Analysis of the impact of oil prices on the socioeconomic. transport sector. Final Report. Client: European Commission, DG TREN. ECORYS Nederland BV

Transcription

1 Analysis of the impact of oil prices on the socioeconomic situation in the transport sector Final Report Client: European Commission, DG TREN ECORYS Nederland BV ECORYS Transport (NL) Consultrans (ES) Rotterdam, 27 April

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3 Table of contents Executive summary 5 1 Introduction Background and objectives of the study Framework of the study and structure of the report 15 2 Oil prices and transport costs The development of oil, fuel and energy prices The development of the price of crude oil The relation between crude oil prices and the price of fuel and electricity The relation between fuel prices, energy prices and transport costs Introduction Road freight transport Road passenger transport Inland waterways Rail freight transport Rail passenger transport Short sea transport Aviation The relation between transport costs and transport prices Introduction Road freight transport Inland waterways Rail freight transport Rail passenger transport Short sea transport Aviation Conclusions on the relation between oil and transport prices 71 3 Impacts and reactions in freight transport Reactions by providers of freight transport services Road hauliers Inland shipping companies Railway operators Short sea transport operators Airfreight operators Reactions by the users of freight transport services 82 3

4 3.2.1 The impact of transport costs on costs of production and consumer products Price elasticities Possible impacts on modal split Conclusions on the impacts and reactions in freight transport 90 4 Impacts and reactions in passenger transport Reactions by providers of passenger transport services Local public transport providers Railway passenger transport providers Air transport operators Reactions of users in passenger transport Reactions by car owners Reactions by users of passenger transport services Conclusions on the impacts and reactions in passenger transport Reactions of other economic agents and governments Reactions of transport equipment manufacturers Car Manufacturers Aircraft Manufacturers Responses of political decision makers and other economic agents Conclusions on the reaction of other economic agents and governments 118 Literature 119 4

5 Executive summary Background and goal of the study This report has been written in response to a request for services in the context of the multiple Framework Contract for Economic Assistance Activities (Lot 2) between the European Commission (DG TREN) and a consortium lead by ECORYS. The aim of the study is to provide a comprehensive insight in the reactions of different actors in the economy ( economic agents ) to such sudden increases, or price shocks, which have occurred several times since the first oil crisis in In order to cover this broad scope of the study the following questions were posed: 1. How have oil prices developed and what were the consequences for the price of fuel and energy used by the transport sectors and transport costs? 2. How do fuel/energy prices impact on transport prices? 3. What were the reactions of transport providers and users to such price shocks? 4. How did governments and other economic agents react? Based on existing literature, market data and cost models ECORYS and Consultrans have answered the above mentioned questions. 1. Relation between oil prices and transport costs Development of price of crude oil The price of crude oil is determined on the world market and is influenced by a great number of economic and political factors. The figure on the next page shows the development of oil prices in both nominal and real prices (corrected for inflation). 5

6 Figure S.1 Development of crude oil prices in nominal and real prices (= corrected for inflation, prices 2005) Development of crude oil prices, period (in $/bbl.) nominal price real prices Source: The figure shows that in real terms oil prices were exceptionally high in the years Although high nominal price levels have been reached in subsequent periods, such levels were still quite modest in real terms. Only now (2005) oil prices are approaching previous levels again in real terms. The perception of oil prices by consumers and producers can be quite different, though, since people tend to look at nominal prices instead of real prices. Energy used by transport sector Of all energy used in the transport sector in OECD countries only 0.6% relates to electricity; 99.4% consists of fossil fuels made from crude oil (see figure S.2). According to Eurostat figures for EU25, the share of electricity and fossil fuels made out of crude oil show a stable proportion on transport fuels throughout the period % and 98% respectively. Therefore, the price of crude oil will affect the fuel costs of the majority of transport operators. 6

7 Figure S.2 Demand for energy in transport in Europe (OECD Europe + East Europe + Turkey) in ExaJoule and %, ,1 ; 1% 2,4 ; 14% 1,9 ; 11% 0,2 ; 1% 6,4 ; 36% gasoline diesel jet-fuel electricity bunker-fuel other 6,6 ; 37% Source: IEA SMP model The relation between crude oil price and energy cost of transport sector The price of transport fuels has a clear and direct relation with the price of crude oil. However, this relation is also influenced by other elements, like production and distribution costs, taxes, duties and VAT. In particular the level of taxes and duties may differ between countries and by transport sector, giving rise to differences in sensitivity. The share of crude oil prices in the final transport costs varies per mode and transport segment as well. With regard to the relation between crude oil prices and energy costs it can be concluded that: Due to the absence of taxation and low processing and distribution costs, the variation in the price of crude oil more or less directly affects the fuel prices for inland waterway transport, short sea shipping and aviation. In these sectors a doubling of the crude oil price will result in a doubling of fuel costs. In other sub-sectors (e.g. road transport; rail diesel traction), the relation is weaker, due to processing and distribution costs and taxes and duties. Still the response of prices of diesel and petrol to crude oil prices appears significant. Up to 40% of the price of fuel is related to the costs of crude oil. Thus a doubling of the crude oil price will result in 40% higher fuel costs. As the supply of electricity is usually from a mix of fossil, nuclear and sustainable sources, the relation between the price of crude oil and costs of electricity used in transport is very weak. Electricity prices tend to be almost insensitive to the short run increases in the price of crude oil, but in the longer run a relation can be discerned. It appears that in the long run a doubling of the crude oil price may reflect in 15% higher prices of electricity. Share of energy costs and transport operating costs Energy costs are only a part of the total transport costs. Thus, even if fuel costs are sensitive to oil prices, this effect may be dampened by other cost elements. The role of fuel costs in total transport costs of freight varies per type of shipment, distance, occupancy rates, but also per country. For instance, in countries with high labour costs the share of fuel costs in total transport costs will be lower than in countries with low labour costs. 7

8 The following table shows the average share of fuel costs in transport costs, as well as the estimated effect of a doubling of the price of crude oil on costs of moving freight. Table S.1 Average share of fuel costs in freight transport costs Sensitivity of energy costs to crude oil price Share energy costs in total transport costs Effect of doubling of crude oil price on transport costs Road Freight 40% 20-30% 10% Rail freight - diesel 40% 15-25% 10% Rail freight electric 15% 15% 2-3% Inland waterways 100% 10-25% 10-25% Short sea 100% 15-30% 15-30% Aviation 100% 15-30% 15-30% Therefore, short sea shipping, aviation and inland waterway transport are most affected by variations in the price of crude oil, followed by road freight transport and rail freight transport (diesel). The costs of rail movement with electric traction are far less sensitive to the oil price. Such relations have also been assessed for passenger transport: Table S.2 Average share of fuel costs in passenger transport costs Sensitivity of energy costs to crude oil price Share energy costs in total transport costs Effect of doubling of crude oil price on transport costs Car 40% 25% 10% Buses 40% 5% 2% Rail electric 15% 5-10% 1% Aviation 100% 15-30% 15-30% The costs of aviation are thus most sensitive to variations in oil prices. A doubling of the price of crude oil is likely to increase aviation costs with 15-30%. Such an increase would affect total passenger car costs with 10% (but may increase variable costs with 30%), while bus and rail transport operations would become only slightly more expensive. 2. Transport costs and transport prices Freight transport There is considerable difference in the ability of freight transport operators to pass on the higher costs of fuel to their customers. Whereas in aviation the practice of fuel surcharges is widely used, such price revisions are to a lesser extent used in road transport. In rail transport, where the impact of oil prices on costs is smaller, steps are 8

9 taken to introduce such surcharges. In short sea shipping the possibility to pass on cost increases directly to customers is presently low and also in inland waterway transport this is not a regular reaction, even though a large minority of operators would start negotiating adjustments to freight rates. Other options besides reducing profit margins and the introduction of surcharges that can be used to absorb higher fuel costs are increasing load factors (in particular in road transport), rearranging business as to make more use of cheaper labour (road transport), or economising on fuel use (inland waterway transport) and other operating costs (all sectors). In the longer run operators can influence their fuel use by shifting to more fuel efficient engines (short seas, inland waterways) or higher capacity vehicles (road transport). The ability of transport operators to pass on the higher costs of fuel to their customers strongly depends on the ir market power. The next figure presents an overview of the relation between market power and the level of affection by oil prices. Figure S.3 Relation between oil prices sensitivity and market power The X-axes gives a relative insight in the market power of the operators. The Y-axis represents the way companies are affected by prices. Small transport companies in road (driver/owner), inland shipping (captain/owner) and short sea transport have substantially lower market power than large companies (third-party logistics providers) and rising fuel costs may be absorbed by temporarily reducing margins. From this figure it can be concluded that road freight transport operators, inland waterway operators and short sea shipping companies will suffer the most from price hikes, which is reflected in the low profitability in these sectors. Passenger transport The various segments in public passenger transport operators are affected in different ways by an increase of transport costs. As public transport (rail, bus, and tram) is 9

10 considered as a public service, fuel price increases are not directly translated into higher user tariffs which rather follow inflation and income trends. For airlines the situation is different, as they widely use fuel surcharges on the ticket price, by which the higher costs of fuel can (partly) be passed on to the traveller. This may in particular have an impact on the high elasticity demand segments of the market (e.g. holidaymakers using low cost airlines). 3. Reactions by users of transport services Customers of freight services generally appear to absorb the higher transport costs caused by fuel price increases, for instance by passing them on to consumers. As transport costs are generally a small part of production costs, in particular those of consumer products, the impact on demand for products is limited. For some sectors, like automotive and chemical sectors, high transport costs can be more important. Although there are some cases of rearrangement of transport and distribution operations, like automotive industries using rail transport or the regular container services in inland waterway transport, it is difficult to find a direct link with fuel prices, even though they might have played a role. Even so, the use of rail transport, which is least sensitive to oil prices, has not risen considerably. In other low value commodity sectors where fuel and transport costs matter, like sand and minerals, there are generally fewer possibilitie s to change transport patterns to less fuel intensive modes, as these commodities are already mostly transported by rail and inland waterway transport. In such captive markets fuel costs increases may more easily be passed on to customers, with the possible consequence of reducing demand for transport services. However, many of such freight flows are fixed in the short to medium term, as production locations cannot be changed overnight. Transport operating companies will tend to buy more energy-efficient vehicles (busses, airplanes, trains). More attention for cost awareness and fuel efficient driving behaviour are also reactions that companies show in the middle and long term. Generally, private car users accept to pay for the fuel price increases, even though the share of fuel costs in variable car use costs is high. In this case there is a difference in short-term and long-term reactions. In the short run car owners may cut down on less necessary trips, i.e. those made from a recreational or social point of view. Such trips usually have a higher price elasticity of demand than commuting or business trips, partly because the costs of the latter can be in some cases passed on to the employer. Car users may also change their driving behaviour to become more fuel efficient. In the long term, car owners can decide to change their travel patterns by changing for instance their commuting distance or buying more energy efficient cars. This can for instance be seen from the increasing use of diesel fuel cars in the EU. The next figure (S.4) presents how the various transport segments are affected by oil price developments and how demand reacts to tariff increases. 10

11 Figure S.4 Relation between impact and price elasticity in passenger transport The figure above presents only a qualitative and relative view. Within each segment the elasticity can vary substantially. For instance business travellers will have different reactions then social travellers, whereas captive travellers in rail transport (commuters) will have other reactions to price increases then recreational travellers. Substantial effects form oil price increases can be expected, though, in certain segments of air transport, in particular those which are based on low prices. In other segments of the air passenger sector (e.g. business travellers) the impact will be much lower, partly because of fuel surcharges being a smaller part of ticket prices. 4. Reactions of governments and other economic agents Transport equipment manufacturers have spent considerable effort in increasing fuel efficiency of equipment, in particular in road and aviation. In passenger cars such efficiency gains have been partly offset by higher vehicle weight and engine power, partly as a result of higher functionality. The improved fuel efficiency of diesel cars combined with lower prices of diesel in several countries has resulted in an increasing market share of diesel cars in all EU countries. In aviation a substantial increase in fuel efficiency has been realised. There is less evidence of such technological progress in equipment in inland waterway transport and short sea shipping The various oil price hikes have prompted governments to take both short and long term actions. The long term actions generally focus on increasing fuel efficiency and stimulating the development of new technologies, stimulating modal shift, etc. Short term reactions include fuel rationing by some countries in the early seventies. In particular in 2000 various pressure groups demanded compensation for high fuel prices and many governments bowed to this pressure by granting fiscal compensation (various countries), or holding back on planned excise duties increases. Only in a few 11

12 cases taxes and duties were reduced. In 2005 EU governments agreed to avoid such actions at country level as response to demands from pressure groups. 12

13 1 Introduction 1.1 Background and objectives of the study This report has been written in response to a request for services in the context of the multiple Framework Contract for Economic Assistance Activities (Lot 2) between the European Commission (DG TREN) and a consortium lead by ECORYS. This study is set around the question to what extent the transport sector and the economy are affected by substantial (and sudden) increases in the price of oil on the world market. The aim of the study is to provide a comprehensive insight in the reactions of different actors in the economy ( economic agents ) to such sudden increases, or price shocks, which have occurred several times since the first oil crisis in As reactions can differ for different modes, commodities and countries, the study looks at impacts for all (inland) transport modes for both passenger and freight transport, highlighting differences between Member States when and if relevant. The Terms of Reference for this study have distinguished four elements: An analysis of the composition of total transport costs for different modes and Member States to identify the main elements affected by oil price variations An analysis of the impact on different segments of transport users, on the short and longer term, taking into account differences between passenger and freight transport An analysis of the impact on different economic agents, including suppliers of transport services, manufacturers of transport equipment, etc An analysis of reactions by political decision makers These elements have been slightly regrouped for this study, as follows: Supply side of transport services market: An analysis of the composition of total transport costs across transport modes and member states; identification of the main variables affected by variations in the oil prices, identification of the increase in transport costs as a result of oil prices. The impact of oil prices on the behaviour of transport services suppliers (transport companies). Demand side of transport services market: the behaviour of users at short and medium term (passengers, shippers, logistics companies). Supply side of the market for inputs to the transport services: the behaviour of other economic agents, including producers of transport equipment and labourers. Market regulators: policy makers. The main objective of the study is to, on the basis of concrete examples, gain a better understanding of the impacts that substantial rises in oil prices have on producers and 13

14 users of transport services, as well as on other agents in the economy which are directly or indirectly related to the transport services market, such as providers of inputs to the transport sector, indirect users of transport services and legislators. In order to meet this objective, ECORYS and Consultrans have produced the present report on the basis of existing literature, market data and cost models. The next paragraph describes the approach to this study and the structure of the report. 14

15 1.2 Framework of the study and structure of the report The scope of this study is broad in many senses: geographically: it covers the entire EU, depending on the availability of data; from an economic point of view: many economic sectors are directly or indirectly involved; from the perspective of the transport sector: all modes are included, passenger and freight transport; time span: it should try to obtain information of a period covering 35 years (depending on the availability of data). In order to cover this broad scope in an efficient and effective way, a well-structured approach has been followed. Answers have been sought to the following questions: 1. How have oil prices developed and what were the consequences for the price of fuel and energy used by the transport sectors? 2. What is the relationship between fuel/energy prices and transport costs? 3. How are increases in transport costs due to (shocks to) fuel/energy prices incorporated in transport prices? 4. What were the reactions of transport providers and users to such price shocks? 5. How did governments and other economic agents react? The structure of this report is based on the questions raised above. Chapter 2 covers the relation between oil prices and prices of transport services (questions 1 to 3). Chapter 3 looks at the impacts of price shocks by users of freight transport, whereas Chapter 4 deals with the reactions in passenger transport (question 4). The reactions of governments and other economic agents are dealt with in Chapter 5. 15

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17 2 Oil prices and transport costs This chapter explores the first question of the Terms of Reference, the analysis of the composition of the total transport costs in different modes in Member States. To this effect the different steps between oil price and transport costs are explored. First it will be focused on the relation between the crude oil price and the price of energy used in the transport, being different types of oil products or electricity. There is a direct relation between the price of crude oil and transport fuel, as crude oil is a main basis for many transport fuels used. However, the taxes and duties levied on transport fuels en electricity are levied by Member States governments and may thus influence the relation between crude oil and energy costs. These differences between Members States will be addressed. The relation between oil price and costs of electricity is (also) dependent on the types of fuel used in generating electricity. Also this can give rise to differences between Member States, as the mix of sources of electricity differ. Secondly, it is analysed to what extent the energy costs influence the costs of transportation. Besides energy costs, this analysis will take into account other main components of transport, costs like the costs of labour and capital costs. As some of these factors differ by country and level of economic development, differences between Member States are quite relevant and will be highlighted. Thirdly, it will be analysed to what extent and with what speed changes in transport costs, in particular price hikes, are reflected in transport prices or tariffs. As transport prices are not only based on the factor costs, but also on market conditions or government intervention, the analysis will look into such conditions and how they allow or prevent the reflection of transport costs in transport prices. It is also important to consider that, while some transport markets are more local or regional and regulated, such as public transport, others are truly international and competitive, like aviation or short sea shipping. Another obvious division is between passenger transport and freight transport. 17

18 2.1 The development of oil, fuel and energy prices The development of the price of crude oil The price of crude oil is determined on the world market, and influenced by a great number of economic and political factors, such as among others: The global demand for energy The availability of oil reserves and other energy sources The production capacity of refineries The rate of investment of oil producing companies Economic and pricing policies of major oil-consuming countries The production and pricing policy by oil producing countries (e.g. OPEC members) The functioning of oil markets, including speculation practices The political stability in oil producing regions (e.g. the Middle East) The global political and economic stability Natural disasters, hurricanes etc. Since 1970, the price for crude oil has shown great variation. Prices started to rise substantially after the first oil embargo of October 1973 and remained steady in the second half of the seventies. Subsequently production levels fell in Iran, where a revolution took place and tensions with neighbouring Iraq resulted in a war. The OPEC countries raised their prices, the US halted imports from Iran, where US hostages were taken. The production in OPEC-states was reduced further, leading to a historically high oil price in 1982 and Later on, when oil production was increased, the world oil prices sharply decreased, to approximately the same level as 10 years earlier. In the period between 1986 and 2002, oil prices remained more or less at the same level, with a short peak in 1991 and 1992, caused by the tension between Iraq and Kuwait and the first Gulf war that followed. When the OPEC decided to increase its production in 1998, the demand in Asia dropped and Iraq resumed its production, causing the price of oil to decrease to a level of that before the first oil crisis. These events lead to a decision by OPEC to cut back its production. The demand for crude oil increased, leading to a steady increase of the prices until The September 11-attacks further weakened the economic development in The global economy had already shown signs of economic downturn at the beginning of that year. The attacks and the economic recession lead to a sharp decline in consumption and in the demand for oil, and to fears of a major economic crisis. After OPEC and non- OPEC countries diminished their production in 2002, prices started to rise again. Unrest in the Middle East and in Venezuela in combination with the start of the second Gulf War pushed the price further in an upwards direction in Additional restrictions of the OPEC production, in combination with a growing world demand lead to a further increase in 2004 and Hurricanes in the Gulf of Mexico in 2004 and 2005 and a very strong growth in world demand (by e.g. China) pushed the prices even further up. 18

19 As the above describes the increase in oil prices in nominal terms, ongoing inflation has softened some of the price developments. Because, also the costs of labour and various others products and services increased over time, softening the relative impact of some of the price rises. The figure below presents the development of the nominal crude oil price as well as the price corrected for inflation in US dollars between 1970 and Figure 2.1 Development of crude oil prices in nominal and real prices (= corrected for inflation, prices 2005) Development of crude oil prices, period (in $/bbl.) nominal price real prices Source: The figure clearly shows that in real terms the oil prices were exceptionally high in the years and are now (2005) approaching previous levels again. In real terms the price of crude oil was relatively low between 1985 and Thus, whereas in nominal terms the price of crude oil seems high in other periods of price hikes (in particular in 1990, 2000), in real dollar terms the price was lower than in and substantially lower than in and The latter periods seem to be the most important price shock periods in the period As the nominal prices show a greater variation, particularly in periods of relatively high inflation, the perception of oil prices by consumers and producers can be quite different from the above picture; people tend to look at nominal prices instead of real prices. The fact that oil prices were at a relative ly low level between approximately 1985 and 2000 will therefore not be recognised by many transport users, whereas the periods of (nominal and real) price increases are much better remembered. Another aspect of the oil price, of course, is the uncertainty introduced in periods of nominal price hikes. As long as prices are relatively stable, consumers and producers will tend to worry less on the future development of the oil price. However, as soon as nominal prices shoot up both consumers and producers might take actions, just to avoid the risk of having even higher costs in the future. It may lead to consumers reconsidering their choice of car, producers reconsidering the vulnerability of their production and distribution system to high fuel prices and transport costs. 19

20 The previous figure showed real costs in US dollar terms, since this is the currency in which crude oil is traded. Due to fluctuations in the exchange rates to the dollar, the price for crude oil in Europe might have been different. The next figure provides an overview of the development of the crude oil price expressed in US dollars and in Euros, since Figure 2.2 Crude oil price development in Dollar versus Euro since 2002 The figure shows that oil prices have increased less in the Euro terms since the end of 2002, due to the increased value of the Euro compared to the Dollar. Based on the data described above, the following periods can be considered as periods of oil price hikes in real terms: 1973/ / /2005 In each of these periods the price of crude oil (more than) doubled in real terms in a short period. In other periods of rising prices (1990, 2000) the increase in real terms was somewhat lower. The other difference is that the price hikes in these years followed a substantial decline of real crude oil prices. Although the three periods have in common that the oil prices have increased substantially in a relatively short time period, the macro-economic background of these periods is very different, as has been described in the above. The macro-economic structure of oil consuming and oil producing countries also differs substantially for these periods. In the 1970s and 1980s the oil price hikes have lead to global recession, whereas the chances of the present hike will lead to the same situation are lower, as hike is 20

21 demand driven and oil producing countries are spending the revenues. In general the development of the Gross Domestic Product is much less related to the oil price now than 35 years ago, whereas the monetary policy is also much different now than in the 1970s and 80s (See also Chapter 5) The relation between crude oil prices and the price of fuel and electricity The price of transport fuels (gasoline, diesel, LPG, kerosene etc.) has a clear relation with the price of crude oil. But other elements are included in the price that users pay for their fuel at the pump: production costs (refinery) distribution costs (transportation and insurance) margins for the oil companies taxes, duties and VAT Whereas production and distribution costs are more or less given, and margins depend on the level of competition, taxes and duties are set by governments. These may show much larger variation than the three other cost items. In the next chapters this aspect is further elaborated per mode and in Chapter 5, where the reactions of governments are described. A part of the total energy demand in transport consists of electricity, as trains (partially), metros and trams operate on this type of energy. The share of electricity in the total demand for transport energy however is very limited, as is presented by the graph below. Figure 2.3 Demand for energy in transport in Europe (OECD Europe + East Europe + Turkey) in ExaJoule and %, ,9 ; 11% 0,2 ; 1% 0,1 ; 1% 2,4 ; 14% 6,4 ; 36% gasoline diesel jet-fuel electricity bunker-fuel other 6,6 ; 37% Source: IEA SMP model Of all energy used in transport (17,6 ExaJoule) only 0,6 % is electricity; 99.4% consists of fossil fuels made from crude oil (see figure 2.3). Eurostat figures show that of all electricity produced in Europe, 2,7 % is used for transport. According to Eurostat figures for EU25, the share of electricity and fossil fuels made out of crude oil show a stable 21

22 proportion on transport fuels throughout the period % and 98% respectively. Therefore, the price of crude oil will affect the fuel costs of the majority of transport operators. The price of electricity is to some extent also related to the price of crude oil, particularly when oil and Liquid Natural Gas (for which the price is directly linked to the crude oil price) are used for electricity generation. When electricity is produced by burning coal, by nuclear power plants or by more sustainable sources (wind and water), there is no direct relation with crude oil prices 1. As the supply of electricity is usually from a mix of fossil, nuclear and sustainable sources, the influence of oil prices will exist, but to a smaller extent. The figure below shows how the price (with and without taxes) for electricity for large industrial users in Europe has developed since 1990 compared to the price of crude oil. The figure is based on average prices for those countries that are included in the dataset available. Figure 2.4 Average electricity prices for large industrial users (Annual consumption: MWh; maximum demand: 4000 kw; annual load: hours) (average for miscellaneous EU countries) 0, ,07 60 Electricity prices (Euro per kwh) 0,06 0,05 0,04 0,03 0, Crude oil prices (Dollar per barrel) Without taxes All taxes included Crude oil 0, Source: Eurostat, 2005 It appears that the price of electricity including taxes is substantially less volatile than the price of crude oil. Whereas the oil price hike of 1999/2000 apparently did not affect the price of electricity, the most recent hike in 2005 seems to influence the price of electricity. Nevertheless, the price rise of electricity is substantially smaller than that of crude oil. Other factors are influencing the price for electricity as well: the liberalisation 1 High oil prices can lead to an increased demand for coal, which leads to an increased price for coal and thus electricity produced by burning coal 22

23 in the energy market, the efforts to produce electricity in a less polluting way, the changes of taxation regimes; emissions trading and the production mix. 23

24 2.2 The relation between fuel prices, energy prices and transport costs Introduction In order to obtain insight in the way oil prices affect the transport sector and other economic sectors, the following line of reasoning is followed for the different transport modes distinguished: Development of crude oil prices Development of fuel / energy costs Development of transport costs Development of transport prices The price of crude oil has an impact on the costs of fuels and electricity, and thus on the transport costs. Higher costs for transport operators may be reflected in transport prices, depending on the market situation. The present paragraph (2.2) describes the relation between fuel costs and transport costs for different transport modes, for passengers and freight transport. Paragraph 2.3 describes the relation between transport costs and transport prices Road freight transport Relation between price of crude oil and diesel The (nominal) prices of petrol and diesel have shown a pattern of movement similar to that of (nominal) oil prices (see figure 2.1). The level of magnitude in the oil price variation and the variation of fuel prices (diesel and petrol) differs significantly, though. While the price of crude oil shows larger variation (between 40 and 150 in index terms), the variation in the price of fuel at the pump is less than half this size (between 75 and 115). To understand the logic behind this, the composition of the final fuel price has to be analysed. This is described in the next paragraph. 24

25 Figure 2.5 Index of crude oil prices and real average EU15 prices including excise taxes and VAT of diesel and petrol (weighted average leaded/unleaded) over the period (January 1986=100) Index (1986=100) Diesel Sales Price Petrol Sales Price Crude oil prices Source: Centrum voor Energiebesparing (Dutch consultancy firm), fuel price data,2003 Breakdown of diesel cost structure Assuming that refinery and distribution costs are similar, there are four basic components of fuel price variations at the pump: Crude oil price; Exchange rate; Fuel related taxes (excise duties 2, value added tax); Profit margin. Of these, the profit margin will depend on the market situation in a particular country. If competition is more intense, profit margins may be lower. Exchange rate fluctuations can play a role, but in particular in recent years convergence has taken place between EU Member States. The US dollar/euro exchange rate has some effect, as shown above, but this effect appears to have dampened nominal price increases, rather than sharpened. Fuel related tax: excise duties Fuel taxes and duties are a substantial component of the price of fuel at the pump. This is particularly true when the level of taxes and duties is relatively high, as is the case in Europe when compared to e.g. the USA. The level of taxation (i.e. comprising excise duties, value added tax, environmental taxes, etcetera) is the component that determines the final fuel price to a large extent, as is shown in the next figure. 2 Besides the excise duty on diesel fuel, some countries impose other fuel-related taxes and duties (i.e. environmental taxes, stockpiling fees). 25

26 Figure 2.6 Fuel price and the share of excise duties per country, 2004 Latvia Estonia Luxemburg Poland Greece Spain Slovenia Lithuania Czech Republic Austria Belgium Netherlands Ireland Slovakia Italia France Finland Denmark Hungary Germany Sweden Norway Bulgaria Switzerland UK Excise duties Pump price (excl. VAT) Source: Transport in Cijfers 2004, TLN. The above shows the situation for It shows that fuel prices may differ up to 100% between the cheapest and most expensive country. A substantial part of this difference is caused by huge differences in fuel related taxes (i.e. excise duties) levied in these countries. The UK had in 2004 the highest excise duties in the 19 European countries in absolute terms, while taxes and duties were about half this level in various other countries. The figure also shows that the fuel price without taxes and duties differs substantially, with relatively high costs in Bulgaria, Finland, Switzerland and the UK. For the EU countries shown in the graph, the share of taxes and duties in the pump price differs between 30 and 55%, meaning that other costs (crude oil, refinery, distribution, margins) account for 45 to 70% of the pump price. In other words, taxes and duties can range from 40% of product costs excluding taxes and duties to over 100% of product costs. Developments in fuel related taxes Until 31 December 2003 fuel related taxes in the EU were governed by Council Directives 92/81/EEC on the Harmonisation of the structures of excise duties on mineral oils and 92/82/EEC on the Approximation of the rates of excise duties on mineral oils. Since 1 January 2004 taxation of energy products and electricity has been restructured by Council Directive 2003/96/EC of 23 October 2003 on Restructuring the Community framework for the taxation of energy products and electricity. Referring to this Council Directive 2003/96/EC, some countries are doing just the minimum to comply with this directive, while others gradually increase excise duties on fossil fuels to stimulate environmentally benign activities. At present, there are huge differences between Member States excise duty rates on diesel. Various EU countries, both new member states and two old member states, do not adhere to minimum rates in 2004 (see figure 2.7). Directive 2003/96/EC provides for a transitional period however for Member States 26

27 with difficulties in implementing the new minimum levels of taxation, provided that this does not significantly distort competition. Figure 2.7 Level of excise duties on diesel ( /litre) per country, 2004 Bulgaria Poland Latvia Lithuania Greece Estonia Luxemburg Spain Austria Slovenia Portugal Czech Rep. Belgium Finland Hungary Slovakia Norway Netherlands Sweden Ireland Italy Denmark France Germany Switzerland UK EU minimum level = Source: Transport in Cijfers 2004, TLN The level of taxes and duties is not stable over time. During the period of decreasing oil prices (first half of 1996 first half of 1999) changes in pump prices in the different countries were substantially less. Several EU countries used the decline in oil prices to raise their fuel taxation level, sometimes very drastically as in the UK where excise duties increased with around 30% in the period (see figure 2.8). Only Portugal lowered excise duties, but this was mainly to compensate for an increase in the VAT rate from 5% to 17%. At the same time oil companies were reported to use falling oil prices to raise their profit margins. During the period of sharp increases in the oil price (first half of 1999 second half of 2000) the absolute level of fuel taxes increased as well in many countries (see figure 2.8). Only Italy and Portugal reduced the excise duties, in the case of Portugal to the minimum set by European legislation. 27

28 Figure 2.8 Diesel excise duties in the EU15, B DK D EL E F IRL I LUX NL A P FIN S UK Source: Eurostat, Directive 92/82/CEE, Commission Proposal COM (97) 30 final. Although crude oil prices rose steeply (with 182% in USD/barrel in nominal terms) between the 1 st half of 1999 and the 2 nd half of 2000, the final increase in diesel prices ranged only from 43% (Greece) to 13.6% (Portugal). The effect of this sharp increase of oil prices on final diesel prices was thus relatively modest, due to the other components. Figure 2.9 shows the impact of the various components in this period for several EU countries. It appears that the variation in the price of crude oil is responsible for 25-60% of the increase in diesel price. This effect is substantially softened by a reduction in margins of oil companies. The effect was up to -60% and more than compensated the effect of higher prices for crude oil. Figure 2.9 Diesel price variation components Source: International Energy Agency and European Commission (own calculations) Share of fuel costs in total transport costs Having looked into the relation between the price of crude oil and diesel, the next question to be addressed is the relation between road freight transport costs and the price 28

29 of diesel. The next figure presents the composition of the road freight transport costs in a sample of European countries. Figure 2.10 Breakdown of transport costs (costs in /km) for some EU countries (1999) Source: Comitato Centrale per l Álbo / Transport in Cijfers 2004, TLN (modified by ECORYS) In the countries presented the costs of a representative truck were around 0,80 to 1,10 per kilometre. The main components are labour costs, fuel costs and capital costs (interest), together accounting for 80-90% of total costs. Of these, interest costs differ least between countries, and labour and fuel costs most. Whereas in the Netherlands, Italy, France, Germany, Spain, Greece and Austria labour costs are higher than fuel costs, fuel costs are more or less equal to labour costs in Slovenia. On average fuel costs, including taxes, represent between 20% and 30% of the running costs of a road haulage business. As a proportion of total running costs, fuel costs increase in direct relation to vehicle weight. As excise duties represents just under 60% of the pump price for diesel fuel (excluding VAT) at maximum (i.e. Germany and the UK), this duty accounts for between 12% and 18% of the running costs of a road haulage business. Labour costs of truck drivers diverge much more than fuel costs As indicated labour costs and fuel costs are the two main cost items for road freight transport. Figure 2.10 shows that labour costs may differ even more between countries than fuel costs. Figure 2.11 shows that differences in labour costs across the EU are significant and, given the date in figure 2.6, even more significant than differences in fuel costs. For example, in Latvia and Estonia (which are amongst the cheapest fuel countries) the level of fuel costs in 2004 ( 0.62/litre excluding VAT) is nearly 50% of the fuel costs in the UK ( 1.18/litre excluding VAT). In 2005 this gap has become smaller with the level of fuel costs in Latvia and Estonia having increased ( 0.85/litre excluding VAT) to around 65% of the fuel costs in the UK ( 1.30/litre excluding VAT). In contrast, labour costs of truck drivers in Sweden, which is the most expensive country in that respect, are 29

30 almost four times higher than labour costs in Slovakia and three times higher than labour costs in Poland (see figure 2.11) Figure 2.11 Comparison of labour costs of truck drivers, 2005 (index Sweden = 100) Sweden Belgium France Netherlands Italy Austria Germany UK Denmark Spain Slovenia Czech rep. Poland Hungary Slovakia Romania Bulgaria Croatia Source: TLN, Transport in cijfers Development in main components of transport costs Both labour costs and fuel costs have increased considerably during the nineties and this has continued up to now. The next figures present the increase in the most important cost components for commercial road hauliers, fuel costs and labour costs. Figure 2.12 Developments in labour and fuel costs in the Netherlands, diesel price labour costs index 1991=

31 Source: Transport in Cijfers, modified by ECORYS. For Dutch hauliers the increase in the fuel costs in the period has been more stronger than the rise in labour costs. The same holds for French hauliers which have seen a considerable increase in their fuel costs too over the last decade. This is shown in the next figure which presents the development in fuel and labour costs for both long distance and regional freight transport in France in the period Figure 2.13 Developments in labour and fuel costs in long-distance freight transport in France, Index 2000= Fuel and Labour Costs in Long Distance Freight Transport in France janv-97 janv-98 janv-99 janv-00 janv-01 janv-02 janv-03 janv-04 janv-05 janv-06 Fuel Labour Figure 2.14 Developments in labour and fuel costs in regional freight transport in France, (2000=100) 140 Labour and Fuel costs in Regional Freight Transport in France janv-97 janv-98 janv-99 janv-00 janv-01 janv-02 janv-03 janv-04 janv-05 janv-06 Source: French National Road Comity (CNR). German hauliers have even faced a more prominent increase in fuel costs compared to labour costs over the last few years. In the period labour costs rose with around 16%, fuel costs however rose with more than 80% in the same period. The next figure presents this sharp increase, considering the development in some other cost components of road hauliers in Germany as well. 31

32 Figure 2.15 Developments in labour and fuel costs in Germany, index 1999= labour cost other cost variable vehicle cost overhead cost fuel cost Source: Statistisches Bundesamt (Wiesbaden); KRAVAG (Hamburg); Deutsche Bundesbank (Frankfurt), modified by ECORYS. A fourth example of diverging fuel and labour costs developments is presented in the next figure. For Spanish hauliers the share of fuel costs in total costs has increased with around 5% in the period , while the share of labour costs declined with around 1% over the same period. Figure 2.16 Labour and fuel costs as a % of total costs in road freight transport in Spain, % 38% 36% 34% % in total costs 32% 30% 28% 26% 24% 22% % fuel costs % labour costs 20% april 2001 april 2002 april 2003 april 2004 april 2005 october 2005 Source: "Cost observatory of freight road transport" - since 2000 Spanish Ministry of Development Previous examples imply that the share of fuel costs in the total transport costs has become more important. 32

33 Data to provide a similar comparison between fuel costs and labour costs for other European countries is scarce. For some information is available, which shows that in this year fuel costs increased faster than labour costs. Figure 2.17 Developments in labour and fuel costs across the EU, labour costs diesel price change (index 2004=100) NL A B D DK E F UK I S Source: BP/Transport in Cijfers 2004, TLN (modified by ECORYS) This should, however, not lead to the overall conclusion that fuel costs are apparently more important than labour costs for EU road hauliers. From the next figure it can be seen that in Eastern countries with lower labour costs fuel costs have indeed a larger share in the overall costs of road freight transport compared to labour costs. In Western European countries with higher labour costs however the labour costs have a higher share in the total costs compared to the fuel costs. The UK is the only exception here with a higher share of fuel costs compared to labour costs. This is caused by the relatively high share of fuel duties which are the highest in Europe. 33

34 Figure 2.18 Labour and fuel costs in road freight transport 2004/2005 Fuel Labour 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% Belgium Bulgaria Czech Rep. France Germany Hungary Lithuania Poland Portugal % of total costs Romania Spain UK Source: The Burns Report (November 2005) and "Cost observatory of freight road transport" - since 2000 Spanish Ministry of Development. Finally the next figure shows the development in labour costs in in various EU countries. It shows that while the development in labour costs in the old member states (EU15) is rather modest, for most of these countries the growth rate of labour costs is around 20%, labour costs in some new member states (i.e. Czech Republic, Hungary and Slovakia) have increased much faster. Figure 2.19 Developments in labour costs across the EU index 1997= Austria Belgium Czech Rep. Denmark Finland France Germany Greece Hungary Ireland Italy Luxembourg Netherlands Norway Poland Portugal Slovakia Spain Sweden Switzerland UK Source: Institut der Deutschen Wirtschaft / Transport in Cijfers 2004, TLN (modified by ECORYS) 34

35 2.2.3 Road passenger transport Introduction In the perception of the relation between oil prices, fuel prices and transport costs for car users, it is important to distinguish between fixed costs and variable costs. Fixed costs are related to the decision to buy a car, variable costs are related to the decision to use a car; fuel costs are part of the variable costs, but are also affected by the choice of car. Fixed costs and variable costs together are the total costs of use of a car. This section will provide information on the role of fuel costs in both variable and total costs of cars. Market data for bus companies are scarce, as they are confidential. However, a tentative assessment has been made on basis of publicly available material. Taking into account the personnel costs for public transport (driver, conductor etc) capital costs, overheads and maintenance costs, it can be assessed that the share of fuel costs may be about 5 percent of the total operating costs of bus companies. Fixed and variable costs of car use The variable costs of a passenger car concern fuel and maintenance costs. Dutch research (AVV, 2004) on the development of car expenses shows that for an average passenger car (15,000 km/yr) the fuel costs are four times the level of maintenance costs: fuel costs amounted to 117 and maintenance costs to 30 per month. So fuel costs are by far the largest item in the variable costs of a passenger car. Whereas total variable costs were estimated at 147, the fixed costs (depreciation, interest, insurance, car taxes) amounted to 330 per month. So, fuel costs amounted to about 25 percent of the total passenger car costs ( 477) per month, but to 80% of variable costs per month. Taking similar assumptions and relations as discussed before in the road freight transport section, a 100% increase in price of crude oil may translate in a 40% increase in fuel prices at the pump. This would increase variable costs of passenger car use by 32%. This increase may be more important for the car user than the increase in total costs of car use, which would increase 10%. Breakdown of fuel cost structure Due increases in taxation, prices of diesel and petrol have gone up considerably between 1996 and Especially in the UK prices of petrol and diesel have increased considerably. 35

36 Figure 2.20 Development of fuel prices - automotive diesel and petrol Prices of automotive diesel in EU15 ( ) Prices of petrol in EU15 ( ) Source: Annual energy and transport review, December 2004, European Commission - DGTREN As discussed in the previous section on road freight transport, fuel related taxes determine to a large extent the fuel price at the pump. The next figure considers the fuel prices and fuel taxes for the EU25. The figures show that the size of taxes (excise duties, VAT and other taxes) on petrol is higher than on diesel (with the UK as only exception). Figure 2.21 Share of tax and duty in fuel prices (diesel and petrol) Pump Price of Diesel as at December 2005 Euro per litre Tax and duty Price excluding tax and duty 10 0 Austria Belgium Denmark Finland France Germany Greece Ireland Italy Luxembourg Netherlands Portugal Spain Sweden UK Cyprus Czech Republic Estonia Hungary Latvia Lithuania Malta Poland Slovakia Slovenia 36

37 Pump Price of Unleaded Petrol as at December 2005 Euro per litre Tax and duty Price excluding tax and duty 10 0 Austria Belgium Denmark Finland France Germany Greece Ireland Italy Luxembourg Netherlands Portugal Spain Sweden UK Cyprus Czech Republic Estonia Hungary Latvia Lithuania Malta Poland Slovakia Slovenia Source: European Commission, Oil Bulletin (modified by ECORYS) Relation between prices of crude oil and fuel prices Retail car fuel prices typically follow wholesale prices which, in turn, are driven by crude oil prices. There is substantial literature on the transmission of positive and negative changes in the price of oil to the retail price of petrol or diesel. The reason for the high attention could be the fact that car fuel price increases affect many consumers. The difficult part of the relationship is to identify when the change in retail car fuel prices takes place with regards to the change in crude oil price and also the degree to which the retail price changes with regards to the change in crude oil prices, i.e. ascertain if there is price asymmetry. The notion that motor fuel prices react quickly to oil price increases and slowly to oil price reductions is largely accepted among car owners and transport operators. The levels recently hit by oil and motor fuel prices and the present uncertainty in supply and reserve availability have contributed to reinvigorate the interest in the asymmetric transmission of changes in the price of oil to the price of motor fuel. In order to get a true overview of the existence of price asymmetry or not, a large selection of position papers and articles from economic experts have been studied. The problem of a different response to price increases and decreases is first considered in Bacon (1991), where attention is paid to the U.K. motor fuel market. Biweekly data are used for the period The author finds that increases in the product price are full transmitted within two months, in the case of price reductions an extra week is necessary; changes in the exchange rate necessitate two extra weeks relative to product prices before being incorporated in retail gas prices. Again the U.K. is the country studied by Manning (1991), who instead looks directly at the impact of changes in oil prices on retail prices. The data are monthly for The author found weak and non-persistent asymmetry in price changes, which are absorbed within four months. 37

38 Kirchgässner and Kübler (1992) look at Western Germany for the period using monthly data. The authors consider the response of both consumer and producer leaded gasoline prices to the spot price of the Rotterdam market; they do so for two subperiods, before and after January The methodology adopted is very rigorous. Briefly stated, the results show that, while long-run reactions are not significantly different for the 1970s and the 1980s, there is considerable asymmetry in the former period but not in the latter in the short-run adjustment processes. In particular, reductions in the Rotterdam prices are transferred faster to German markets than increases. Reilly and Witt (1998) come back to the U.K. market to revisit the evidence of Bacon (1991) and Manning (1991) with monthly data for and emphasising the role of the dollar pound exchange rate and the potential asymmetries associated with it, in addition to those of crude oil prices. The hypothesis of a symmetric response by petrol retailers to crude price rises and falls is rejected by the data, as are changes in the exchange rate. Akarca and Andrianacos (1998) investigate the dynamic relationship between crude oil and retail motor fuel prices during the last 21 years and show that, in February 1986, this relationship had drastically changed. Since then, the results suggest that motor fuel prices include higher profit margins, they are substantially less sensitive to changes in crude oil prices, and are more volatile. Brown and Yucel (2000) find that observed asymmetry between motor fuel and crude oil prices is unlikely to be the result of monopoly power. They also claim that policies to prevent an asymmetric relationship between motor fuel and crude oil prices are likely to reduce economic efficiency. Below are some interesting graphics from a study by Brown and Yucel. The first graph illustrates their findings that gasoline prices initially raise sharply after the crude oil price rises and then increase more gradually. In contrast, retail gasoline prices respond only gradually to a falling crude oil price (graph B). The net effect is an asymmetric response in gasoline prices (graph C). According to these graphs, retail gasoline prices respond more quickly when crude oil prices are rising than when they are falling. Figure 2.22 Changes in oil price versus changes in fuel price Graph A: Oil price rise versus fuel price rise 38

39 Graph B: Oil price drop versus fuel price drop Graph C: Net effect Source: Gasoline and Crude Oil Prices, Stephen P. A. Brown and Mine K. Yücel Asplund et al. (2000) investigate the Swedish retail market. The data are monthly and cover the period 1980 through There is some evidence that in the short-run prices are stickier downwards than upwards. Also, prices respond more rapidly to exchange rate movements than to the spot market prices. 39

40 Figure 2.23 Frequency distribution of price adjustments in the Swedish retail market Source: Asplund et al., Price adjustment by a gasoline retail chain Borenstein and Shepard (2002) propose a model with costly adjustment of production and costly inventories, which implies that wholesale motor fuel prices will respond with a lag to crude oil cost shocks. Unlike explanations that rely upon menu costs, imperfect information, or long-term buyer/seller relationships, this model predicts that futures prices for motor fuel will adjust incompletely to crude oil price shocks that occur close to the expiration date of the futures contract. Examining wholesale price responses in 188 motor fuel markets, they also find that firms with market power adjust prices more slowly than do competitive firms, which is consistent with the model. Bettendorf et al. (2003) analyse the retail price adjustments in the Dutch motor fuel market. They use weekly price changes for the years They construct five datasets, one for each working day. The conclusions on asymmetric pricing are shown to differ over these datasets, suggesting that the choice of the day for which the prices are observed matters more than commonly believed. In their view, the insufficient robustness of the outcomes might explain the mixed conclusions found in the literature. They also show that the effect of asymmetry on the Dutch consumer costs is negligible. 40

41 Figure 2.24 Rotterdam Spot price for premium unleaded gasoline versus Dutch retail prices Source: Bettendorf et al. (2003) Galeotti et al. (2003) re-examine the issue of asymmetries in the transmission of shocks to crude oil prices onto the retail price of motor fuel in European gasoline markets. In contrast to several previous findings, the results generally point to widespread differences in both adjustment speeds and short-run responses when input prices rise or fall. Finally, Kaufmann and Laskowski (2005) analyse monthly data for the period January 1986 December Their results suggest that, when utilisation rates and the level of stocks are included in the model, the asymmetry between the price of crude oil and motor fuel vanishes. In conclusion it can be said that findings vary across countries, time periods, frequency of the data, markets and models, but in general they fail to provide strong evidence that fuel prices raise faster than they fall. Other EU countries As fuel costs are the main part of variable costs, the other being variable maintenance costs, it is clear that in other EU countries the share of fuel costs in variable costs will not be very different from the level found in the Netherlands. Differences will be caused by the type of fuel used, the level of taxes and road use charges, and the level of maintenance costs, which partly depends on labour costs. However, such differences are not likely to affect the conclusion that fuel costs are the main part of variable costs of passenger cars. The impact of fuel on total costs of car ownership and car use may be differ more, as the Netherlands has relatively high purchase taxes on cars. Table 2.1 shows the current sales or registration taxes in the Member States of the EU-15 and Norway. Five Member States do not enforce any tax on car sales other than value added tax (VAT). Member States that tax the acquisition of cars have very different systems of taxation. Several of them have differentiated their taxes for differences in fuel consumption or factors that indirectly affect fuel consumption (such as cylinder capacity, power rating and vehicle weight). Some of them use progressive rates. 41

42 Table 2.1 Taxes on acquisition of passenger cars (sales or registration tax) in EU15 and Norway Source: Reducing CO2 emissions from new cars, Per Kågeson, T&E, Stockholm, As a result of different taxes on the acquisition of passenger cars, the prices of new cars are relatively high in Denmark and Greece and, to a lesser extent, in The Netherlands, Ireland, Finland and Portugal. Together they account for approximately 7 per cent of the car market of the EU-15. Of the four large Member States, representing 73 per cent of the market, France, Germany and the United Kingdom do not tax registrations at all, and Italy has an insignificant tax rate of 2 per cent 3. Thus, there may be more variation between countries as to the decision to purchase a car and, if so, to what kind of car (fuel efficiency, type of fuel). This will be elaborated upon in chapter Inland waterways Introduction Inland waterway transport is used substantially in only a few EU countries in Europe (i.e. Austria, Belgium, France, Germany, Hungary, The Netherlands). The navigation conditions on the Rhine, Danube and others are to some extent regulated by international treaties, which have an impact on the way in which fuel costs translate into transport costs. Relation between price of crude oil and gas oil The price of gas oil, the main fuel source for inland waterway transport, has shown a pattern of movement similar to that of oil prices (North Sea Brent) (see figure 2.24). The development in crude oil price since 1999 reflects in the price of gas oil, which almost tripled since 1999 (see figure 2.21). The relation between crude oil and gas oil is thus substantially stronger and direct than for road transport. 3 Source: Reducing CO 2 emissions from new cars, Per Kågeson, T&E, Stockholm,

43 Figure 2.25 World market prices (in US$/ barrel) Gas oil and Brent crude oil over the period Gas oil and Brent crude oil (World market prices US$/barrel) Gas oil (US$/ Barrel) Crude oil Brent (US$/ Barrel) US$/ Barrel Source: CBS The Netherlands Figure 2.26 Development of gas oil prices ( / 100 L) / 100 l Gas oil jan- 99 jan- 00 jan- 01 jan- 02 jan- 03 jan- 04 jan- 05 jan- 06 Source: CCNR The branch organisation for Rhine and inland navigation in the Netherlands (CBRB) offers its members a gas oil circular which presents a weighted average gas oil advice prices from the oil companies, that the individual members can use in their negotiations about transport agreements and gas oil clauses. In 2005 CBRB has compared this weighted average advice price with the gas oil index on the International Petrol Exchange (IPE) in London for the period It was concluded that the advice price closely follows the development of the IPE gas oil price. The weighted average advice prices is 10/100 litre above the IPE price, because the IPE price is the trade price and the mix advice price is the price of the delivery of gas oil to the end users. 43

44 Figure 2.27 Mix of advice prices compared with IPE gas oil price Advice prices IPE Gas oil price Source, CBRB (branch organisation for Rhine and inland navigation in the Netherlands) Fuel related taxes The Rhine countries and Belgium do not charge taxes on gas oil used on board of the vessels on the Rhine, as agreed in the Gas Oil Agreement that is part of the Convention of Mannheim concerning the navigation on the Rhine. This exemption from charges is not only used on the Rhine, but also on all inland waterways in Belgium, Germany and The Netherlands. Because inland navigation pays limited fuel taxes, the price of crude oil is an important part of the gas oil price at the fuel storage stations. Variation in the price of crude oil thus has a strong direct effect on the final gas oil price (elasticity ). As the gas oil is priced in US Dollars, changes in the exchange rate ($ / ) may affect the outcome for EU transport operators. Breakdown of transport costs The costs for an inland vessel consist can be broken down in fixed and variable costs. Fixed costs (costs that occur irrespective of the vessel operation) comprise the following components: Labour Insurance Depreciation and interests Maintenance and repair Other operational costs. Variable cost consists of cost for fuel consumption and cost during operation (infrastructure cost and lock fees) and port expenses (port dues). 44

45 The cost structure for inland navigation is influenced by various factors, such as the type and size of the vessel, the type of cargo and the area of operations. It is therefore difficult to present a general cost structure for inland navigation. Using the typical examples of costs for dry and liquid cargo vessel transport given in Market observatory for inland navigation in Europe 2005 (CCNR and DG TREN), an indication can be given of the development in the breakdown of transport costs. Table 2.2 gives some examples of the cost structure are given for small and large vessels for dry and liquid cargo 4. Table 2.2 Cost structure inland vessels dry and liquid cargo for most important inland waterway areas (Rhine, North-South corridor, Danube) a) 2001 Dry cargo ton Dry cargo > 2500 ton Liquid cargo ton Liquid cargo > 2500 ton Market share vessels 45% 12% 32% 21% Av. Value vessel Fixed Cost 74,5% 78,2% 89,7% 88% Labour 35% 27,5% 57,3% 43% Insurance 4% 6,5% 4% 7,3% Depreciation 13,5% 16,5% 10% 12% Interest 10% 17,5% 7,4% 14,2% Maintenance & repair 5,5% 4,5% 4% 4,5% Remaining cost 6,5% 5,7% 7% 7% Variable Cost 25,5% 21,8% 10,3% 12% Fuel 23,6% 18,6% 8,7% 10,3% Other variable cost 1,9% 3,2% 1,6% 1,7% Total cost 100% 100% 100% 100% a) The Market observatory covers the following countries: Belgium, France, Germany, Luxemburg, The Netherlands, Austria and Switzerland. Source: Market observatory inland navigation 2005, CCNR en DG TREN In general the share of labour cost decrease as the vessel dimensions increase. However, vessels with a volume capacity of more than 1500 tonnage require a minimum of 4 crew members instead of 2 crew members, meaning that labour costs for 1500 tonnage vessel can be higher in relative terms than for a >2500 ton vessels. For the vessels with liquid cargo the requirements for crew are higher (for safety reasons) so the labour costs are relatively high as well. The share of cost of depreciation increases as the vessel dimensions increase. This is due to the age of existing fleet, as smaller vessels are relatively old, and depreciation costs subsequently relatively low. Furthermore, the fleet of large vessels is being represented by a considerable number of newly build vessels, which have more depreciation costs. 4 Based on the NEA survey for the Market Observatory for CCNR en EU 45

46 Also the share of insurance and interest cost increases as the vessel dimensions increase because of the relative difference in age of the small and large vessels. The share of cost for maintenance and repair is about 4-5% for both small and old vessels (more often) and large and new vessels (more expensive). The remaining cost (fixed cost for infrastructure and ports) are about 7% for all types of vessels. The share of variable cost consists of fuel cost and vary for the different type of vessels, because the cost depends of the engine power of the vessel, operating area (Rhine or small inland waterways) and capacity utilisation of the vessel (load factor). In the above typical examples fuel costs are about 10-25% of the total annual operating costs of vessels. Developments in main components of transport costs There have been a few developments in the cost structure of inland barges in the period A main development in the cost structure of inland waterway transport is the decreasing share of interest costs for all types of vessels. From 2001 onwards the banking companies lowered the interest rate and so the finance cost for vessel also decreased. The costs of fuel have been fluctuating in the early years of the period , to rise steeply in later years. After 2002 fuel costs have almost doubled, because of the strong rise in the world market price of crude oil. As a result the share of fuel costs for all types of vessels rose dramatically, to the levels shown above. For many vessels the share of fuel costs increased to up to 25% Rail freight transport Transport of freight by rail is carried out by trains powered by diesel or electric engines. In large countries with a high degree of electrified track (France, Germany), electric motive power is dominant, whereas in smaller countries that have a high degree of crossborder traffic, the diesel engine is well-represented. This is caused by the differences in electric systems used in Europe. Rail transport is potentially the least energy intensive mode of transport in general, but this depends also on the volume transported per train and the traction used. There are no pan-european data on the share of diesel in the overall rail freight transport. A study carried out by AEAT 5 gives an overall figure of 10 % of all rail transport (passengers and freight) being fuelled by diesel. However, this figure does not include the new private rail freight operators, which have a relative ly high share of diesel locomotives, whereas the majority of the rail transport performance is carried out by electric passenger trains in large densely populated areas. Correcting for this it can be roughly estimated that 20 % of all traction in rail freight transport is fuelled by diesel and 80 % by electricity. The rail freight market in Europe has changed dramatically in the past decade. Rail freight transport used to be carried out by national railway companies, as part of their overall rail transport services. In the second half of the 1990s liberalisation started and 5 AEAT, Rail diesel study (WP 1),

47 new, specialised rail freight transport companies started to operate. Some of these companies were still closely related to the national railway companies (i.e. Railion in Germany and the Netherlands, SNCF Fret in France etc.), whereas other entirely new operators (ERS, Rail4Chem, TX etc.) became (niche) players in this market. When rail freight was still an integral part of rail transport service (i.e. before liberalisation), the costs for this mode were only known by approximation, as each company had its own production models, calculation methods and cross-subsidising practices. The variety of dedicated rail services for specific clients (a/o chemical industry, steel industry), often with special transport equipment, adds to the difficulty to provide insight in the cost structure of rail freight transport. The new commercial rail freight operators are very reluctant as well with respect to providing insight in their operating costs. However, some information on the cost structure of rail transport can be derived from existing sources, albeit on a more aggregated level. The cost calculation models developed by NEA and Transcare 6 can be used to provide insight in the cost structure of specific rail freight transports. The next table presents an overview of the cost breakdown for a number of international trips (container and bulk transport, 300 and 800 km trip length). Table 2.3 Overview of cost breakdown in rail freight transport using the VKM model calculations Type International transport of International transport of dry bulk containers Volume 60 TEU Tonne Category Diesel Electricity Diesel Electricity Distance (km) Fixed costs per trip ( ) 2,197 4,293 1,953 3,642 5,693 8,680 5,495 8,154 Other variable costs / trip ( ) 1,326 3,536 1,218 3,248 1,530 4,080 1,455 3,880 Energy costs per trip ( ) 1,080 2, ,536 1,314 3, ,496 Total costs per trip ( ) 4,603 10,709 3,747 8,426 8,537 16,264 7,886 14,530 Percentage Energy/Total 23.5% 26.9% 15.4% 18.2% 15.4% 21.5% 11.9% 17.2% Energy costs per tonne-km Total costs per tonne-km Source: NEA, Transcare, Vergelijkingskader Modaliteiten (2004) and Factorkosten van het goederenvervoer (Factor costs of freight transport), 2004 These calculations show that the share of energy costs in rail freight transport is between 12 % and 27 % of the total operating costs of a train, depending on the distance and type of traction. The higher shares are found for diesel traction, while costs of electric traction are substantially lower. It should be kept in mind that for individual shipments or operators the figures may be different, as for instance the fixed costs can vary between the different rail operators (for instance Railion cannot be compared to a small private operator in a niche market), 6 Vergelijkingskader Modaliteiten (2004) and Factorkosten van het goederenvervoer (Factor costs of freight transport),

48 whereas the charges for the use of infrastructure will also show a great variation (and are likely to increase in the near future). The private railway operator ERS has provided some indications regarding energy costs in the framework of another project. An average loaded container train uses 5 litres of diesel per kilometre. The total costs for a container train is around Euro per kilometre including access charges and profit margin. Using a diesel price of 0.80 Euro per litre and a profit margin of 6%, the average share of fuel costs would be around 28-34% of the total cost excluding profit margin, which is in line with the figures from the VKM model. Nevertheless, the above figures provide some insight in the share of energy costs, albeit that the information that is derived from these sources is of a static nature. Due to the enormous changes in the rail freight market, no reliable information can be found on long-term cost developments. The transparency of this market is still very low, whereas the separation of rail and passenger services in the last decade has changed the cost structure completely. The next table provides some figures for the cost development of one European operator (NS Cargo) between 1996 and 2002: Table 2.4 Development of rail cost components NS Cargo (index, 2002 = 100) Component Fixed costs Variable costs Staff costs Specific transport costs Other costs Total costs Source: NEA, Transcare, Vergelijkingskader Modaliteiten (2004) and Factorkosten van het goederenvervoer (Factor costs of freight transport), 2004 The table shows that whereas variable costs, staff costs and other costs have increased since 1996, specific transport costs (traction costs) and fixed costs reduced. Also total operating costs of the company came down Rail passenger transport By its nature (steel wheels on steel track, causing little resistance), the energy efficiency of a train is very high. On average, the transport of a passenger by train is 4 times less energy consuming then the transport by private car, taking into account the actual occupancy rates. Passenger rail transport is largely carried out by electric traction in Europe. Statistics from the UIC (Union International des Chemins de fers) indicate that approximately 90 % of all rail transport (by the UIC members) is carried out by electric trains. The price development of electricity has been presented in figure 2.4. This figure shows that the price of electricity follows the crude oil price only to a small extent. Electricity prices for large industria l consumers have increased from 2000 tot 2005 with approximately 15 %, whereas oil prices more than doubled. 48

49 The share of energy costs in the total rail transport costs varies because of differences in the cost structures of the railway companies (they are very hard to determine, see also the previous paragraph on rail freight transport) and the price that railway companies have negotiated with the electricity suppliers. An estimation, based on some scarce figures supplied by Thalys 7 and the Nederlandse Spoorwegen (NS), indicate that between 4 to 8% of the total operational costs in passenger transport are energy costs. For the Swedish SJ energy costs had a share of 4-5% in total passenger transport operating costs 8, whereas the Polish case described in the box below shows a figure of app. 6 %. Example case: passenger (electricity) and freight (diesel) Poland In Poland rail access charges do not include costs of electric traction. The energy expenses of the operators are being settled with PKP Energy Ltd. The computed average rail access charge 2003, excl electricity are for freight 5.8 Euro/trainkm and for passenger 2.21 Euro/trainkm (source: ECMT 2005). In general access charges are estimated to account for 40% of total cost for rail services (source: DERC, DG TREN). This is applied for Poland as well, although this is a very rough estimation based on EU25. The total costs for freight are 14.5 Euro/trainkm and for passenger 5.53 Euro/trainkm. The above information is combined with information on profit and loss accounts from a previous draft business plan (split into business plans for passenger, freight and infrastructure) for the infrastructure manager in Poland. It should be noted that ECORYS modified the information, it is unclear whether the draft business plan is indeed reflecting the present situation. The estimated electricity cost for passengers is 0.5 Euro/trainkm, for freight the fuel cost amount to 0.8 Euro/trainkm. This represents only 7% of total train service cost for passengers and 6% for freight. The impact of an increase of 15 % of the electricity prices will therefore lead to an increase of the production costs with less then 1 % for both the NS and SJ. The conclusion that energy costs only have a relative small effect is confirmed by the risk analysis that SJ has performed (see the next figure). 7 Note from DGTREN: FJ D (2005) Source: Swedish Railroad (SJ) Annual report 2003 and 2004, available at 49

50 Figure 2.28 Risks pertaining to SJ s operations in passenger transport Source: Swedish Railroad (SJ) Annual report 2004, p. 37 It is concluded that the three most important risks for SJ are market factors (purchasing power, competition with planes and cars), rolling stock risk (the possibility that SJ rolling stock falls short of passenger expectations or needs) and political risks (deregulation under conditions that benefit competitors, changes in value-added tax on travel, political decisions that alter the competitive status of car travel and changes in rail service rights). A sensitivity analysis, see next figure, depicts the negative effect on SJ's earnings of different factors. In order to minimize the risk of a heavily negative effect on earnings of higher electricity prices, SJ utilizes fixed-term electricity contracts of one to three years. This defers the impact of any price changes. Figure 2.29 Sensitivity analysis on Swedish Railroad (SJ) earnings from passenger transport Source: SJ Annual report 2004, p

51 2.2.7 Short sea transport Relation between price of crude oil and marine fuels The prices of marine fuels (diesel, gasoline and heavy fuel oil) are strongly related to the price developments of crude oil. From 2001 till now, the bunker prices of diesel and gas oil (MDO) and heavy fuel oil (HFO) have more than doubled. The price of gas oil has increased from 205 US dollar per ton to 460 US dollar per ton in the last four years ( ). Price developments of heavy oil are similar though slightly less dramatic. Heavy oil has increased from 110 USD per ton to 235 USD per ton in In the case of short sea transport the elasticity of fuel costs to crude oil prices is therefore around 1. Taxation Since marine fuels are not taxed by the national governments, price raises of crude oil will have immediately effect on the level of marine bunker prices. There is no factor (i.e. high taxes) which levels off the effects of crude oil price increases on fuel prices, like is the case for road fuels. The next figure presents the development of crude oil and marine oils between 1995 and 2005, clearly showing the dramatic increase of the price of gas oil in the last hike period (2004/2005). Figure 2.30 Price development crude oil and marine fuels ( ), international data from Platts Price development crude oil and marine fuels (USD per ton) Heavy oil Gasoil Crude oil Source: Platts 51

52 Share of fuel costs in total transport costs The share of bunker costs in the daily running costs of a ship is substantial. Calculations carried out in the REALISE project in 2002 indicate that for a representative corridor the share of fuel costs is between 15 and 20 % of total transport costs. In another study 9 the share of energy costs in the total transport costs of short sea movements have been estimated around 30%. Investment and insurance costs represent 27% of total transport costs. The share of labour costs is relatively small representing around 15% of total transport costs. This is presented in the next figure. The data are considered as representative for short sea shipping in Europe. Figure 2.31 Breakdown of total transport costs of short sea (2002, based on data of a selection of West-European countries) 5% 12% 16% 27% 11% 4% 13% 15% 27% 11% - overhead & other costs - port costs - labour costs - investments & insurance - materials & repair - energy 29% 30% container/bulk tanker traffic Source: NEA, Factorkosten van het goederenvervoer (2004) / Drewry Shipping Consultant (modified by ECORYS) The recent hike in crude oil prices will have pushed up the share of fuel costs to higher levels. Since most of the time ships that are involved in short sea shipping are operating in time charter, price raises of bunker costs will affect the revenues of the operator immediately. Time charter contracts cannot be changed for adjustment of higher fuel costs, so the operator can t pass on the higher bunker prices to the transport company. For small ships, for instance less than 3,000 deadweight (DWT) above-mentioned effects could be more disastrous than for bigger ships, because of the higher share of the bunker costs: for some vessels the bunker costs will be half of the net profit. When marine fuel prices double, the total net profit can shrink. Development in main cost components of transport costs Compared to the cost level of 1996 most cost components in short sea shipping have declined until From 2000 onwards the different cost components are developing towards the 1996 level again. Overhead and other costs however have risen since 1996 in 9 Factorkosten van het goederenvervoer: een analyse van de ontwikkeling in de tijd, NEA, April

53 both container and non-container transport by short sea. Labour costs in non-container transport have shown an increase as well. Figure 2.32 Development in main transport cost components of short sea shipping ( ) Container shipping total costs overhead & other costs port costs labour costs, investments & insurance variable costs index 1996=100 Non-container shipping total costs overhead & other costs port costs labour costs investments & insurance variable costs index 1996=100 Source: NEA, Factorkosten van het goederenvervoer (2004) Variable costs, of which 75% are energy costs, have also declined in between 1996 and Costs for materials and repair, which represents the other 25% of the variable costs are declining due to a shift of maintenance services towards Eastern Europe and Asia. 53

54 The overall decline of variable costs however is slowing down due to higher fuel prices 10. Although not presented here, the various cost categories have risen again after Aviation Relation between price of crude oil and kerosene Over the years the development in the price of jet fuel has shown a similar trend as the crude oil price. In times of high oil prices jet fuel prices also rise and sometimes even faster than the price of crude oil. This relation is shown in the next figure. Figure 2.33 Developments in jet fuel prices and crude oil prices, US$ ct per gallon jul-75 jul-76 jul-77 Source: U.S. Energy Information Administration Jet kerosine and crude oil prices at the world market jul-78 jul-79 jul-80 jul-81 jul-82 jul-83 jul-84 jul-85 jul-86 jul-87 jul-88 jul-89 jul-90 Jet kerosine jul-91 jul-92 jul-93 jul-94 jul-95 crude oil jul-96 jul-97 jul-98 jul-99 jul-00 jul-01 jul-02 jul-03 jul-04 jul-05 As a result, the share of fuel costs, which represents a main component of the total airline expenses, fluctuates significantly. This is presented in the next figure. During the first and second oil crises the fuel costs amounted to 20% or 30% of total airline expenses. After the decrease in oil prices the share of fuel costs in total costs decreased to 10-15%. Fuel costs represented 14% of total airline expenses in 2003 for worldwide airlines and reached 18% of total expenses in For a fleet with a large new-generation fuel efficient aircraft type, fuel costs can represent as little as 10% of their total operation cost, compared with as much as 30% for the least efficient fleet (with old-generation fuel inefficient aircraft types). 10 Source: Factorkosten van het goederenvervoer: een analyse van de ontwikkeling in de tijd, NEA. April

55 Figure 2.34 Fuel costs as a percentage of total airline expenses Source: Airbus: Global Market Forecast , Airbus S.A.S, December 2004 The share of fuel costs in total costs also differs between large traditional airliners and a low costs carrier (LCC). Below a comparison of cost structures is given for Iberia (large traditional company), Spanair (tourist airline, affiliated to SAS which has been increasing its offer to non-tourist destinations) and Ryanair (one of the principal LCCs): Figure 2.35 Cost structure of Iberia, Spanair and Ryanair, 2003 and 2004 COSTS IBERIA SPANAIR RYANAIR fuel (*) 13,50% 16,83% 12,77% 15,95% 21,69% 26,42% Cabin crew 8,69% 8,35% 9,27% 8,93% 8,32% 7,82% General and administration 22,74% 21,86% 6,03% 5,81% 14,73% 13,84% Hanger rentals 9,28% 8,93% 20,96% 20,19% 0,00% 0,00% Maintenance 6,30% 6,06% 6,13% 5,91% 5,05% 4,74% Amortisation 4,18% 4,02% 3,94% 3,80% 12,55% 11,79% Airport taxes 3,23% 3,10% 9,97% 9,61% 18,55% 17,43% Flight taxes 3,01% 2,89% 5,44% 5,24% 13,51% 12,69% Parking costs 8,25% 7,94% 0,00% 0,00% 0,00% 0,00% Passenger services 9,37% 9,01% 6,97% 6,71% 2,73% 2,56% Promotion and sales 10,69% 10,28% 6,29% 6,06% 2,05% 1,92% others 0,77% 0,74% 12,24% 11,80% 0,82% 0,77% Operational results / income 3% -9% 30% (*) For year 2004 figures estimated under two conditions: increase of 32,7% in Brent oil price and no changes in other costs structure. Source: ICAO Data Website for year

56 The above figures show that an increase in fuel costs has bigger impacts on the total costs for Low Cost Carriers compared to the traditional companies. Thus Low Cost Carriers are more vulnerable in times of great fuel price increases compared to traditional companies. Kerosene taxation There is no taxation on kerosene. Therefore, fluctuations in the price of crude oil are not being levelled off by taxes. The general progression in introducing a kerosene tax for aviation is slow (see box below). According to Directive 2003/96/EC, the Council, in principle, allows kerosene taxation on national and intra-community flights. But this has to be agreed on through bilateral Air Service Agreements between member states or through a unanimous decision by the Economic and Financial Affairs (ECOFIN) Council. Both processes are cumbersome, as are the attempts to allow kerosene taxation on flights between EU and non-eu countries. Kerosene taxation on flights between member states and third countries is also generally prohibited by Air Service Agreements between member states and third countries. It is important in this respect to note that in 2002 the European Court ruled that the Community acquires an external competence by reason of the exercise of its internal competence (CEC, 2002). As a result, Member States are no longer allowed to make new or maintain existing bilateral open skies agreements. The Council has given the Commission the mandate for negotiating new agreements, a process that is currently ongoing. In principle, this re-negotiation process opens a window of opportunity to ensure that the clauses prohibiting kerosene taxation are removed from the Air Service Agreements. Background to the excise duty on kerosene (kerosene tax) In 1992, the Council adopted a directive for the harmonisation of the excise duty on energy (92/81/EEC). Article 8 1(b) of this directive provides a compulsory exemption from this minimum excise tax for aviation. The directive also requires a review of this mandatory exemption, which the Commission carried out in 1996 (CEC, 1996). The Commission concluded that the exemption should be lifted as soon as it became possible to levy such a tax on all carriers, including non-eu carriers. The Commission s proposal for the replacement of Directive 92/81/EEC reflected that opinion. There was, however, much discussion in various Council working groups about this proposal, resulting in yet another request by the Council to the Commission to provide further information. This resulted in a recommendation to the Council to adopt a proposal permitting member states to levy tax on aviation fuels used on national flights, or by bilateral agreement, intra-community movements (CEC, 2000). It also recommended intensified work with the ICAO on the subject of kerosene taxation. Through Directive 2003/96/EC, the Council finally allowed kerosene taxation on national and intra- Community flights. Source: Aviation in the EU Emissions Trading Scheme - A first step towards reducing the impact of aviation on climate change; W Tuinstra, W de Ridder, LG Wesselink, A Hoen, JC Bollen, JAM Borsboom; Netherlands Environmental Assessment Agency, There exists fierce opposition toward kerosene taxation within the aviation sector. The concept of emission trading is also envisaged as an instrument for the reduction of energy consumption and emission of greenhouse gasses. The latest developments in this field are presented in the next text box. 56

57 Emission trading in the aviation sector A key element of EU policy in promoting the stabilisation of GreenHouse Gas emissions is the EU Emissions Trading Scheme (EU ETS), which was established by EU Directive (2003/87/EC). The EU- ETS currently applies only to energy -intensive industries (cement, iron & steel, electricity generation, etc.). National governments set a cap on CO2 emissions for each individual plant. The plants are then allowed to trade their surplus allowances on a special EU-wide 'carbon market' (one allowance = 1 tonne of CO 2). Companies exceeding their limit can buy pollution credits from those that have curbed their emissions below their cap. Companies that exceed their quota would be fined for every tonne of carbon emitted above their quota. On 27 September 2005, the European Commission proposed including aviation in the EU-ETS. Under the proposal, a cap on CO 2 would be set for all flights departing from the EU, including international flights, so that European airlines are not put at a disadvantage as against foreign competitors 11. The inclusion of aviation in the ETS is welcomed by the aviation industry as an alternative for fuel taxation or emission charges. However, the Commission's plan to bring air transport into the ETS has met considerable criticism as well. Both IATA and ICAO have stated that to establish an effective and equitable emission trading system many barriers must be overcome including the uncertain cost implications, impacts on relative economic competitiveness, wealth transfers and the lack of a level playing field. This position was shared by US Federal Aviation Administration (FAA). The International Air Carrier Association (IACA) has warned the Commission for the financial impact of including aviation in the EU-ETS 12. Finally, Energy Intensive Industries have stated their concerns about the possible consequences of the inclusion of aviation in the ETS. They fear this would impair their competitiveness as the aviation sector would be a net purchaser of allowances (no reduction possibilities) with high abatement costs and a full capability to pass on costs to customers. 13 A decision is still to be made on the actual cap on emissions and a formal legislative proposal is tabled in mid Amongst others it has to be decided how to impose a cap on those foreign carriers, integrate international transatlantic flights in the EU scheme. So far, the US and other foreign carriers are not subject to emissions reductions because their countries have not signed the Kyoto Protocol. Latest & next steps 14 : First half 2006: expert group to submit report on technical aspects of integrating aviation in EU-ETS Mid-2006: review of EU-ETS kicks off. Member states send their proposed NAPs for second phase ( ) End 2006: Commission to table a formal legislative proposal to integrate aviation in EU-ETS. It would have to be adopted by the European Parliament and member states at the EU Council of Ministers, a process which usually takes two to three years. 2008: second phase of EU-ETS starts. If adopted in time, the proposal to include aviation in EU-ETS could take effect then. If not, the Commission says it could still bring it in at a later stage, maybe as early as : second phase of EU-ETS ends A study by CE Delft estimates that the entering into the ETS should not add more than 9 to the price of a return ticket. Source: CE Delft, Final report Inclusion of aviation under the European Emission Trading System (ETS): design and impacts, 29 July International Air Carrier Association (IACA), public statement, 1 December Alliance of Energy -intensive Industries, The Impact of EU Emission Trading Scheme (ETS) on Power Prices, November EurActiv, Climate change and Aviation, 22 May 2005, Updated 22 March

58 2.3 The relation between transport costs and transport prices Introduction Having described the relation between the price of crude oil and transport costs for each mode of transport, the present section will review how the increased transport operating costs are being translated in transport prices. This mechanism may be influenced by the competitiveness of the market, by market conditions, by government regulation and by market power of the specific operator vis-à-vis his client. For instance, strong competition in a market may prevent transport operators to fully charge the increased costs to the customer immediately. Or, in periods of oversupply of transport capacity, it will be more difficult to increase prices in response to higher transport costs, while in periods of excessive demand this may be relatively easy Road freight transport This section goes into the relation between the transport costs borne by the commercial road haulier and the prices paid by the client for the services provided by the haulier. Crucial here is to what extent commercial hauliers are able to pass on increases in transport costs to their clients (shippers). Road transport on own account is not included, because in own account transport the (transport) companies are able to pass on any increase in transport costs in the price of the transport and/or the price of the goods. The share of own account transport in total international transport (in ton-kilometres) is some 7.8% (source: Eurostat, New Cronos database). Development of transport costs and transport prices Transport costs have risen substantially in the past years. Main elements in this have been the steady increases in fuel prices and labour costs, but also other costs elements (road tolls etc.) have increased. The figure below shows that the recent increase in costs has not been fully reflected in the freight rates of Dutch road haulage companies. In domestic transport the increase in transport costs in the period is just below 50%, whereas prices have increased by around 25% in the same period. In international transport the developments of transport costs and prices diverge even more. As Dutch transporters are operating internationally, it is to be expected that operators from other countries operating in the international market have experienced a similar erosion of their margins. 58

59 Figure 2.36 Development of costs and prices in road freight transport by Dutch hauliers Transport costs (nominal) Transport costs (real) Transport prices (nominal) Transport prices (real) Domestic transport International transport Source: Transport in Cijfers, TLN The same holds for French road hauliers who have faced an increase of transport costs of 17% in the period , and an increase of only 5% in their transport price over the same period (see next figure). Figure 2.37 Development of costs and prices in road freight transport by French hauliers (July 2001 = 100) Costs and Prices in France est. 95 janv-00 janv-01 janv-02 janv-03 janv-04 janv-05 janv-06 Costs Prices SES/CNR Source: French national Road Comity (CNR) There might be a relation of course between the increase of fuel costs and the divergence between transport costs and prices. In the period , during which fuel costs have risen enormously 15, the level of transport costs and prices has risen as well, although the increase in transport costs is more steeply than in prices. It appears that transport companies are not able to pass on the total increase in fuel costs (and the increase in other 15 Between and the price of a litre of diesel rose with around 10%. 59

60 cost components). Some proof for this is given in the Freight taxes inquiry by Burns 16, where respondents to the inquiry state that the costs of fuel have not been fully recovered by rate reviews or fuel cost recovery mechanisms with customers. This subject has also been touched upon recently in another study carried out by ECORYS, on minimum road clauses 17. These so-called revision clauses relate to sudden and large cost increases. In practice this only holds for increases in fuel prices, as the development of other cost items is generally more levelled. The majority of contracts between road transport companies and their clients have a fixed character and are the result of a tender procedure. In approximately 20 % of the contracts there are provisions included to deal with strong increases in the costs of transport during the contract period. The majority of road freight contracts, therefore, do not contain such a price revision clause. Road transport organisations (a/o in The Netherlands) and governments (Denmark and France) provide the advice to hauliers to include a minimum clause, but on a voluntary basis. The duration of most contracts (around 80 %) is 1 year or less (including single contracts, for one trip), hardly any contracts cover a time span longer then 2 years. Besides single contracts, the one year-contract is the most common. It further appears that a large amount of transport is carried out without any written contract. Information from the Netherlands hauliers organisation TLN indicates that this realties to up to 40 % of all transport. These oral contracts mostly refer to single trips. Development of profitability Obviously these diverging trends between transport costs and prices must have had an impact on the profitability of the sector. Unfortunately on this point limited information is available in international terms, but low profitability is recognised in the sector as a widespread problem 18. For the Dutch and French transport sector some information on profitability is available. Profitability here is defined as the net-surplus as a percentage of the companies revenues. The next figure shows that, after having reached very high levels in 1986, the profitability of both domestic and international road freight transport has decreased continuously, to below zero for Dutch hauliers. In international transport profitability was already negative from 1999 onwards, in domestic transport from 2003 onwards. Again, as international transport is a competitive market, the trend may be similar for international operators from other countries. 16 The Burns Report Freight taxes, November Impact Assessment of the Modification of Council Regulation No 4058/89 - Assessment of the regulation on the fixing of rates for road transport between Member States, ECORYS/Trademco, August The IRU sees the low financial performance of the international road freight sector as the most important problem of the sector. 60

61 Figure 2.38 Profitability in domestic and international road transport in the Netherlands domestic international percentage (%) Source: Transport in Cijfers, TLN (Modified by ECORYS) A French report from concludes that profitability levels in road freight transport in France will be no higher than 1-2% and that as soon as additional increases in fuel prices arise, losses will occur. The next figure presents the development of the profitability rate in the period for French road haulage companies. The period has been very successful with profit margins of 2.9%, with a sharp decline since. In 2001 margins arrived again above 2%, but are expected to arrive at around 1% in this year. Figure 2.39 Profitability in the French road transport sector Profitability rates 3% 2,9% 2,5% 2,0% 2% 1,7% 1% 1,1% 1,0% 0% 1986 SES-EAE (e) Source: French national Road Comity (CNR) This trend is confirmed in a report by the Spanish Ministry of Public Works 20 : it is stated that in 2005 the profitability in truck fleet exploitation has worsened, especially with the 19 Trimestral report from CNR (Comité National Routier), France, "Spanish Ministry of Public Works Press Release, Spain, January 2005" 61

62 increase in the fuel prices, while freight prices have remained stable since 2000 or even dropped in many traffic relations. The next graph also clearly shows how margins for UK hauliers have been reducing in the last 5 years. Another study 21 reports that 19% of haulage companies in the UK are in loss, with 10% in loss for a second year. Figure 2.40 Change in net margins of UK hauliers Source: Freight Taxes, The Burns report (November 2005) Apart from the increase in costs, other factors can have an influence on low profitability, for instance lagging demand from customers due to low (and negative) economic growth, and an increased competition which has become a major factor recently since transport companies from the new Member States have access to intra-community transport as well. With lower wages than in the old Member States, there is a downturn pressure on transport prices. Also the high number of own-drivers who work for freight rates that are very close to the cost price, has a negative impact on the profitability of the transport sector. These same conclusions are drawn in France and Spain in order to explain the low profitability in road freight transport Inland waterways Development of transport costs and transport prices The inland waterway transport sector operates in a highly competitive market, with some overcapacity in market segments. This puts downward pressure on the transport prices, even in periods of rising transport costs. The transport cost of the ship owners and the freight tariffs they are charging to the users of their services differ by market sector (i.e. transport of container, liquid bulk, dry bulk) and geographical area (i.e. Rhine, Danube, French Canals) and also depend on the available water depth. The Market observatory inland navigation 2005 shows some developments in costs and tariffs for the dry cargo market and liquid cargo market on the waterway Rhine. Whereas transport operating costs (blue line in the figure) have risen steadily since 1998, freight tariffs (the red line) have fluctuated strongly, as it is without any relation to developments 21 Plimsoll Portfolio Analysis: Road Haulage. 62

63 in costs. The figure shows some short periods with exceptionally high freight tariffs, but these periods are typically followed by a period of stabilisation or low freight tariffs. Figure 2.41 Development of costs and prices in the inland shipping market for dry cargo and liquid cargo Dry cargo market Development of costs Development of costs Development of tariffs volume Liquid cargo market Development of costs Development of costs Development of tariffs Development of volume Source: Market observatory inland navigation 2005 CCNR and DG TREN The Market observatory covers the following countries: Belgium, France, Germany, Luxemburg, The Netherlands, Austria, Switzerland Rail freight transport The lack of transparency of rail freight costs is also reflected in the information on rail freight tariffs. Prices for rail services are often negotiated on a business-to-business basis and tariffs depend to a large extent on the cost model applied and the market policy of the operator. In many cases, the price strategy is based on the development of the prices in the competing modes, inland shipping and road transport, and thus not or to a low extent on rail freight transport costs. 63

64 This is illustrated by the next figure, which presents the cost development for international rail transport compared to road and inland shipping for the period 1980 to 2000 (for Dutch companies), which includes the oil price hike of Figure 2.42 Real price indices of international freight transport per tonne-kilometre of Dutch companies carrying out international transport ( ) Sources: NS, 2001; CBS; NEA, The emergence of low-cost road transport operators and drivers from the new Member States in the period has further decreased the competitive position of rail freight transport, which contributes to the low (and in some cases negative) profitability of large rail freight operators like Railion and SNCF Fret. McKinsey has calculated recently that the rail freight operators would have to decrease their prices with at least 50 % in order to become competitive with road transport. This poses a great threat to passing on the costs of oil price increase (see also section 3.1.3), even though, as shown above, the impact in rail freight transport is substantially lower than for road and inland waterway transport. In this respect the rail freight transport sector might be more affected by the prices introduced for the use of the rail infrastructure Rail passenger transport Prices of rail tickets are usually determined not so much by transport operators costs, but rather by policy makers and politicians. Only in recent years rail companies have been made more independent (state) companies which can negotiate passenger tariff changes with the government on the basis of business observations. Still, however, rail passenger services are in many cases (partly) subsidised, as it is considered as a public service. Increases of the fares usually follow inflation patterns. 64

65 The next figure describes the development of the rail and bus / tram price indices for the period in the Netherlands. Figure 2.43 Development of rates in rail and bus/tram transport in the Netherlands Price index railways Price index tram/bus Source: Centraal Planbureau 2001 It can clearly be seen that the increases are rather steady and there appears no relation to the high fluctuations in the oil price. The same conclusions can be drawn for the development of rates in rail and bus transport in France and Belgium (see next figures). For bus transport companies, this has become a problem in the last price hike as they cannot increase their tariffs. For rail transport operators the consequences of energy cost increases are marginal, as has been shown in the previous paragraph. Figure 2.44 Price development in passenger transport by rail and bus in France and Belgium (1998=100) Price development in passenger transport by rail 140,0 120,0 Index (1998=100) 100,0 80,0 60,0 40,0 20, Belgium France

66 Price development in passenger transport by bus Index (1998=100) 140,0 120,0 100,0 80,0 60,0 40,0 20, Source: Statistical bureau of France, available at: Belgium France and Statistical bureau of Belgium, available at: ction=open&lang=n The price development in rail transport differs per country, as do political decisions on subsidising and cost structures of operators. The figure below presents a long-term comparison of costs for passengers in the UK travelling by rail, bus or own car, as well as their disposable incomes over a longer period. It shows that rail (and bus) fares have more or less followed disposable income. It also shows that the increase in fares has been steady, with some decreases in periods just after oil price hikes (1975, 1984). The decline in oil prices since 1985, however, does not reflect in lower rail fares (or bus fares). Given the low exposure of rail costs to oil prices, this was also not to be expected though. 66

67 Figure 2.45 Development of rates in rail and bus/tram transport in the United Kingdom Source: GIVENTIS, 2001 Finally it should be noted that pricing policy for passenger rail travel in France is beginning to be influenced by factors other than those directly related to cost structures and to variations in energy prices. Specifically, the French national railway company SNCF has introduced a policy of price variation according to demand, in order to make each ticket sold more profitable. This means that prices per km rise in function of demand, using promotions according to the date the ticket is purchased and increasing internet sales, following the trend set by low cost airline companies, their competitors in long distance travel Short sea transport The short sea transport sector consists of a number of very different types of transport, commodities and vessels: roll-on-roll-off and ferry transport, dry and liquid bulk and container transport. The type of operators varies substantially as well: from small companies (comparable to inland shipping enterprises) to very large, global players (a/o in the container transport market). It is thus a very diverse market, for which no integral freight rate data are available. However, the short sea market structure is not much different from the deep sea market, although ship sizes are of course sometimes smaller. 67

68 Figure 2.46 Development of freight rates in deep sea transport (index Jan = 1000) Source: Platts It shows that freight rates develop differently for different market segments. In container traffic rates fluctuate, but in a much less volatile manner than rates in the dry bulk and liquid bulk sectors. It shows the impact of market conditions, which makes that in periods of scarcity in capacity freight rates can shoot up sharply, only to fall again in the next months. The figure also shows that the oil price shocks in 2000 and 2004/2005 may have contributed to the higher freight rates. At the other hand, market conditions like excessive or depressed demand are also known to influence freight rates, which may explain the rather different patterns of freight rate developments between the three sectors. The next figure zooms in on the freight rate development in the container transport market (between 1998 and 2005), whereas the bottom line represents the 1000 TEU ship size, which is often used for short sea. 68

69 Figure 2.47 Development of freight rates in see container transport (in US$ per day) Source: Clarkson Container Market Report, Issue 106 This figure shows a sharp increase of prices in 2005, where it can be assumed that the increase of oil prices is one of the causes, besides an increased demand for transport. The smaller ship sizes appear to react less volatile then the larger ones, but the general pattern is similar Aviation In the case of aviation, as with other modes of transport, the relationship between transport costs and the prices applied can be described in the following terms: For the services that operate according to the market, prices reflect costs, but these absorb the short- and medium-term effects related to price elasticity of demand. For the services offered as public service, the transfer of costs to prices is done following political-administrative criteria, price elasticities of the respective demands may come into the application of this, although it retains a strong component of subsidisation. In these terms, it can be said that there are three large market segments: The segment that is characterised by low elasticity demand in which users that travel for business or work reasons predominate. The segment that is characterised by demand of high elasticity, mainly consisting of tourists. In this segment it can also be stated that price elasticity increases as the low cost supply grows, starting with those of the Low Cost Carriers. The segment which falls outside the realm of market competition, whether because of economic objectives or geopolitical decisions, is mainly made up of users in 69

70 disadvantaged regions and/or lacking terrestrial transport alternatives (island and overseas territories). In the first segment, a direct transfer of costs to prices is produced, for example through overpricing, clearly justified by the increases in energy prices and printed as such on the tickets themselves. In the second segment, a re-organisation of supply is produced, oriented towards avoiding the repercussions of greater costs for prices, to the point that supply achieves a decreasing price curve, independent of cost increases resulting from increases in energy prices. This is illustrated in the chart below. It shows how European network majors have managed to cut the unit cost of flight operations by 9% in the past 3 years, despite the 63% rise in the price of fuel of that period. Distribution and back office unit costs have been slashed by a quarter, due to technologies such as e-ticketing and on-line booking. The one major area where costs are not falling is the cost of using airports and other infrastructure. In the absence of effective economic regulation, the lack of competition in these sheltered supplier markets means there is still insufficient pressure for efficiency improvements. Figure 2.48 Unit cost performance for European network majors, short-haul Source: New Financial Forecast, IATA, March 2006 In the third segment, public funding is maintained, with some minor differences in the distribution of prices: the retention of cost proportions covered by ticket prices or a review of this policy to avoid serious subsidy increases. 70

71 2.4 Conclusions on the relation between oil and transport prices This chapter has analysed the composition of the total transport costs in different transport modes for the Member States and the relation between oil prices and transport costs. The first step taken in this analysis was to establish the relation between crude oil prices and energy costs. It can be concluded that: Due to the absence of taxation and low processing and distribution costs, the variation in the price of crude oil directly affects the fuel prices for inland waterway transport, short sea shipping and aviation. In other cases, the relation is weaker, due to processing and distribution costs and taxes and duties. The relation between the price of diesel and petrol to the price of crude oil is around 0.4. The relation between the price of crude oil and costs of electricity is very weak. Electricity prices tend to be almost insensitive to the price of crude oil, giving an elasticity of 0.15 at the maximum. The role of fuel costs in total transport costs varies per type of shipment, distance, occupancy rates, etc. In general for road freight movements fuel costs are 20-30% of total transport costs, in inland waterways 10-25%, in rail freight operations 15-25% in case of diesel and 15% in case of electric traction, in short sea shipping and aviation 15-30%. Combining these data, a doubling of the price of crude oil may affect road freight transport costs by approximately 10% 22, inland waterway transport by 10-25% and short sea shipping by 15-30%. In rail freight operation only diesel operations are effected, at around 10%, but transport costs of electric traction may increase only a few percent. Short sea shipping and inland waterway transport are thus most affected by variations in the price of crude oil, followed by road freight transport and rail freight transport. The costs of energy are around 25% of total costs for car users (80% of variable costs), around 5% for bus companies, 5-10% for rail passenger transport (electric) and 15-30% in aviation. In passenger transport, the costs of aviation are the most sensitive to variations in oil prices. A doubling of the price of crude oil is likely to increase aviation costs with 15-20%. This would affect total passenger car costs with 10% (but may increase variable costs with 30%), while rail transport operations would become only slightly more expensive. The costs for rail passenger transport (electric) are the le ast sensitive to variations in oil prices. Due to the weak relation between electricity prices and the price of crude oil and the low share of electricity costs in total rail transport costs, the impact of an increase in crude oil prices in rail passenger transport is marginal (i.e. the impact of an increase of 15% in electricity prices will lead to an increase of production costs with less than 1%). 22 Taking the average share of fuel costs in road freight transport costs (20-30%, see section under heading Share of fuel costs in total transport costs) and the share of production costs (i.e. all costs without taxes) in total diesel costs (45-70%, see section under heading Fuel related tax: excise duties), the production costs (crude oil, refining, distribution) of diesel can be estimated to be around 9-21% of transport costs. As only a part of the production costs consists of crude oil (assumption is 65% on average), a 100% increase in the price of crude oil may affect road freight transport costs by on average 10%. 71

72 The conclusion that the share of crude oil prices in the final transport costs varies per mode and transport segment as well, resulting in different reactions of the different transport modes on crude oil price hikes is illustrated in the next figure. Figure 2.49 Overview of transport modes and their reaction on crude oil price hikes On the X-axis the share of crude oil in the transport costs is presented, the Y-axis describes the reaction of fuel (and electricity) prices on hikes in crude oil prices. The figure shows that rail transport is relatively the least effected by price shocks, whereas air, short sea and inland shipping will be most affected by price shocks. The main reason for this being the fact that the taxation for road transport fuels is the highest, which leads to a substantial cushioning effect. In a next step it was analysed to what extent the energy costs influence the transport prices or tariffs. It appears that in many cases the relation between costs and prices is not as straightforward as one might expect. Freight rates tend to follow a different pattern, mainly as a result of market conditions, sometimes not allowing transport operators to fully charge cost increases to customers. This may in some sectors (e.g. road freight sector) result in reduced or even negative profit margins for the operators. Other sectors are better capable of passing-on the costs of increased fuel prices to their customers, which is further elaborated in the next chapter, where the reactions of transport operators are described. In the case of passenger transport, car users get the full blast of fuel cost increases, which might affect their short term behaviour (car use) or longer term behaviour (purchase of car). Rail (and public transport) passenger are generally not affected by increases in the costs of operators in the short run. In the longer run, tariffs tend to 72

73 increase in line with inflation and household income. Aviation is quite a different sector in this respect, as it is mostly outside the domain of public obligations and is at the same time quite sensitive to oil price increases. 73

74 74

75 3 Impacts and reactions in freight transport This chapter focuses on the reactions by providers of freight transport services and users of freight transport services to oil price increases. Such reactions depend, of course, on the magnitude of the increase in transport costs or prices, as analysed in chapter 2. But such reactions are not only governed by (sudden) costs increases or tariff changes. Also the increased uncertainty or unpredictability of prices may have an effect on suppliers and users. Also the reaction may be quite different in the short run as opposed to the longer run. 3.1 Reactions by providers of freight transport services Road hauliers Because taxation on diesel is relatively high in most EU-countries, increases in the price of crude oil and in the flat diesel price are levelled off (see also section 2.2.2).This is particularly true if road haulage companies are being compensated by governments through lower taxes in times of oil price hikes. This however has not been the case during recent periods of oil price hikes. This means that road haulage operators have to pass on oil cost increases to their clients in order to protect themselves from the negative impacts of higher oil prices. A recent study in the UK 23 touches upon this subject by asking road haulage companies if they are able to recover fuel cost increases. The UK is amongst the countries with the highest fuel prices for commercial vehicles. The proportion of hire and reward operators in the UK consistently recovering a substantial proportion of higher fuels costs between 2000 and 2005 was 20 % for English operators and 18% for Scottish operators. Another study on minimum road clauses 24, which has been recently carried out, reports that about 20% of the contracts between road transport companies and their clients include provisions to deal with price hikes, including oil price hikes. Where hauliers are operating in (highly) competitive markets and where their economies are particularly exposed, the negative effects can be sizeable. This holds especially for own-drivers who work for freight rates that are very close to the cost price. Container transport by road is also known as a small profit margin market. Compared with other specific market segments, profitability in container transport by road in the Netherlands was negative in the period (see next figure). 23 The Burns Report Freight taxes inquiry, November Impact Assessment of the Modification of Council Regulation No 4058/89 - Assessment of the regulation on the fixing of rates for road transport between Member States, ECORYS/Trademco, August

76 Figure 3.1 Profitability of Dutch road hauliers in international transport by market segment ( ) Percentage Conditioned/frozen food Liquid bulk Trucking/container Source: Transport in Cijfers 2004, TLN (Modified by ECORYS) This development of negative profits for road transport companies is similar in other West-European countries (see paragraph on development of profitability in section 2.3.2). In case road haulage companies are not able to pass on higher transport costs completely, negative impacts of these higher transport costs could be levelled off by improving the efficiency of the transport operations. There are several ways to improve transport efficiency. Improve vehicle load factor A transport operator can save costs by improving the load factor of the trucks. In general the occupancy rate of road transport is rather low, due to inefficiencies in time and space 25. This is more prominent in national transport than in international transport. In terms of journeys the percentage of empty running is some 40% in national transport and 28% in international transport. In terms of vehicle kilometres these numbers were respectively 25% and 12% 26. However the numbers vary over the Member States, with relatively high empty running in Cyprus and relatively low empty running in Denmark (see next figure). 25 The low occupancy rates are not always to be avoided and do not necessarily signify that there is overcapacity in the market. Due to the dispersed character (time, space), shortage of transport capacity at one place or period, might go together with excess capacity elsewhere or at a different time. The relatively low occupancy rates signify that supply of transport services is geared to maximum demand levels, which might be considerably higher than the low or average demand levels. For instance, in case of harvest periods there will be a peak demand for certain vehicles, which will not be there in other periods of the year. 26 Specific aspects of road freight transport , Statistics in Focus, January 2005, Eurostat. 76

77 Figure 3.2 Empty running of road hauliers (in % of vehicle kilometres, 2003) CZ DK DE ES FR IE CY LT LU NL AT PT FI SE UK National (average 33%) International (average 16%) Source: Eurostat; Statistics in focus Transport (1/2005) Use of other vehicles A transport operator could decide to improve the efficiency of his transport operations by (partly) replacing his vehicle fleet by larger and more cost effective vehicles, with the aim to improve the load factor and/or the fuel efficiency. Medium and large transport companies also have the possibility to use other larger vehicles in there fleet to carry out certain transport operations in order to improve transport efficiency. Although transport costs per vehicle may be higher, the average payload weight will increase as well, which will result in lower costs per tonne-kilometre. Although this is certainly a realistic option for medium and large transport companies, it is not for driver-owners with just one lorry. The decision of partly replacing the vehicle fleet is normally made to improve transport operations on the medium or long run. Hence the fact that it is not realistic to expect a transport operator to replace his fleet in periods of suddenly increasing transport costs, a transport operator may decide however to replace his vehicle fleet sooner in periods of substantial increasing transport costs (i.e. due to steep rising fuel prices). Cut down other operating costs A transport operator could also try to cut down his operating costs in order to safeguard a certain profitability level. Fuel costs and labour costs are the two most important components of the total transport costs representing 60-70% of it. Cutting down labour costs is an option for the medium and long term, but, as drivers usually have long term contracts, is no realistic option on the short term. In the longer run, though, a strategy to reduce labour costs can bring positive results. In particular in the recent period of high competition in the international freight market, companies are finding ways to employ, directly or indirectly, drivers at lower costs (for instance for countries with lower wages within the EU). Fuel costs could be further reduced through improving the drivers behaviour (i.e. through special driving courses or fuel saving projects). On international trips road hauliers could cut down fuel costs by buying cheaper fuel in countries with low diesel 77

78 prices. On trips to and from the UK, where diesel prices are amongst the highest in Europe, this can save a lot of costs. Operators from outside the UK can avoid paying high UK fuel prices by filling up before they arrive. Foreign articulated vehicles can each bring in about 1200 litres of diesel, worth 300 on average 27. Most transport companies however, will already buy cheap fuels on international trips, and it appears that that this possibility of cutting down transport costs leaves not much room for further improvements. Besides, there is a maximum amount of fuel a road haulier may carry when crossing certain borders. Reduce profit margin Last, but not least, in practice higher transport costs are also absorbed in lower profit margins, as shown before. Of course, such a reaction is only a short term solution, as it threatens the continuity of the company in the long run if no money is available for the necessary investments. However, in some segments of the market such reactions may take place, for instance in the owner-driver segment. Such operators usually work rather on a cash flow that full cost basis, which makes that profit margins could be reduced for longer periods, as long a net cash flow is produced which is sufficient to survive Inland shipping companies The relatively high price of gas oil in 2004 en 2005 has lead to reactions of vessel owners in France 28 and the Netherlands 29. The poster Gas oil is expensive; 20% of the freight price is enough, be aware of the cost price! underlines the importance of high gas oil prices and the influence of it on the ship owners revenues. Most of the ship owners have transport contracts with shippers and shipping offices including a special gas oil clause, which enables the ship owner to charge extra fuel cost on his clients. There are also a lot of ship owners however, who are dependent on the daily spot market for prices, which makes it difficult for them to negotiate the right prices with their clients. In a poll (held in September 2005) about who pays the high gas oil price 30, 40% of the ship owners replied that they would pay this price and bear these extra cost. The extra cost for fuel are seen by some shippers and shipping offices as negotiable, while these are cost for the ship owner and not part of the (negotiable) freight tariffs. The shipping offices close forward contracts with industries and charter vessel capacity from individual ship owners. The ship owner is dependant on these shipping offices and has to negotiate the possibilities of passing on substantial increase in gas oil prices with them. A bunker surcharge in periods of price hikes in gas oil is not for all shipping companies practice yet. Some inland shipping companies equip their vessels with a new technology called A- 27 The Burns report Freight taxes inquiry, November In: Operation escargot on the Seine to protest against the high fuel prices (October 2004). In: Vaartpeiling, Who pays the expensive gas oil? (September 2005). The poll was held in the Netherlands, approximately 600 Dutch ship owners replied to this poll. 78

79 tempomaat. The A-Tempomaat advises the vessel owner on the most economic position of the throttle and how to use engine power, so it lowers fuel consumption without lowering productivity. In times of high gas oil prices the introduction and application of such new technologies might be speeded up, and can be an investment which pays back for the (large) inland shipping companies with vessels. It will also contribute to a better environmental performance of the vessel. Like road transport companies, higher transport costs could also be levelled off by improving load factors and cutting down on other cost components. If higher transport costs cannot be charged to customers, or absorbed in higher efficiency of operations (low fuel use, higher load factor), they will necessarily be reflected in lower profit margins. This option, clearly being a short term solution, may be followed by the owner/captain type of operations. As in road trucking, part of the supply of transport services stems from small family type business which operate only one vessel. They can operate to some extent on a cash flow basis and wait for better, e.g. higher freight rate, times Railway operators A drastic increase of fuel costs can lead to an increase of rail freight transport costs, particularly in the case of diesel-powered trains. As the transport costs have decreased, among others due to cost reductions and efficiency improvements following increased competition, the impact of fuel price increases has been limited in recent years. However, as competitive conditions are now extremely difficult for rail operators, the latest fuel price increases can bring the operators (in particular those operating diesel traction) further into problems. Railway operators usually pass on these cost increases to their customers, as can be seen in the example of the private railway operator ERS (European Rail Shuttle) in the text box below. However, as in road transport, rail freight operators might not be able to pass on all increases and can seek for other cost reduction measures. In order to compensate for the extremely high prices for diesel oil, ERS (European Rail Shuttle) utilizes an indexed fuel surcharge, based on the fuel price, which is published on a monthly basis, by one of the l argest oil companies. This fuel surcharge is based on the standard price for gas oil and will be introduced on all ERS services. The surcharge is calculated as a percentage on the freight costs. It is applicable as from 1st of January 2006 transport date. The surcharge is an index -based surcharge system, whereby 0.60 Euro per litre is the starting point. ERS applies the monthly average of two months prior to the current month, to determine the surcharge applicable for the current month. In other words: the January 2006 fuel surcharge is based on the monthly average of November Source: ERS website ( On short term, many operators have very limited options to react. Rail freight production models are relatively inflexible. An increase of load factor or a combination of clients and cargo for instance cannot be realised as easily as in road transport or inland shipping. Stimulating more energy-efficient driving behaviour is one of the few options that exist, but the development of this tool is still in its infancy stages. 79

80 Some railway operators have a stronger market position, due to specific market or geographic conditions. For instance the railway operators in the Alpine region will have more options for tariff reactions. In fact, adaptations of rail freight tariffs are not only related to costs, but to a large extent also to market conditions ( price discrimination ). Very often, railway companies adapt their tariffs to the prices of road transport and inland shipping. When road taxes were introduced in Germany (Maut), the tariffs for some rail freight services through Germany and Austria were increased as well. On longer term, the purchase of new, more energy efficient, locomotives or a shift from diesel to electric traction are two options for the operators. Due to the fierce competition however, the purchasing power and willingness to invest is presently very low. The expected drastic increase of the prices for the use of the rail infrastructure will add to the worrisome conditions in this sector Short sea transport operators Short sea transport operators have very few options in the short run to deal with higher transport costs caused by oil price hikes. In many cases the Bunker Adjustment Factors (BAFs), which are used in deep sea operations, are not applied in short sea operations. The reason is that short sea operations to a large extent compete with overland road and rail links, modalities that are also hardly able to apply fuel surcharges. During periods of extreme oil price hikes smaller companies in the sector could be forced to withdraw from the market. Bunkering costs form a substantial part of the total operating costs: an estimated 20% for short sea operations. For larger companies that offer services which compete less with overland road or rail links, it will be easier to apply fuel charges. The box below presents an illustrative reaction from the company Stena Line. High oil price creates problems for the transport sector - Stena Line Freight forced to adjust prices The price of oil has more than doubled recently. The knock on effect across almost every industry has been significant, with the transport industry in particular suffering more than most. As an integral part of the transport chain Stena Line is also affected by the price rise with fuel costs that have more than doubled. To handle the higher costs Stena Line Freight will, from next year, significantly increase the current fuel surcharge. The price model will be flexible, which means that the price will follow the trend of the oil price. Stena Line will also actively work on a number of initiatives to cut energy and fuel consumption to minimise the dependency on oil. Stena Line Göteborg, Sweden, 10 October 2005 In cases that BAFs are being applied, estimates are that shipping lines are thus able to recover about half of the rise in fuel costs. An additional problem of regaining excessive fuel cost by means of BAFs is the delay of some weeks, up to a few months. Especially smaller companies may be vulnerable to this effect. Over a longer period rising fuel oil prices can speed up the process of shipping companies replacing old vessels by new ones, with engines that consume heavy oil instead of marine 80

81 diesel oil. This will reduce their bunker costs enormously 31. Unfortunately, a negative side-effect is the higher discharge of poisonous gasses like SO 2. As oil prices are rising sharply at present, the process of replacing old vessels by new ones, or at least old engines by new engines, might be speeded up again Airfreight operators Generally, airfreight operators are very large companies like the airlines KLM/Air France, Lufthansa and BA and express companies like DHL, UPS and TNT. On the short term, all companies react with fuel charges. During the last hike, the charges were extremely high and in some cases even exceeded the net transport fare. Opposition to theses charges from the shippers and airfreight forwarders did not exist, but recently some protests against the height and lack of transparency of these fuel charges were reported 32. As fuel costs are a substantial part of the airfreight transport costs, the need to look at cost reduction is imminent in periods of price hikes. Cost reductions on the operational level are realised by improving productivity, increasing the efficiency of processes and further reduction of labour costs. On the longer term airline companies will invest in more energy efficient airplanes (see also paragraph 5.1). Hedging 33 Air companies can insure the risk of price fluctuations in oil prices by hedging practices. KLM for instance has covered in % of its total demand for jet fuel by hedging. Due to the sharp increase of oil prices in this year, the net benefit of this practice was 49 million Euros, thanks to the development of the fuel price and the USD-EUR rate development. In recent years European airlines have been forced to review their fuel hedging policies, as rises in oil prices have forced them to lock in hedging contracts at very high levels or else to gamble on crude oil prices retreating. Many carriers cut down on hedging volumes after the first year of the second Iraq war, which left them exposed to oil prices which later surged by more than a third in the fist half of Shares in one low-cost airline (Ryanair) fell in August 2004 after they warned that they had only hedged against oil price rises until October of that year. The situation is worse for long-haul airlines that are battling a general global downturn. Scandinavian airline SAS decided to resume hedging after being left exposed in the first quarter of A fuel surcharge they had imposed earlier in 2003 was no longer covering increased fuel costs. The high volatility of crude oil prices led them to investigate the benefits of hedging Source: Systeem voor kostenallocatie van haven ontvangstinstallaties, April 2002, ECORYS. Nieuwsblad Transport, In finance, a hedge is an investment that is taken out specifically to reduce or cancel out the risk in another investment. Hedging is a strategy designed to minimize exposure to an unwanted business risk (i.e. sharp rising oil prices), while still allowing the business to profit from an investment activity. 81

82 On the other hand, Swiss International Air Lines suffered losses after selling hedges to boost cash reserves. They continued with the strategy of remaining unhedged, expecting oil prices to recede. This airline calculated that annual costs would rise about 4 million Swiss francs (USD$3.12 million) for each one percent rise in the price of crude oil. In general, airlines which are without hedging during times of rising oil prices face two choices: locking in before oil rise higher or sit tight and hope prices fall. As mentioned before, Ryanair decided on sitting tight, claiming that it had sufficient cash reserves to keep them strong (they re riding out the storm, taking the gamble). Other big carriers such as Lufthansa and British Airways announced fuel surcharges in 2004 on fares in an attempt to counteract high oil prices. Both these airlines however had also hedged. For example, British Airways had hedged 45 percent of its fuel for the year 2004 at USD$28.50 a barrel of crude. Lufthansa was one of the most comfortably hedged major airlines. It had hedged about 89 percent of its fuel requirements for the year 2004 and 35 percent of fuel needs for Some analysts say European airlines hedge more than their American competitors. According to JP-Morgan, nearly all the European carriers had some kind of fuel price hedging in place, which was markedly different picture to that of their US counterparts, many of whom had none at all now. An example is American Airlines who announced in August 2004 that it would spend as much as USD$400 million in added fuel expenses that year as a result of soaring oil. In their case each cent rise in a gallon of jet fuel added around USD$33 million to its yearly costs. 82

83 3.2 Reactions by the users of freight transport services The impact of transport costs on costs of production and consumer products There is a large variation in users of freight transport services, from industrial shippers like the chemical industry, food industry or automotive industry, via wholesalers, to retailers who deliver consumer products at home. The reaction of these users on increases in fuel prices depends on the impact that an ensuing rise in transport costs might have on their own activities. In general expensive products or high value added activities can bear more easily higher transport costs than low value products or low value added activities. Further, the impact of increasing transport costs is relatively modest, if transport costs have only a minor share in the total logistics costs (including costs for warehousing, assembling and administration). The next paragraph assesses the impact of rising transport costs on the total logistics costs of companies. Share of transport costs on total logistics costs Since the second half of the eighties, the share of total logistics costs in the production value of companies has been decreasing, from around 12% in 1987 towards 8% in 2003 (a small increase is expected during the next few years). Transport costs as part of the total logistics costs have been decreasing as well, from 5.9% of production value in 1987 to 2.6% in 2003 (see figure 3.3; the information is based on a survey 34 amongst approximately 2000 companies in 18 European countries). Thus, whereas transport costs were some 50% of total logistic costs in 1987, they reduced to about one third in At the same time, total logistics costs reduced by one third in elation to the value of commodities. In 2003, the share of transport costs in the total production value was rather small (2.6% in 2003). An increase in the price of diesel by 40% will lead to an increase in transport costs of 8-12% (assuming a 20-30% share of fuel costs in total transport costs); with such an increase in fuel costs, total transport costs would rise, but still be less than 3%. The effect on total logistics costs would thus be modest. 34 Insight to impact, A.T. Kearney, 1999; European Logistics Association (ELA),

84 Figure 3.3 Total logistics costs and its components as % of total production value of companies (based on a survey in 18 European countries) Value added services Packaging / embalage Transport Storage Warehousing Administration Source: ELA / A.T. Kearney. The impact of rising transport costs on final products Prices of final consumer goods are in general higher than prices of semi-finished or raw materials. Our daily or weekly shopping at the local supermarket provides a good example of what final consumer goods can bear in terms of transport costs. The share of transport costs in some specific supermarket articles is presented hereafter. 84

85 Figure 3.4 Transport costs as share of final consumer product prices (EUR, price level 2001) Product price (excl. TC) Transport costs 0,04 0,10 5,85 0,04 3,52 0,02 0,52 1,78 1 liter milk 1 kg pork 5 kg potatoes 0.5 kg coffee Source: Maatschappelijke betekenis van het goederenvervoer, case beschrijvingen (ECORYS, 2002) The share of transport costs in these four specific food products is low, varying between 0.7% and 2.8% of the final consumer prices of these products. As a consequence rising fuel costs resulting in higher transport costs, affect final consumer prices of these products only very slightly. In the text box below, an example of a company s perspective on the relation between transport and fuel consumption is presented. The Coca Cola example (Source: Environmental Report 2004, the Coca Cola company) Our 2004 fuel economy ratio suggests that, on average, our system s transportation fleet consumes approximately 10.5 liters of diesel per kiloliter of product delivered. In 2004, we estimate that greenhouse gas emissions from our fleet were approximately 2.85 million metric tons. This represents a reduction in fuel efficiency. In 2003, our system s fleet ratio was approximately 7 liters of diesel per kiloliter. Our estimated greenhouse emissions were 1.8 million metric tons. The increase in gas emissions from 2003 to 2004 is based on numerous factors. One factor is the expansion of the data set to include four entries by high-fuel- consuming fleets. With these additional fleets, however, all of our geographic divisions are represented in 2004 data rather than just 17 out of the 21 organisations in the 2003 data set. The previous estimates, which demonstrate that rising transport costs have rather small impacts on industries and final consumers, are average figures of course. The impact of increasing transport costs through sharp increases in fuel costs might be considerable for certain sectors or clients. This will be illustrated by some case studies which have been carried out recently in the SULOGTRA project. Impact of higher transport costs on industrial sectors The impact of substantial changes in transport costs on industrial sectors has been assessed previously in the SULOGTRA-project 35. The developments in transport costs in this project have been based on Delphi Survey 36, as part of the TRILOG-study 37. The 35 SULOGTRA - Effects of trends in logistics and supply chain management on transport (5th Framework Programme); Work Package 6 report Analysis of value creation in supply chains, November Full Report of the Delphi 2005 Survey; European Logistical and Supply Chain Trends: ; A.C. McKinnon and M. Forster, July

86 panel consulted in the survey was expecting freight rates of road freight transport to increase by 12% (real terms) in the period Freight rates for rail and inland waterway transport in comparison were expected to remain at the current level respectively or decline by 1% (real terms). The 12% increase in transport costs was used in the SULOGTRA-project to assess the macro economic impact in a first scenario. As a second scenario, an increase of 24% in transport costs up to 2005 was assumed. Subsequently, the impacts 38 were calculated for the industrial sectors food and beverages, building materials, chemicals, machinery and automotives only. The actual impact analysis has been assessed with the SMILE-model (SMILE stands for Strategic Model for Integrated Logistics and Evaluation) 39, which represents the situation for the Dutch economy only. The outcomes of the analysis are presented in the next figure. The main conclusion that can be derived from this analysis is that the impact of rising transport costs on the five industrial sectors is relatively low. The impact is more substantial of course in the scenario where transport costs would rise with by 24%. There are sector differences however. The largest slowdown of the growth of a sector (compared to the base case) is visible in the Chemicals sector. In this sector a 24% increase of transport costs results in a 3.6% lower value added in 10 years 40 time (see figure 3.5: chem. base = index versus chem. +24% = index 162.0). The smallest effect of a transport cost increase is visible in the Building Materials sector. A 24% increase in transport costs results in a 1.2% decrease in the growth of value added in a period of 10 years (see figure 3.5: BM base = index versus BM +24% = index 129.1). 37 TRILOG-consortium: TNO (Netherlands), Heriot-Watt University (UK), NEI (Netherlands), Cranfield Centre for Logistics and Transportation (UK), Chalmers Institute for Technology (Sweden) and LaTTS (France). 38 The impact has been measured in terms of macro-economic parameters like production value, value added and employment. 39 The SMILE-model has been developed by ECORYS (former NEI) and TNO. 40 Base year of the SMILE-model is 1995, for this reason the analysis considers the period

87 Figure 3.5 Impact of higher transport costs on industrial sectors Development in Value Added (index 1995=100) Auto +24% Auto +12% Auto base 113,6 114,9 116,3 Mach +24% Mach +12% Mach base 157,7 159,1 160,5 Chem +24% Chem +12% Chem base 162,0 163,7 165,6 BM +24% BM +12% BM base 129,1 129,7 130,3 F&B +24% F&B +12% F&B base 121,1 122,0 122,9 Auto = Automotive sector Mach = Machinery sector Chem = Chemical sector BM = Building Materials sector F&B = Food and beverages sector Source: SULOGTRA -project (FP5) Price elasticities Another way to assess possible reactions of shippers to changing fuel prices is to look at price elasticities of demand 41. Since the first oil crises many studies have been performed that have dealt with the relation between fuel prices on the one hand and fuel consumption, traffic levels, fuel efficiency and car sales on the other hand. Although most studies were either for cars only or for cars and lorries added together, some conclusions for commercial traffic can be drawn. Short term reactions of shippers In 1991 ECORYS 42 performed a study on the price (and income) elasticity of the demand for fuel. For this study around 40 published studies were analysed. In 2002 the ESRC 43 did the same by analysing 69 different published studies Elasticity is the proportional change in one variable relative to the proportional change in another. For instance, a 1 % increase in fuel price leads to a 0.1 % short-term decrease in vehicle-km. ECORYS/NEI, Elasticiteiten van de vraag naar brandstof, ESRC Transport Studies Unit, University College London, Review of income elasticities and the demand for road traffic, Mark Hanly, Joyce Dargay, Phil Goodwin, March

88 Both studies found that if the real price of fuel goes up by 10% (and stays) the following adjustments take place in the short term (within about a year): a) The number of kilometres travelled will go down by around 1%-2%; b) The volume of fuel consumed will go down by about 2 to 3% ; c) The total number of vehicles owned does not or changes only minor (< 1%); d) Fuel efficiency goes up to a maximum of 1.5% within a year. In the short term higher fuel prices have about the same effect on fuel efficiency and mobility: mobility decreases with around 1.5%, fuel efficiency goes up with a maximum of 1.5%. These elasticities are confirmed by the la test study from the European Environmental Agency (EEA 2006), The figure below presents the elasticities from this report. Figure 3.6 Elasticity of transport demand with respect to fuel price In these studies there was not sufficient information to calculate the effect of higher fuel prices on freight transport separately. ECORYS found three studies that analysed the effect of higher fuel prices on the freight transport. It was concluded that for freight movements demand elasticities are lower, both on the short term as well as on the long term. This can be the result of freight transport being more necessary for welfare creation (and thus less price sensitive) than passenger transport. ESRC found that the effects of a price increase for diesel plus petrol causes a smaller reduction in the total amount of fuel bought, than for petrol alone. Secondly, the effect of an overall fuel price increase has a smaller effect on the total traffic level (including lorries) than petrol prices have on the private car traffic. Although not all goods vehicles use diesel and not all cars use petrol, these two examples suggest that goods traffic is less sensitive to price changes than passenger transport by private car. 88

89 Longer term reactions of shippers In the long run (about three to five years) both the previously mentioned study of ECORYS and ESRC found the following effects of a real price increase of fuel with 10%: e) The number of kilometres travelled will go down by around 1%-3%; f) The volume of fuel consumed will go down by about 6% to 10%; g) The total number of vehicles owned reduces with 1%-2.5% ; h) Fuel efficiency goes up to around 4%-6%. It can be concluded that in the long term higher fuel prices are a stimulus to buy fuel efficient cars, the relative effect on the fuel efficiency is bigger than on car mobility (kilometres travelled). Higher fuel prices therefore lead to the use of more fuel efficient cars in the long run and to a much lesser extent to a decrease in mobility. Again these conclusions are for the greatest part based on studies that looked at the demand for fuel by private cars. Based on the few studies that also considered lorries it was concluded that the above mentioned elasticities were lower for lorries, both on the short term and the long term. International comparisons of long-run response of diesel fuel demand to price changes based on OECD and IEA country data for the mid 1980s indicate elasticity to be around This is consistent with the long-run elasticities calculated using the IEA world energy model. Time series data for 22 OECD countries in the late 1980s indicate shortrun diesel fuel demand elasticities with respect to fuel price in between -0.3 and These figures are averages, and the variation over time and between countries is considerable. It should be noted that price of, and demand for, commodities, including oil, coal, steel and cement, is likely to be affected by the same world market changes that influence the price of diesel fuel, which means that price effects may not be caused by changes in the cost of freight transport only 44. Synthesis Based on the different studies to the effects of changing fuel prices Dix and Goodwin 45 came up with the reconciliation-hypothesis. On the short term fuel price changes will only result in relative minor changes in mobility that in turn lead to only minor changes in the fuel consumption. In the longer term however fuel price elasticity increases due to decisions to buy more fuel efficient cars resulting in decreasing demand for fuel without loss of mobility. As a result mobility will hardly change. Although not analysed yet, it is expected by Dix and Goodwin that in the longer term the elasticity of the numbers of kilometres travelled can increase if decision on work/living location and lifestyle are influenced (assuming rational behaviour) Possible impacts on modal split Given the expected effect of high oil prices on transport costs in the various sectors, it could be expected that shippers would prefer the mode which is potentially least affected CO 2 emissions from road vehicles, OECD, Paris, Petrol prices and car use: a synthesis of conflicting evidence, M.C. Dix, P.B. Goodwin in Transport policy and decision making, Vo.l.2, No. 2, 1982, page

90 by such price hikes, i.c. the rail sector. As the share of the rail sector has been declining in rail movements, such a response, however, is generally not seen. Nevertheless, there are some examples of companies and industries having rearranged their distribution activities. In particular in the car industry a shift has been made to making more use of rail transport (e.g. the Audi factory in Györ, Hungary). It is difficult, though, to relate such changes to oil price sensitivity only. For products with a high value-density (like consumer goods, often transported in containers) the share of transport costs in the total product value is very low. A shift from road to rail and inland waterways for containers can be expected when fuel costs rise, although the role of other quality elements is of higher importance. The development of container services over inland waterways in the Netherlands and Germany has shown that even for high value goods transport costs may play a role in the modal choice. When the first attempts to set up such services were made in the Netherlands in the mid-eighties, very few believed in the feasibility of such services. It nevertheless turned out to be a success, even though it started in a period with relatively low oil prices. The link with oil price shocks can thus also in this case not be made directly, in particular since the costs of inland waterway transport, like road transport, are relatively sensitive to oil price changes. In the case of low-value goods (e.g. sand, minerals and liquid bulk) the impact of transport costs on prices is much higher, but such markets are usually rather captive, meaning that the difference in quality of costs with other transport modes is such that modal shift effects are not likely, or even impossible. In this case increases in the transport costs may more easily be passed on to the client, captivity giving market power. However, even in this market sector examples can be found of industries changing their distribution patterns towards more fuel efficient modes, although it is not clear what role fuel costs have played in this. A Dutch supplier of salt (Nedmag Industries) has decided to store its products in condensed form in different regional depots. In these regional depots products are further processed (diluted) and delivered to the local clients. This has resulted in larger but more concentrated transport flows from the central depot to the regional depots, which is to the advantage of inland shipping. Instead of carrying diluted salt in tankers by road, the condensed salt can be carried by vessels, which will result in a reduction of around 1.8 million tonne-kilometres. 90

91 3.3 Conclusions on the impacts and reactions in freight transport Reactions by transport services providers It has been described in chapter 2 that the different freight transport modes are affected in different ways by increases in oil prices. This chapter has provided insight in the way the operators are capable to pass on price increases to their customers. There is considerable difference in the ability of transport operators to pass on the higher costs of fuel to their customers. Whereas in aviation the practice of surcharges is widely used, such price revisions are to a lesser extent used in road transport. In rail transport, where the impact of oil prices on costs is smaller, steps are taken to introduce such surcharges. In short sea shipping the possibility to pass on cost increases directly to customers is presently low and also in inland waterway transport this is not a regular reaction, even though a large minority of operators would start negotiating adjustments to freight rates. Other options to absorb higher fuel costs are increasing load factors (in particular in road transport), rearranging business as to make more use of cheaper labour (road transport), or economising on fuel use (inland waterway transport) and other operating costs (all sectors). In the longer run operators can influence their fuel use by shifting to more fuel efficient engines (short seas, inland waterways) or higher capacity vehicles (road transport). The ability of transport operators to pass on the higher costs of fuel to their customers strongly depends on the market power they have. The next figure presents an overview of the relation between market power and the level of affection by oil prices. Figure 3.7 Relation between oil prices affection and market power 91

92 The X-axes gives a relative insight in the market power of the operators. The Y-axis represents the way companies are affected by prices. As the market power can vary substantially within one group of companies, a range is presented per mode. Small transport companies in road, inland shipping and short sea transport have substantially lower market power than large companies like the third-party logistics providers. From this figure it can be concluded that road freight transport operators, inland waterway operators and short sea shipping companies will suffer the most from price hikes, which is reflected in the low profitability in these sectors. Reactions by users of freight transport services The demand for freight transport does not seem to be influenced to a large extent by increases of oil prices. The fact that the price of transport is only a very small part of the final price of goods is an important explanation. Moreover, freight transport in general and road transport in particular has increased its productivity substantially in the past decades. The price of transport has hardly increased, whereas the influence of wages and infrastructure charges influence the price of transport to much higher extent. There are sectors, however, in which the influence of transport costs on demand for transport services is much higher: the cases that have been presented show that there are differences between different segments, with relatively higher (but still modest) impacts in the chemicals and automotive industries. 92

93 4 Impacts and reactions in passenger transport This chapter explores the reactions of providers and users of passenger transport services. In this case there is an obvious distinction between individual transport, by means of passenger cars, and common transport means such as railways, aviation and public transport. In particular the relation between costs and tariffs may be different, depending on the type of market, which would lead to the expectation of quite different price changes and therefore reactions. 4.1 Reactions by providers of passenger transport services Local public transport providers In general terms, urban public transport services have been moving towards: A growing use of electric means of propulsion: urban trains, subway, light railway and trams. A movement, still rather modest and in part motivated by environmental reasons, from gasoline to natural gas and hydrogen in conventional means of land transport. A growth in intermodality, combining means of transport, which for many years were developed and managed independently. This has led to the organisation of urbanmetropolitan consortiums (and other similar bodies). Lately, small adjustments in the cost-tariff relation are arising, with the suppliers tending towards increasing the part of costs covered by the users, keeping in mind limited price elasticity, with the intention of reducing the burden on public funds. In general fuel costs represent a little part of the operational costs public transport. By this energy efficiency is not a very important topic in de process of decision-making for new transport vehicles. Decisions about fuel efficiency are more often inspired by the impacts of clean and efficient engines on the environment, instead of by cost impacts Railway passenger transport providers The railway sector is in many countries managed by (former) public organisations. For this reason, reactions to increasing energy cost issues are directly conditioned by the public energy and transport policy (government policy). This also means that the railway infrastructure policies are developed to support their own service. Under this scenario, the market plays only a subordinate role, which with regards to costs means that the impacts from the rise in the energy prices is influenced heavily by the strategies and objectives announced by the Civil Service and applied by the competent Public Administrations. Under these conditions, the repercussion of the energy costs and the general operation 93

94 costs are issues of lower importance, just like with local public transport. Besides, electricity is the main fuel type for trains, so higher oil prices do not automatically mean higher fuel costs for railways. The costs structure at RENFE in 2004 shows clearly the little importance of energy costs: energy makes up 5.6% of the total costs (personnel costs and the supply of materials and services represent 67%) with a difference of 0,18 with respect to the year This happened after a 10.2% rise in the price of energy (Annual Report 2004 RENFE) Air transport operators The air transport operators have used three types of strategies to deal with fuel price increases in a changing global context in which two other key factors have been important: the liberalisation of air travel markets and the increased competition with Low Cost Carriers (LCC). The three types of strategies comprise: Rebuilding the fleet and incorporating more energy-efficient planes. The demand directed by the operators towards the aeronautic industry has received adequate responses. The main changes that occurred are: the motorisation of planes has been improved (since the first big energy crises in the 1970s), resulting in an improved energy performance per unit; At a later date, the size of the planes increased which resulted in better energy performance per seat-km. 47 Retaining and complementing public funding. For principally historic reasons closely-linked to the national sovereignty of air space, a basic parameter in the development of commercial aviation has been the combination of state competence to grant flight authorisations and the reciprocity between states to act in this regard. This has constituted and to a large degree still does, intervention unrelated to market conditions that allows many companies to maintain positions of advantage in certain markets. These positions, often from a monopoly on the services within the borders of a state and from a duopoly on airlines between two countries has, for a long time, enabled companies to maintain high prices of services and to rebound increases in costs. In order to keep up with the increase in demand and the greater average size of the planes, the (in most cases public) airport authorities have increased investment in infrastructure (new terminals, new runways) and in installations and automatic equipment for the rapid dispatch of planes, passengers and cargo. Finally, with the proliferation of small companies and especially of Low Cost Carriers 48, many small regional airports (2 nd and 3 rd level) are beginning to increase their share within the airport systems. This transfer, in principle associated with less saturation and 46 RENFE has reported an increase of 4,3% in the number of passengers transported in The price policy has allowed a considerable increase in the average occupation rates of flights so that the best performance 48 per seat-km has been reflected in greater performance per passenger-km. In par it can be seen that airport and flight taxes are more of a burden for LCC s (30%share in total cost) than for traditional companies (6% share in total costs). This explains the growing tendency for LCC s to operate on regional airports where taxes are normally lower. 94

95 the easy availability of slots, is accompanied more and more by direct or indirect forms of subsidisation from the regional and local authorities 49. Redefining the business model Redefining the business model has resulted in: Expansion of the market through the supply of services for new demand segments in which the lower price level plays an essential role. This greater business scale enables operation costs and energy costs in particular to be better absorbed. Supply differentiation in accordance with the price elasticity of demand, so that low prices for high elasticity segments and higher price levels for low elasticity segments are combined more and more. Increase in the sale of electronic tickets (e-tickets) that enables running costs to be reduced, whether by reducing the number of ground staff or by reducing commissions paid to travel agencies. The saving of e-ticketing is estimated at 10/ticket (in 2005) 50. General reduction of non-energy costs, particularly of flight crew and ground staff. Reduction in the non-energy costs makes it possible to absorb the higher energy costs. Since 2000 the AEA companies 51 have cut down their staff with 32,000 people (the 8%). Reduction of onboard services. Establishing alliances on a worldwide scale which, in part, is one way of avoiding the difficulties of acquisitions, mergers, etc. The One World, Star and Skyteam alliances embrace the bigger companies (in IATA). They promote shared strategies formulated mainly to meet the supply excess and to the growing Low Cost Carrier competition. An increase in the number of companies that operate in the margin, with abnormally low costs and fewer guarantees of security There is no available information on these kind of grants. The press has published some reports about these regional and local practices in several countries. The reports are focused in the different airport fares between these airports and the rest into the network. Only some small companies are benefiting themselves of these favour deals. Source: IATA. At the beginning of % of the Iberia tickets were electronic. Airlines European Association (AEA) comprises the following companies: Adria Airways, Aer Lingus, Air France, Air Malta, Alitalia, Austrian, BMI, British airways, Cargolus, Croatia Airlines, Czech airlines, Cyprus airlines, Finnair, Iberia, Icelandair, Jat Airways, KLM, LOT Polish airlines, Lufthansa, Luxair, Malev, Olympic Airlines, SAS, SN Brussel Airlines, Spanair, Swiss, TAP Portugal, TAROM, Turkish airlines, Virgin Atlantic. The European Commission has published a list of airlines companies with abnormal procedures. 95

96 4.2 Reactions of users in passenger transport This section considers the reaction of owners of private cars and users of passenger transport services on higher transport prices. The first sub-section describes some general developments with respect to the passenger car fleet. Subsequently, attention is paid to developments in car expenditures from households and finally some short and long term reactions are described. The second sub-sections deals with the reaction of users of passenger transport services Reactions by car owners A growing car park As described in chapter 2 crude oil prices, expressed in real prices, have tended to increase significantly in the period At the same time the number of motor vehicles in use has increased steadily in all the EU-15 countries (see table below). Between 1995 and 2002 the number of passenger cars in the EU-15 increased by 16 percent from 160 million to almost 190 million passenger cars. Table 4.1 Development of car park in EU-15 ( ) - motor vehicles (x1000) in use AUSTRIA BELGIUM DENMARK FINLAND FRANCE GERMANY GREAT BRITAIN GREECE IRELAND ITALY NETHERLANDS PORTUGAL SPAIN SWEDEN EU Source: ANFAC From this, it seems that increasing oil prices have hardly any effect on the quantity of passenger cars in society. Partly this can be explained by the higher energy efficiency of passenger cars, which compensates for higher fuel prices. The figure below shows that cars just like trucks and air planes have become energy efficient and this trend may continue in the years to come. 96

97 Figure 4.1 Energy efficiency of cars (litres/km), trucks & light vehicles (toe per tkm) and air (toe per passenger) in EU 15 ( ) Source: ODYSSEE (a detailed database on energy efficiency data & indicators, for the EU-15 members and Norway) to be found at: However, at the same time the average power of passenger car engines has increased (see graph below). This trend is very counteractive to the trend of increased fuel efficiency of engines. In other words: the gains that have been obtained in making more fuel efficient engines are not used for reducing the energy consumption, but for an increase of performance. This shows that purchasers of passenger cars have been somewhat insensitive for the fuel costs of passenger cars in recent years and those aspects like a higher comfort and more powerful engines seem to be of more importance. Figure 4.2 Average CC (cubic centimetres) of a motor in passenger cars in different European Countries Austria Belgium Denmark Finland France Germany Greece Ireland Italy Luxembourg Netherlands Portugal Spain Sweden United Kingdom Source: European Automobile Manufacturers Association (ACEA ) 97

98 Long term impacts on vehicle choice Three types of fuel are used by most passenger cars in Europe: petrol, diesel or LPG. In many countries the share of LPG passenger cars is small and decreasing. For example in The Netherlands the share in the registrations of LPG-cars has decreased from 2.7 percent in 2000 to 1.1 percent in 2004 (source: RAI-Vereniging, 2005). Due to the small market share of LPG cars, the remaining part of this section focuses on petrol and diesel. Since 1990 the share of passenger diesel cars in the total passenger car fleet has increased substantially in the EU15 (see table below). Its share in registrations has increased from below 20% in 1990, via 22.6% in 1995 to 48.9% in This increase in market share has taken place in all countries, although the size of the market differs a lot between countries in Europe. Table 4.2 Share of diesel cars in new passenger cars registration % diesel by registriations Austria 25.7% 42.8% 61.9% 70.9% Belgium 32.7% 46.8% 56.3% 70.2% Denmark 4.1% 2.9% 13.2% 24.2% Finland 5.2% 6.7% Missing 15.5% France 33.0% 46.5% 49.0% 69.2% Germany 9.8% 14.5% 30.3% 43.6% Greece Missing Missing 0.7% 2.9% Ireland 13.6% 15.9% 10.1% 18.3% Italy 7.3% 9.9% 33.6% 58.3% Luxembourg 21.3% 28.5% 50.4% 72.5% Netherlands 10.0% 13.9% 22.5% 24.9% Portugal 4.9% 10.7% 24.2% 56.9% Spain 14.2% 33.6% 53.1% 65.4% Sweden 0.6% 2.7% 6.3% 8.0% United Kingdom 6.4% 20.2% 14.1% 32.6% EU 15 Missing 22.6% 32.8% 48.9% Source: ACEA (European Automobile Manufacturers Association) The increasing market share of diesel passenger cars can be explained by a number of reasons: The number of passenger kilometres made by private car is still growing, which makes it more interesting for the car owner to switch to diesel fuelled cars. Prices of diesel are lower than the prices of petrol The improvement of diesel engine technology In general a diesel engine is only attractive, concerning the costs of driving a private car, when many (long-distance) trips are made. The fixed costs (depreciation, interest, insurance, car taxes) are higher, while the variable costs (maintenance, fuel) are lower. As the number of passenger kilometres travelled per car is still increasing, a diesel engine has become more and more attractive in Europe. It also shows that a car owner is sensitive to the variable costs of a passenger costs, and therefore also to the costs of a specific fuel type. 98

99 Expenditures on transport Expenditures for transport consume a considerable part of household budgets. For most EU-15 countries these expenditures vary between 11 and 15 percent of the total expenditures. Figure 4.3 Household expenditure on transport in EU-15 and AC-10, Household expenditure on transport at current prices % of household expenditure AC 10 EU Source: Eurostat Based on the above figures it appears that the transport related expenditures of households have raised slightly during the past decade. Nevertheless, in the period , a period of rising oil prices, the figure shows a decline in transport expenditures of households. The differences between the years are very small though. Behavioural impacts of higher fuel prices Economic literature states that a car traveller has roughly thee options when confronted with higher prices: 1. Simply paying the higher fuel prices, so no behavioural change takes place; 2. Adjusting the pattern of trips; 3. Adjusting the pattern of activities which also includes adjusting the pattern of trips. The table below gives an overview of different behavioural changes and whether these changes occur at the short (between 0-1 year), medium (between 1-3 years) or long term (>3 years). 99

100 Table 4.3 Behaviour of car travellers with regard to higher transport costs No behavioural change Adjusting the pattern of trips Adjusting the pattern of activities Short term Compensation higher costs Passing through costs Drop in demand Medium term Long term Change of travel mode Purchase other type of car Change of leisure locations Moving to another house Moving to another location of work Hereafter these behavioural changes are considered in more detail. No behavioural change In this situation a traveller does not change his pattern of trips or his pattern of locations. As fuel prices rise, the cost of mobility increase is putting an extra constraint on the household budget (income effect). This will happen in the short term as a car owner will not be able to change trips and activities. Adjusting the pattern of trips A rise of fuel prices could also lead to substitution effects. Here, rising fuel prices will cause households to look for cheaper alternatives as substitution to the more expensive fuels. This could result in consumers switching to other types of fuel (changing cars) or by buying a more efficient or lighter car. Another option is to change to a different mode of transport like public transport or travelling by bicycle. Finally car owners could try to use their car more efficiently by increasing the occupancy rates or by travelling at more fuel efficient speed. 53 Adjusting the pattern of activities The most radical reaction is adjusting the pattern of activities. By choosing another location of working, recreation or even of living, a car owner can reduce the number of kilometres he travels, which will result in lower fuel costs. It may be clear that these decisions most times can only be made in the long term. Various studies point out that fuel price increases do not result in substantial behavioural changes. For example, during the summer of 2005 fuel prices at the pump increased substantially in The Netherlands. However, the Dutch Statistical Office and involved sector organisations did not find evidence of lower demand for fuel from car passengers, nor of less trips being made. The Netherlands Environmental Assessment Agency 54 concludes that the price elasticity for fuel consumption amounts to in the short term, -0.3 in the medium and -0.6 in the long term (above 10 years). Also in the medium and long term impacts are low. These elasticities are in line with the previously mentioned study by ESRC and ECORYS (see par ). The analysis of over a 100 studies (in different EU-countries and the US) At present a campaign in the Netherlands advocates more fuel efficient driving ( the new driving ) RIVM, Optiedocument verkeersemissies,

101 resulted in a price elasticity for fuel consumption of -0,2 in the short term and around -0,8 in the long term: on the short term fuel price changes will only result in relative minor changes in mobility that in turn lead to only minor changes in the fuel consumption. In the longer term fuel price elasticity increases due to decisions to buy more fuel efficient cars resulting in decreasing demand for fuel without loss of mobility. It should be noted that increasing costs for business trips are usually borne by the employer, so for these trips a car owner may not be very sensitive for fuel price increases. The cost of commuting trips are in various countries also borne by the employer (to a certain extent), which makes that the travellers involved are also less sensitive to increases in travelling costs. The largest impacts of higher fuel prices may be expected for non-business trips, as a car owner bears the full costs of these trips. For example by buying a more efficient car, recreating closer to his home, using other modes of transport, a car owner may try to minimise the (extra) costs of higher fuel prices Reactions by users of passenger transport services As passenger transport operators usually do not immediately transfer increased operating costs in higher prices, there clearly is not likely to be a reaction from transport users. Of course, in the longer run transport prices may increase in response to cost increases, but as indicated the role of the fuel price in total costs is relatively small in passenger transport. Nevertheless, in the event that operators actually increase their prices immediately or shortly after an increase in fuel prices, some reactions could occur. Economic literature states that a user of public transport generally has the same options as travellers by private cars: Simply paying the higher ticket prices, so no behavioural change takes place Adjusting the pattern of trips Adjusting the pattern of activities which also includes adjusting the pattern of trips Similar to the reaction of car owners, the behaviour of users of passenger services may be different in the short, medium and long term: Short term: the traveller does not change his pattern of trips or his pattern of locations. As fuel and ticket prices rise, the cost of mobility increase will put an extra constraint on the household budget (income effect). Medium term: a rise of ticket prices might lead to substitution effects. A user of public transport may switch to another mode to compensate for the extra costs of public transport. Long term: the pattern of activities may be adjusted, by choosing another location of working, recreation or even living; by shortening the travel distance a car owner can reduce the number of kilometres he travels resulting in lower fuel costs. The impacts of higher ticket prices on demand for passenger transport services have recently been researched by MuConsult (2003). It shows that a ticket price increase of 5% 101

102 for public transport is likely to result in a 1% decrease (demand elasticity of -0.2) of public transport use. To some extent this will result in less trips made, but also in a higher use of other transport modes. Taking into account that fuel prices represent only a small share in the total operational costs of public transport, it may be expected that higher fuel prices will have a very small impact on public transport through changes in passenger transport users behaviour. Also in the case of public transport increasing costs for commuting and business trips may be compensated (partly) by the employer of a public transport user. Consequently, these trips may not be very sensitive for fuel price increases. Similar to the car owners behaviour, the biggest impact may be expected on social trips as a user fully bears the costs for these trips. In general, business travellers, due to their high value-of time will react insensitive to price increases. Commuter and leisure travellers, with a relative low value-of-time are much more sensitive. Also in the medium and long term the impacts of rising fuel prices may be small. Other cost factors intervene in the long term, which may neutralise the negative effects of rising energy costs. This holds in particular for urban public transport improvements in the service supply and in the quality of equipment, which could neutralise the negative effects of increased energy costs. 102

103 4.3 Conclusions on the impacts and reactions in passenger transport The various segments in passenger transport are affected in different ways by an increase of transport costs. As public transport (rail, bus, tram) is considered as a public service, fuel price increases are not directly translated into higher user tariffs. For airlines the situation is different, as they widely use fuel surcharges on the ticket price, by which the higher costs of fuel can (partly) be passed on to the traveller. This may in particular have an impact on the high elasticity demand segments of the market (e.g. holidaymakers using low cost airlines). Generally, private car users are less hesitant to pay for the fuel price increases, even though the share of fuel costs in variable car use costs is high. In this case there is a difference in short-term and long-term reactions. In the short run car owners may cut down on less necessary trips, i.e. those made from a recreational or social point of view. Such trips usually have a higher price elasticity of demand than commuting or business trips, partly because the costs of the latter can be (partly) passed on to the employer. Car users may also change their driving behaviour in such a way that it is becomes more fuel efficient. In the long term, car owners can decide to change their travel patterns by changing for instance their commuting distance (moving to their work or changing jobs). Consumers will also buy less energy consuming cars when fuel prices remain at a high level. This can for instance be seen from the increasing use of diesel fuel cars in the EU. Transport operating companies will tend to buy more energy-efficient vehicles (busses, airplanes, trains). More attention for cost awareness and fuel efficient driving behaviour are also reactions that companies show in the middle and long term. The figure below presents, in a similar way as in freight transport, how the various transport segments are affected by oil price developments and demand reacts to tariff increases. 103

104 Figure 4.4 Relation between impact and price elasticity in passenger transport The figure above presents only a qualitative and relative view. Within each segment the elasticity can vary substantially. For instance business travellers will have different reactions then social travellers, whereas captive travellers in rail transport (commuters) will have other reactions to price increases then recreational travellers. Substantial effects form oil price increases can be expected, though, in certain segments of air transport, in particula r those which are based on low prices. In other segments of the air passenger sector (e.g. business travellers) the impact will be much lower, partly because of fuel surcharges being a smaller part of ticket prices. 104

105 5 Reactions of other economic agents and governments Having explored the reactions of providers and users of transport services, this chapter deals with reactions of other agents involved. These range from manufacturers of transport equipment, to sector wide reactions of groups of transport users or transport providers, to governments. In these reactions quite different patterns might be expected as the interest of each of the types of agents is different. Manufacturers will clearly be guided by a desire to continue the production of transport equipment in the future circumstances and can be expected to have a long term interest in increasing fuel efficiency. Transport sector wide reactions are more likely to be guided by short term interests in neutralising the increased costs of transport or living. Governments are likely to be guided be both short term interests (appeasing pressure groups) and long term policy perspectives such as among others sustainability of transport and economic production, and economic efficiency and competitiveness. 5.1 Reactions of transport equipment manufacturers Car Manufacturers In the 1970 s the oil crises increased demand for fuel efficient cars. Car users became more aware of the cost of fuel and fuel efficiency has become one of the criteria for the choice of car. However, it is one of the criteria, while other developments and demands also play a role. For instance as already indicated the engine power of cars has increased over time. Another development is the increase in average vehicle weight. As the figure below shows, the light-duty vehicle weight in Europe has increased on average about 30% over the last 30 years. Increases in the average vehicle weight reflect the combined impact of two trends: (1) the growth in the average weight of vehicles within individual vehicle classes (see next figure), and (2) increases in the proportion of total vehicle sales represented by larger vehicle classes. 105

106 Figure 5.1 Development of the average light-duty vehicle weight in Europe Source: Forschungsgesellshaft Kraftfahrwesen mbh Aachen (FKA), Body Department, Final Report: Lightweight Potential of an Aluminium Intensive Vehicle, December 2002 The increase of the within-class weight results from the adding of additional features to the car, for example add-ons that increase safety, improve driving characteristics, reduce noise, reduce emissions and increase comfort. This required adding new components to the vehicle interior, body and chassis, which have become structural components of cars. They also have been electrical or electronic for example, the capacity of electrical systems has to be increased to handle the additional electric power demands. Heavier cars also require additional equipment to maintain driving performance. The weight of some components has been reduced through design changes and materials substitution. But these reductions have been more than offset by the growth in weight due to the increase in vehicle functionality. The increase in vehicle weight can also be seen in the next figure. It can be seen that improvements in gasoline-powered engine fuel consumption were achieved in Western Europe, while at the same time, rated power and vehicle weight increased. 106

107 Figure 5.2 Passenger car fleet characteristics, Source: Future powertrain technology Many options, even more unknowns, Stefan Pischinger, FEV Group, 2005 The next figure depicts the development of the average sales-weighted fuel consumption rates of passenger cars sold in Europe from 1980 to During this period fuel consumption rates of passenger cars fell by 12%, from 8.3 l/100km to 7.3 l/100km. As a result however of the increase in the proportion of larger vehicles in total sales combined with the increase in average vehicle weight, all of the decrease occurred between 1980 and From 1985 till 1995, the (weighted) fuel economies of new passenger cars sold in Europe have remained essentially constant. 107

108 Figure 5.3 Weighted average fuel consumption of new passenger cars in Europe, Source: Since about 1998, there has been a continuous increase in the penetration of high-speed, direct-injection diesel engines into the passenger-car market in Western Europe. Encouraged by high absolute fuel prices and a reduced tax level on diesel fuel (compared to gasoline), the popularity of these fuel-efficient vehicles have been exceptional. In response to consumer preference, the car manufacturers have adapted the passenger-car diesel engines to increase power, engine speed range, and advancing fuel efficiency and exhaust emissions control. The figure below shows a comparison of gasoline-powered vehicles and their direct-injected diesel-powered competitors as functions of vehicle weight. It can be seen that as vehicle weight increases, the average fuel-consumption improvement increases from 34% at 2200 lb (1000 kg) to 40% at 4400 lb (2000 kg). 108