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Opposition to a third runway at London Heathrow received a boost recently when Willie Walsh, Chief Executive of IAG, British Airways’ holding company, launched a blistering attack on the proposal by the Airports Commission that London Heathrow, and not London Gatwick, should have an extra runway.
For some time now, BA has been less than enthusiastic about the prospect of an additional runway at London Heathrow, their major base. Such opposition is to be expected. A shortage of runway capacity in the face of considerable demand from passengers for the use of Heathrow, means that BA, and other airlines, are able to charge higher fares on average and capture scarcity rents. This makes BA one of the world’s more profitable legacy airlines. With an additional runway BA would face a financial pincer movement. Airport charges would increase to pay for the added airfield infrastructure, whilst more space would mean more competitors entering the market pushing down fare yields. BA’s profits would, most likely, plummet.
Nevertheless, does Willie Walsh have a point? He is quoted saying that “the price tag for the third runway is excessive and cannot be justified on any basis”. That price tag according to the Airport Commission’s estimate is £17.6 billion, a lot for a piece of infrastructure, even in this day and age. It is a cost estimate partly accounted for by construction of a 3,500 metre runway positioned to the north west of the airfield. A runway of that length has to be stretched over the M25 motorway (which is to run in a tunnel) and it also requires removal of a large energy-from-waste plant, currently sited on the west side of the M25, which, because of its regional significance, has to be replaced. According to the Commission, this would be a substantial exercise in its own right.
In 2010, when Gordon Brown’s Labour Government was in favour of Heathrow expansion, BAA – now renamed Heathrow Airport Holdings Ltd (HAH) – had backed the option of a 2,800 metres runway. In its 2014 submission to the Commission, they put forward a number of runway options, and while the latter option of the shorter runway was included again, this time around it was not their favoured one. This was partly because it provided less capacity than the chosen scheme. But what is surprising is that there has been little questioning or close economic scrutiny of HAH’s preferred option (accepted by the Commission). Using HAH’s own figures, the longer runway provides small operational advantages at a considerable incremental cost. It is over 20 per cent more expensive, but adds less than 6 per cent to the maximum capacity of the airport, a capacity increase which would not be fully utilised for some years. Added construction complexities of the longer runway also delay extra capacity coming on stream by an additional year, assuming, of course, that construction goes to plan.
Why has HAH appeared to be rather cavalier with the large sums of money involved? HAH is a regulated utility, albeit in the private sector, and is permitted by its regulator, the Civil Aviation Authority (CAA), to pass-through to its airline customers, BA included, nearly all of its capital expenditure, much of it pre-funded by customers. Not only that, but a big project adds to the company’s Regulated Asset Base (RAB) and a larger RAB is attractive to a regulated utility for a number of reasons. The incentive structure, therefore, encourages the company to think big and, not for the first time, it has seized the moment.
Others bear the downsides of HAH’s grandeur (downsides which include delay before additional capacity comes on stream). Most insidious of all, the high infrastructure cost places the taxpayer at risk. This is because the reluctance of the powerful airline lobby to pick up the tab for what is generally seen as a project very beneficial for the national economy increases the likelihood that the government will be pressured into stepping into the breach (although state aid rules might frustrate such attempts). Willie Walsh is therefore right to be sceptical of the costs; the technicalities of what is proposed for Heathrow require further scrutiny.
Apart from seriously questioning the need for a longer runway – in light of its apparently poor incremental benefit-cost ratio and developments in aviation technology (modern aircraft generally have better airfield performance characteristics) – further scrutiny should also cover the project’s design details. Tellingly, the Commission believed there was scope for significant savings in capital expenditure,[1] although this could come at the expense of the so-called “passenger experience.” However, before undertaking this scrutiny, it would be preferable first to change the incentives faced by HAH. Changes to the extent to which a project is pre-funded by customers and to the degree to which costs are passed through to them would likely result in a more cost-efficient HAH – one that even Willie Walsh might approve of.
P.S. This blog was published soon after the final report of the Aviation Commission (of which I was a member until serious illness intervened. The issue was also covered in the final chapter of my Airport Enterprises’ book. The debate on the Third runway continues today, more than ten years after the Airports Commissions Report.
First published by the IEA
