathering powers (as discussed above).

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4.5.5 Pricing Principles

At present the VRAR contains an ex ante pricing regime. The Pricing Order establishes Pricing Principles and the Commission has published a Rail Access Pricing Guideline consistent with those principles. These together establish the basis on which access providers may calculate the access prices established in an approved access arrangement.

The pricing principles were described in section 2.2.4. The Pricing Order includes general pricing principles, a revenue cap, freight and passenger cost allocation principles and floor-ceiling pricing principles (which are more limited in their application to terminal services and non-reference services).

Like the Negotiation Guidelines, the Pricing Order only has effect through the access arrangement approval process. Compliance with the Pricing Order is not an ongoing obligation of an access provider under Part 2A, Division 6 of the RCA (Access Provider Obligations).

The RCA also establishes a ‘non-discriminatory’ pricing rule – an obligation for access providers not to calculate prices differently for different access seekers if the services are the same (s.38ZZY). This obligation applies at all times.

The usefulness of many of the elements of the Pricing Order can be questioned for the following reasons: • Since the Pricing Order was made, the ESC Act has been amended and now contains a set of pricing principles that the Commission must apply in respect of any dispute resolution decision. These principles are broadly similar to the general pricing principles in the Pricing Order. Retaining both sets of similar but slightly different principles provides confusing guidance to access providers and to the Commission in its dispute resolution role. • Although the Pricing Order specifies a revenue cap, none of the access providers under the VRAR has yet come close to meeting or exceeding the revenue cap. Although rail access regimes in comparable networks in NSW and WA both have revenue cap mechanisms, the experience with the VRAR to date indicates that it would not be necessary in a light-handed regulatory regime.

However, the following aspects of the Pricing Order should be retained within the VRAR: • the principle established for allocating costs between passenger and freight services. 109 Retaining this principle would provide for greater consistency over time in pricing and avoid unnecessary uncertainty over the fundamental principles relevant to freight access pricing, and

109 The costs allocated to passenger services are: (i) those reasonably expected efficient costs directly attributable to the operation of passenger trains, … and (ii) a share of the reasonably expected costs of providing declared rail transport services to users of passenger services not directly attributable to passenger services or freight services, proportionate to the use of the rail infrastructure for passenger services and freight services (Pricing Order clause 4.3(a)).

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• the floor-ceiling pricing principles that currently apply to only selected services. 110 These are fundamental principles of economically efficient pricing. Since economic efficiency is an objective of the access regime, these principles should be applied to all declared services. This would provide for greater consistency with negotiate/arbitrate access regimes in other States such as SA, WA and NSW. The floor price should be adjusted if there are Government contributions.

Under a light-handed regulatory regime the pricing principles should apply as ongoing access provider obligations, rather than only taking effect in the course of establishing an access arrangement.

Recommendation 17

The following pricing principles should apply to declared rail transport services:

• Differential pricing between access seekers if the service provided is the same should be retained. • General access pricing principles in s.35C of the ESC Act should apply. • Cost allocation principles between passenger and freight services should be retained. • Floor-ceiling price limits should be applied to all declared rail transport services with floor prices adjusted if there are Government contributions. The pricing principles should apply as ongoing access provider obligations.

The remaining elements of the Pricing Order should not be retained.

4.5.6 Access disputes

A dispute resolution framework within an access regime is a fall-back arrangement that the parties can rely on if they are unable to successfully negotiate a commercial agreement or if they are unable to agree on a commercial arbitrator. A mechanism for resolving access disputes is a vital part of a light-handed access regime and would form a significant part of the proposed framework.

The dispute resolution procedures and processes are thoroughly documented in the Commission’s ‘Rail Access Dispute Resolution Guideline’. Broadly speaking, they provide a sound and effective basis for resolving access disputes. The following discussion examines whether it meets all of the requirements of the CPA.

110 The floor-ceiling pricing principles require that the price for a service should (a) at least cover the directly attributable or incremental costs of providing the service, and (b) not recover more than the stand alone costs of providing that service (Pricing Order clause 4.5).

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The aspects of a dispute resolution framework that are relevant to an assessment by the NCC of its effectiveness include: • the independence of the arbitrator • the procedural powers of the arbitrator and procedural fairness • the principles guiding decision making by the arbitrator • the appropriateness of any constraints on the arbitrator or any discretions not to hear certain types of disputes • timeliness and cost-effectiveness, and • the enforceability of decisions. Independence

A regulator may be the arbitrator, but the NCC considers that if this is the case there should be: • ring fencing of the regulator’s regulatory and arbitration functions • established processes and procedures that the regulator can follow in conducting arbitrations separately from regulatory functions • an option for parties to a dispute to require the regulator to appoint an arbitrator who has not been substantially involved in regulation of either party, and • an independent administrative appeals process.

While the VRAR provides for an independent appeals process 111 , it does not at present provide parties to an access dispute with an option to require the Commission to appoint another arbitrator. This appears to be a shortcoming that could potentially impair its effectiveness.

The Rail Access Dispute Resolution Guideline establishes a process for conducting arbitrations, but could usefully be amended to include procedures for ring fencing of the Commission’s arbitration functions from its regulatory functions. Procedural powers and procedural fairness

The arbitration process should engender confidence among the parties. The Rail Access Dispute Resolution Guideline explains how disputes will be managed and demonstrates that the procedural powers of the Commission are appropriate. Principles to guide decision making

The arbitrator must have explicit guidance to take into account all of the principles in clause 6 of the CPA and other relevant principles and obligations under the access regime. Decisions should not be inconsistent with regulatory guidelines or any approved access undertaking. These requirements are all suitably addressed within the RCA at sections 38ZZB, 38ZZC, 38ZZD, and 38ZZG.

111 RCA, s.38ZZQ.

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If provision is made for the Commission to appoint another arbitrator, then the Act will need to ensure that the same statutory provisions apply to that arbitrator. Constraints on the arbitrator & discretions

In some access regimes, there may be constraints imposed on the matters that an arbitrator can determine in relation to an access regime dispute, such as reference tariffs. The NCC has stated that:

Where an access regime constrains the arbitrator from ruling on key access terms, such as reference tariffs, the Council considers that clause 6(4)(g) is satisfied if an independent economic regulator initially set such access terms in accordance with effective regulatory processes. 112

Accordingly, the VRAR requires that access dispute decisions must not be inconsistent with an access arrangement (or undertaking in the proposed framework).

It is implied by the NCC’s statement that unless the prices or other terms and conditions have already been approved by the regulator (e.g. as part of an access undertaking approval), the access regime should not constrain the arbitrator from determining the prices or other terms and conditions when resolving an access dispute. The proposed access framework does not include any constraint of this kind.

Some regimes may also provide the arbitrator with the discretion not to determine disputes in certain circumstances. For example, in the VRAR the Commission is not required to determine disputes that are vexatious, trivial, misconceived or lacking in substance. In the channel access regime, the Commission may refuse to make a determination if it is satisfied that the channel operator has complied with its obligations under the Port Services Act, the terms and conditions of access do not constitute a taking advantage of a substantial degree of market power, and having regard to its regulatory objectives. Such a provision may have the benefit of reducing the costs to parties where there are manifestly insufficient grounds to the dispute. While this kind of discretion might be considered for the VRAR, it is unlikely to be of significant practical importance given the short timeframes provided for resolving access disputes under the VRAR. Timeliness and cost-effectiveness

QR Freight emphasised that under a light-handed regulatory framework it will be essential that the dispute resolution framework is timely and inexpensive:

Otherwise there will be substantial disincentive for access seekers to take an issue to dispute, even if they believe that aspects of the regime are not being complied with. QR believes that it is unclear whether the arbitration mechanism proposed by the ESC would in fact lead to timely and inexpensive resolution of disputes in many

112 NCC (2009), ‘Certification of State and Territory Access Regimes: A Guide to Certification under Part IIIA of the Trades Practices Act 1974 (Cth),p.43.

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cases. QR believes that the ESC should consider whether alternative dispute resolution approaches, eg expert resolution, may be appropriate in some circumstances.

The Commission is not recommending substantial changes to the existing dispute resolution framework in the VRAR, which imposes a 45 day time limit for the Commission to make a dispute resolution decision from the date of application. This time constraint ensures the timeliness of decision making, and also limits the costs to the parties. The Rail Access Dispute Resolution Guideline states that the Commission endeavours to facilitate commercial negotiation, and encourages parties to resolve disputes through alternative dispute resolution mechanisms before seeking a determination by the Commission. The Commission may also give directions for the purpose of facilitating negotiations. 113 The Guideline also describes the use of experts within a rail access dispute resolution process conducted by the Commission 114 .

The Commission considers that the existing dispute resolution framework in the VRAR satisfactorily meets the need for timeliness and cost-effectiveness. Furthermore, the proposed scope for an alternative arbitrator to be appointed if parties seek a different arbitrator provides further assurance of timeliness and cost- effectiveness. Enforceability of decisions

The enforcement arrangements ensure the arbitrator’s decision is binding on the parties to the dispute. The enforceability of dispute resolution decisions made by the Commission has been addressed above. In the case of an alternative arbitrator appointed by the Commission, the enforcement provisions under the Commercial Arbitration Act may be relevant.

113 Rail Access Dispute Resolution Guideline, pp.14-15 114 ibid., pp.34-35

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Recommendation 18

The following changes be made to the dispute resolution framework in the RCA:

• There should be scope for an alternative arbitrator to be appointed by the Commission at the request of the parties to a dispute. Appropriate amendments should be made to provide the alternative arbitrator with guidance including the need to adhere to the same principles as the Commission, to apply the the same timeframes, and to ensure enforceability of the determination. • The Rail Access Dispute Resolution Guideline should be amended to include procedures for ring fencing the Commission’s arbitration functions from its regulatory functions.

4.5.7 Regular review

The NCC requires that an access regime should include periodic reviews to assess whether regulation needs to cover a particular service or facility or whether the form of regulation continues to be appropriate.

This principle recognises that markets change and evolve over time, which can affect the efficiency and effectiveness of regulation. 115

Further, the outcomes of these reviews should not automatically override any existing contractual rights.

The RCA contains no provision for a scheduled review, and the present review has been undertaken at the direction of the Minister under Part 5 of the ESC Act.

Recommendation 19

The RCA should include a schedule for periodic reviews of the VRAR every five years. The scope of the review should encompass both access regulation and price monitoring within the rail industry.

4.5.8 Treatment of interstate issues

The NCC has two key requirements with respect to treatment of interstate issues. Firstly, where a service is subject to access regimes in more than one state or territory, then those regimes: • should be consistent, and

115 ibid, p.38

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• provide for a single application and negotiation process, a single dispute resolution body and a single body responsible for enforcement.

Secondly, a state or territory access regime may be ineffective if it has undue influence beyond the border of that state or territory.

In regard to the Victorian intra-state rail network, there are three rail lines that cross the NSW border: • the Oaklands line from Yarrawonga on the border to Oaklands in NSW • the Tocumwal line that crosses the Murray River to Tocumwal just over the border, and • the line from on the border to in NSW (the line from Barnes to Moulamein has been closed).

None of these lines are covered by NSW access and none connect directly to the remainder of the NSW rail network at the present time. One of these lines, Yarrawonga to Oaklands, is now managed by ARTC but is not included in interstate access undertaking to the ACCC.

These observations suggest that there are no issues of overlapping access regimes at the present time. Furthermore, the access regime does not represent undue influence because trains travelling on those lines do not have alternative destinations in NSW, and hence no question of influencing the direction of transportation can arise.

Recommendation 9 above ensures that the likelihood of such conflicts or overlaps arising in future is minimised because it has the effect that intra-state rail lines operated by ARTC that become covered by an ACCC-approved access undertaking would automatically cease to be covered by the VRAR. In some circumstances, if an intra-state rail line were upgraded to a ‘major corridor’ then it might be transferred to the ARTC 116 , and hence draft recommendation 9 would provide a mechanism for transitioning access regulation to Commonwealth jurisdiction for that line. Hence the recommendations already made are sufficient to ensure compliance with this requirement.

4.5.9 Overall balance and effectiveness Does it support national consistency?

The option described above for a light-handed rail access regime differs in a number of respects from the other State-based regimes and the ARTC model. However, generally speaking, the two-tier framework provides for a maximum degree of alignment with these other regimes.

The negotiate/arbitrate model most closely resembles the negotiate/arbitrate regimes currently applying in South Australia, south-western Western Australia, New South Wales and . Where a voluntary, or mandatory, undertaking

116 e.g. the Seymour to Tocumwal corridor is one of the options being considered for the proposed inland railway between Melbourne and Brisbane.

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applies within the proposed framework it would be required to closely resemble the ARTC access regime. Requirements to be an effective access regime

If the VRAR is retained, then the CIRA agreement commits the Victorian Government to seek certification of the regime by the end of 2010. To be certified, the scope and form of the VRAR must satisfy the criteria for certification as an ‘effective access regime’ contained in clause 6 of the CPA. This chapter has considered the coverage of the VRAR and consistency with the principles in the CPA was one of the considerations in forming the recommendations about coverage. This chapter has also considered the form of the regime in terms of the CPA requirements. In making such an assessment it needs to be recognised that the CPA is not prescriptive in regard to the form of regulation to be employed. The NCC has stated:

There may be a range of appropriate approaches available to a state or territory government in incorporating a principle, and that where a state or territory access regime adopts a reasonable approach to the incorporation of a principle, the regime can be taken to have reasonably incorporated the principle as required by clause 6(3) 117

The holistic effectiveness of the regime is influenced by whether: • regulation is applied to circumstances where the benefits can reasonably be expected to outweigh the costs (addressed in chapter 3) • the form of regulation is proportionate to the regulatory problem that is being addressed (addressed in this chapter), and • the objectives of the access regime have been suitably framed (addressed in chapter 5).

The recommended regime is one which gives primacy to commercial negotiation that facilitates efficient outcomes whilst recognising the benefits of a light-handed approach that minimises the costs of compliance. The pricing principles provide appropriate guidance in relation to efficient pricing without being prescriptive in the manner in which prices would be set. The dispute resolution process is designed to provide a last resort to regulatory determination, but with the emphasis on ensuring the incentives to parties reaching commercial agreement are not weakened.

The foregoing draft recommendations are therefore expected to ensure that the rail access regime will be effective.

117 NCC (May 2009), ‘Certification of State and Territory Access Regimes: A Guide to Certification under Part IIIA of the Trades Practices Act 1974 (Cth)’, p.18.

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4.6 The monitoring regime for certain terminals

The recommended price monitoring of the DIT and the rail terminals within the port precincts should not form part of the VRAR. For example, the Victorian ports price monitoring framework is not part of an access regime, and instead is given effect through the Commission’s general price regulation powers under the ESC Act. The Commission sees the ports price monitoring framework as providing a useful example of a price monitoring approach.

The main elements of the ports monitoring framework are as follows: • a requirement to publish indicative or standard reference prices in relation to the monitored services. This does not preclude negotiation of terms and conditions which vary from the reference prices. The indicative or standard reference prices are not subject to regulatory approval • compliance with established pricing principles. These would be the same pricing principles as are recommended to apply under the VRAR as set out in Recommendation 4.11 above • a requirement to provide certain information to the Commission to support its monitoring role • a complaint handling process designed to ensure that ports have the opportunity in the first instance to address the matters raised, and only as a last resort, and if there are prima facie concerns about significant market power misuse, would the Commission investigate • ability for the Commission to carry out investigations into issues pertaining to pricing or competitively neutral access that may be brought to the Commission (subject to the formal complaint handling procedure mentioned) • if an investigation or later scheduled review finds that market power has been misused, the Commission could recommend to the Government that more prescriptive regulation be applied by declaration of the relevant facility under the VRAR', and • under the monitoring framework, the Commission would not be able to enforce conduct or take any action of its own initiative in response to an adverse investigation finding or access issue. It would only be able to make recommendations to the Government.

Although this monitoring framework would be outside the VRAR, it would nevertheless be consistent with the overarching principles regarding the use of monitoring frameworks as set out in the CIRA 118 :

The introduction of price monitoring for services provided by means of significant infrastructure facilities should be considered where this would improve the level of price transparency, as a first step where price regulation may be required, or when scaling back from more intrusive regulation.

118 CIRA clause 2.3

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The terminals that the Commission has recommended be covered by the monitoring framework should be regarded as in this transitional regulatory state, and such that greater transparency would be of benefit to competition in the industry.

Recommendation 20 The recommended price monitoring framework to be established for the rail terminal services at Dynon (including DIT and the North Dynon Agents’ Sidings), the East and West Swanson rail terminals and the Westgate Ports Victoria Dock rail terminal should include: • a requirement that service providers should maintain transparency in setting standard or indicative tariffs (the tariffs themselves would not be subject to regulatory approval) • the same pricing principles as apply under the VRAR • provision of necessary information to the Commission. and • ability to investigate complaints (subject to a complaint handling procedure). The Commission would be unable to enforce conduct or take action in response to access or pricing issues that arose, but could make recommendations to Government.

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5 REGULATORY OBJECTIVES

Key points The objectives of the access regime will be important to its effectiveness as a State-based access regime. Some potential improvements are identified which would ensure greater consistency with the CPA and with the Victorian government’s freight strategy.

In Chapter 3 the Commission reached the conclusion that the rail access regime should be retained, and should cover rail infrastructure used by freight trains, and the South Dynon rail terminal. In Chapter 4, the Commission reached the conclusion that a light-handed rail access regime, if based on a negotiate/arbitrate model and containing some of the elements of the current ARTC access regime, would appear to be a reasonable and satisfactory alternative to the current VRAR. If there is a case for continuing regulation, the Terms of Reference requires that the Commission must consider the on-going relevance of the existing VRAR objectives.

This chapter considers the regulatory objectives by comparison with relevant objectives of the National Access Framework as well as Victorian Government freight policy objectives. Comparison is also made against some rail access regimes in other jurisdictions. Some amendments to the existing objectives are considered to be warranted.

5.1 Introduction

In its 2002 review of the National Access Framework, the Productivity Commission emphasised that:

Clear specification of objectives is fundamental to all regulation. It is particularly important where there is scope for divergence between the intent of regulation and the interpretation of its operational criteria. More specifically, for access regimes to function efficiently, clear objectives are needed to promote:

o decisions that are well targeted to the identified problem and which minimise unintended side effects;

o greater certainty for current and prospective facility owners, access seekers and other interested parties;

o consistency among policymakers, the judiciary and those responsible for implementation and enforcement; and

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o regulatory .

The regulatory objectives are particularly important in providing guidance to regulatory decision-making and therefore have an important influence on the effective operation of the regime. They are likely to be an important consideration of the NCC during a certification process.

5.1.1 The current objectives

As discussed in section 1.2 of this report, the RCA (s.38F) sets out the objectives the Commission must seek to realise when carrying out its regulatory functions under the VRAR. In summary, these are: • to ensure access seekers have a fair and reasonable opportunity to be provided declared rail transport services, and • to promote competition in rail transport services so as to achieve an increase in the use of, and efficient investment in, rail infrastructure.

In addition, the Commission’s regulatory objectives in s.8 of the ESC Act are also applicable. When carrying out its regulatory functions it must promote the long term interests of Victorian consumers, and while doing so must have regard to the price, quality and reliability of essential services. Section 8A of the ESC Act also lists a range of other matters the Commission must have regard to when seeking to realise its objectives, including among other things: • efficiency in the industry and the incentives for long term investment • the financial viability of the industry, and • the degree of, and scope for, competition in the industry, including countervailing market power and information asymmetries.

Since the VRAR was enacted, the ESC Act has been amended by the inclusion of Part 3A (Third Party Access Regimes), which includes an objects clause (s.35A):

The object of this Part is to promote the economically efficient operation of, use of and investment in, the infrastructure by means of which services are provided, thereby promoting effective competition in upstream and downstream markets.

This objective is identical to clause 6(5)(a) of the CPA. Section 35B states that Part 3A – including this objective – applies to any regulated industry that has an access regime.

5.2 Discussion of key issues

The following questions appear to be essential to a consideration of the ongoing relevance of the objectives: • whether stakeholders consider the objectives to be effective • how they compare to other State-based rail access regimes

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• the extent to which the objectives in s.38F of the RCA and sections 8 and 38A of the ESC Act are complementary, and whether there is redundancy or an excessive degree of conflict between these objectives • whether the objectives are consistent with the principles in the CPA • whether the objectives are consistent with the Government’s freight and logistics policies, and • whether they have the right overall emphasis.

5.2.1 Stakeholder views

Stakeholders have offered a number of views in regard to the objectives of the access regime.

Asciano indicated that the current VRAR objectives are not fully consistent with the objectives in the National Access Framework:

The VRAR objectives focus on providing access seekers with a fair and reasonable opportunity to access declared services and promoting competition rather than focussing on promoting efficiency in the operation of, use of and investment in relevant infrastructure. 119

The ACRFD felt that the objectives of access regulation in the national access framework are too narrowly focussed on economic efficiency and do not take sufficient account of community and environmental sustainability objectives.

Wakefield felt that the objectives are, on the whole, still relevant although it similarly felt that environmental considerations may need to be given greater weight.

V/Line was supportive of the objective of promoting competition in rail freight transport services but noted that the scope for such competition to emerge will be circumscribed by market constraints and the ‘lack of sufficient high volume regional freight to underpin a commercially viable freight railway’ in the State.

PoMC was supportive of retaining an objective to increase the use of rail freight and the mode share of rail freight, and the provision of future capacity commensurate with forecast capacity requirements.

In summary, the main issues raised by stakeholders are whether they are consistent with the principles in the CPA and whether they have the right overall emphasis – both are discussed below.

5.2.2 Comparison with other rail access regimes

The VRAR objectives may be compared to some of the other State-based rail access regimes. In the South Australian Railways (Operations and Access) Act 1997, the objects in s.3 apply to the whole Act, including Part 2 (Construction and

119 Asciano submission on the Issues Paper, p.8.

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operation of railways). The key objectives that appear most directly relevant to the access regime are: • to facilitate competitive markets in the provision of railway services • to promote the efficient allocation of resources in the rail transport segment of the transport industry, and • to provide access to railway services on fair commercial terms and on a non-discriminatory basis. The Western Railways (Access) Act 1998 states the functions and powers of the regulator but does not contain an objects clause. The Queensland rail access regime is established under Part 5 of the Queensland Competition Authority Act 1997 . The object is stated in s.69E, and is identical to clause 6(5)(a) of the CPA. Overall, the objectives stated in the South Australian legislation may be usefully considered as alternatives to those presently in s.38F of the RCA.

5.2.3 Are the objectives compatible with each other?

The three sets of objectives to which the Commission must have regard each have a slightly different, but overlapping, focus: • the objects clause in Part 3A of the ESC Act focuses on economically efficient resource allocation in the regulated industry and promotion of competition in dependent markets • the objectives in s.38F have a greater focus on promoting competition in a specific (although important) dependent market, namely rail transport services, and to the policy objective of achieving an increased use of rail freight, and • the Commission’s regulatory objective in s.8 of the ESC Act has a more general focus on the public interest.

Section 35A of the ESC Act is in the same terms as clause 6(5)(a) of the CPA and s.8 of the ESC Act also expresses very general objectives. As a result, it is the objectives of s.38F of the RCA that are rail-specific.

In many ways these objectives complement one another. However, the objectives in s.38F are relatively complex in their interaction and in some cases overlap. This gives rise to the risk that the objectives provide insufficiently clear guidance to the decision maker, or provide flexibility for the decision maker to draw on different objectives at different times. This may lead to inconsistency in decision making.

For example, s.38F(b) of the RCA contains the objective of promoting competition in rail transport services so as to achieve an increase in the use of, and efficient investment in, rail infrastructure. Section 35A of the ESC Act, on the other hand, contains the objective of promoting the economically efficient operation of, use of and investment in, the infrastructure by means of which services are provided, thereby promoting effective competition in upstream and downstream markets. Both provisions address investment in infrastructure and the promotion of competition. However, the objective in s.38F of the RCA treats investment in infrastructure as an end-result (achieved by the promotion of competition), whereas

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the ESC Act treats investment in infrastructure as a means to an end (the outcome being effective competition).

One option would be to remove the specific objectives in s.38F and instead refer to the objectives in sections 8 and 38A of the ESC Act. If specific objectives are to be retained in the RCA, they could be expressed in s.38F as follows: • The objective in s.38F(a) ‘to ensure access seekers, and any other person the Commission may want to be provided declared rail transport services, have a fair and reasonable access opportunity to be provided declared rail transport services’ can be interpreted as imposing a duty on the Commission rather than expressing an objective. A duty is an action the Commission is required to do whereas an objective is an outcome that the Commission, through its activities, seeks to accomplish. A more appropriately expressed objective might be: o ‘to facilitate access to declared rail transport services on fair and reasonable commercial terms’. • The objective in s.38F(b) appears to be a compound of different objectives, for example, encouraging competition and promoting investment in infrastructure. In order to avoid the overlap between s.38F(b) and s.35A of the ESC Act, it may be desirable for s.38F(b) to list each objective separately, so that each stands alone. For example, to draw broadly from the SA legislation, separate objectives might be: o ‘to facilitate competitive markets in the provision of rail industry services’ o ‘to promote the efficient allocation of resources, including efficient investment, in the rail industry’.

Some stakeholders also suggested that ‘to facilitate the financial viability of the rail industry’ might also be explicitly included in the objectives in the RCA, although it might be argued that this is a matter the Commission must in any case have regard to under s.8A of the ESC Act.

5.2.4 Are they consistent with the CPA?

As mentioned, s.35A of the ESC Act reproduces clause 6(5)(a) of the CPA. Hence consistency with the CPA will be achieved if all of the other objectives of the VRAR are compatible. The issues relating to compatibility were discussed in the previous section. In short, s.8 appears to be compatible because it is a broad public interest test, and public interest tests are both explicit and implicit throughout the National Access Framework.

In order to ensure that the objectives as a whole are clearly consistent with the CPA: • s.38F should specify that the objectives in that section are in addition to s.35A of the ESC Act, as well as s.8 of that Act. This would make it explicit that the Commission has the CPA objects clause as one of its objectives in all of its regulatory decision making, and

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• the objectives in the ESC Act should be expressed to take precedence over the objectives in the RCA. To this end the words '(but subject to s.5(2) of [the ESC] Act)' should be removed.

5.2.5 Are they consistent with current policy?

Freight Futures , released in December 2008, is one of the Victorian Government’s most current policy directions for the freight network. There is also legislation currently before the Victorian Parliament – the Transport Integration Bill 2009 – which contains a range of objectives and criteria to be employed by Victorian Government agencies when making decisions in regard to transport policy.

Freight Futures indicates the goals of: • maintaining and improving the efficiency of the freight network • ensuring the availability of sufficient capacity through better utilisation or through new infrastructure, and • enhancing the sustainability of the freight network by enhancing public safety and minimising environmental and amenity impacts.

Eight objectives are listed to support these goals: a) facilitate the efficient movement of freight in Victoria b) reduce the cost and improve the reliability of supply chains c) manage and mitigate any adverse impacts of freight planning and operations on communities and the environment d) optimise the use of existing network infrastructure e) provide appropriate priority for freight on the network in the context of competing demands f) plan and deliver new network infrastructure in a timely manner g) identify and protect freight network options where necessary to ensure future capacity, flexibility and certainty, and h) provide a policy environment that encourages private sector investment.

Most notably the references to ‘efficiency’ within these objectives refer to the efficiency of freight transportation and the freight network as a whole. Efficiency within this context may be interpreted as economic efficiency. Typically three types of economic efficiency are distinguished: • technical or productive efficiency – the use of resources in the technologically most efficient manner to obtain maximum productivity • allocative efficiency – the efficient employment of productive resources among alternative uses so as to produce the optimal mix of output, and • dynamic efficiency – the economically efficient use of scarce resources over time.

The Freight Futures policy statement appears to be largely mode neutral and there does not appear to be an implication in the freight policy objectives that the increased use of rail freight is an explicit objective. However, there is an objective

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of optimising the use of existing network infrastructure. Optimisation is a more general objective typically related to allocative efficiency and in particular managing demand to ensure that appropriate use is made of existing infrastructure, i.e. ensuring the right mode is used for the right task. On the other hand, the Transport Integration Bill 2009 contains objectives for the transport system which give a considerable emphasis to environmental sustainability, including promoting forms of transport which have the least impact on the environment.

The Transport Integration Bill 2009 also contains new objectives and functions for V/Line. The functions will include managing rail infrastructure to promote rail freight services and managing access to the network it operates. The overarching objectives of V/Line are to provide rail passenger and rail freight services in accordance with the transport system vision and objectives (these objectives were described in section 2.4 of this report). Additional objectives of V/Line include ‘seeking to increase the share of rail passenger and rail freight services as a proportion of all transport trips in Victoria’. 120

The proposed changes to V/Line’s statutory will give greater emphasis to its promoting rail freight, which will be one of its core business activities. This is appropriate from an operational and policy perspective and given its core roles.

The current objectives in relation to the regulatory regime also have an emphasis on promoting increased use of rail network for rail freight. While this is not in conflict with Government policies, it would also be consistent with policy for the regulatory objectives to promote economic efficiency and sustainability in terms of both the use of existing rail infrastructure and in terms of rail industry investment.

5.2.6 Do they have the right emphasis? Sustainability

The ACRFD was of the view that both the VRAR objectives and the Government’s freight policy objectives are deficient because they do not encompass community and environmental sustainability generally, and they do not specifically include the sustainability of the rail freight industry as an objective.

With regard to community and environmental sustainability considered broadly, the Victorian Auditor-General has established certain principles for measuring and reporting on sustainability and has encouraged public sector agencies to re- examine their current performance measurement and reporting practices. 121

With regard to the Commission’s regulatory role, it may be argued that the public interest test in s.8 of the ESC Act encompasses this objective because it appears to be consistent with, and indeed central to, the long term interests of Victorian consumers. It is possible that if the ESC Act were to be amended, the principle of environmental, social and economic sustainability could be included in the matters

120 Transport Integration Bill 2009, s.131(2)(b)(i), p.113 121 Auditor General Victoria (2004) ‘Beyond the Triple Bottom Line: Measuring and Reporting on Sustainability’.

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that the Commission must have regard to when seeking to achieve its objectives, listed in s.8A of the Act.

It is notable that the Transport Integration Bill 2009 will establish a significant emphasis on sustainability and the ‘Triple Bottom Line’. However, the Commission is not a policy maker, and when it undertakes its regulatory roles it has regard to policy but cannot establish policy principles or define policy objectives. Where there are differing environmental, social and economic externalities associated with alternative transport modes, then measures that might be adopted to penalise or compensate parties in order to efficiently take these externalities into account would represent policy responses. For example, the subsidies made available to some rail industry participants may be designed to compensate for environmental, amenity or other social benefits associated with using rail for freight transport. These are policy decisions.

In some circumstances, the regulator may be given specific policy direction to permit regulated businesses to recover the costs of community service obligations (CSOs) through higher prices. For example, the Competition Principles Agreement clause 2(4)(b) states that when oversighting Government Business Enterprises a regulator should have the objective of:

efficient resource allocation but with regard to any explicitly identified and defined community service obligations imposed on a business enterprise by the Government or legislature of the jurisdiction that owns the enterprise. While this general principle potentially has application in an industry in which some access providers are Government Business Enterprises, the circumstances in which it might apply seem to differ significantly from those of the Victorian rail industry.

However, under the prevailing Pricing Order the Commission must, when making any decisions on prices (e.g. in the context of resolving an access dispute), take into account any contributions towards capital or operating costs made by the government or another party. This includes explicitly funded CSOs. Thus, the Commission is required to take into account the Government’s policy of excluding contributions from the pricing base.

In summary, the Commission’s view is that s.8 of the ESC Act is a broad public interest test which encompasses the community and environmental sustainability issues raised by ACRFD. Whether the matters the Commission must have regard to under s.8A warrant amendment to specifically incorporate social, environmental and economic sustainability is a question that could usefully be given further consideration, but does not appear to be central to this review.

Similarly, financial sustainability of the rail freight industry, to the extent it is a relevant consideration, could also fall under the public interest test of s.8 of the ESC Act. Adopting sustainability of the industry as a specific objective could lead to unintended consequences and put the protection of certain elements of the rail freight industry in conflict with other objectives focused on achieving competitive freight markets.

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Competition

Although competition is generally considered to be a relatively effective means of promoting economic efficiency, particularly allocative efficiency, some stakeholders are of the view that the exclusive rights to operate freight trains on the rail network might be preferred because of the relatively low freight densities and the inability of the market to sustain multiple rail competitors. Exclusive rights could be allocated by means of a franchising process in return for certain price/service commitments. Such a model has sometimes been used for new infrastructure facilities such as greenfields pipelines to supply country towns.

A further alternative model is for a non-exclusive arrangement, in which access to the network is auctioned. King has suggested that such a model would be appropriate to price and allocating capacity on rail networks, particularly when rail capacity is scarce. 122 IPART has specifically formulated such a model for application to vehicle booking slots at container ports. 123 This approach is given greater consideration in the context of the discussion of the “one-stop-shop” concept in chapter 7.

Most stakeholders to this review attached considerable importance to maintaining and facilitating above-rail competition. The notion of an exclusive franchise arrangement would be incompatible with the application of a third party access regime, and would require the removal of declaration of the relevant facilities in those circumstances. The promotion of competition is consistent with a central theme in microeconomic reform of network industries. For example, Newbery stated:

The key innovation that makes a difference to performance is to introduce competition into the services provided over the network. This may be done either by vertical separation or by liberalizing access to the network. Vertical separation has the advantage that given adequate competition, regulation can be confined to the network. 124

These considerations suggest that the current emphasis on facilitating competition in the regulatory objectives of the access regime seems to continue to be appropriate.

5.3 Conclusions

The Commission has reached the following conclusions in regard to the regulatory objectives under the VRAR.

Firstly, it is essential to ensure that the objectives as a whole are clearly consistent with the CPA, and to give effect to this s.38F should refer to s.38A of the ESC Act

122 See King (2002), ‘Access –what where and how?’, submission to Review of the National Access Framework, p.30. 123 IPART (2008) ‘Reforming Port Botany’s Links with inland transport’, see chapter 7. 124 Newberry (2001) ‘Privatisation, Restructuring, and Regulation of Network Utilities’, p.3.

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in addition to s.8 thereby making explicit that the Commission has the CPA objects clause as one of its objectives. Furthermore, the RCA objectives should not have primacy over the ESC Act objectives. Second, any other objectives included in s.38F should be compatible with the ESC Act objectives, and they should be simplified to: • avoid compounding several objectives into one • be cast as objectives rather than duties, and • retain the objective of facilitating competition.

Recommendation 21 The objectives in s.38F of the RCA should not prevail over the objectives in s.8 and s.38A of the ESC Act in the event that there is considered to be a conflict between the objectives.

Recommendation 22

Replace the existing objectives in s.38F of the RCA with the requirements to: • facilitate access to declared rail transport services on fair and reasonable commercial terms • facilitate competitive markets in the provision of rail industry services, and • promote the efficient allocation of resources (including efficient investment) in the rail industry and the optimal use of existing rail infrastructure.

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6 NETWORK PERFORMANCE STANDARDS

V/Line emphasised in its submission to the Draft Report that the Commission should consider the detailed arrangements under which it operates, and particularly those relating to network maintenance and subsidies. In doing so, V/Line submitted that the Commission should have regard to the roles of the Ministers, the Department of Transport and the Director of Public Transport (‘the Director’), and whether the rail access regime should have any role in respect of network maintenance and performance standards.

The purpose of this chapter is to address these issues.

6.1 Introduction

V/Line’s present operations on the freight-only network are subsidised by the Victorian Government. In 2009-10, an operating subsidy of $10m has been allocated towards V/Line’s maintenance of the freight network. Other subsidies are made to V/Line for regional passenger operations which also implicitly subsidise the regional passenger rail network.

V/Line’s present access arrangement defines a network performance standard in terms of Average Maximum Operating Speeds (AMOS) for each segment of the freight-only rail network. The performance standards of passenger lines are determined by the Operating Performance Regime (OPR) within the franchise arrangements V/Line has with the Director.

In its past decisions, the Commission has emphasised that the freight network performance standard must be a fit-for-purpose standard, given the available level of funding. Under the present regulatory framework, V/Line is required to obtain approval from the Commission for any variation to the performance standard, including the closure of a freight line, since this would require a variation of its binding access arrangement.

In its submission to this Review, V/Line has maintained that under any future access regime, the Commission should not have the role of approving changes to the freight network performance standards or line closures. V/Line has requirements to perform its maintenance activities in accordance with an Asset Management Plan (AMP) which it submits to the Director. V/Line considers this to be sufficient to ensure appropriate track standards are maintained, and has noted potential inconsistencies between the two sets of obligations (that is, the AMP and the performance standards in an access undertaking).

The purpose of this chapter is to consider the following question: Under the recommended framework, if V/Line were to submit a voluntary undertaking, would the Commission’s approval role encompass establishing fit-for-purpose track

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standards to be specified in the undertaking (similar to its current role in regard to the performance standard for freight lines in the V/Line access arrangement)?

This chapter firstly considers the detailed leasehold and franchise arrangements under which V/Line operates. (See section 6.2)

Section 6.3 considers the nature of fit-for-purpose performance standards, the roles of the Commission and the Director in establishing such standards and the necessary elements of a suitable process for establishing fit-for-purpose standards.

Section 6.4 then explores whether an alternative framework could be established, under which the performance standard for freight network would be determined by the Director and V/Line as part of the subsidy arrangements.

6.2 Present framework for setting standards, approving works and allocating subsidies

V/Line holds a lease over the regional intra-state rail network as well as a franchise agreement under which it has exclusive entitlement to operate regional passenger rail services (and services along certain corridors). Geographically, these two agreements do not precisely overlap because: • the regional rail network not only has rail lines used by passenger services, but also freight-only lines, and • regional passenger services use both the regional and metropolitan networks

On the metropolitan network MTM holds a lease over the rail network as well as a franchise agreement for the provision of metropolitan passenger rail services. This section examines the arrangements which provide for the maintenance of these networks to prescribed standards.

6.2.1 V/Line Regional Infrastructure Lease

The Regional Infrastructure Lease (RIL) sets out the terms and conditions that govern V/Line’s repair, maintenance and renewal of the regional below-rail infrastructure. The parties to the RIL are the Director, V/Line and VicTrack. VicTrack owns the land 125 and railway infrastructure covered under the RIL, which it leases to the Director. The RIL is a sub-lease by V/Line from the Director. General arrangements

The primary arrangement under the RIL is that V/Line will undertake repairs, maintenance and renewal of the rail infrastructure to ensure that the required asset maintenance standards and key performance indicators under the RIL are maintained.

125 Land means all that land forming Land A (railways corridors, intra-state corridors and land described in sections 1 and 2 of Schedule 1, Part G of the Lease), Land B (described in section 1 of Schedule 1, Part H) and Land C (described in section 2 of Schedule 1, Part H).

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The routine and major periodic repairs, maintenance and renewal works undertaken by V/Line annually are based on the 5-year Asset Management Plan (AMP) and Annual Works Plan (AWP) agreed between the Director and V/Line. The Director finances all major periodic maintenance works 126 through an escrow account established for this purpose. Unlike MTM’s infrastructure lease, the annual escrow amount to be paid by the Director for each year is not pre-determined under the RIL. Instead the amount paid by the Director into the escrow account in respect of any reporting period equals the budget for the major periodic maintenance works contemplated in the AWP. Both parties may propose and agree to use the surplus escrow fund, if there is any, for additional maintenance works or new rail projects.

V/Line is also obliged to maintain and replace railway infrastructure spares, correct or re-perform defective works at its cost, and provide the Director with a key performance indicator (KPI) report every quarter. The KPIs relating to the freight network include: • Average maximum operating speed (AMOS) for each line sector • Freight network GTKs by regional and total • Proportion of technical maintenance plan, signalling systems, completed against budget • Number of train delays due to track infrastructure causes • Kilometres of track subject to temporary speed restrictions (excluding restrictions due to works) • Track geometry index • Number of major transverse defects • List of bridges that have speed or load restrictions • Number of broken rails or pull aparts by line section, and • Number of train derailments due to rail infrastructure causes.

If required by the Director, V/Line must attend meetings to discuss the KPIs and/or implement appropriate strategies for addressing any adverse trends apparent in respect of any KPIs. The KPIs are reviewed annually as part of the AMP process.

The maintenance of non-operations infrastructure 127 is the responsibility of VRTC.

Repair and Maintenance Obligations

In the performance of its repair and maintenance works, V/Line is generally required to maintain the railway infrastructure in the condition required to safely deliver the services contemplated by its Network Service Plan, and to maintain the

126 Allowable major periodic maintenance costs are direct and indirect labour costs, direct overheads, material costs, depreciation costs, third party contract costs and consultant costs. It excludes corporate overhead costs, margin for profit, expenditure recoverable from , and expenditure incurred for repair of defective works. 127 Including maintenance of Trunk Telecommunications Infrastructure, Non-Operations Infrastructure and the air space, including any buildings or structures in the air space

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functionality and capacity of the railway infrastructure as set out in the Network Baseline Condition. V/Line must also ensure that the railway infrastructure will not compromise the operation of the Victorian rail system and must always be in a functional state and fit-for-purpose. V/Line will not be considered in breach of these obligations due to the imposition of a temporary speed restriction that is genuinely required to address a safety issue.

V/Line also must comply with asset maintenance standards that apply to new or to be renewed tracks, crossing works, bridges, new platforms, signalling systems, accessible pedestrian crossings etc.

Asset Management Plan and Annual Works Plan

By 1 July of each year, V/Line is required to provide the Director with a 5-year draft costed asset management plan for the repair, maintenance and renewal of the railway infrastructure. V/Line and the Director must agree not later than 15 December on the AMP that is to apply over the next 5 years. However the AMP remains the lessee’s document.

The AMP outlines in reasonable detail the works V/Line will undertake (and the corresponding costs) during the 5 year period. V/Line or DOT may propose to amend the agreed AMP. If they cannot agree on the proposed changes they may refer the issue to an expert for resolution.

V/Line is also required to submit to the Director a draft AWP in respect of the following financial year. The draft annual works plan must: • be consistent with the AMP • set out the works V/Line will undertake to maintain the network in the condition required • contain the proposed budget for works, and • set out the works to be undertaken in connection with the Environmental Plan, fire prevention and asbestos.

If V/Line and the Director have not agreed on the AWP by June the following year, V/Line is entitled to adopt the provision of the AMP for the relevant year until such time as the AWP is agreed. The Director and V/Line meet monthly to review and monitor the implementation of the AMP and AWP.

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New Rail Projects

The Department of Transport is responsible for the long term transport planning and the planning of individual rail projects while V/Line is required to participate constructively in these planning activities. There are two methods of delivering a project. The first is a ‘state based rail project’ wherein DOT implements the project at its own cost. The second is an ‘agreed lessee rail project’ wherein V/Line implements the project with DOT, V/Line or both as project financiers, depending on their agreement.

6.2.2 MTM Infrastructure Lease

The MTM Infrastructure Lease (MIL) sets out the terms and conditions that govern MTM’s repair, maintenance and renewal of the metropolitan train network.

General Arrangements

Similar to the RIL, the MIL provides that MTM will undertake maintenance and renewal of the rail infrastructure to ensure that the required asset maintenance standards and key performance indicators are maintained. Rail infrastructure covers railway track, associated track structures, train control system, train electrical control system, disaster recovery system, associated infrastructure 128 and operational control systems.

The maintenance and renewal (‘M&R’) works undertaken by MTM is based on the DOT-MTM agreed AMP and AWP established at the start of the franchise period. The maintenance and renewal works 129 are financed through an M&R escrow account established by DOT. The annual M&R escrow payments to be paid into the M&R escrow account are established at the start of the franchise period and were based on the agreed AMP and AWP at that time. Subject to both parties agreeing, the annual M&R escrow payments may also be adjusted when the AMP and AWP are amended during the lease period.

In general, the RIL and the MIL have similar provisions in relation to maintenance of railway infrastructure spares, correction and re-performance of defective works and submission to DOT of key performance indicators.

Unlike the RIL, however, the MIL established a Maintenance and Renewal Review Group (MRRG) comprising senior representatives (two each nominated by the DOT and MTM). The main functions of the MRRG are to:

128 Those improvements, fixtures and fittings not installed or erected upon the Land which are owned by or leased to the Director and which are required by the Franchisee to operate the Franchise Business. 129 Allowable maintenance and renewal costs are eligible labour costs, parts, materials and consumables; specifically identifiable costs such as tools and safety equipment; costs incurred for third party contractor services, consultant costs, costs for related training, courses and seminars but excludes: margin for profit, operational activities such as driver cost, overhead costs, expenditure for Projects, costs recoverable from insurance, among others.

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• provide a forum for discussion of matters relating to the M & R Works and the condition of the infrastructure • review the strategic context of MTM's maintenance and renewal program • review the planning strategies and delivery of MTM’s maintenance and renewal program, and • review the status of the submission of documents and data under clause 12 (records and databases).

The MRRG meets monthly and the decisions and recommendations made by the MRRG are binding on the DOT and MTM.

Maintenance and Renewal Obligations

In the performance of its maintenance and renewal works, MTM must ensure that the land and the infrastructure is always in a condition which enables MTM to comply (i) with its obligations under all of the transaction documents related to the franchise and (ii) with all applicable and all regulatory and mandatory standards, codes and other requirements imposed by law. MTM must maintain and renew the infrastructure in accordance with the (i) AMP, (ii) AWP) for the relevant Lease Year, and (iii) OHS Management Plan. MTM must also ensure that, at a minimum, the functionality and capacity of the infrastructure is maintained, that it does not compromise the operation of the Melbourne metropolitan integrated transport system, and that in planning its maintenance and renewal works, the State's plans for the future configuration and development of the Melbourne metropolitan transport network should be taken into account.

The MTM must also comply with the enhanced asset maintenance standards set out in Schedule 5 of the MIL which includes standards that will apply to new and/or to be renewed tracks, crossing works, bridges, among others.

Asset Management Plan and Annual Works Plan

The AMP and the AWP are two of the reference documents that need to be prepared by MTM and signed and dated by the parties at the start of the franchise period. The AMP contains both general and detailed descriptions of maintenance and renewal works that must be undertaken by MTM. The AMP may be amended from time to time with the agreement of the parties. The AMP is MTM’s document.

Three months prior to the commencement of each lease year, MTM may propose material changes to the AWP. In such case, MTM is required to prepare and submit to the Director an AWP for the then current lease year and each of the two forthcoming lease years. Each AWP must be consistent with the Asset Management Plan. If the parties cannot reach an agreement on the proposed amendments they may refer the issue to an expert for resolution. During this period, the existing AWP will apply until such time that the updated AWP has been agreed upon and finalised. The AWP is MTM’s document.

New Rail Projects

The Projects Agreement between the Director and MTM sets out the terms and conditions that will govern the implementation of new projects. In general, new rail

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projects are to be financed by the DOT but may be implemented by either the DOT (state projects) or by MTM (franchisee projects). There may also be instances where other government agencies will undertake construction works on, under, over or adjacent to the land (third party projects). In this case, the government agency will lead and manage the delivery of the project with MTM performing some roles. The costs (direct cost plus margin on direct costs) incurred by MTM for performing such roles will have to be reimbursed by the relevant government agency.

The Network Development Partnership, created under the MTM Franchise Agreement, has a role under the Projects Agreement. Two of its primary functions are to identify and prioritise the projects that may need to be undertaken to enhance and develop Victoria's transport network, and to develop and agree on the objectives and high level benefits of individual projects. Various steering committees are also created under the Projects Agreement to oversee the progress and implementation of the projects and to ensure that the project objectives and key deliverables are being met. Each steering committee comprises equal numbers of representatives from DOT and MTM.

6.3 Performance standards and the roles of the Commission and the Director of Public Transport

6.3.1 The role of the Commission

Under the light-handed regulatory model recommended by the Commission, each access provider will be able to submit a voluntary access undertaking. In these circumstances, the Commission must consider and approve the terms and conditions of access proposed by the access provider. In many respects this would be similar to the existing process for approving access arrangements, although the requirements pertaining to undertakings would not be as extensive.

To date, the Commission has considered ‘fit-for-purpose’ track standards to be an important part of the terms and conditions of access. In the Commission’s May 2009 draft decision: “V/Line Proposed Access Arrangement – Draft Decision” it stated that:

In the Commission’s view, ‘fit for purpose’ track standards are an essential and important element of the terms and conditions of access to railway tracks, and must be specified in an access arrangement.

Hence the Commission would need to be satisfied that there is an adequate commitment to a fit-for-purpose network standard, and that any performance standard proposed in an undertaking is consistent with the concept of a fit-for- purpose standard.

Some of the important issues that arise within the Victorian context are:

• What is a fit-for-purpose tracks standard? How is this standard related to the level of Government subsidies?

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• Would the Commission’s approval role in relation to freight network performance standards be consistent with, and not duplicate, the roles of the Director and the Government in relation to V/Line’s AMP? Would approval of performance standards by the Director be considered by the Commission as sufficient for its own approval process?

• What process should be employed and what factors would the Commission have regard to, if there were no prior approval of the freight network performance standard by the Director?

These topics are each addressed in the sections below.

6.3.2 Fit-for-purpose standards

In its 2006 paper “Fit for Purpose Standard: What Does It Mean?” WorleyParsons explained the concept of fitness for purpose in terms of the track speeds, axle loads and other performance standards that provide an optimal trade-off between: • the reliability and transit times of freight services • the utilisation of above and below-rail equipment and infrastructure, and • rail infrastructure maintenance costs.

WorleyParsons emphasised that the ‘fit-for-purpose’ standard may differ from the standard that an access provider may prefer to provide given its commercial incentives. In part, this is because it must take into account both below and above- rail cost considerations as well as demand.

As a general rule, WorleyParsons observed that on lightly used lines the fit-for- purpose standard will provide for a relatively low train speed. On a track with greater freight, a higher speed will be justified. If there is a subsidy then, overall, a higher track standard can be maintained than if there is no subsidy.

A fit-for-purpose standard should also be a sustainable standard, given the available revenues from providing freight train access, together with the relevant subsidies. Hence, a different sustainable fit-for-purpose standard would correspond to different ongoing Government subsidy levels.

6.3.3 The role of the Director in relation to the works plans

Under the current arrangements, the Director does not formally approve the AMP for the freight network and there is no framework which defines the performance standard for the freight network over the term of an access arrangement or undertaking. This would require effective consultation by the Commission with the Director, and prompt determination of any variation in the appropriate track standard in response to changes in revenues.

If a performance standard for the freight network was determined or endorsed by the Director then the Commission should take that standard as a given when considering an access undertaking.

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In the absence of a defined standard established between the access provider and the Victorian Government, the Commission’s approval of the performance standard in the access arrangement may effectively define that standard.

6.3.4 Process and factors to be considered

In its recent ‘V/Line Proposed Access Arrangement: Final Decision’ (June 2009) the Commission expressed its view that there needs to be a suitable process with sufficient certainty for V/Line to be able to vary its service quality standards in response to constraints imposed by its revenues. It is also to be emphasised that in considering such applications, the Commission is required, under the ESC Act, to protect the financial viability of regulated industries.

Such a process would need to include the following minimum requirements: • public consultation, to provide an opportunity for stakeholders to comment on the proposed changes to network configuration or performance standards • effective consultation by the Commission with the Director, and • prompt determination of any variation in the appropriate track standard in response to changes in revenues.

As discussed above, a ‘fit for purpose’ track standard is defined as an optimal trade-off for the rail supply chain. Accordingly, any proposed change to performance standards or network configuration should be supported by analysis to demonstrate that it is the best of the available alternative ways of varying the performance standard/network configuration – taking as given the level of subsidy – and with the access provider acting prudently and efficiently.

In essence this would be similar to the requirement under Victorian Government’s procedures for Government Business Enterprises’ major investments to be subject to cost-benefit analysis. In this case, it would apply also to decommissioning decisions.

6.4 An Alternative Framework

To further address the matters raised by V/Line, we have also considered shortcomings with the planning and funding process.

6.4.1 Shortcomings of the existing planning and funding process

Each year, V/Line submits a five year AMP to the Government. The Government notes the AMP and makes its funding decision with regards to the first year of the five year planning period. Depending on the funding allocated, V/Line may submit a revised AMP. V/Line is required to carry out the capital and maintenance works identified in the AMP with the funds provided. However, there does not appear to be a binding obligation on V/Line to complete the works, or maintain the network to specified standards. V/Line has advised the Commission that on the freight network it carries out the AMP works until it exhausts the funds, at which point it may book lines out of service, or provide services at lower speeds to comply with safety requirements.

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Funding for maintenance is approved by the Director, the Department of Treasury and Finance, and the Government. The process is such that: • funding may not be available, or be matched to original prioritisation, and • funding requests and allocations, and asset management plans, are subject to change by V/Line or the Government within the five year horizon.

Thus, the current processes for planning and managing maintenance contribute to funding and asset management uncertainty. Decisions and priorities are subject to change which creates an environment where efficient investment and reliable contracting is difficult the rail industry.

Without either a reliable asset management plan, or consistent funding, the quality and corresponding service of the asset is uncertain. This has implications for both the ability to maintain the network, and to market the network. That is, without dependable maintenance funding, it is costly to maintain and train in-house staff, and unnecessarily costly to hire external services since they cannot plan staff timing and supply procurement efficiently. As the asset quality level becomes increasingly uncertain, it becomes more difficult to charge market competitive rates, and to capture market share.

The process, timing and uncertainty associated the current planning and funding framework has a number of shortcomings. These include: • Misallocation of risk: All funding risk for asset maintenance costs is placed on Government. • No policy levers: Although the Government is responsible for maintenance funding, it lacks the influence required to manage efficient maintenance actions through incentives, penalties or other contractual terms. • High cost: the current system not only lacks an ability to minimise capital and operations costs, but is likely to be more costly due to short lead times, expensive training, and sub-lease procurement contracts. • Inefficient process: the annual approval process is labour and bureaucracy intensive without clear responsibility or accountability for decisions and actions. This leads to a process that is high cost, and magnifies the uncertainty of the annual implementation and financing of network maintenance.

6.4.2 Developing and alternative framework

In formulating an alternative framework, attention would be focussed on providing incentives for V/Line to incur economically efficient costs and maintain specified standards on freight-only network developed in consultation with industry. The design of such a framework would seek to: • provide market participants with greater certainty in relation to performance standards to encourage investment in rail, including in rolling-stock and associated facilities • provide funding certainty to the network manager so as to promote efficient maintenance and procurement practices, and • ensure that taxpayers receive value for money and align incentives such that taxpayer funding does not merely substitute for commercial funding and to

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minimise the capacity for subsidies to be appropriated by commercial players in the supply chain.

Development of an effective subsidy framework represents an opportunity to progress reform that can reasonably be expected to improve sustainability, competitiveness and economic efficiency of the sector.

Matter for consideration 1 The Government consider streamlining arrangements to establish and implement freight network performance standards.

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7 RAIL ACCESS “ONE-STOP-SHOP”

Key points This chapter notes some of the outcomes of consultation on the question of a “one-stop-shop” relevant to rail network access, coordination and planning. Directions for further examination of this question are identified.

7.1 What is the “one-stop-shop” concept?

Under the current VRAR, the Commission is the regulator of train path allocation, train control and other network management activities. The Network Management and Capacity Use Rules require access providers to submit protocols for all such activities to the Commission for its approval. In this Review, we have recommended maintaining these Rules.

As part of this Review, rail freight operators indicated that negotiating access arrangements with different track providers and different processes for allocating train paths is a complex, time consuming and costly exercise.

In response, we considered alternative forms of administration of train path access and the concept of a ‘one-stop-shop’ for track access. The ‘one-stop-shop’ aims to improve the coordination of the rail supply chain from an operational and planning perspective. It is intended to reduce costs of obtaining access and improve the efficiency and performance of the supply chain.

There may be a number of different ways in which the ‘one-stop-shop’ role might be designed. In this Review, we have given some preliminary thought to how the concept could potentially be applied. However, we believe that if Government considers that this issue has sufficient merit it should be considered in much greater detail in consultation with the sector.

This chapter focuses briefly the concepts of a ‘one-stop-shop’ including supply chain coordinator for rail freight. It also outline some of the comments made by stakeholders in response to the ideas presented in the Draft Report.

7.2 Current arrangement

As the Fischer Review noted:

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[A] significant issue facing rail freight operators is negotiating with different track providers for access agreements, train paths and train priority. 130

Each network is subject to the operational control of its access provider. Under the current access regime, each access provider is required to maintain protocols governing the management of that access provider's rail network and to carry out train control operations in accordance with those protocols. Access providers are also required to maintain communications protocols with other access providers, so as to be able to exercise network operational control more efficiently and to provide a more consistent and cohesive response to issues affecting the entire Victorian rail network.

The number of access providers in Victoria means that access seekers may be required to execute multiple access agreements in order to operate freight trains to different parts of the State. In practice, an above-rail operator may be required to enter into two or more access agreements with different access providers in order to transport freight by rail from one part of Victoria to an intermodal terminal such as a port.

Freight that is transported from the country network through the metropolitan network travels on two different networks operated by two different access providers. If that freight is transported to a container terminal at a port, it may enter the rail network of a third access provider.

The consequences for the above-rail operator can be illustrated using the example of a containerised cargo that travels from Gippsland to a port in Melbourne.

For example, V/Line’s access arrangement determines the basis on which cargo is transported from Gippsland to Melbourne on the country rail network. The rail freight operator would be required to enter into an access agreement with V/Line in order to obtain access to the country rail network. If the cargo is transported through metropolitan Melbourne, the rail freight operator would be required to enter into an access agreement with MTM (prior to 1 December 2009, this was Connex). If the cargo destination is the Dynon Intermodal terminal, then an access agreement with VicTrack is required. Thus in this example one train journey requires the freight operator to enter into three access agreements with three different access providers and to be subject to the train path allocation policies and network management protocols of three different entities.

There are several implications for the above-rail operator. First, the above-rail operator is required to negotiate and conclude multiple access agreements. This entails cost and time. The approved access arrangements set out a process for the parties to follow when an access seeker makes a request for access to the network of the access provider. Both parties are required to exchange information about the access provider's network and the access seeker's rolling stock, among other things, before negotiating the terms and conditions of access. Although access providers are obliged to maintain standard terms and conditions of access, the

130 The Victorian Rail Freight Network Review (December 2007) ‘Switchpoint: The Template for Rail Freight to Revive and Thrive!’, p.61.

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initial negotiation process can be time-consuming and costly for access seekers and access providers alike.

Second, each access agreement is subject to a unique set of terms and conditions, with the result that the rail freight operator is exposed to different liabilities during the single journey. These liabilities can be financial, for example, if each access provider requires the freight operator to provide performance security in order to obtain access to the access provider's network. 131 Given that the pro forma access agreements maintained by each access provider contain different terms, users are expected to accept different risk allocations at different stages of a single rail freight journey. For example, under the pro forma access agreement offered by the metropolitan network operator, a user can be liable to pay a financial penalty if the user's train causes delays to passenger services on the network. Similarly, the country network operator may close a line in a broader range of circumstances than the metropolitan network operator. becomes more important for users in this context.

Third, the rail freight operator relies on the close co-ordination among the access providers at the entry and exit points of each network in order to manage the movement of trains between the networks. This applies both to the allocation of train paths and the day-to-day train control operations. The freight operator seeks access to train paths that allow efficient passage through and between the different access providers' rail networks. This may be more difficult to achieve if the operator must negotiate access with multiple entities. In practice, the efficient operation of the VRAR depends on access providers managing that interface effectively. For this reason, stakeholders have recommended that V/Line coordinates the booking of full-journey train paths, including across the networks of other access providers.

IPART has observed that rail supply chains display a high degree of sequential activity along a supply chain, such that the efficiency of the activities carried out at one point in the chain are strongly influenced by the timeliness, reliability and quality of activities carried out upstream. It is quite different to the road transport industry, which is characterised by an atomistic and adaptable structure, in which efficiency is relatively unaffected by other supply chain elements. 132

The Victorian Government’s freight strategy of developing of a network of urban intermodal terminals serviced by port rail shuttles would require a far more intensive use of train control activities than existing freight operations. PoMC’s submission emphasised that a new paradigm for train operational control is likely to be necessary. Stakeholder comment

The Commission sought stakeholder views on how significant are the underlying problems that the “one-stop-shop” concept seeks to address. ARTC, PoMC and VFLC addressed the question.

131 For example, in its submission to this review El Zorro raised concerns about the requirement for a Performance Bond for its operations on the metropolitan network. 132 IPART (March 2008), pp.94-95.

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ARTC was of the view that horizontal separation across access providers results in the need for coordination of an access request in path identification and linkages, and in operational interfaces at boundaries between services. ARTC however believed that from a network manager’s perspective:

the issues around interfaces and coordination between horizontally separated access providers have been managed for some and have become reasonably well developed.

However, ARTC noted that the perception of rail operators was likely to be different:

horizontal separation results in multiple access negotiations, different regulatory and negotiation frameworks, different operational rules and standards, and separate responsibilities for performance across a journey

PoMC believed that introduction of a “one-stop-shop” is fundamental to delivering an efficient and cost effective MFTN and that it has the potential to significantly promote the reliability of rail.

VFLC noted that:

There is a case for access and pathway provision to be independent of both passenger and freight operations, to ensure the focus is on the optimisation of the publicly-owned network asset.

7.3 Options for implementing a “one-stop-shop”

In the draft report, we identified three options: • a single clearinghouse for freight access, which would negotiate access agreements, allocate train paths and possibly carry out financial settlements in relation to freight services, whether on behalf of the access providers or as an independent entity • an independent system operator (ISO) for train path allocation, financial settlements, train control, standards setting, performance monitoring and future system planning and • a fully vertically separated below-rail access provider that combines the train path and train control functions with infrastructure management responsibilities. Similarly there are a range of options for functional activities and possible governance structures, particularly in relation to the ISO options. Stakeholder comment

Stakeholders supported some form of ISO for the Victorian rail system to improve the efficiency of rail supply chain performance. There was less stakeholder support for the clearinghouse of fully vertically separated options. Stakeholders recognised that the ISO concept would need further examination. Within the short-to-medium term, there would be significant constraints to the full development of such a concept.

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7.4 Concluding comment

We believe that there is a need to consider options for addressing the current issues that exist in relation to alternative forms of administration of train path access operational control and medium term rail corridor planning. There is a significant degree of interest from industry participants in relation to the concept of the ‘one-stop-shop’, as we outlined in our Draft Report. For these reasons, we believe that further analysis and consultation on these options may be warranted. Such analysis would need to bear in mind both the shorter term and longer term options, and assess them with regard to both timeframes and the possibility of development over time.

Matter for consideration 2 The Government should consider undertaking further analysis of the corridor planning, performance monitoring and supply coordination issue. The review should consider: • whether, in the short term, one of the existing rail access providers (eg., V/Line or ARTC) should take on a clearinghouse role for freight trains on the regional and metropolitan rail networks, and • whether over the medium term there would be benefit in establishing an Independent System Operator.

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8 COMMENTS IN SUBMISSIONS ON BROADER ISSUES

During the course of this review, stakeholders expressed a range of concerns about the rail freight industry and presented views about key initiatives that should be actively considered. Many of these issues were outside the scope of this review. This chapter summarises the broader issues that were raised for the Minister’s information.

The four main sets of issues that are addressed in each of the sections of this chapter include: • the current state of the rail industry and the need to facilitate freight on rail • a common approach to rail and road pricing • the need for institutional reforms relevant to the rail freight industry, and • views about network configuration and rail gauges.

8.1 Sustainability of current rail and road freight

ACRFD expressed serious concerns about the present economic health of the rail industry. It estimated that rail currently only about two per cent of Victoria’s freight. Mr Vernon Knight of ACRFD stated at the public hearing in Melbourne that:

if we doubted that we are at the tipping point, then that figure ought to, I think, come home to us pretty clearly that we are close to the end of the line. 133

ACRFD emphasised the need for achieving ‘a modal share in transport less dominated by road’ having regard to social and safety issues, and the ‘very poor level of environmental sustainability of road versus rail transport’.

The VFF provided details about the environmental advantages of rail transport compared to other modes and highlighted that there is also an important local amenity issue for townships located on road routes used by trucks and the cost to the community of road safety issues. It also noted that ‘the gradual abandonment of the rail network in favour of road transport’ will shift costs from the State to local governments.

133 Transcript: http://www.esc.vic.gov.au/NR/rdonlyres/752A3AC9-F39A-475D-850E- 15795C481A39/0/VRARReviewMelbournepublichearingtranscript.pdf

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8.2 A common approach to road and rail pricing

8.2.1 Issues raised by VFLC and ACRFD

The VFLC was of the view that a common model for road and rail access pricing should be developed in Victoria. This should be accompanied by a simple and effective access regime which would apply to both road and rail infrastructure.

VFLC noted that rail access charges for freight trains are approximately four times the level of access charges for trucks on the road network per net tonne of freight. The principles underlying the formulation of access charges are different between the two modes. Common principles should be employed to set prices, using common parameters such as return on equity. At a maximum rail charges should be twice those of road.

A common model for road and rail should now be built on, with simple but effective regulation for both, a common access charging regime and total support for strong and upgraded infrastructure.

ACRFD stated that rail access pricing should be halved from their current level in response to the following four exceptional circumstances that are prevalent at the present time:

• unprecedented drought which has greatly reduced rail freight volumes

• the delayed effect of recent extensive Government rail infrastructure investment in attracting freight on rail

• restructuring and fragmentation of the logistics of the wheat industry following the deregulation of export wheat marketing and the resulting weakening of rail’s competitive advantage, and

• the recent Freight Futures strategy.

ACRFD suggested this lower access price might apply for a transitional or developmental period of approximately five years.

Mr Vernon Knight highlighted the high road safety human costs and the costs of road wear and tear associated with road freight transport:

We know that there is a high cost in maintaining freight on roads and that the wear and tear that occurs on roads, as a result of high usage, is quite extreme. The Queensland Rail, in fact, indicated that the average B-Double loaded has the ability or the impact on roads of about 20,000 motor cars. I repeat that number, one B-Double, 20,000 cars.

8.2.2 Discussion

Heavy vehicle road access and use charges are set nationally, under the “PAYGO” system, whereby capital and maintenance expenditure is recovered from road

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users in the year that is incurred. To derive PAYGO prices, the costs allocated to freight traffic 134 are averaged over a seven year period, and geographically across Australia. This contrasts with the basis for setting ceiling prices for rail access charges, which includes a return on and depreciation of the capital value of the assets involved. However, this inconsistency of approach is likely to have relatively little impact on the level of rail access prices charged under the VRAR, given that much of the capital value of the Victorian rail infrastructure was written off from the charging base at the time that took over the lease.

Following an inquiry by the Productivity Commission, COAG has agreed to a long term agenda for road and rail freight infrastructure pricing and investment decision making. The economic cost of congestion is very significant in urban areas, with freight making a significant contribution to urban traffic congestion. Forecasts of rapid growth in freight levels led to recognition that the traditional supply-side approach of building more roads was inadequate, and that more efficient pricing was required to manage demand.

A key focus of the long-term agenda is to develop the building blocks for mass- distance-location based (MDL) heavy vehicle charging. An MDL approach will increase the cost of using heavily congested urban roads, including the roads around port areas. By incorporating an improved allocation of the costs of maintaining different categories of road, MDL is also likely to increase the access price charged to heavy vehicles on country roads.

The inclusion of a time dimension to vehicle charging would further improve the efficiency of the pricing signals being provided to freight traffic. The MDL model could be readily generalised to include mass-distance, location and time-of-use, to incorporate freight vehicle congestion pricing into the freight road user charging regime.

The Victorian Government, in Freight Futures 135 has indicated some strategies to address congestion of freight vehicles on the Principal Freight Network during peak hours of the Network. These include:

Development of proposals to promote inter-peak and night time use of the Principal Freight Network by freight vehicles, through pricing and related measures. …

In consultation with key stakeholders commence development and assessment of options for a new differential freight access charge to apply to trucks accessing the Port of Melbourne.

The legislative, regulatory and policy positions for these charging schemes are not fully formed and are likely to evolve over time. COAG has noted that Victoria and other jurisdictions currently face legislative barriers to introducing incremental pricing trials under the reform agenda. 136

134 Some costs are excluded and other costs are allocated to light vehicles. 135 Freight Futures (2008) p.65. 136 COAG Reform Council, Report to the Council of Australian Governments, MARCH 2008.

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We note that the Commonwealth Government’s current review of Australia’s Future Tax System is expected to make recommendations on reforms to the federal and state road user charge framework with respect to congestion pricing and mass- distance and location based pricing for trucks.137

Following the public release of that review, the Victorian Government should consider the implementation options for such a framework having regard to the compatible, but broader, options for congestion charging for freight vehicles (both road and rail freight) within a revised road and rail user charging model in Victoria.

Matter for consideration 3 • The Government should consider commissioning a detailed assessment of possible approaches to and implementation options for congestion charging for freight (both road and rail freight) within a revised road user charging model in Victoria.

8.3 Institutional considerations

As discussed in chapter 7, a number of submitters were strongly in favour of institutional changes in the rail industry to better facilitate rail freight. The VFLC stated that:

There appears to be a real need for an agency charged with developing regional and metro rail freight in Victoria. … There may well be good policy grounds for a single asset manager handling all road and rail freight development.

The ACRFD noted the Fischer Review’s recommendation that there be an integrated Victorian or South East Australian body to control the grain supply chain, similar to the coordination of the coal supply chain in the Hunter Valley.

Aspects of this issue were discussed in chapter 7 on the “one-stop-shop”.

8.4 Network performance standards

Several submitters also maintained that network configuration and rail gauges are sub-optimal. VFLC was in favour of the standardisation of a ‘core freight network’ – i.e. a subset of the current freight lines. By implication, some of the non-core lines that may branch out from the core lines would need to be closed. ACFRD similarly contended that the rail gauge issue remains as important as ever.

Similarly, ACFRD foresaw that some of the Bronze lines will in future be found uneconomic and as an alternative to closure they might be offered to local government and community operators following the Canadian model of community

137 Australian Financial Review, 13 January 2010

Essential Services Commission Review of the Victorian Rail 8 Broader Issues 138 Victoria Access Regime

involvement for the management of some lightly used lines. ACRFD also advocated standardisation of Victorian rail freight lines.

Essential Services Commission Review of the Victorian Rail 8 Broader Issues 139 Victoria Access Regime

Essential Services Commission Review of the Victorian Rail 8 Broader Issues 140 Victoria Access Regime

9 IMPLEMENTATION & TRANSITIONAL ISSUES

The recommended changes to the Victorian rail access regime would involve substantial revision of Part 2A of the RCA to implement the light-handed regulatory principles, including the negotiate/arbitrate provisions, voluntary undertakings and price monitoring. This chapter provides a high level review of the implementation requirements for the recommended regulatory regime.

9.1 Summary of the changes required to implement the recommendations

9.1.1 Changes to Orders-in-Council Declaration orders

The following changes have been identified as needed to the declaration orders:

• Repeal of the Passenger Network Declaration Order

• Freight Network declaration order to be amended to:

o define the regional and metropolitan rail network more directly rather than by reference to lease agreements that may be changed by agreement between two parties

o limit coverage of the metropolitan rail network to those lines that are currently part of the Principal Freight network – i.e. the lines that carry freight trains

o widen the scope of coverage to include intra-state rail lines that are managed by ARTC but are not yet part of its interstate access undertaking with the ACCC

o the declaration order should expressly provide for lines managed by ARTC to automatically cease to be declared if and when they are included in an undertaking approved by the ACCC.

• The Dynon Terminal Order should be amended to:

o exclude the terminal services at the Dynon Intermodal Terminal and the North Dynon Agents’ Sidings and

o declared terminal services at South Dynon should exclude ancillary services.

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The Pricing Principles Order

The Pricing Principles Order should be repealed.

9.1.2 Changes to Part 2A of the RCA

The recommended changes to the VRAR are anticipated to require the following changes to the RCA:

• The definition of 'access provider' in s.38A should be amended to pick up providers of declared rail transport services who are not required to hold accreditation as 'rail infrastructure managers' under Part 5 of the Rail Safety Act 2006 (Vic) (for example, terminal managers).

• Sections 38B & 38E(2)(b) should be amended to ensure that the types of services potentially covered by the regime are more tightly defined - so that it cannot be applied, for example, to tram tracks or to tram or train rolling stock (other than rail network plant equipment).

• In s.38F of the RCA the terms “but subject to section 5(2) of that Act” should be removed and the existing objectives in s.38F should be replaced with the following: o to facilitate access to declared rail transport services on fair and reasonable commercial terms o to facilitate competitive markets in the provision of rail industry services, and o to promote the efficient allocation of resources (including efficient investment) in the rail industry and the optimal use of existing rail infrastructure.

• In s.38I the criteria for declaring rail transport services to be 'declared rail transport services' under the RCA should be amended to reflect more closely the criteria set out in the CPA and the TPA for declaring services in the context of a State-based access regime.

• The RCA should include a schedule for periodic reviews of the VRAR every five years. The scope of the review should encompass both access regulation and price monitoring within the rail industry.

• The RCA should be amended to remove the provision for the Governor-in- Council to make a Pricing Principles Order in s.38J. Instead the RCA should specify the following pricing principles with which access providers would be required to comply:

Essential Services Commission Review of the Victorian Rail 9 Implementation 142 Victoria Access Regime

o cross-referring to the general access pricing principles in s.35C of the ESC Act o the principles of allocating costs between passenger and freight services that are set out in the current Pricing Principles Order, and o the principle of floor-ceiling price limits, which should apply to all declared rail transport services. The floor price should be adjusted if there are Government contributions.

• The prohibition of different pricing between access seekers if the service provided is the same currently in s.38ZZY should be retained.

• Procedures for making Commission Instruments in ss.38N – 38P might equally be made to apply to Guidelines made by the Commission or when exercising the ability to designate rail track or a facility as a ‘major corridor’.

• Division 2 of Part 2A should be less prescriptive. Only the Capacity Use Rules, Network Management Rules and Negotiation Guidelines need be in force at all times. The Commission should have the discretion to make Account Keeping Guidelines, Ring-fencing Guidelines and/or Negotiation Guidelines, but, if made, access providers should be required to comply with them.

• The Commission should have the power to determine that a rail corridor or other facility is a 'major corridor' for the purposes of the RCA (following the procedures referred to above for making Commission Instruments or Guidelines).

• Submission of access arrangements to the Commission for approval under s.38W should be voluntary rather than mandatory, except in relation to access providers who provide access to rail track or other facility that the Commission has determined is a 'major corridor' (in which case submission of an access arrangement to the Commission for approval should be mandatory). In the case of a voluntary access undertaking, s.38ZJ and s.38ZK should not apply.

• Section 38W should also be amended to require access providers who provide access to rail track or other facility that the Commission has determined is a 'major corridor' to submit an access arrangement to the Commission for approval.

• Section 38X should be amended to require an access undertaking or arrangement to:

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o have a form broadly similar to the ARTC interstate access undertaking o include indicative terms and conditions of access to reference services (rather than standing offer terms and conditions as at present), and o have a nominated expiry date between three and ten years (rather than between three and five years as at present).

• The dispute resolution framework in the RCA should be amended to allow the Commission to appoint an: o alternative arbitrator may be appointed by the Commission at the request of the parties to a dispute, with appropriate amendments to ensure the alternative arbitrator is provided with guidance to adhere to the same principles as the Commission, the same timeframes apply, and to ensure enforceability of the determination.

• Statutory obligations of the access providers should be supplemented by: o statutory obligations for access providers to maintain separate accounting records for access activities o an ability for the Commission to make record keeping guidelines including specifying appropriate cost allocation principles and the form of annual regulatory accounts (or Ring Fencing Rules if an access provider were to become a vertically integrated freight rail operator) o statutory obligations for access providers to provide financial records to the Commission in accordance with the Guideline. o compliance with the Negotiation Guidelines as an ongoing obligation of access providers, and o access provider to use all reasonable endeavours to allocate to an access seeker any train path requested by the access seeker in an access application.

• Under Division 7, the present requirement that an access provider submit a system and business rules for handling confidential information to the Commission for approval at the same time as submitting an access arrangement should be replaced by an obligation for the access provider to have at all times a system and business rules for handling confidential information which has been approved by the Commission. The Division should also require access providers to comply with the system and business rules approved by the Commission and give the Commission with the power to audit the access provider's system and business rules.

9.1.3 Changes to the Commission Instruments & Guidelines

The following changes to Commission Instruments have been foreshadowed in this report:

Essential Services Commission Review of the Victorian Rail 9 Implementation 144 Victoria Access Regime

• The Negotiation Guidelines should be amended to include a requirement for access providers to publish appropriate performance indicators. The Guidelines should specify those indicators (or a minimum set of indicators).

• The Ring Fencing Rules should be repealed.

• The Account Keeping Rules should be replaced with Guidelines.

The following changes are recommended or expected to be required to Guidelines: o The Rail Access Dispute Resolution Guideline should be amended to include procedures for ring fencing of the Commission’s arbitration functions from its regulatory functions. o It is expected that the Rail Access Pricing Guideline will no longer be required.

9.1.4 Implementation of price monitoring – certain terminals

Part 3 of the ESC Act enables the Commission inter alia to regulate “prescribed services” by price monitoring and to establish pricing principles. If specifically permitted by an empowering instrument (e.g. the RCA), it may also exercise powers in relation to market conduct and/or standards and conditions of service and supply. 138

It is recommended that a price monitoring regime be implemented so that it is quite separate from the access regime, for example in a new Part 2B of the RCA.

Part 2B would contain the following elements:

• a section similar to the amended s.38E (as described above)

• a set of objectives and pricing principles (equivalent to the amended objectives and pricing principles under Part 2A), and

• provision for Part 2B to be reviewed whenever the access regime in Part 2A is reviewed.

9.2 Implementation timeframes

The Victorian government is committed under clause 2.9 of the CIRA to submit all State-based access regimes to the NCC for certification before the end of 2010. Implementation of the Commission’s recommendations will require substantial revisions to Part 2A of the ESC Act, which would need to be in force before the submission of the regime to the NCC for certification.

Given the lengthy time involved in the drafting and passage of legislation it will be important for the government to make its decision on the Commission’s recommendations in a timely manner to permit adequate time for these processes.

138 s.34 ESC Act

Essential Services Commission Review of the Victorian Rail 9 Implementation 145 Victoria Access Regime