What can regulatory economics learn from franchise systems? -

1. What can regulatory economics learn from franchise systems? - Some additional arguments for vertical integration of railway companies Thomas Ehrmann ehrmann@ug.uni-muenster.de Westfälische Wilhelms-Universität Münster

2. Table of contents Vertical (dis-)integration in the railway industry? • Regulatory economics & railways • Mc Donald‘s & regulatory economics • Mc Donald‘s & railways • Conclusions

3. Argumentation, regulatory economics & Mc Donald‘s I. Regulatory economics and railways TAC cost minimizing VI market constellation VI no TAC new artificial institution 1 2 II. Mc Donald‘s and regulatory economics VI no TAC vertical (plural form) disintegration VI no TAC/ VI: why? (plural form) cost minimizing market constellation 3 4

4. I. Regulatory economics and railways TAC cost minimizing VI market constellation 1 • Irrelevance of cost advantages in production because of • contractual solutions • Coordination problems: (dis-)investment plans, allocation of routes, route parameters (one vs. two ways, curve radius, extent of inclination) VI can be rationalized with coordination problems market access regulation (access prices etc.)

5. I. Regulatory economics and railways 2 VI no TAC new artificial institution “The continuous control and coordination of the traffic flow is also necessary (as it is for airlines, d. A.) for railroads (…) Regarding the extent of necessary coordination activities it is not relevant whether train control, network, and transportation is managed by one company or independently (…) If a firm is not only owner of the infrastructure and train control but also provider of transportation services competitive distortion may the consequence (…) One possibility to guarantee an equal treatment of all transportation companies is given by an independent train control in analogy to air control (a.a.O., p. 285). Artificial institution to avoid/solve problems of competitive discrimination ( Mc Donald‘s)

6. II. Mc Donald‘s & regulatory economics VI no TAC vertical disintegration (plural form) 3 • Brand, services • Contractual provisions for all relevant business problems with • franchisees • Regulatory economics: assumption of discrimination against • franchisees (pro company owned outlets) • solution of regulatory economics: vertical disintegration, • access regime, quality regulation of services

7. II. Mc Donald‘s & Regulatory economics VI no TAC/ VI: why? (plural cost minimizing form) market constellation 4 • no TAC plus franchises (i.e. contracts): why company owned • outlets (i.e. VI)? • problems of codification of interfaces • problems of internalizing investments innovation

8. II. Mc Donald‘s & Regulatory economics - Challenges to Mc Donald’s solution • innovation • standardized, system wide implementation • Exploration: franchisees exchange • Exploitation: company owned outlets • reasons for VI: • maintenance of innovation capabilities • reputation Headquarters

9. III. Mc Donald‘s & railways • Mc Donald‘s: VI as a solution to underinvestment problems • in innovation • railroad specific interface issue: • adaptation of locomotives to routes (ÖBB, SBB Gotthard) • security techniques (Post-ETCS): leading trains through the central automatic control system • Lord-Cullen-report • Missing technical monitoring competency on behalf of the regulatory body • Missing system-wide management perspective (quality, security) • problems of liability

10. IV. Conclusion • (partial) VI as a solution • Reintegration as a market-based solution: Westcoast-Mainline: Profit-Sharing-Agreement with Virgin  exploration/exploitation • VI as a starting point plus solution of competition issues by access pricing etc.  economic rents of franchisees