HC Deb 03 July 2000 vol 353 cc131-40

Motion made, and Question proposed, That this House do now adjourn.—[Mr. Touhig.]

10.26 pm
Dr. Vincent Cable (Twickenham)

I have great pleasure in introducing an Adjournment debate on the subject of airport regulation. I sought the debate because I am one of those Members with a constituency near to Heathrow. Those of us in that position have many constituents who work at the airport, who use it for business and, most importantly, are affected by environmental costs and aircraft noise.

Several neighbouring Members have introduced Adjournment debates about Heathrow and particularly about aircraft noise, but I approach the subject in a slightly different manner. I am not so much concerned by what I regard as the symptoms of the problem, but with the underlying causes, such as the way in which airports are regulated. That is the spirit in which I gave evidence to the terminal 5 inquiry a couple of years ago.

I shall summarise my conclusions and then develop my arguments in a little more detail. The first of the two central points that I want to make is that the system of regulating airports, and Heathrow in particular, is drastically in need of overhaul. The Government have overhauled the system of regulation for other infrastructure industries—notably the railways—but airport regulation is calling out for reform in much the same way. It was introduced in the mid-1980s, at a time when the previous Government wanted to privatise the industry as a monopoly. They did that in a way that made it attractive to potential buyers of shares in the privatised industry without affecting the interests of the recently privatised British Airways. The wider public and social interest was not a dominant concern, but it have should been. That oversight now needs to be corrected in a reform of the regulatory system.

My second concern flows from the first. The cost of landing at Heathrow airport is very cheap. I would argue that it is ludicrously cheap, because it fails to take into account the economic costs of congestion, environmental costs and, probably, it does not even cover the basic running costs of the operation. That is damaging from a variety of standpoints. It leads to the airport being overused; it leads to the relative neglect of provincial airports, such as Stansted, where there is probably a much greater willingness to see expansion; and, most important, it leads to a substantial shortfall in revenue that the Government could derive from airports for public expenditure, but that they currently do not.

I shall develop those points in a little more detail. The first element in the system of regulating the airports that needs overhaul is what is called the single till system—the principle whereby two thirds of the profits of BAA derive from parking, property and shop rentals and the other third derives from landing charges. Those revenue streams are pooled. Under the regulatory system, the landing charges are directly regulated under a retail prices index minus X formula, which is referred from time to time to what is now the Competition Commission, whereas the other two thirds of the business are not regulated, although BAA has a substantial monopoly in them.

That results in a massively grossly distorted system of airport charging. It means that Heathrow has become one of the cheapest airports in the world in which to land, despite the enormous congestion and pent-up demand associated with it. BAA quite openly acknowledges that. It recently commented: charges to airlines are among the lowest in the world, and have fallen by at least 15 per cent. in real terms over the past ten years. The regulators acknowledge that the landing charges are very damaging, although they cannot do anything about them. The Monopolies and Mergers Commission, as it then was, said when asked to review charges: Any environmental problems, far from being reflected in higher airport charges, are exacerbated by further stimulus to demand as a result of low charges. It was highly critical of the system that it was required to operate.

Moreover, BAA operates one of the biggest retail monopolies in the world through its control of the shopping system at the airport. That aspect is not regulated. Arguably, it results in considerable pressure to over-expand that part of its business at the expense of normal airport passengers. The pressures for T5 primarily come from that source.

So that is the problem—what could and should the Minister do about it? I understand that the Government are reviewing the system of regulation from which the following elements need to emerge. There should be a proper system of independent regulation that takes into account the wider public interest and not simply the interests of aircraft users. There needs to be a proper system of economic charging, which would almost certainly be substantially greater than the present one.

The Department of the Environment, Transport and the Regions has conducted its own studies into the matter, and I shall quote just one of them: given the extent to which demand for slots exceeds supply at Heathrow and (to a lesser degree) at Gatwick, it is logical to expect that a several fold increase in airport charges would be necessary to reach market clearing level. A system of charges based on economic principles could and should be introduced. Under the present structure, such a system would result in BAA making enormous profits. There is no reason why that should be allowed. The Government could deal with that by taxing away the windfall profits, as they did in 1997.

The objection is sometimes made that such an attempt to change the charging structure would fall foul of international rules. The 1948 Chicago convention imposes constraints on Government charging. However, to the extent that I understand matters—the Minister can correct this—it should be possible to do a great deal. After all, Heathrow's charges are about half those of major European airports such as Paris and Amsterdam, as well as of those of Manchester and some of the provincial airports. Given that Heathrow's charges are substantially lower than comparable airports, there is considerable scope for increasing them.

Mr. David Taylor (North-West Leicestershire)

As East Midlands airport is in my constituency, I have a keen interest in the debate. Is the hon. Gentleman aware of the estimate that it would be necessary for airport charges to treble to ensure that the market-clearing mechanism removed the excess demand for slots at Heathrow and Gatwick, and that charges at the moment bring in £450 million a year, or thereabouts, and the excess charge would bring in about £900 million a year. Is not that an issue?

Dr. Cable

Yes, that is an issue. The hon. Gentleman's arithmetic and conclusions are entirely right. Charging is a substantial revenue source, which currently accrues primarily to the airlines—many of them foreign-owned—that benefit from the cheap charges. That revenue should ultimately go to the British public. There are mechanisms by which that could happen.

My second basic source of criticism is related, and concerns the slots. The right to land at Heathrow is effectively given away: under the grandfather principle, slots are allocated on the basis of historic use of routes, which is convenient for airlines that have traditionally had them, and less convenient for new airlines such as Virgin and British Midland, which are trying to get into the business. That is increasingly accepted as a damaging and inefficient way to run a system. An extremely valuable commodity is handed out free, competition is suffocated, and new airlines are prevented from entering the business.

It has become clear that there are alternative ways of allocating slots, notably by auctioning. American Airlines now auctions slots for domestic flights and earns substantial revenue by doing so. The Government have demonstrated through the third generation mobile phone licences that it is possible for auctions to be extremely effective, well conducted and lucrative. There is no reason why the same principle should not be adopted in an airport context.

I recognise that there are practical problems, particularly the problem of bilateral treaties and the fact that a plane that takes off must land somewhere. However, consultant studies have been done for the Civil Aviation Authority which show that, within limits, auctioning could be applied at Heathrow. At the very least, it could be employed for take-off and landing at British airports or within Europe, or to allow for competition between British airlines on transatlantic routes, for example. If the Government wanted to be bold and show that they believed in open skies, they could simply employ an open approach unilaterally. Clearly, there is scope for introducing auctions. That would raise the cost of landing to a more appropriate level and would be an alternative or additional way of dealing with the problem, beyond the reform of the single till system.

The third element of regulation that needs reform is the lack of independent regulation and the constraints imposed on the two regulators, the CAA and the Competition Commission. It is worth quoting from the commission, which described the difficulties under which it labours. It stated that the CAA said that it has no duty in respect of the "national interest" and no duty to consider those living near airports. On the contrary, the CAA's obligations are to satisfy anticipated demands by users of airports. That is part of the evidence to the terminal 5 inquiry. Under the present system, then, the regulators are unable to take into account the public interest or the national interest, widely defined. That needs attention.

The last aspect of regulation that requires attention is the overall context of taxation of airlines. The airlines enjoy enormous taxation privileges. They do not pay fuel duty in the way that motorists do. There are international treaty reasons why that is difficult to enforce, and even if we tried to enforce it, there is the practical problem of planes landing with full tanks in order to avoid taxation. Any change would have to take place on an international level or, at the very least, on a European level.

Estimates suggest that as a result of the airlines' ability to escape from fuel duty and also from value added tax, revenue of the order of £5 billion a year probably goes begging. I appreciate that there are obvious practical difficulties in recouping that, but it underlines the extent to which the airports operate with the benefit of considerable regulatory privileges. Whether that is dealt with through the tax route, the charges route or the slot route—there are various options for pursuing the same objective—it is clear that something should be done.

One of the consequences would be that the demand for the use of Heathrow would significantly contract. The models used at present to predict the demand for Heathrow and, to some extent, Gatwick assume a virtual doubling of demand within the next generation. That is clearly conditional on the price. I believe that the model exercise has been done by the Department of the Environment, Transport and the Regions. It suggests that if charges were doubled, which is roughly what the hon. Member for North-West Leicestershire (Mr. Taylor) suggested, the demand would be reduced by 15 per cent. below what it otherwise would be. If the full slug of taxes were imposed, and the cost was increased by 50 per cent.—

Mr. Taylor

I thank the hon. Gentleman for giving way again. Does he agree, at least on the principle of the polluter pays, that there is an argument for taxing aviation fuel? The amount of pollution generated per passenger mile exceeds that of road vehicles. Is not the system inequitable?

Dr. Cable

It is inequitable, environmentally nonsensical and extreme. We are not considering a minor disparity; motor fuel is taxed at more than 300 per cent., but tax on aviation fuel is zero. That enormous distortion in the market clearly needs correction.

I shall make a couple of points in conclusion. Charges need to increase to deal with the severe distortions that the current system of regulation creates. There are several methods of doing that and I have suggested some of them. Introducing such measures would be environmentally friendly and economically sensible; it would lead to better use of the airports, for example, by discouraging small airlines from using the airport. That would mean better capacity utilisation. The measures would encourage a better balance between Heathrow, Gatwick and the regional and smaller airports.

The introduction of such a programme would be contentious and the Government would face severe criticism from some of the affected interests. Recently, Mr. Ayling responded to the suggestion of removing slots from his airline by describing it as wrong, irrational, unfair, potentially corrupt and against the public interest. I note that Mr. Richard Branson describes the current system in almost exactly the same language. The established interest and the potential new order fiercely contest rights.

It would be argued that any system of economic charging would drive business away from Heathrow. The rate of growth could not—and perhaps should not—be sustained. I live in west London, and it could be argued that development around the airport is excessive, not insufficient. One of the main reasons for the enormous problems that local hospitals suffer in recruiting nurses is the competing salaries in the airport-based industries. Unlimited growth around the airport is therefore not an unmixed blessing. Perhaps some restraint on growth through better regulation would be economically beneficial.

Critics would argue that measures such as those that I advocated would lead to increased fares. They might do that, although fares are largely set in an international market. Any measure that reduced some of the silly fares, which mean that it costs far less to travel to Madrid and Rome than to get to Edinburgh by train, would be welcome. Some of the irrational pricing in the airline market would almost certainly be eliminated by some of the measures that I described.

I am grateful for the opportunity of introducing the Adjournment debate, and I look forward to the Minister's reply.

10.43

The Parliamentary Under-Secretary of State for the Environment, Transport and the Regions (Mr. Keith Hill)

I congratulate the hon. Member for Twickenham (Dr. Cable) on obtaining a debate on an important subject, which is acquiring increasing public prominence. I also express my thanks to the hon. Gentleman for his courtesy in giving me advance notice of the key issues that he wished to raise. I shall attempt to address many of them in my response.

It is especially timely that the hon. Gentleman should raise the subject of airport regulation now. As he knows, my right hon. Friend the Deputy Prime Minister has been leading a review of airport competition, aimed at ensuring that the regulatory and other arrangements in the sector best further the long-term interests of the travelling public. The Government will make a statement on the outcome in due course.

Let me set out the wider context. In our 1998 White Paper, "A New Deal for Transport", the Government undertook to produce a new airports White Paper, taking a 30 year forward look at the way in which the sector might and should develop, and fully considering the economic, environmental and social implications. Subsequently, the scope was widened to address the whole of air transport policy and thus cover both airports and civil aviation.

Work is in progress to lay the foundations for that White Paper and we shall consult widely while doing so. At this stage, the Government are ruling nothing in and nothing out, but we have made it clear that that is not an exercise in predict and provide: the scenarios that we are considering include those in which capacity might be lower than the forecast level of demand. In such cases, the management and control of existing infrastructure would assume even greater prominence. Whatever emerges from that work, we have a situation at least in the short term in which demand to use the airports of the south-east is moving towards the point at which capacity will be exhausted.

The increasing imbalance between supply and demand potentially places airport operators in a strong bargaining position when it comes to negotiating user charges with airlines and other airport users. It is to counter that potential that airports are subject to economic regulation. That requires airports to maintain transparent accounts and to notify their scale of charges to the Civil Aviation Authority each year. The CAA has powers to investigate complaints of abuse of position and to issue conditions to prevent or to provide redress for abuse.

At four UK airports—Heathrow, Gatwick, Stansted and Manchester—economic regulation takes the form of a cap on user charges. That is set for a five-year period by the CAA, following an investigation by the Competition Commission. That provides downward pressure on charges, while giving the airport an incentive to greater efficiency.

The hon. Gentleman argues that charges at Heathrow are too low and should be set at, or at least nearer to, market clearing levels. I admit that it is on the face of it odd that user charges should be falling in real terms at airports where demand considerably exceeds supply, but we must bear in mind that aviation is an international business and that the UK is party to a number of international agreements, as well as subject, in some areas, to European law.

Guidelines for the setting of airport user charges are produced by the International Civil Aviation Organisation, to which the UK is a contracting state. Those guidelines currently start from the principle that charges should be cost related. They state that the calculation of cost should reflect the full cost of providing the airport and its essential ancillary services. They also state that revenue from non-aeronautical airport operations, such as retail and commercial activity, should be taken into account when setting airport charges. That is, as the hon. Gentleman reminded us, the so-called "single till" principle.

ICAO guidelines provide a basis for the operation of airports and aviation throughout the world. Any decision to depart from them opens the possibility of reciprocal action in other countries. In the case of the UK, the guidelines are given greater weight by the fact that they were used in the preparation of the current bilateral air services agreement between the UK and the United States. We are committed to airport charges that are cost related; at present, we also apply the single till.

Both the Competition Commission and the CAA will no doubt want to consider the impact of the single till and the ICAO guidelines during the investigation that will precede the setting of a new cap for Heathrow charges. Their preparatory work will start shortly and their freedom of action may be increased by recent developments at ICAO.

I bring the hon. Gentleman news hot off the press. An ICAO conference in Montreal last week agreed to recommend to the ICAO ruling council that the current guidelines be amended to allow economic principles other than pure cost recovery to be taken into account when setting airport user charges. That may make it easier for charges to be modulated to demand patterns—which in plain English means higher charges at peak times than at others—or to rise to reflect overall demand for use of the airport.

Mr. David Taylor

Does that new departure allow for the incorporation into the charging regime of a contribution towards the environmental costs that are incurred by people who live in and around airports?

Mr. Hill

I hope to come to that point in due course. It is important. The hon. Member for Twickenham has already raised it. It is a point very well taken.

The conference considered the future of the single till. There was widespread agreement that full cross-subsidy of airport user charges from other sources of income may, at some airports, be inappropriate, having regard to local circumstances. The ICAO secretariat is to undertake a study of the implications of injecting more flexibility into the organisation's guidance on the subject. The results are due to be presented to the ICAO council in November. We await that report with interest.

As the hon. Member for Twickenham said, in addition to airport charges, the allocation of take-off and landing slots is another key component that affects the efficient operation of airports. He will be well aware, I suspect, that that process is governed by European regulation EC 95/93. Where a slot co-ordinator is appointed, the Government approve the appointment, but have no other role in the process. The co-ordinator is charged with acting in an independent, neutral, transparent and non-discriminatory manner when allocating slots to airlines.

Under the regulation, an airline that holds a slot in one operating season has first claim on it in the next equivalent season and indefinitely thereafter. Slots may be removed from their holder only when the airline fails to use them for at least 80 per cent. of the season. There is no other power of confiscation. At Heathrow, the overwhelming majority of slots are claimed under those grandfather rights. The remainder, together with any newly created ones, are placed in a pool for allocation.

Although the regulation's purpose was to encourage competition and promote new entry to the market, a CAA study suggests that it has not been successful in that objective and because of the scarcity of slots—particularly peak hour ones at Heathrow—it has proved virtually impossible for a new entrant airline to obtain sufficient slots at suitable times to establish commercially viable services. It has also been difficult for an incumbent to get new slots to start a service—for example, to compete on a route already served by a rival. To develop new services or to increase frequency on an existing one, airlines have had to shuffle the portfolio of slots that they already hold, or reduce or even end other services.

If the current system is not working well, what are the options for change? Obviously, the most suitable solution for airport users would be enhanced capacity so that there would be no difficulty in getting slots at the time that they want. While the White Paper work is in progress, I have to leave that option to one side. However, assuming continued slot constraints, there are two possible routes: a different regulatory regime—which would, by its nature, have to be more interventionist—or use of the price mechanism. We await European Commission proposals for changes to the regulation. Those are expected later this year, and I cannot pre-empt the Government's response. Much will depend on the overall package proposed by the Commission, but I can consider the options in general terms.

The basic problem is one of turnover. Incumbents have an indefinite hold over the slots that they have been allocated. The European Commission floated the idea that they should be required to hand back a percentage of slots each operating season so that those could be put in the slot pool and allocated from there, but it was not well received by member states and not pursued, although it remains a possibility. I would rule out direct Government intervention in the allocation process. The important principle of an independent co-ordinator has recently been affirmed by the ICAO at its conference. The Government are not attracted to the concept of ring-fencing slots for particular types of service. That would inhibit airlines' ability to respond to market demand without offering a solution to the real problem.

If changed regulation has its limits, what of the price mechanism? The possibility of airlines trading slots among themselves has often been mooted. Some operate at Heathrow for reasons of prestige, although they could be accommodated elsewhere in the London airport system, but there is no incentive in the current system for them to surrender their slots. If such airlines could sell their slots in an open market, that would encourage them to think more carefully about the scale and location of their UK operations and enable use of the slots by a carrier that valued them more highly.

It is common knowledge that airlines already use their ability under the European regulation to swap slots with each other as means of buying and selling on a grey market. That is, of course, imperfect. There is no transparency in the process and it is unlikely to be a mechanism for bringing new entrants into the market. For that reason, it has been argued that trading should be legitimised, with the availability of slots for sale made public and all parties open to bid. It has also been suggested that the traded slots should carry only time limited rights. There are arguments against slot trading that must be taken seriously. It would appear to favour the airlines with the deepest pockets, which would compound the dominance of the big airlines and alliances at a particular airport. However, that trend is already inherent in the airline industry.

It is sometimes suggested that all slots should be surrendered and sold. That is not possible under the current European regulation, as there is no power of confiscation. Pressure will no doubt be put on the Government to argue for a change to enable that to happen when the European Commission publishes its proposals. One option for moving in that direction might be to auction the pool slots. Most of the existing slots in the pool would carry no significant value, but if newly created ones were subject to auction, that might be a start, particularly if such slots carried only a time-limited right of possession.

The Government wish to see existing airport infrastructure used in a way that maximises benefit to the travelling public and to the British economy, within the framework of sustainable development and environmental protection. Airport pricing policy and slot allocation are two key areas. We shall take careful account of the points that the hon. Member for Twickenham has made as we respond to the commission and prepare our consultation document on air transport policy.

Following the issue of that consultation document, there will be an opportunity for much more debate. I expect that the hon. Gentleman will wish to contribute. We shall welcome and look forward to that.

Question put and agreed to.

Adjourned accordingly at four minutes to Eleven o'clock.