Deregulation or Reregulation:

The Regulatory Reform of

Air Navigation Service Providers

Alan Jones
&
James Guthrie*
Faculty of Economics and Business, The University of Sydney

Paper presented at the

Air Transport Research Society World Conference, UC Berkeley, USA, 21-23 June 2007

*Corresponding Author
Discipline of Accounting,
Faculty of Economics and Business,
The University of Sydney, NSW, Australia.
J.Guthrie@econ.usyd.edu.au
Abstract

This comparative study looks at the social and economic regulatory reforms
introduced in the air navigation service (ANS) industry during the past two decades, as a
result of governments restructuring service providers into commercial organisations with
separate legal entities that have greater managerial autonomy and financial independence.
The widespread ownership changes from public departments to private companies,
combined with the ANS industry’s perceived failure of traditional hierarchical
governance structures has provided powerful stimuli for regulatory change, resulting in
the separation of service provider from regulator.
The governance of these ‘new’ enterprises has been achieved through the
establishment of specialist independent regulatory bodies, given the responsibility to
protect ‘public interest’ by promoting social objectives like safety and environmental
protection; and economic controls to mitigate monopoly abuse, by ensuring fair-trading
or anti-trust practices to increase economic efficiency.
The paper argues that as the ANS industry has commercialized, contractualized
and managerialised, governments have responded differently to these pressures causing
some countries to deregulate and others to re-regulate. In particular, the implementation
or non-implementation of pricing regulation models, such as Rate-of-Return or RPI-X is
examined with reference to managerial incentives to increase economic efficiency and
reduce organisational risk from increased elasticity of supply and demand.
In conclusion, this paper shows that government reforms and choice of regulatory
regime have had significant effects on ANSP on organisational sustainability and
effectiveness.
1. Introduction

During the past twenty five years, Air Navigation Service Providers (ANSP) –
along with many other public organisations throughout the world – have been the subject
of reforms under the paradigm of ‘New Public Management (NPM)’ . The deregulatory
programmes of the Reagan and Thatcher administration were mirrored by Canada’s
Mulroney administration (1984-93) . In Australia, the managerialist-driven Hawke
Labour Government (1983-1991) introduced radical administrative reforms under the
influence of economic rationalism . NPM was a response to the perceived flaws of the
ancien regime, or classic ‘Weberian’ hierarchical bureaucracy, governments sought to
inject private business principles and market economics into ANSPs through
‘commercialization1’.
The reforms have often resulted in ‘traditional’ governance structures
(hierarchically controlled public administrations, directly answerable to elected officials),
being replaced by ‘new’ or ‘modern’ business-like governance models.
Beginning with New Zealand, over 40 nations have commercialized their ANSPs
shifting operational and financial responsibility from government to more independent
commercial authorities , ranging from wholly-owned government corporations to
privatised companies controlled by stakeholders. Governments from both the left and
right have brought about restructuring, including Labour in New Zealand and the UK and
a centre-right government in Germany.

Among those taking this path are:

• New Zealand 1987 Airways Corp. Govt owned corporation
• South Africa 1993 ATNS Govt owned corporation
• Germany 1993 DFS Govt owned corporation
• Australia 1995 Airservices Govt owned corporation
• Canada 1996 Nav Canada Private company (non-profit ‘Trust’)
• UK 2001 NATS Public-Private-Partnership (PPP)
• USA 2004 FAA Performance Based Organisation (PBO)

1
ICAO defines commercialization as the ability of an organization to operate like a commercial business,
whether it is wholly or partly owned by government or fully privatized (cf Dillingham, 2005:5).

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 Contemporaneous with the NPM reforms, the state’s role shifted from that of
service provider to service regulator. We now live in the age of the ‘regulatory state’ ; a
concept developed to contrast a distinctive and emergent form of governance from the
instruments and institutions of the ‘public-bureaucracy state’, which traditionally
deployed public ownership, direct state provision of services, and integrated policy and
operational functions. The regulatory state governance form involves changes in public
management characterised by the separation of operational from regulatory activities,
purchasers and providers of public services, operational from policy tasks within
government departments, and the creation of executive agencies.
Each of these policies shifts the emphasis of control, to a greater or lesser degree,
from traditional bureaucratic mechanisms towards instruments of regulation . The control
of ANSPs as it now stands is a problem created by commercialization and more
significantly privatisation, one which has been met with the creation of new regulatory
bodies . However, as Button & McDougall conclude:
‘The challenge is to find a regulatory regime to limit any excess in
monopoly power that may be associated with ANSPs activities, without
stymieing incentive and innovation’.

ANSPs reforms have been the focal point of an expanding body of literature2. The
regulation of business and especially regulation of the privatized utilities has attracted
much attention from both policy-makers and academics . The majority of studies have
taken a ‘technical’ approach to assessing the reforms by focusing on issues such as
ownership and financial structure, performance, board membership, user fees, price
mechanisms, etc. Broadbent and Guthrie point out the limitations of purely technical
accounts. It is argued studies should not focus on technical issues in isolation, but rather
view them as organisational and social phenomena, embedded within their broader
institutional setting . Peele echoes this position stating ‘regulation is too often analysed in
narrow technical terms which neglect the important questions of political choice in
regulatory decisions’. More recently the comparative studies of Lewis , Button ,
Dempsey et al , Dillingham , Button and McDougall and Oster have responded to these

2
See Button, K (2005:8), Button, K. and G. McDougall (2006:240) and Lewis, I. (2004: 387-388) for more
inclusive accounts.

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criticisms by giving greater consideration to organisations’ institutional context in their
accounts.
This paper seeks to add to this latest body of work by also taking an institutional
approach to the historical changes that have occurred in the regulatory regimes of four
ANSPs:
• Airservices Australia,
• Nav Canada,
• National Air Traffic Services (NATS),
• Federal Aviation Administration (FAA).

Using logic similar to that employed by Lewis , the cases were selected from
Anglo-American countries considered leaders in NPM and representative of the major
governance models that now exist. As Kay points out ‘the best comparisons are confined
to the comparatively few unbiased situations where there are both public and private
firms operating’.
Despite the countries’ similarities, Button found a diversity of institutional
structures had emerged during the reform process. An institutional approach facilitates a
better understanding of which institutions mattered, and why particular ‘templates’ where
more attractive than others during the implementation of distinctively different regulatory
regimes . Each country has its own traditions and approaches to regulation more
generally, and any change to a particular industry, such as ANS provision, must be set
within this larger context . The range of implementation styles appear to match very well
to the characteristics of the politico-administrative regimes
The main focus of the paper is reform to economic regulation; including its social
form e.g. Community Service Obligations (CSO). The introduction of private capital into
such organisations necessitates their economic regulation to ensure commitment. Social
regulation which affect safety standards and environmental protection, etc are only
examined from a regime perspective, as their regulation has long been instituted in
infrastructure industries whether state or privately owned. The record of air safety has
shown public safety has not been compromised since the deregulation of the airline

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industry, similarly Dillingham found safety levels had not been eroded since the
commercialization of ANSPs.
The structure of this article is organized as follows. Section 2 examines the
motivations for regulation and problems of ANSPs as natural monopolies. The paper then
examines the cases, enlisting the analytical framework of Levy and Spiller , who view
regulation as a design problem, consisting of two components; regulatory governance
(Section 3) defined as ‘the mechanisms that societies use to constrain regulatory
discretion and to resolve conflicts that arise in relation to these constraints ’, which will
be analysed using Considine’s three governance models and; regulatory incentives
(Section 4), comprising the rules governing pricing (e.g. ROR & Price Caps), entry, etc.
The concluding Section 5 discusses the implications of successful or unsuccessful
alignment between the governance models and regulatory incentives and the impact on
organisational sustainability and effectiveness.

2. Regulation of ANSPs

‘Regulation is the sustained and focused control, normally exercised

by a public agency, over activities that are valued by a community’

2.1 Deregulation or Re-regulation?

In an attempt to improve efficiency and attract private investment many OECD

countries have implemented economic reforms that have increased the role of the private
sector in the provision of transport infrastructure facilities and services. As the role of the
private sector increased through commercialization/privatization, it seemed logical that
government regulations would be reduced . But in reality, deregulation often lead to the
opposite . Instead of eliminating the need for regulation, such reforms emphasized the
need for effective re-regulation and regulatory institutions . Deregulation and
liberalization are followed by more rules and regulation, allowing growth of the
regulatory state and public bureaucracies .
Governments introduce regulation due to a variety of technical justifications and
political motivations. Three theoretical frameworks have gained acceptance as to why

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regulation occurs: public interest/legal analyses, interest group theory, and private interest
models .
According to the ‘public interest’ school of regulation, many of the technical
rationales for regulating can be described as instances of ‘market failure’ such as natural
monopoly, inadequate information, or externalities. Where monopoly occurs, the market
‘fails’, because competition is deficient . In such cases, the regulator must establish
incentive schemes or other methods of regulation that induce the firm to attain the
socially optimal outcomes . The ‘public interest’ school also suggests that,
regulation is only justifiable when regulation is the best way of correcting
the market failure, and that the benefits of the regulation outweigh its
costs .

However, well before the ‘regulatory age’ Posner saw a serious problem with any
version of the ‘public interest’ theory, seeing no linkage or mechanism by which a
perception of the public interest was translated into legislative action. Nevertheless, this
social welfare justification is so widely accepted that the natural monopoly case is viewed
as the prototypical context for government regulation .
In the legalist tradition, the implementation of legislation is also part of the
debate. Legislators decide on the type of organisation that will be used, SOEs rather than
departments, regulatory agencies rather than commissions, etc. They also choose the form
these institutional alternatives will take by mandating their governance structure, and
financing and employment arrangements. Legislators specify the participation and
decision rights of the various groups by deciding for example how vague legislation will
be, how much authority will be delegated to officials, and the rights to participate directly
in the organisation’s decision-making process .
The enacting legislation governing the commercialized ANSPs differs
considerably in their vagueness, ranging from highly specific contracts to mere guiding
principles. On the one hand Lowi has long advocated precision and detail in legislation,
archetypal of the UK’s licensing system, so as to avoid ambiguity and confusion. On the
other hand, Ackerman recommended broadly worded statutes that give officials latitude
to implement the regulatory mandate . The Civil Air Navigation Services
Commercialization Act enabling Nav Canada sits apposite Ackerman’s

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recommendations, however the Act’s ‘guiding principles’ particularly its pricing policies
have been criticised by Lovink for their vagueness, as they effectively limit judicial
recourse by customers. The most common argument for the passage of vague laws by
legislators – and therefore delegating decision making to the administrative level – is that
this delegation reduces legislative decision-making costs .
Interest group theorists see regulatory developments as the products of
relationships between different groups and between such groups and the state . The role
of interest groups is crucial in understanding regulatory policy-making; the institutions of
the ‘regulatory space’ allocate the roles and responsibilities of the various interests .
Better organised and committed groups may seek to transform traditional hierarchical
relationships between the state and producers into a more horizontal three-way
relationship between the state, providers and users. Optimistically group theorists see the
emerging regulatory landscape as a compromise among these groups. McCallum cites the
early involvement of user groups in the development of Nav Canada’s stakeholder or
network governance model as a key factor in the reduction of overall government
regulation.
The public choice/private interest theory is that individuals, as they act in society,
seek to realize their preferences . Private interests have been traditionally regarded as the
key source for the origin of regulation . Emphasis is placed on such actors to circumvent
official regulatory goals and promote ends that are self-serving and to act in pursuit of
such ends as job retention, re-election or enhance wealth. There are a number of case
studies of trucking, airlines, railroads, and many other industries that support the view
that economic regulation is better explained as a product supplied to interest groups, than
as an expression of the social interest in efficiency or justice . Public interest is therefore
relegated to a minor role in the development of regulatory regimes .
Utilizing these theoretical perspectives during the following discussions of
regulation will help to understand the emergence of the variety of regulatory regimes and
governance models used to control ANSPs.

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2.2 ANSPs as natural monopolies

A natural monopoly exists when a market is served most cheaply by a single firm,
rather than two or more firms . ANSPs exhibit the main characteristics of natural
monopolies as they have considerable economies of scale, are highly capital intensive,
and are crucially important services for other sectors of national economies .
• Substantial economies of scale exist, as the average unit cost of service delivery
decreases as output increases. The most prevalent source of economies of scale is
fixed costs, that is, costs that must be incurred no matter how many units of
output are produced . Up to 70% of the costs incurred by ANSPs are labour costs
which should also be considered fixed; as the long lead time required training Air
Traffic Controllers makes it impractical to adjust workforce levels in response to
‘short-run’ fluctuations in demand.
• They are highly capital intensive. Large capital expenditures are incurred by
ANSPs building Control Towers, ground based navigation aids, surveillance
radars, and secure en-route control centres, etc. These costs are substantially
‘sunk’ costs as the specialist equipment and facilities are not transferable across
other markets. While future technology will reduce the level of sunk costs through
the use of virtual towers, Automatic Dependent Surveillance - Broadcast (ADS-
B), Controller-Pilot Datalink Communication (CPDLC) etc., governments need to
un-bundle these assets if they are to promote competition, as their inclusion make
entry into the market prohibitively expensive for potential competitors.
• As part of a wider international transport system their uninterrupted operation and
level of service are integral to a nation’s social and economic development.
ANSPs are considered essential services that cannot be allowed to fail .
Accordingly governments have powerful incentives towards the sustainability of
private investment .

An alternative to regulating natural monopolies was argued by Demsetz who

posited a lack of competition in a market does not have to translate into a lack of
competition for the market. The contestability of a natural monopoly market depends on

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the efficacy of the process of potential competition. Franchise bidding auctions allow
regulatory bodies to choose a supplier on the basis of competitive bids. Accordingly
economies of scale do not of themselves constitute a barrier to entry natural monopoly .
Indeed the supply of air traffic personnel and services to governments is increasingly
being delivered under contract auctions. The FAA’s Contract Tower program (of which
Airservices is a supplier) and Serco Plc contracts throughout the Middle East and Canada
are examples.
Furthermore Posner cautioned that natural monopoly ‘does not refer to the actual
number of sellers in a market but to the relationship between demand and the technology
of supply’. Satellite communications and surveillance technology has advanced to the
stage where ANSPs can provide services to users in vastly distant locations, traversing
the traditional boundaries of the natural monopolies which are in fact political constructs
historically delineated along national borders or territorial waters.
Few economists (and even fewer politicians) seem willing to abandon regulation
entirely, and the public seems to want to retain the benefits of regulation . Therefore the
barriers to entry remain, as politicians continue to be reluctant to cede control of national
airspace to foreign organisations, due to issues of ‘public interest’, such as national
security, preferring to treat ANSPs as natural monopolies. Under such conditions where
competition for the market is not considered a viable regulatory mechanism, direct
controls are necessary to ensure satisfactory performance: controls over profits, specific
rates, quality and sustainability of service, even permission whether to enter the business
at all .

The following section looks at the changing landscape of ANSP regulation since
the early 1980s. The shifting locus of regulatory authority and the decentralisation of
decision-making to various interest groups are examined in each of the four cases.

2.3 Transition of Regulatory regimes

The regulatory scene of the early 1980s differs significantly from that of today.
The new models of regulation sharply contend with traditional models over their
effectiveness in realizing regulatory goals . The transition of public organization

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governance structures and regulatory regimes has evolved incrementally in most cases,
but abruptly in some. Typically the process follows Guthrie’s regulatory transformation
model. Government departments become Statutory Authorities with explicit managerial
and financial authorities. Corporatization or privatization often follows, which places the
organizations under private company/corporations law and specifically introduced Acts of
Legislation (see Appendix 1.)
In choosing an institutional type, Moe believes political actors fundamental task
is to find and institute a governance structure that can protect their public organizations
from control by political opponents. The problem is not one of achieving technical
efficiency, as with profit orientated private firms, but of political control and stability. To
this end the legislation enacting and controlling the commercialized ANSPs often
stipulates; board membership (size, composition, political or user appointment), limits to
commercial activities, CSO protection, and consultation obligations. Fear of takeover,
particularly by a multinational or foreign firm, is one reason why the British government
kept a ‘golden share’ of NATS and why Nav Canada’s assets must revert to the Canadian
government if wound up.
The ‘politics’ of commercialization frequently requires the establishment of
separate regulatory agencies to provide reassurance that the public interest would still be
served. Government departments or nominated agencies increasingly regulate the
provision of services (setting down standards, monitoring for compliance and enforcing)
through the instruments of statutory regulation, contracts and self- and co-regulation.
Regulatory agencies were created to remove regulation from direct political
control and as an alternative to public ownership. It is believed they will improve
regulatory performance and efficiency without having negative side-effects on other
values such as political control and democracy . The argument for having single industry
regulators is that dedicated regulators specializing in a single industry can more quickly
develop the necessary expertise to regulate effectively. One the other hand cross-industry
regulators (e.g. ACCC) can transfer lessons learnt form one industry to another.
Autonomous regulatory agencies are becoming accepted as ‘best practice’ all over the
world – the British Next Steps program alone has created more than 140 new semi-

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autonomous agencies. Their autonomy, however, leaves them vulnerable to capture by the
interests they were designed to regulate.
Hood proposes a more self-interested, short-term motivation for the proliferation
of independent regulatory agencies is to reduce political risk, through ‘blame-shifting’.
Politicians are able to take electoral credit through arms-length control, or avoid blame
through delegation to an organisation’s executive management. ICAO however warns
politicians who believe risk can be transferred to autonomous public or private sector
organisations stating, ‘It is the state that in the final analysis is responsible for air
navigation services and, therefore, in reality, autonomy cannot ever be complete’.
Accordingly politicians remain susceptible to reputation damage as they are unable to
transfer political risk.
Regulatory developments during the New Public Management era also included
new forms of oversight . Uncoupling regulation from other functions of bureaucracy has
increased the ‘relational distance’ between service providers and free-standing regulatory
agencies, resulting in an audit society , with regulators obsessed with checking and
verifying. The scope, scale and formality of arm’s length regulation has increased
dramatically as the level of hands-on central direction diminishes .

The following section looks at the changes that have occurred to the regulatory
regimes and governance structures of four ANSPs as a consequence of NPM reforms.

3. Regulatory governance of four Anglo-American ANSPs

In this section the regulatory regimes of the four Anglo-American countries and
the resultant ANSP governance types are examined. Regime analysis sees regulation as
essentially a political act. It incorporates the relationship between private interests and
public bodies that make governing decisions. The decentralisation of decision-making
reflects the changing relationships between the state, service providers and users during
the past quarter century.
Francis sees the location of regulatory decision-making as a factor in defining a
regulatory regime. The extent to which regulatory responsibility is located in a

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government authority or placed in private organisations influences the nature (heavy-
handed or light-handed regulation ), the limits, and the effectiveness of any particular
regulatory regime, which ultimately affects performance and sustainability. As
McDougall & Roberts observed:
‘There are clear linkages between the governance structure and
institutional framework, and ANSP performance’.

The following case studies are examined from the perspective of Considine’s
governance models to help align the regulatory structures with the ideal-type realisations
of public institutions found in OECD countries. Considine identified three3 governance
strategies (Table 1.); procedural, corporate-market, and network. Each has different
legislative enactments of regulation, different expectations about the roles of managers,
together with alternative strategies for resource allocation, organisational dependency and
interdependency and accountability .

Table 1. Governance Models implemented in ANSPs

ANSP Governance Rationality Form of Primary Service Delivery
type Control Virtue Focus
FAA Procedural Law Rules Reliability Universal

Airservices Corporate/ Management/ Plans/ Goal/Cost Targets/ Prices

& NATS Market Competition Contracts Driven

Nav Network Relationships Co- Flexibility Brokerage

Canada production
Adapted from Considine

The Procedural model is reflective of traditional hierarchies which adhere

strongly to a universal set of rules and procedures. This has been the dominant model of
public organisations until the 1980s. Although rigid in approach and criticized as
inadequate to serve a more dynamic environment, the procedural model is lauded for its
fair and equitable treatment to the public.

3
Considine originally hypothesised the Corporate and Market Governance types as separate. However his
study found the hybridized Corporate-Market type both robust and parsimonious.

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 The Corporate-Market model has now become the dominant model in an era of
commercialization/privatization. Hierarchical governance is replaced by private
ownership and market incentives. ‘Economic rationalism’ dominates policy with a
preoccupation on achieving quantifiable targets and the bottom-line. Contracts underpin
relationships within the sector, and those between the public sector and its private sector
suppliers . However the increase in entrepreneurial behaviour by officials generates scope
for goal displacement and raises the prospect of the corruption of central policy goals by
contractors.
Network governance as applied to policy networks shows effective policy
making and implementation is increasingly shaped by the nature of the collaboration
between officials and certain organized interests. Network governance attempts to avoid
potentially predatory behaviour by proposing interdependence as a binding characteristic.
More attention is paid to the development of long-term relationships with those upon
whom they are dependent for the supply of valued services .

3.1 USA/ FAA (ATO)

The US is the archetypal ‘minimalist state’ with the federal government having
very few State-Owned-Enterprises to privatise. However the US has been characterised
as an ‘uninterested laggard’ in its effort to reform its civil service . The fragmentation of
the executive, legislative and judiciary branches of US government, present obstacles or
veto points, at each stage of the process – providing limited political support for
administrative reforms to succeed. While the US’s public sector has found it relatively
easy to bring in private sector management concepts such as TQM , each of the past four
administrations has experienced difficulty implementing more significant federal public
management reforms .
The FAA remains a traditional vertically integrated government hierarchy,
characteristic of Considine’s Procedural governance model. It continues to be both
provider and regulator of Air Traffic Services, whereas all other cases studied have
divested some or all of their safety and/or economic regulation to commissions or
autonomous agencies. In 1993 Vice President Gore’s National Performance Review
(NPR) recommended air traffic operations be reorganized into an independent

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government corporation, utilising private sector business practises. As a follow on, the
Clinton/Gore administration proposed legislation to create a not-for-profit US Air Traffic
Services Corporation (USATS), to be governed by a board of directors and a chief
executive officer and regulated at arm's length by the FAA – a structure similar to
Australia.
Congress rejected USATS in 1995 – there was a sense that the public would
continue to hold Congress responsible even though it would have much less control over
a corporation than a government agency. However Congress did adopt some of the
administration's proposals, namely acquisition, personnel, and management reform.
Unfortunately attempts to reform management and corporate culture failed to achieve
significant improvements , resulting in a growing number of industry experts calling for
extensive reforms.
In accordance with recommendations from the 1997 National Civil Aviation
Review Commission – also known as the Mineta Commission, President Clinton issued
an Executive Order (EO) establishing an Air Traffic Organisation (ATO) as a
Performance Based Organisation (PBO) within the FAA. The PBO legislation, first
introduced in 1996, is explicitly modelled on the experience of the Next Steps
programme and agencies in the UK . Again the legislation failed to gather any
congressional support. The PBO initiative proved to be disappointing with only three
offices established by 1999. Others including the ATO have been stymied by
bureaucratic, union and congressional resistance .
The ATO was eventually established in February 2004; it is governed by a
politically appointed, Air Traffic Services Subcommittee (ATSS) of the FAA’s Aviation
Management Advisory Council (MAC), which functions as a board of directors,
overseeing management and budgetary responsibilities, ensuring it becomes more
customer-driven and performance-based . However, there remains considerable confusion
about the roles and decision-making responsibilities as between the Administrator, COO
and the ATSS .
Concurrent with the ATO’s formal launch, the FAA created a separate Air Traffic
Safety Oversight Service to oversee safety regulation as:

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 ‘Both safety and public confidence in the safety of the system might be
enhanced if greater separation between the functions of regulating the ATC
system and operating it.’

Clinton’s EO also proposed Congress reform the way air traffic services are
financed, by replacing the excise tax on passengers with authorization for the Air Traffic
Organisation to set cost-based charges on commercial users of the air traffic system. The
FAA draws the majority of its budget from the Airport and Airways Trust Fund (AATF)
which has fallen by USD $2.0 billion (19.3 %) since 1999, due to reduced airline
capacity, and the increased market share of low-cost carriers. Meanwhile the FAA’s
budget has increased from $9 billion in 1998 to $14 billion in 2004. The FAA continues
to fund operations largely through ticket taxes – a system which FAA Administrator,
Marion Blakey believes is not sustainable . The proposed introduction of user fees has
resulted in much lobbying between interest groups to influence FAA fee calculations.

Regulatory authority of the FAA remains firmly in the hands of Congress.

Political lobbying to protect jobs, or reallocate AATF funds toward non-aviation purposes
has received primacy over opportunities to reduce costs or improve services to ANSP
customers . As an example, last year the consolidation of Control Centres, to gain
economies of scale, was rejected by the House 261-166. Members continue to enjoy their
leverage over the FAA bringing home the bacon to their constituents .
Hitherto, the commercialization of the US air navigation system remains in its
infancy .

3.2 Australia/ Airservices

During the 1980s there was a growing consensus among Australian politicians
that the public service had become a ‘law unto themselves’. The need for reform was
illustrated in the government’s white paper on the public service and the 1984 Public
Service Reform Act . Hawke (1983-91) and Keating’s (1991-96) ‘economic rationalist’
governments instituted market-type mechanisms within the public service. However,
many privatisation initiatives in Australia stumbled in terms of performance, forcing a

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shift in policy from full privatisation to degrees of commercialization, including
corporatization .
In 1995 the Civil Aviation Authority separated safety regulation from service
provision with the establishment of the Civil Aviation Safety Authority (CASA) and
Airservices Australia respectively. Airservices incorporated under the Air Services Act
1995, which stipulates a board composition of Chairperson, Deputy Chairperson, CEO
and six other members. The board is appointed by and accountable to the Minister for
Transport and Regional Services for the performance of Airservices. Its operations are
subject to review, not only by CASA but also the Australian Transport Safety Bureau
(ATSB) who is responsible for air safety investigation.
Airservices operates under the Commonwealth Authorities and Companies Act
1997 (CAC Act), which provides standardized accountability, ethical and reporting
provisions for Commonwealth bodies that are separate legal entities. In the performance
of its functions and the exercise of its powers, Airservices must, consult with government,
commercial, industrial, consumer and other relevant bodies and organisations (including
ICAO and bodies representing the aviation industry). Airservices obtains policy advice
from a Special Aviation Reform Group (ARG) and more recently stakeholder groups such
as the Australian Strategic Air Traffic Management Group (ASTRA), which represents
Airlines, Airports, Regional Aviation, Pilots, GA and various government organisations.
Airservices is required to submit a corporate plan to the portfolio Minister and
Finance Minister annually. While the power of veto is retained by the portfolio Minister
who may provide direction relating to the performance of Airservices’s functions or the
exercise of its powers, real regulatory authority has shifted from the state to Airservices’s
executive. Under the Airservices Act, Airservices’s board have greater autonomy to set
prices and charges, allocate resources and attract private funding. Accordingly,
Airservices’s governance has shifted to Considine’s Corporate-Market type. The board is
required to gain prior approval from the Minister in the determination of charges for
services or facilities – unless they are provided under contract. As noted in The McGill
Report, ‘This exception is particularly significant having regard to the fact that the bulk
of Airservices’s services are provided under contracts with it’s customers’ .

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 Airservices operates under Price-Cap regulation which is used to provide greater
managerial incentive than more traditional Rate-Of-Return (ROR). Airservices must
obtain endorsement from the Australian Competition and Consumer Commission
(ACCC) pursuant to the Prices Surveillance Act 1983 (PS Act), for proposed increases in
the prices charged for terminal navigation, aviation rescue and firefighting and en-route
services. Once notified of the proposed increases, the ACCC will seek submissions from
interested parties before ruling. In 2002, Airservices successfully lobbied the ACCC for
price increases to cover the reduced demand for its services resulting from the downturn
in aviation activity since September 11, 2001 much to the criticism of stakeholders, who
complained:
‘Airservices made a profit the worst year of aviation history.’

However the ACCC’s legislative powers are limited, a situation recently

illustrated by a forthcoming ACCC inquiry into oil company price fixing – the 46th of its
type. Members of parliament, have compared the competition watchdog to a tabby cat
and continue to urge for an increase in its powers.
In the Corporate-Market governance model price becomes a determinant of
service provision. To maintain commitment to Community Service Obligations (CSO)
that are economically unviable, providers must be subsidised. For that reason the
government subsidises Airservices’s costs in servicing remote localities through the
Remote Air Services Subsidy Scheme. The scheme provides a subsidy to air service
operators to provide regular weekly air transport services for the carriage of passengers
and goods, such as fresh food, medical supplies and spare parts, to isolated communities
in remote areas of Australia. The government also provides a Location Specific Pricing
subsidy for Airservices to provide terminal navigation services at some regional and
general aviation airports. The purpose of the subsidy is to limit the effect of location
specific pricing at smaller airports where low traffic limits the ability to meet the real
costs of air traffic control services. Fourteen airports currently benefit from this subsidy .
Airservices’s government ownership and conservative financial structure ,
provides increased protection against increased elasticity in demand. Under the
conditions of the Airservices Act 1995, Airservices need not pay a dividend to the

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government, while continuing to borrow from the Commonwealth. In addition it has the
regulatory freedom to pursue external business opportunities through contract
arrangements. For example Airservices provides ANS to the US and Pacific Islands, and
training to China.

3.3 UK/ NATS

The election of Margaret Thatcher in 1979 marked the beginning of an era of
vigorous monetarism. UK inflation had reached alarming levels and policies to reduce
public spending as a proportion of GDP were introduced. The conservative government
of Thatcher (1979-90) – a staunch advocate of NPM managerialist principles –
marketized and minimized many public function to the private sector, and introduced
market-type mechanisms into the remaining public sector .
Since the 1980s, public-private partnerships were viewed as a derivative of the
privatisation movement. The effective regulation of public-private partnerships is crucial
to their success . This contrasts with the deregulatory aspects of NPM, which was
supposed to roll back the state and give first priority to market interests, this trend has
enhanced the growth of the Regulatory State . ‘Privatisation with regulation’ of UK
utilities began in 1984 with British Telecom, along with the creation of the first
‘independent’ regulator, the Office of Telecommunications (Oftel). Major (1991-97)
continued the privatization movement with the sell-off of the railways and British Coal.
In line with the Next Steps programme, a 1989 Transport Select Committee
Report and 1990 Monopolies and Merger Commission Report recommended the
government split the Civil Aviation Authority (CAA) into two separate organisations to
achieve greater transparency and accountability; however no decision was made on
privatisation at that time . In 1995 the government announced its proposal for NATS to
become a public-private partnership (PPP). To facilitate the privatisation process NATS
was incorporated as a wholly owned subsidiary of the CAA on April 1 1996. However it
was the final PPP step that has been the most controversial, raising more questions than
answers.

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 The Select Committee on Environment, Transport and Regional Affairs
Committee’s second report concluded:
‘The current proposal for a PPP is, in our view, the worst of all the
possible options for the future structure of the company’

The PPP was widely opposed and some of its critics proposed alternative models
such as Airways New Zealand’s corporatization (similar to Airservices) and Nav
Canada’s ‘trust’ model. Corporatization was rejected, as a strong motivation for the UK’s
flagship PPP policy is intended to alter the state's role to macro-management or
establishing the `rules of the game’, by removing Ministers and Civil Servants from the
detailed or micro-management of enterprises .

Nav Canada’s ‘trust’ model was also rejected as an option for the future of NATS.
The government argued that its non-profit status and ownership structure created little
incentive to maximise efficiency, or improve management practices. NATS informed the
Select Committee that:
‘the trust structure does not provide strong incentives to improve
efficiency, nor does it provide access to private sector management
expertise and skills which the public-private partnership will afford’
.

Undaunted, the Deputy Prime Minister John Prescott confirmed the government’s
PPP proposal for NATS with the adoption of the Transport Act 2000. NATS was partially
privatised in July 2001 with the government retaining a ‘golden’ share of 49% share
ownership, with 3 board directors. The remainder was divided between a consortium of
seven airlines The Airline Group4 46% (10 directors) and NATS staff 5% (zero directors).
The CAA retained regulatory authority over NATS with the establishment of two quasi-
autonomous agencies; the Safety Regulation Group (SRG) and Economic Regulation
Group (ERG).
The impact of the aviation downturn post 9/11 caused a slump in trans-Atlantic
traffic and severely reduced revenue. Unable to service its debts, UK officials concluded

4
The Airline Group is a consortium of seven UK airlines: British Airways, BMI British Midland, Virgin
Atlantic, Britannia, Monarch, easyJet and Airtours.

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that NATS was undercapitalised and required a bailout of GBP £60 million to stave off
foreclosure by banks.
The PPP was publicly criticised by leftwing MPs who urging the government to
renationalise NATS, while Liberal Democrats insisted NATS should be turned into a not-
for-profit company:
‘The amazing skills of the private sector, lauded so highly by the
government, have brought air traffic control to near bankruptcy. NATS
under public ownership produced a massive surplus for the Treasury in
every year.’ John McDonnell, UK Labour MP

Less theatrically Shaoul found prior to 2001, unlike hospitals, schools and public
transport, NATS had always recovered its costs and been able to pay its bankers, although
it did not give a dividend to the government as owner. However the extra costs involved
in the PPP deal left NATS financially unviable, even without the exogenous shocks of
2001 .
As a private sector entity its monopoly business is regulated by the Economic
Regulation Group (ERG) of the CAA. Prices are regulated in accordance with the Price-
Capping formula (RPI-X), which has been used extensively in the utilities industry to
create incentives for efficiency. X-efficiency levels are reviewed every five years.
Unfortunately for NATS submissions to ERG to raise prices post 9/11 fell on deaf ears.
ERG maintained a stance recommended by Sibley not to change X, during the first five
years, in order to maintain regulatory commitment – a key element in providing an
effective profit incentive. If X changed NATS may come to regard its profit incentive as
weak.
The government needed to find a lifeline for the company as NATS was not
allowed to fail . As part of a Composite Solution, NATS received a life saving capital
injection from the government and BAA Plc – the latter now owns 4% (two directors),
while The Airline Group’s ownership was diluted to 41%. In addition, demand trigger
points were added to the pricing structure, shifting a component of risk to users – if
traffic levels decline by more than 20%. In return for concessions to NATS, the Civil
Aviation Authority has obtained, through revisions to the Company's operating licence,
greater oversight of decisions which may carry a financial implication .

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3.4 Canada/ Nav Canada
The Canadian public service system reflects both its Westminster tradition and
influences from the US, yet remains distinctively Canadian. . In similar tradition to other
Anglophone countries the Mulroney Administration (1984-93) made extensive use of
business people and also borrowed a number to NPM ideas from the US and UK. .
However, Mulroney’s Progressive government did not enjoy the powers of the UK Prime
Minister, who was able to push through reforms even against significant opposition. The
Canadian pathway has been incremental and anti-doctrinal, with considerable stress
placed on sharing and co-operation. More emphasis was also placed on finding creative
forms of ‘Alternative Service Delivery’ mechanisms . New features were being
incorporated into Canada’s ‘new public service’ that were centred on a new set of
relationships between government, citizens and external actors .
The Government, operating partly under the rubric of the NPM established new
institutional arrangements to transportation services. Among these new institutional
arrangements were those governing airports, ports, the St. Lawrence Seaway and the air
navigation system in Canada. .
Nav Canada was incorporated under Part II of the Canada Corporations Act in
May 1995 after the Minister for Transport supported the Commercialization Advisory
Committee’s recommendation that ANS be commercialized into not-for-profit, non share
capital, private corporation. This particular structure took shape during extensive
discussions between stakeholders – the government, Air Transport Association of Canada,
Aerospace Industries Association and Unions – over a period of five years.
The Canadian government sold 100% of the Air Navigation System to Nav
Canada in 1996 for CDN$1.5 billion, creating the first fully private ANSP. The
organisation was incorporated by four members, instead of shareholders, under the Civil
Air Navigation Services Commercialization Act, and is governed by a board of 15 (all of
whom must be Canadian citizens and a majority of whom must be Canadian residents as
defined in the Canada Business Corporations Act.) representing key stakeholders, such
as the airline industry (four directors), the government (three directors), General and
Business Aviation (one director), and employee groups (two directors). In addition the

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core board elects four independent directors. Nav Canada obtains policy advice from an
Advisory Committee comprising 18 members from stakeholders across Canada.
The Canadian model has been set up as a ‘stakeholder cooperative’ . Accordingly,
Nav Canada’s governance structure typifies Considine’s Network model as Priest
observed:
‘there is a constant balancing of presences named by the founding
stakeholders, accompanied by an assigned duty to all stakeholder
representatives to put the interest of the corporation at the forefront . . . they
cannot make decisions without very high levels of agreement between
themselves’.

Nav Canada’s unique structure shifts regulatory authority from the state to user
groups, as board members are, ‘a broad-based constituency of users of the system,
including not only airline representatives . . . but also airports, unions, general aviation
and the government’. The trust model also reduces the cost of regulation due to a
decrease in ‘regulatory distance’, permitting ‘light-handed’ economic regulation to be
employed. It is argued a stakeholder board will have a shared interest in low prices and
low cost consistent with higher quality service. Nav Canada is economically self-
regulated within a set of broadly defined pricing ‘principles’; it is able to propose new or
revised fees and charges after a mandatory consultation process.
Nav Canada is financed 100% through the private debt market with a borrowing
capacity of $2.9 CDN billion. Excess revenues are either returned to users in the form of
rebates or lower future fees, or placed in a ‘rate stabilisation fund’ established to protect
against unexpected operating deficits, such as those experienced globally in the aftermath
of the September 11 terrorist attacks, Iraq war and SARS outbreak. The organization’s
financial strategy places importance on maintaining high credit ratings, which are
currently at AA-, just below that of the government, to secure capital funding at
favourable rates.
In line with the majority of ANSP commercializations, safety regulation has been
separated from service provider and remains with the Canadian government. Neither the
introduction of the Canada Airports Act (C-20) nor the Civil Air Navigation Services
Commercialization Act affected the primacy of the Aeronautics Act and the attendant
regulations that govern aviation safety in Canada. Indeed, additional regulations were

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developed to prepare for the commercialization, becoming part of the Canadian Aviation
Regulations. According to the terms of C-20, ‘The minister may also order Nav Canada
to provide additional services to northern or remote regions. However, Nav Canada will
receive financial compensation for any financial loss resulting from the enforcement of
this order’.
Industry observers cite Nav Canada’s governance model as an exemplar for the
commercialization of other ANSPs. However, the institutional frameworks of other
politico-administrative regimes would raise significant implementation challenges .

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 The examination of these case studies shows the transformation of regulatory
regimes has been affected by each countries institutional framework and NPM reform
objectives.
In the majority, separate safety regulatory agencies have been established in order
to separate economic objectives from social or public interest objectives. Economic
regulation has varied in intensity of ‘hard-handedness’ depending on the resultant
regulatory distance and location of decision-making within the new governance
structures.
The following section presents a short discussion of the economic regulatory
mechanisms implemented by governments to control ANSP’s profit. Price Capping
regulation is used by the UK and Australia, and Canada’s non-profit status which is
implicitly Rate-of-Return (ROR) regulation.

4. Regulatory incentives- economic control mechanisms

The 1980s and 90s saw changes in the theory of regulatory economics. Greater
emphasis has been given to ‘incentive’ issues and the existence of information
asymmetries between the regulator (principal) and the regulated (agent). Traditional
principal-agent theory assumes common knowledge exists about the agent’s costs and
preferences. In reality it is very difficult and expensive for the principal to obtain the
required information of the agent’s activities and cost base. If there are any errors in
assumptions of the regulator, the regulated firm or the consumer will bear the
consequences. As a result, Sibley sees modern regulatory economics ‘focusing on how to
achieve the benefits of ideal regulation without needing the formidable amount of
information required to achieve the ideal outcome’.

4.1 Rate-of-Return Regulation (includes non-profit)

ROR is effectively the imposition of a cost-plus pricing regime, where the
regulator sets prices in such a way that they cover the firm’s cost of production and
include a rate-of-return on capital that is sufficient to maintain investor willingness to
maintain or improve the company’s assets . The main shortcomings of ROR regulation

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are that it is in itself partly responsible for the complexity, cost and legalistic nature of its
administration, and that it provides inappropriate incentives to regulated firms .
Under ROR regulation, it is incumbent on the regulator to determine a revenue
requirement based on a firm's accounting costs. Such accounting costs incorporate
operating costs, taxes, allowances for depreciation, and allowed returns. The allowed
return is a ‘fair’ or ‘reasonable’ rate (an estimate of the cost of capital to the firm)
multiplied by a rate base which includes the undepreciated portion of investments
relevant to regulated operations, valued on a historical expenditure basis . What is fair or
reasonable is much argued over by teams of lawyers and accountants whenever a rate
case occurs.
ROR is considered a ‘low-powered’ incentive mechanism, as the firm benefits
little from increased efficiency; knowing that it will be able to cover increased costs with
increased prices. A further flaw in ROR was identified by Averch & Johnson , and known
as the A-J effect is the incentive for firms to over-invest in capital equipment. Inflating
the firm’s cost base by adopting highly capital intensive techniques and by unnecessary
extravagance or ‘gold-plating’, increases the asset base and increases excess returns .
Accordingly the concepts of ‘profit’ and ‘non-profit’ become ambiguous. Managers of
non-profit firms may, in effect, divert monopoly profits to themselves in the form of
salaries, bonuses, perquisites, and staff far in excess of what is required to attract and
retain a competent management .
The UK government’s criticisms of Nav Canada’s not-for-profit status, which is
implicitly ROR, are well founded. However, the Canadian government had sought to
address the problems of ROR regulation and the A-J effect through the design and
installation of Nav Canada’s unique network governance structure. To reiterate, Nav
Canada’s board are representatives of all user groups, as such gold-plating behaviour
would be detrimental to their own constituents.

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4.2 Price-Capping Regulation
When the UK government sought to privatise SOEs in the early 80s it looked for
an alternative to the ROR regulation, which had been used extensively in the US, to
regulate utilities. The government opted for a plan proposed by Steven Littlechild , who
argued that the rate of price increase for a basket of services should be indexed to an
inflationary price index, the Retail Price Index (RPI)5 minus certain percent annually (X)
which represents an offset for productivity gains. Price-Capping (PC) regulation
addresses the incentive problems and information asymmetries of ROR.
PC regulation has the advantage of simplicity, in its simplest version the regulator
does nothing except impose a cap on the regulated firm’s prices and enforce adherence.
However, as regulators want to mitigate the possibilities of ‘excess’ profit being achieved
by the monopolies, an implied rate of return is calculated. The regulatory authorities, the
ERG in the UK and the ACCC in Australia, thoroughly scrutinize available information
to calculate the firm’s cost of capital using approaches such as the Capital Asset Pricing
Model (CAPM) and makes comparisons to the rate of return of companies with risk
(Betas), similar to NATS and Airservices. In order to forecast this implied rate of return
the ANSPs also use the same methodology. E.g. Airservices employ the services of
accounting firm Price Waterhouse Coopers for this purpose.
In reality the two regulatory mechanisms will converge. ANSPs operate as
monopolies usually protected by such legislation as NATS’s operating licence,
precluding entry. As Liston concludes:
‘it is difficult to understand why a PC-regulated firm would have an
incentive to price below the caps or restructure prices in a socially optimal
manner . . . if the regulators attach some weight to traditional concerns of
distribution and efficiency. In a monopoly situation then, the structure of the
market causes PC regulation to develop into something resembling ROR
regulation.’

5
The ACCC in Australia uses the Consumer Price Index (CPI).

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5. Conclusion
Significant changes to the regulatory regimes and governance structures of Air
Navigation Service Providers have occurred since the 1980s under the umbrella of New
Public Management reform. While the ANSPs studied had similar points of origin, the
institutional arrangements of each nation’s politico-administrative regime have forced the
reforms along divergent trajectories, at different velocities.
In the US NPM reforms were predictably slow, commensurate with its status as a
‘laggard’. The reforms in the UK and Australia followed the well worn institutional paths
of their nation’s government, which dictated regulatory oversight by autonomous
agencies, organisational type, even the incentive mechanisms to be used. Similarly, Nav
Canada’s reform as a co-operative non-profit organisation, while radical in comparison to
the other ANSPs, was typical of the Canadian government’s politico-administrative
philosophy of experimenting with ASD mechanisms. Nav Canada was one of many
Canadian public sector organisations to institute this particular governance structure.
From the comparison of the cases, it appears ANSP sustainability and therefore
effectiveness (from the user’s perspective) is dependant on the alignment of compatible
regulatory regimes, incentive mechanisms, organisational governance structures, and the
ANSP environment. As we have seen problems with misalignment do not appear until
pressure is placed on the system. Cracks opened to varying degrees as a result of the
unprecedented events of 2001. The shift away from government ownership, toward
economically driven, customer focused organisations has increased the firms’
susceptibility to financial uncertainties.
As ANSPs move away from government ownership, regulatory authority should
also be relocated. The transition to corporate governance structures of Airservices and
NATS shifted decision-making to the organisation’s executive. However economic
regulation remained with the government. Due to increased regulatory distance price
mechanisms, particularly for NATS, were set quite rigidly. Fortunately, Airservices was
able to ‘bargain’ a compromise with the ACCC on the basis their prices were not actually
increasing, just returning to previous highs. However NATS’s tightly written operating
licence, its rigid RPI-X pricing regulation, and highly leveraged financial position left it
unable to sustain the post 9/11 downturn. Ironically had the UK government given more

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credence to the characteristics of the ANS sector as opposed to its NPM doctrine, an
alternative regulatory regime and governance structure may have resulted, and the
insolvency of NATS may not have materialised. Sibley sees the problems of tightly
written contractual arrangements during periods of uncertainty as a failure of the
regulatory design.
Further down the path the Canadian government’s decision to use a co-operative
stakeholder or network governance structure, in combination with self regulation has
resulted in a financially resilient organisation. The simultaneous shift of decision-making
and economic regulation toward users, through the board minimised regulatory distance
to the point where Nav Canada could self regulate.
As we have seen, the transfer of regulatory regimes designed specifically for
utilities such as electricity and water companies does not reflect the nature of the ANSP
industry. The sector is limited in its ability to affect supply, and at the same time is faced
with greater elasticity in demand. Hitherto, ANSP regulatory reforms have been more
symptomatic of each nation’s political-administrative agenda, rather than a concerted
effort to tailor regulation to meet the needs of their customers.

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 6. Appendix 1. Regulatory Restraints on ANSPs
Restraining measures
Country/ANSP Ownership Regulatory Corporate Substantive Restraints Restraints on Enforcement
History Governance Economic Safety system of Restraints
Changes
United Publicly owned NATS Operating Board of directors Independent body Independent body Licence can be Appeal process
Kingdom / until PPP in 2001 License; specifies with advisory - CAA (ERG) CAA (SRG) changed with the to Minister,
Public retain price cap, and a stakeholder Price capping, consent of NATS. underpinned by
NATS ‘golden share’ complex council RPI-X; X Informal restraints strong judiciary
(46%) mechanism to specified for 5 on abuse of
resolve regulatory year price control power by
conflicts periods sovereign

Australia / Publicly Owned; 1995 Airservices 8 member board Independent body Independent body Legislated Appeal process
Air Services declared a Australia Act; of directors - ACCC ; Prices - CASA restrictions on to Administrative
Commonwealth Commonwealth appointed by Surveillance Act (established activities. Appeals Tribunal,
Australia Authority in 1995 Authorities and Minister 1983 1995) Changes can be underpinned by
Companies Act made through strong judiciary
1997 Price Capping, process requiring
CPI-X, with X the approval of
specified for 1 portfolio and
year (in transition finance Minister.
to 5 year) control Informal restraints
periods; on abuse of
power by Minister
United States/ Publicly Owned 1958 Federal Administrator Federal Budget Self-regulated - Legislated Appeals process
FAA (ATO) Gov't Department; Aviation Act reports to Sec. for Appropriations FAA (internal but restrictions on underpinned by
separate PBO Transport separate) activities. strong judiciary
established in COO & 9 member Changes can be
2004 board (Air Traffic made with the
Services consent of
Committee) Congress
Canada / Corporatized 1995 Part II of the Stakeholder board Self-Regulated Independent body Legislated Appeals process
Nav Canada 1995 Canada of directors within broad -Transport restrictions on underpinned by
Publicly Owned Corporations Act; legislative Canada, Office of activities. By-laws strong judiciary
until 100% 1996 Civil Air principles; e.g. Air Navigation and may be changed
Privatised as not- Navigation non-profit Airspace Safety with the approval
for-profit in 1996 Services Act Oversight of Board of
Directors

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7. Bibliography

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