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THE COST OF USING ROADS

Author(s):
International Monetary Fund. External Relations Dept.
Published Date:
March 1969
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A. A. Walters

WHAT DOES it cost to run a truckload of farm produce to the market? To be more specific, what are the costs of running the loaded truck 20 miles over a country road, then two miles through suburbs and into the center of a large town? To the farmer, this seems a simple enough question: there is the cost of gasoline and oil, the cost of the driver’s time, and the cost of maintaining the truck. Even to the road engineer, the costs of road use may seem simple: so much for maintenance a year, with a simple rule of thumb for additional costs for the wear and tear of the heavier traffic in the suburbs and the town center.

When questions arise about widening and regrading, or of replacing the old road by another, economists and planners are faced with problems whose intricacy is equaled only by their interest and importance for economic development. Is the cost of the investment to be paid for by the users, or should the community as a whole pay?

Appropriate Concept of Cost

The definition and measurement of the appropriate concept of cost is crucial to any study of road use charges. Any particular concept of cost is uniquely related to a particular and well-defined decision: the amount of use made of the roads is determined by individuals deciding whether or not to make a journey. Each person takes into account the consequences of making a journey (or perhaps another journey); that is, the cost of a vehicle journey is measured in terms of the resources (i.e., the goods and services) foregone in order to undertake that journey.

The costs of the farmer going to market—fuel, wear and tear, and driver’s wages (or his own time)—appear in his accounts and he is legally obliged to meet them. They constitute the private cost of the journey.

The government road authority will pay for the wear and tear of the surface of the highway. This is called the variable maintenance cost and, assuming no user taxes, will not appear on the books of the motorist. To distinguish it from the private costs borne by the motorist it will be called a part of the social cost of the vehicle journey.

When traffic is so light, in relation to the capacity of the highway, that vehicles in no way impede one another’s speed and progress, the sum of the private costs and the social costs (repairing the damage done to the surface) represent in full the costs of the vehicle journey.1 It is the sum of the private cost and the cost of the damage done to the surface of the highway.

It is important to notice that this cost does not include the costs of providing the highway; nor does it include those costs of maintenance which are unrelated to the vehicle journey (the invariate maintenance costs is the term used to describe them). The resources invested in the highway were committed in the past; they were sunk and the costs are bygones. No fraction of these resources could be saved if the motorist forbears to take his journey; consequently, they are not part of the journey costs.

Up to this point we have supposed that traffic was so light that no vehicle impeded any other; each driver could choose whatever speed he liked. This assumption is approximately correct for most rural, farm-to-market, and interurban highways. But it is clearly incorrect for urban streets, for most of suburbia, and for some interurban highways; in the example given above, it would probably be correct for the first 20 miles but incorrect for the final 2 miles. And the center of a large market town is only one example of a place where vehicles do get in one another’s way and there is much congestion.

Under congested conditions an additional journey will add to the congestion. The vehicle will get in the way of other vehicles using the road and will cause their costs to increase as they waste more time in traffic jams and incur higher maintenance costs per mile in the dense traffic. Thus the decision by a vehicle owner to use a congested highway involves all other users in increased operating costs. But these additional costs appear as spread among all other motorists using the highway. They are not the responsibility of any particular motorist who decides to use his vehicle on the congested road; they do not appear in his accounts. On the other hand, these “congestion costs” are clearly attributable to the vehicle journey; if the vehicle journey had not taken place they would not have been incurred.

To sum up, then, the costs of a vehicle journey consist of:

Private Cost

  • (a) operating cost—borne by the motorist himself;

Social Cost

  • (b) variable maintenance cost—borne by the public road authority;

  • (c) congestion cost—borne by all other users of the road.

The central problem of a policy for user charges is to deal with (b) and particularly (c).

Reflecting Costs in Motorist’s Accounts

Since the sum of these three elements constitutes the resources (i.e., the goods and services) foregone due to the vehicle journey, it is clear that all three costs should be reflected in the motorist’s accounts. If these costs are not properly exacted from the motorist, he will be induced to undertake too many journeys, and thus to add unduly to the congestion. High traffic congestion is typical of large conurbations throughout most of the world, but user charges rarely reflect adequately the cost of such congestion, and traffic jams and snail-like speeds are the consequence. These are the wastes of user charges that are too low.

If, on the other hand, user taxes exceed the sum of the variable maintenance cost and the congestion cost, then the vehicle owner will be dissuaded from undertaking certain vehicle journeys although the true cost is less than the returns. Taking into account the user tax, he may find that the sum of the operating cost and user tax exceeds the returns he expects from the trip. The journey is actually worthwhile but the unduly high tax prevents him from making it. Consequently, potentially valuable services of the road are wasted. Such conditions are probably typical of most interurban roads and rural highways. The waste is less obvious than in the example of the congested cities—but it is there and just as pervasive.

The importance of linking costs to the decision about road use can be illustrated by considering what is probably the most common mistake with the cost approach: surely, one may argue, the additional vehicle journey causes the road authority to undertake new investment in the highway, and the costs of the new investment are therefore part of the costs of the vehicle journey. The fallacy in this chain of reasoning is the allegation that the vehicle journey “causes” an increase in road investment. It doesn’t. The government decides on the level and distribution of road investment. Even though traffic has increased, it might decide to spend the same amount, it might decide to invest more, or it might even reduce investment in roads. All these decisions may be perfectly rational. Decisions about expanding and improving the road are quite different from decisions about whether or not to use the existing highway. To confound them merely spreads confusion.

What is worse, the wrong analysis leads to uneconomic user charges and uneconomic use of the available road space. If user charges are fixed according to the measure of the investment cost “caused” by an additional vehicle, one can easily see that the charges will be too high on the uncongested interurban and rural highways, and will probably be too low on the urban streets. Consequently, the urban highways will be over-congested and the rural and interurban roads will be underutilized. These wasteful effects of such definitions of costs, and of the derived system of user charges, are the really telling indictment against them. User charges are based on “cost,” but the “cost” concepts are wrong; they do not pertain to the decision of the motorist whether or not he will use his motor vehicle for a journey along the road. The relevant costs are those that are incurred due to his particular use of the road.

But, it might also be argued that the additional vehicle journey that the motorist undertakes will play a part in inducing the authorities to build bigger and better roads. An increased investment in the highway is then a consequence of his vehicle journey, and so the cost of the investment should be reflected in the user charge. This line of argument provides a rationalization for making the user charge equal to the cost of providing additional road space—in other words, fixing the price for using the road at the long-run marginal cost of supplying new road space.

But the long-run marginal cost is useful as a criterion for user charges only when it is equal to short-run marginal cost. When the long-run cost differs from the short-run cost, it is the wrong basis for pricing policy and will cause too much—or too little—use of the road. The short-run marginal cost is always the appropriate value at which to fix the user charge.

Since the unit of output may be chosen as large or as small as one likes, it is often thought that the concept of marginal cost is arbitrary. This is, however, not correct. The relevant unit is the one that faces the user. It is both physically possible and administratively efficient for road users to be permitted to purchase any quantity, however small, of road service. The user takes into account the price of the little more or the little less in making his decisions. Thus the cost concept should measure the cost of the little more or the little less.

Investment

This structure of user charges, along with all others, has some disadvantages. The most critical is the absence of any simple easy-to-observe guide to the appropriate amount and distribution of investment in highways. The common-sense criterion is: “Build a better road if the reductions in vehicle operating costs and in the annual maintenance costs of the highway are at least as large as the annual cost of the road.” But this applies only to existing traffic; it cannot be applied to new traffic generated by the reduction of transport cost. The development effects of the investment are left out of account in using only the common-sense “cost-reducing” criterion.

Such an omission will not matter if the amount of generated traffic is small, as it will be if the demand for transport is very inelastic. The reduction in transport cost will merely benefit existing traffic; virtually no new traffic will be induced to use the road. Such a rationalization for the “cost-reducing” criterion is, however, of limited use for developing countries, for it is clear that, with many and perhaps most road improvements, one of the main objectives is to develop new land, new industries, and to open up larger areas to market influence. New development is important. We conclude, therefore, that the supposition of an inelastic demand is not a valid excuse for using only the “cost-reducing” criterion for investment.

Because it is uneconomic and even impossible to undertake road investment a little bit at a time, one must use the technique of measuring the “consumer surplus.” Essentially this means calculating the amount of money which people would be willing to pay for the new facility. Part of this value—and often the largest part—is obviously the cost reduction of existing traffic. But there is also the amount of money which new traffic would pay for the facility. Since it is a hypothetical figure, this is difficult to measure. Conjectures about traffic flows generated by a reduction in transport cost are not an altogether satisfactory basis on which to erect investment programs.

But what are the alternatives? Clearly one might “allocate” the investment costs of the new facility to the traffic that uses the road. So the road authority would not supply a new road, or improve an old one, unless its costs would be covered by the additional revenue collected. But such a policy of charging the users involves large wastes, as we saw above. And it is not at all clear that such an investment criterion is less hypothetical, ex ante, than the criterion of consumer surplus. It involves similar judgments about the reaction of users to different levels of user charges and about the extent of generated traffic (if any!). Ex post there would be a “sufficient” condition that the investment was worthwhile (if the increase in revenue covered the cost). But by then the road is built, the resources are sunk, and the investment is a bygone; such historical knowledge is interesting and helps improve forecasting—but all ex post studies do that. Clearly the inefficiencies introduced by prices based on “investment costs” are not counterbalanced by any marked sharpening of investment criteria; on the contrary, the errors of pricing and investment would be compounding rather than compensating.

Locating Plants and Farms

It is sometimes alleged that, if road users are not required to pay the fixed costs associated with the provision of the highway, industry and agriculture will make inefficient decisions about the location of plant and farm. If the government bears a substantial fraction of the fixed costs of location, it may be thought that the plant or farm will be located so that it requires too much of the (allegedly) subsidized road transport—and (perhaps?) the government will be induced to overbuild the highway system.

All these conclusions are, however, wrong. If the road authority levies the economic user charges for the use of the road and if it employs the consumer surplus criterion for investment, there will be no inefficient location decisions and the authority will not “overbuild” the highways. And this will be true whether or not the government collects the “fixed” charges by a levy on the rents generated by the building or improvement of the road.

The authority will build the highway if the amount which users would be willing to pay for the road exceeds the cost. But the sum of money they would be willing to pay is simply the increment in their profits (or rents). Consequently, the road authority will build the road if the profits (and rents) so generated exceed the cost.

Clearly, it does not make any difference to the location decision if the authority taxes away almost all of the additional profits; nor does it affect the location of business if the additional profits are left in the hands of the firms that enjoy the benefits of the road. The distribution of the additional profits (or rents) between government and business will in no way affect the location of industry.

“Covering the Costs”

One of the main differences between the system of user charges advocated here and those which are currently accepted by many transport experts is that there is no guarantee that with the proposed system the total amount collected in user charges would cover the total costs of the road network. With the currently accepted principles of user charges, the costs of the roads would be covered; the roads should not incur a deficit. And presumably, although this is rarely explicitly stated, road taxes should not be so high that the roads earn a surplus above costs. This is a version of the old public finance adage: “Each tub must stand on its own bottom.”

The immediate appeal of a self-financing system of highways is obvious; it is consistent with superficial ideas of equity, and it is undoubtedly true that the public at large accept and even applaud the principle of the tub. When it gets down to the definitions to be used in practice, however, one finds that there is no principle by which one can define “costs of the road system,” while even “user charge” is not easy to specify. This is not surprising because there is no logically consistent theory on which the “cover the costs” principle is based. It is a loose precept of social justice; it is not the consequence of a tight chain of consistent reasoning.

Nor is there any likelihood that the proposed system of economic user charges would result in a balanced road budget—however that may be “reasonably” defined. Clearly if a large fraction of the total vehicle mileage is incurred in congested cities then there is a good chance that the amount of revenue collected in user taxes will exceed the total costs of the highway system. If, on the other hand, a substantial proportion of the vehicle mileage is on uncongested highways it is likely that the road account will be in the red.

Economic User Charges and Budget Deficits

There is no overwhelming presumption that the economic user charges would generally give rise to large deficits on the road budget. But the only way to determine this is to calculate and see. Some rough and ready calculations for Thailand suggest that the introduction of very modest congestion charges would result in no substantial “deficit” on the road account. It must be emphasized, however, that such figures are exceedingly arbitrary and there are as many (and I suspect more) rules for making up a road budget as there are transport economists. One should therefore not attribute any generality to such calculations.

Suppose, however, for the sake of the argument, that there were a deficit in the road budget as a consequence of adopting the proposed system of user charges. Would there be a good case for somehow increasing motor taxes so that the road budget was balanced? Is the tub really best standing on its own bottom?

No such simple conclusion can be drawn. The approach we suggest should be less doctrinaire and more pragmatic. Supposing that the system of user charges which we propose here does give rise to a deficit, then we ask—which would be the best taxes to raise in order to finance it? There is no presumption, from economic arguments, that the best taxes are those on motor vehicles or on vehicle-miles. All possible sources of tax revenue should be examined—and a decision should be based on a balanced rational evaluation of the consequences. Account must be taken of efficiency, the cost of administration, the effects on the distribution of income, and the various other considerations that bear on tax decisions.

Nevertheless, although there are no compelling economic reasons for balancing the road budget by levying road user taxes, there are good political and institutional reasons for introducing “earmarking” arrangments for the finance of roads. The main purpose of “earmarking” and “road-fund” arrangements is to insulate the decisions about road investment and motor taxation from the pressure groups and bargaining processes of politics. It may be hoped that some earmarking or road-fund approach will take most of the decisions about road investment out of the political arena, so that road investment is less likely to be used as a pawn or payoff in a political process. Decisions are more likely to be made rationally by an independent “public corporation,” such as a National Highways Board, which has an assured and earmarked income that cannot be used for any purpose other than that of investment and maintenance.

Competition, Monopoly, and User Charges

The proposed policy of levying economic user charges for the use of the road is, of course, derived from the presumption that other businesses in the economy are selling their goods in a competitive market. Indeed the simplicity of the theory and the sharpness of the results depend on the assumption of competitive conditions. But the competitive conditions which we have assumed could not conceivably exist in their pure form; in practice there are always elements of monopoly, “imperfect competition,” and strategic behavior. This does not mean that the “competitive theory” cannot be used in fact because its assumptions are violated; the assumptions of a theory are always “wrong.” What we must ask is whether the competitive theory predicts the behavior of the economy better than any alternative theory.

It is, however, natural to inquire into alternative models where the assumption of competitive conditions is dropped. What would be the best pricing policy for the road authority in a noncompetitive world? It must be immediately emphasized that there is no general answer to this question. One can only proceed pragmatically by asking what would be the major industries affected if the road authority varied its price (and its volume of investment). On the demand side the main effect would be felt by the complementary industries—trucking and road passenger transport—and by competitive industries—such as rail and water transport. On the supply side, it seems that the main beneficiaries of a reduction in road investment would be those other industries that absorb the scarce factors used in road construction and maintenance; and it seems likely that these would not be concentrated in any particular industry but would be spread widely throughout the rest of the economy.

Obviously the industry that causes most (political) heartache is the railway. Usually railway charges are regulated by government and they may (and usually do) have only the most tenuous connection with marginal cost (suitably defined). Then the effect of road pricing on the railroads depends on (a) the amount of competitive traffic and (b) the relationship of rail rates to marginal cost for the traffic that would transfer from road to rail (or, conceivably, from rail to road). If there is little competitive traffic compared with the large amount that goes by road, then it is probably best to ignore it. If competitive traffic cannot be ignored, however, and if there is little substitution between transport and other goods, then one must determine the relationship between rail rate and marginal cost. There is no reason to suppose that the rail rate for this competitive traffic will be above marginal cost; in fact for much short-distance and medium-short-distance traffic regulated rates are often found to be much below cost. This would then suggest that the road authority should levy rates below the economic user charges.

In those circumstances where the regulating authority requires that the railway charge prices above marginal cost for traffic that is competitive with road, there may be a case for raising road charges above the marginal costs. The reader may well wonder, however, whether it would not be wise to concentrate on reforming rail charges rather than distorting road user charges to fit into the rail world; a better approach might be to make the railway pricing policy more efficient.

One might conjecture that, if for some reason the railways are required to “cover their costs,” the road users should be required to cover theirs. No such conclusion can be drawn from the economic analysis of road-rail competition. It may, or it may not, be a good idea to make a profit or loss on the road system as a whole. The issue is influenced only slightly by the railways being required to break even. What really matters are the effects of budget constraints on prices when there are competitive services available; and it will be in the interests of rational rail management to distort prices little from cost when there is a close competitor.

No clear-cut conclusions emerge from this analysis. But theory does give us some guidance; it does provide a filing system for approaching the real world. We can estimate the competitive rail traffic and one may make judgments about the relationship between marginal cost and price. But there is no simple rule to be followed: the desirable road price might be above or below the marginal cost.

The Guidance Offered by Theory

The general conclusion of this study is that the best simple policy is to begin with the economic user charges, or the short-run marginal cost. This should be the basis of all road charges. Then judgments about departures from the economic user charges must be made in the light of (a) the administrative and other costs involved; (b) the need for revenue and the alternative sources; and (c) the competitive structure of the economy. Each departure should be justified by arguments about the consequences. But the bedrock of road user charges remains the economic user charge.

LIST OF NATIONAL DEVELOPMENT PLANS

A list of national plans has been prepared by the World Bank in the Planning Unit of the Development Services Department. It consists of all national development plans and other documents of a similar nature known to the World Bank as of July 1, 1968 and contains more than 1,250 titles. A source reference key is included which gives the names of libraries, bibliographies, reports, and institutions from which information was obtained for the preparation of the list.

The list has been reproduced and copies can be obtained by libraries and research organizations from:

Publications Office

International Bank for Reconstruction and Development

1818 H Street, N. W.

Washington, D.C. 20433 U.S.A.

Many people would want to include other elements of social costs in this calculation—such as the value of the annoyance caused by noisy motors, the value of lives and injuries in motor accidents (over and above the valuation in the insurance premium), and the costs of pedestrians being further impeded. Although there is no objection to including these costs, if they can be measured, it is necessary also to add a list of social benefits which do not accrue to the motorist himself.

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