the state railway—fiscal burden and options for reform
1.1 Although the Bulgaria State Railway (BDZ) has taken substantial measures in recent years to adjust to its rapidly changing economic environment, it remains in a fragile financial situation and its long-term future is uncertain. The state contribution to the railway has remained steady at about 0.8 percent of GDP since 1999, and no solution seems in sight to put the railway on a sustainable development path. BDZ is at a crossroad and faces important decisions because of several factors: considerable stock of assets inherited from the socialist era which are arriving to the end of their service life; the possibility that capacity bottlenecks affect investors’ perceptions of economic opportunities in Bulgaria; the sweeping changes in sector organization being implemented under the new railway law of November 2000;[1] and the major investments in infrastructure being decided upon under concessional funding from the European Union. Within this context, the purpose of this Chapter is to briefly present the railway’s financial situation and requirements for state support, discuss the main reasons for the railway’s poor performance, outline the likely long-term consequences of the present situation, highlight necessary reforms, and assess the impact of three alternative reform programs on the railway’s finances and the requirements for state support.
1.2 There are serious issues affecting other modes of transport in Bulgaria, but they are generally not as pressing as those affecting the railway. The other main land transport mode, road transport, has changed drastically in the past ten years. Road transport enterprises have been privatized and, spurred by deregulation, have restructured. Numerous small owner operators have appeared. As a result, road transport is today remarkably competitive and efficient. In a survey of road freight transport costs among EU accession countries carried out in 2001 by the International Road Union (IRU), Bulgaria came with the lowest cost at about 60,000 Euros per truck on average or about 75% of the mean value for all countries. In the freight area, road transport, which has a share of about 55% of the combined road plus rail market, largely complements rail transport, focusing on shorter distance, higher value, and more time sensitive shipments. In the passenger area, on the contrary, road transport competes aggressively with rail transport and has gained a share of about 70% of the intercity transport market. Bulgaria’s main road network of about 19,000 Km is managed by the Road Executive Agency (REA). Only one third of these roads are in good condition which is roughly similar to the average for EU accession countries and notably better than Romania or Poland. REA is financed to a large extent from outside the State budget. Its main sources of revenues are an earmarked tax on the price of gasoline and diesel fuel, transit fees paid by foreign vehicles, and external loans and grants. Main issues in the road and road transport sectors are: (i) REA’s weak capacity to assess its priorities and prepare expenditure plans; and (ii) the insufficient allocation of funds to road maintenance (only about 20% of expenditures for road works). These issues will need to be addressed at the same time as the railway sector issues .
1.3 Maritime/river and air transport are also important for the economy. The key challenge in these sectors is to increase drastically the share of private sector activity. The Government plans to privatize the two main maritime and river transport enterprises in the near future. A sound institutional and regulatory framework also needs to be established to foster private involvement in ports and airports under the form of concessions.
A. Financial Performance and Requirement for State Support
1.4 The past financial performance of BDZ is summarized in Table 9.1. This table shows that, in essence, BDZ does not operate as a commercial enterprise; it functions, rather, as a government department. For BDZ, profit maximization has not been a goal. In fact, its net income has been negative since the start of the economic transition. Its deficit reached 124 million leva in 2001, or 21 percent of total cost, even after taking into account operating subsidies provided by the Government. Like a government department, BDZ operates with very little cash and aims only at balancing its revenues and the cash outflows necessary mainly for operations and debt service. In the past few years, BDZ has failed to achieve even this objective because of unexpected circumstances to which it has not been able to adapt rapidly enough, namely, a sharp reduction of demand, high oil prices, and increases in foreign exchange costs, in particular. As a result, BDZ has encountered serious liquidity problems and has accumulated arrears vis-à-vis the State, suppliers, and even its personnel. Constrained by resources, BDZ has also not been able to maintain its assets adequately for many years, with dire effects on the quality of its facilities and equipment and thus on the quality of its services. If proper maintenance had been undertaken, BDZ’s financial results would have been considerably worse.
Table 9. 1 BDZ: Operational and Financial Performance(amount in million leva)
1998 / 1999 / 2000 / 2001 est / 2002
Actual / Estimate / Forecast
Passenger Traffic - Passenger-Km (billion) / 4.7 / 3.8 / 3.5 / 3.1 / 3.1
Freight Traffic - Ton-Km (billion) / 6.2 / 5.3 / 5.5 / 5.1 / 5.1
Total Traffic Unit (billion) (pkm + tkm) / 10.9 / 9.1 / 9.0 / 8.2 / 8.2
Revenue (operating + non-operating) / 343 / 307 / 360 / 386 / 415
Costs (incl. depreciation and fin. charges) / 454 / 505 / 518 / 586 / 548
Net income (deficit) / (111) / (198) / (158) / (200) / (134)
Govt. PSO* and operating subsidy / 53 / 79 / 77 / 76 / 61
Net income (deficit), including effect of subsidy / (58) / (119) / (81) / (124) / (72)
Net cash generation from operations / (39) / (32) / 12 / 11 / 38
Cash at the end of year / 11 / 5 / 7 / 7 / 7
Working Ratio (excluding Govt. PSO subsidy) / 106% / 125% / 114% / 125% / 116%
Debt Service Coverage Ratio / 2.5 / 0.6 / 0.8 / 0.6 / 1.2
Current Ratio / 1.2 / 0.7 / 0.6 / 0.5 / 1.0
* Public Service Obligation.
Note: Costs in 2001 include an exceptional 37 million leva interest charge on arrears to the State budget.
Source: BDZ accounts.
1.5 BDZ receives a significant contribution from the State. As shown in Table 9.2, this contribution comes from a large number of sources. One of these sources, the accumulation of arrears to the budget (for non-payment of taxes) and to the social funds, is imposed by BDZ on the State and is evidence of a “soft budget constraint”. In total, the State contribution to BDZ is equivalent to about 0.8 of GDP. On average, about half of this amount represents an operating subsidy and the other half an investment. Not counted in Table 9.2 are other forms of state support, such as arrears to state-owned companies (especially, to the electricity supplier, NEK), interest payments on loans from the European Investment Bank, and provision of sovereign guarantees for World Bank and EBRD loans. Beyond these, the loss of railway assets due to their inadequate maintenance and renewal is an additional important, but implicit, price that the Government pays for railway transport.
Table 9.2 - State Support to BDZ (million leva)
1999 / 2000 / 2001(est. actual) / 2002
(forecast)
Actual / Estimate / Forecast
PSO Subsidy and other operating subsidies / 79 / 77 / 76 / 61
Arrears (to State budget and social funds) / 17 / 17 / 21.5
Exemption from VAT and customs duties / 33 / 19 / 7 / 6
Regional Investment Program (including from Road Fund) / 38 / 49 / 38 / 30
National Investment Program / 15 / 20 / 27 / 13
EIB, PHARE, and ISPA / 17 / 31 / 62 / 139.5
Total / 199 / 213 / 231.5 / 249.5
GDP (at current prices) / 21,776800 / 25,454500 / 28,460500 / 30,800783
State Support as % of GDP / 0.87 / 0.84 / 0.81 / 0.81
Source: BDZ accounts.
B. Causes of Poor Financial Performance
Uneconomic Services
1.4 BDZ operates a large number of services, many of which are not economic. To a large extent, this is a legacy of the past, as economic efficiency was not a prime objective during socialist times, and the railway was given a dominant role in land transport, while the development of road transport was frustrated. As the economy changed, demand for railway services declined considerably and is now often too low for efficient railway operations. This is evidenced by the low intensity of use of the railway network: about 2.5 million Traffic Units/Km of line in Bulgaria, compared to about 4.2 million in Poland, 3.3 million in Romania, and about 3.5 million on the large Western European railway networks. In particular, a sizable proportion of BDZ’s network (1,460 km, out of 4,290 km of lines) is made up of small branch lines serving mainly rural areas or single industries. It is on these lines that railway operations are the most inefficient.
Table 3: Railway Statistics (2000)
Bulgaria / Poland / Romania / Western EuropeUse of railway network, million traffic units/km / 2.5 / 4.2 / 3.3 / 3.5
Labor productivity, traffic units per employee (2000) / 223,000 / 431,000 / 284,000 / 600,000
Average revenue per t/km, US$ / 0.019 / 0.023 / 0.022 / n.a.
Average revenue per passenger/km, [US$] / 0.00816 / 0.01836 / 0.01020 / n.a.
Sources: BDZ, Polish and Romanian Railways, World Bank Railway Data Base[to be checked]
1.6 Other services (other than those on branch lines) are also uneconomic and in fact contribute much more to BDZ’s deficit. This is the case with most passenger services. On average, the cost of passenger service on BDZ was about 0.073 Leva/Passenger-Km in 2000.[2] This compares with a rough estimate of 0.040-0.050 Leva/Passenger-Km for bus service (including a correction for road user charges). The road transport industry has developed impressively in Bulgaria in the past 10 years. Bus services, which use second-hand imported vehicles, take full advantage of the cheap and productive local labor, and are stimulated by a highly competitive environment, have proven far more efficient in general than railway services. Only long distance railway passenger services, which have an estimated cost broadly similar to that of bus services, could compete. In fact, passenger trains on branch lines (with an estimated cost of 0.28 Leva/Passenger-Km) and the “regional” trains which link small towns located on the main lines (at a cost of 0.12 Leva/Passenger-km) have no economic rationale.[3] Given present economic and geographic circumstances, these services also do not have any significant environmental or other external benefits that would give them an advantage over bus services. Similarly, some rail freight services do not have a sound economic rationale. Indeed, many small freight stations have a volume of activity which is too small to justify their continued operation. Local freight trains serving these stations have a cost of operation probably far in excess of that of trucks.
1.7 In addition, BDZ has not reduced the supply of services as it should have if it was to match the decline in demand of the past years. Since 1998, passenger traffic has shrunk by 34 percent, from 4.7 to 3.1 billion Passenger-Km, while the number of Train-Km has declined by only 16 percent (from 29.8 to 25.1 million). As a result, there are fewer passengers per train. Similarly, freight traffic has contracted by 18 percent (from 6.2 to 5.1 billion Ton-Km), while the number of freight Train-Km has fallen by only 5 percent.
1.8 It is often argued that BDZ cannot fairly compete with truck and bus operators because it pays for its infrastructure while the latter do not. This is in fact largely incorrect and not a major issue. Truck and bus operators do pay for the cost of using the road through a special tax on diesel fuel which amounts to about US$0.093/liter[4], somewhat above the amount recommended in the World Bank’s 1998 paper on Commercial Management and Financing of Roads. And the true contribution of truck and bus operators is even higher since the price of diesel fuel includes in Bulgaria an additional excise tax amounting to about US$0.057/liter. On the contrary, truck and bus operators pay a relatively low annual registration tax of roughly US$100 per heavy truck and US$50 per bus while the above paper recommends amounts more than ten times higher. An increase in the annual registration tax would be warranted but would not significantly change the competitive position of rail transport.
Low Passenger Fares
1.9 Revenues from passenger services are, on average, only about 257 percent of costs. Cost recovery varies greatly according to tentative estimates by the Railway Institute; it ranges from 52 percent for express trains which operate between large cities, to 17 percent for regional trains and 8 percent for trains on branch lines. This is due essentially to the very low level of standard fares, which are, for example, 0.023 Leva/Passenger-Km, or about one third of the average cost of 0.073 Leva/Passenger-Km for long distances in economy class on regular trains. These low fares are generally explained by the need to serve poor people. Indeed, incomes are low in Bulgaria and the cost of a family trip may quickly amount to a substantial share of the monthly salary of the main income earner. However, there is no evidence that rail users in Bulgaria are poorer than the average non-motorized population, so that the benefits of cheap railway transport appear not to be targeted. In any case, if cheap intercity transport was considered a basic need that the Government should provide, cost realities, as mentioned above, would also argue for these services to be provided by bus and not rail transport.[5] There is also no differentiation in the pricing structure between highly uneconomic services (such as those on branch lines or the regional trains) and those that are comparatively less costly. The same unit prices are applied all over the country.