2014-24
Looking Beyond with a Special Focus on Japan
Fumitoshi Mizutani

Looking Beyond Europe with a Special Focus on Japan
Fumitoshi Mizutani

1 INTRODUCTION
This chapter summarizes regulatory structure and reforms in the rail industry in non-European
countries. I have selected four regions—East Asia, Oceania, North America, and the former
socialist countries—with Japan, Australia, the United States and Russia chosen for each region,
respectively. Although the structure of the rail industry in all four countries will besummarized, this chapter focuses on Japan because its rail regulatory structure is quite different
from that of European countries.
Because of its differences from others, the experience of regulatory reforms in Japan
could provide useful lessons for policy makers and practitioners in Europe. One distinctive
feature of regulation in Japan is its relative moderation. Second, competition policy isdifferent: instead of direct competition for rail track, a yardstick regulation (or competition)
scheme is applied to the rail industry in Japan, resulting in indirect competition (i.e. competition
among different rail service markets). Third, most rail operators are privately owned in Japan.
Fourth, as for structure, rail operation and infrastructure are integrated. Of course, there arecases in Japan of vertical separation, but the purpose of vertical separation in these cases is quite
different from that in Europe. Finally, in Japan passenger services are dominant, and freight
services are more limited than in Europe.
This chapter consists of the following five sections. In the second section, I will
briefly describe regulation and regulatory reforms, market structure and competition policy inthe four chosen countries above mentioned. After the second section, by focusing on Japan, I
will discuss regulation policy and competition policy. Beginning with the third section, I will
explain the situation in Japan, focusing on entry and fare regulations. The fourth section will
cover regulatory reforms in Japan since 1987. In this section, after a description of major
regulatory changes, there will be a summary of the 2004 privatization of Eidan, now called
Tokyo Metro. In the fifth section, competition policy in Japan will be discussed. The
yardstick regulation scheme as a competition tool will be explained and its effects discussed.
The sixth section will contain an explanation of Japanese-style unbundling policy. The fourtypes of unbundling will be described, and the purposes and characteristics of each type will be
explained. The seventh section will discuss possible lessons for European railways based on
the results of the previous sections. The last section summarizes the points made in thischapter.

2 REGULATORY REFORMS IN MAJOR NON-EUROPEAN COUNTRIESIn this section, I will describe the selected four countries’ characteristics relative to regulatory
policies, focusing especially on entry, the ownership of the organization, and vertical structure.
Selected countries are Australia, the United States, Russia and Japan.
Although the population of Australia is small, rail networks are quite extensive becauseof Australia’s huge land area. The main rail services are for freight transport. Regulatory
reforms in Australia began in 1998, when the Australian National Railway commission (AN)was privatized and divided into several freight service companies. At this time, vertical1

separation was also adopted and the Australian Rail Track Corporation (ARTC) was establishedas the infrastructure manager (e.g., Department of Infrastructure and Regional Development(2014), Owens (2004)). Through the regulatory reform of the former state railways and theestablishment of ARTC, free access in the interstate rail network was accomplished.
This institutional reform was enacted in the interstate rail system in Australia, where
three organizational forms exist, the first of which is vertical separation. As mentioned above,
the ARTC holds and manages the interstate rail network and allocates track usage for operatingcompanies. Typical examples of operating companies are Great Southern Railway (GSR) for
passenger service and Pacific National (PN) for freight service. The second form is thevertical separation of urban railways, an example being the tram and train network ofmetropolitan Melbourne, formerly owned by the State Government of Victoria and taken overby Yarra Tram on April 1, 2004. On November 30, 2009, Keolis/Downer acquired the Yarra
Trams franchise for a period of 8 years. The third form is the vertically integrated intrastate
railway. For example, in Queensland, Queensland Rail handles both rail operation (i.e.
passenger and freight services) and infrastructure management. The Queensland Rail is a
100% publicly owned corporation (i.e., by Queensland state) and thee different brand names areused for rail services (Citytrain for urban passenger service, Traveltrain for intercity passenger
service, and QR National for freight service).
In the United States, as in Japan, instead of unbundling, deregulating railway tariffs andservices is preferred. Because of the huge national land area, rail passenger transport plays avery limited role, being concentrated in urban areas or main corridors only. Air transportation
for long distance transport and autos for short distance transport are the dominant modes.
Amtrak, which was established in 1971, is an interstate passenger rail company and a public
corporation held by the Federal government. Amtrak mostly does not hold own-track but
borrows tracks held by freight railways. The share of passenger transport by Amtrak is very
limited. In contrast to the situation in Japan, rail freight transport plays an important role in
the United States. Although there are a considerable number of freight railways in the U.S.,
seven freight railway companies are called “Class I railroad.” These freight railways are allprivately owned and vertically integrated. Circumstances in many European countries fall
somewhere between those in Japan and the U. S. The difference between Japan and the U.S isthat the situations for passenger and freight service are reversed.
Although Russia has an enormous land area, its population is similar in size to Japan’s.
Details of the restructuring of Russian Railways are discussed in Pittman (2013), Saito (2011)
and Iida (2011). According to Russian Railway (2014) and Iida (2011), Russia’s railway wasformerly state-owned, but on May 18, 2001, a Railway Structural Reform Program wasinstituted by the Russian Government based on Decree No. 384. The reform plan was divided
into three stages, to be completed in 2010. The most important point of structural reform in
Russia, according to Russian Railway (2014), was “to preserve the unity of the railway networkand separate the functions of state regulation from operational management.” However, there
are certain features characterizing the three stages. In the first stage (2001-2003), a 100% state
owned railway company (Russian Railways, RR) was established and the company was
separated from regulatory and policy making government bodies. A joint stock company
organization with 100% of its shares held by the national government, RR was instituted as aresult of the reform of the Ministry of Railways in 2003. In the second stage (2003-2005),
specialized subsidiaries for container shipments, freight deliveries, maintenance of rolling stockand so on were created under RR. At the same time, the new entry of other private railways andfreight railways was promoted. In the third stage (2006-2010), the subsidiary companies wereprivatized and freight railways shifted mainly to the private sector.
In general, these serial reforms of the state railways are evaluated more highly thanreforms in other public utility industries in Russia, such as electric power and gas. Certain
positive evaluations note that the organization of the Russian Railways has been streamlined2and that competition in service quality and price has improved in freight services due to newentry (Saito, 2011). However, critics contend that Russian Railways is still dominant and thatfair competition has not been made possible, with notable evidence being a lack of progress for
new entrants into the passenger service market.
Finally, as for Japan, the main railway services consist of passenger transport.
In asituation opposite to that in the United States, freight rail services were once vital in Japan but
have declined due to intense competition with automobile and maritime transport. Extensive
regulatory reform in Japan occurred in 1987 when the Japan National Railways was privatizedand divided into six passenger JR companies and one nationwide freight JR company. Since
then, despite two important regulatory reforms having been enacted, the organizational structurein the rail industry has remained unchanged. As for structure, vertical integration is common
in Japan. Most rail operators are privately owned. There is no competition for rail track
among rail operators because the same company handles both infrastructure and operation.
However, the yardstick regulation (competition) scheme, which is considered indirectcompetition, is applied to the rail industry in order to avoid efficiency loss due to the lack of
direct competition.
Based upon the above-mentioned information, the current situation of nationwide (orinterstate) railways in these four countries is summarized in Table 1.
Table 1 The Current Situation of Nationwide Railways in Selected Non-European Countries
Country
Population(a) (thousand)Rail passenger—km(a) (million)
Rail tonne-km(a) (million)
Total route-km(b)Passenger
Entry
regulation(c)Freight

Infrastructure
Ownership oforganization(c)Passenger

Freight

Vertical
Separation(c)TypeAustralia
22,324
16,390264,469
38,445
Free entry(upon paying
access fees)
Free entry(upon paying
access fees)
Government
ownership(ATRC)
Privateownership(GSR)
Privateownership (PN
etc.)
Legal
separation

United States
311,588
10,5702,524,666
224,792
Entry
franchised(single firm)
Free entry(upon paying
access fees)
Privateownership

Russia142,961
139,742
2,127,835
87,157
Entry
franchised(several firms)
Entry
franchised(several firms)
Government
ownershipJapan
127,799
390,973
19,417
27,182Entry
franchised(6 firms)
Entryfranchised(single firm)
Operator (JRs)ownership

Government
ownership(Amtrak)
Privateownership

Government
ownership(RR)
Government
ownership(RR)
Accounting
separation

3 private & 3
government
ownership
Government
ownership

No separation

No separation[Source]:(a) International Transport Forum (2014)(b) Central Intelligence Agency (2014)[Note]:(c) This information is summarized by the author based on several sources such as OECD(2014), Department of Infrastructure and Regional Development (2014), Saito (2011), andPittman (2011).

3

It is worth noting that it is difficult to convey the entire situation in one table. For
example, Japan has many private railways, with considerable variation in their structure. In
Australia, regulation and vertical structure vary by state. In the U.S., urban rapid railways arequite different from Class I railroads in terms of ownership. However, in a summary of thesecountries’ characteristics, the following points stand out.
Australia is clearly following reform of the type found in the UK or Sweden.
Regulatory reform is intended to create more competition and to separate rail operation andinfrastructure. However, compared with freight services, passenger services are not welldesigned to achieve their goal. The history of Russia‘s reform is too short to allow definitive
statements to be made, but it does follow a more European type of reform (i.e. verticalseparation and the promotion of competition in the market).
The U.S. and Japan show
significant differences from Europe. Although passenger service and freight service in bothcountries are perfectly opposite, both countries are similar in terms of having mainly verticallyintegrated rail systems and privately owned operators in major services. Clearly, thesecountries are on a different track from Europe. Although Europe promotes competition, Japan,
with its yardstick competition (or benchmarking), has a different perspective.
Therefore, to conclude this section, in terms of vertical structure, competition,
geographic size and mix of passenger and freight transport, Japan could present a considerable
contrast to the European countries selected for comparison. Therefore, beginning in the next
section, I will provide details about rail service conditions and regulations in Japan.

3 MARKET STRUCTURE, REGULATORS AND REGULATION IN JAPAN
Beginning with this section, I would like to focus on the Japanese rail industry. The second
section describes market structure and the regulatory body. In this section, I will also explain
privatization policies already enacted for both the Japan National Railways and the Tokyo
Metro.

3.1 Market Structure
Rail transportation in Japan continues to play an important role in passenger transport, whereas
rail transport for freight services remains a small proportion of the freight market. It can beseen from Table 2, which shows a comparison of rail share among selected industrializedcountries, that each country has a quite different structure. Freight transportation by rail in the
US is very important, but rail passenger transportation is limited to a very small proportion of
the market. Because of the huge US land area, air transportation for long distancetransportation and car transportation for intra-urban travel are the dominant modes. On theother hand, conditions in European countries fall somewhere between those in Japan and the US.
For passenger rail transportation, the share is between 7 and 11% in European countries, muchlarger than in the US but only 1/4 to 1/3 of Japan’s. The share of freight rail transportation is
between 9 and 16%, more than twice that of Japan.
As explained above, although auto transportation has been increasing in Japan as inother countries, the share of rail transportation remains very high, due to heavy use in large
metropolitan areas such as Tokyo, Osaka, and Nagoya. Table 3 shows a comparison between
rail transportation and auto transportation. As this table shows, railways remain the dominanttransportation mode in large metropolitan areas.
Although Japanese passenger railways are financially healthy and performing well in
metropolitan areas, it is worth noting that railways in rural areas and freight rail transportation
are less prevalent.
There is a multitude of rail operators in Japan. In Japan the definition of railway

4includes operators of heavy, light rail, monorails, automated guideway transit and cable cars.
According to the Ministry of Land, Infrastructure and Transport (2013), as of July 1, 2013, there
were 205 rail operators. Among these various rail organizations, there were 166 passenger
heavy rail operators and 12 freight rail operators.

Table 2 A Comparison of Rail Share in 2009

Selected Countries

Passenger
transport
Freighttransport

Person-km(billion)%
Ton-km(billion)
%

Japan

UK

Germany

France

USA

393.9

61.0

82.2

99.2

58.3

35.7

7.8

7.4

11.2

1.0

20.6

19.1

95.8

32.1

2,546.1

4.0

8.9

16.4

9.2

36.8

[Note]: These statistics were taken from a data source of the Rail Fact Book 2013 by the
Ministry of Land, Infrastructure and Transport (2013, pp.18-21).

Table 3
Metropolitan Areas

The Transport Situation in Japan in 2009
Tokyo

Osaka

NagoyaTransportation mode

Rail

Auto

Rail

Auto

Rail

Auto

Number ofpassengers
transported (million)

20,15818,585

4,494

4,739

1,102

4,014

Share of transport interms of passenger(million)

59.7

40.3

48.7

51.3

21.5

78.5

[Note]: These statistics were taken from a data source of the Ministry of Land, Infrastructure
and Transport (2013, pp.24-25).

Although a more detailed definition of ownership in the Japanese railways industry canbe found in Mizutani (2012), in general, most rail operators are privately owned. The
best-known railways are the 15 large private operators providing service in large metropolitan
areas such as Tokyo and Osaka.
Publicly owned railways are limited to the 11 operators run by the transportation
bureaus of such large cities as Tokyo, Osaka, Nagoya and so on. Of these operators, 9 are

5subway systems in the largest cities, such as Tokyo, Osaka, and Nagoya.
The JR companies are rather complicated. Six JR passenger companies and 1 freightcompany were generated when the former Japan National Railway was privatized and divided
in 1987. Among the 6 passenger JR companies, the 3 major JR companies (JR East, JR
Central and JR West) have been fully privatized. The 3 smaller JR companies (JR Hokkaido,
JR Shikoku and JR Kyushu) and 1 Freight JR company have not yet been fully privatized, as
shares of these companies are still held by the national government. The Shinkansen system,
popularly known as the bullet train, is run by the JR companies.

3.2 Regulators
An important feature of the rail industry in Japan is that regulators and policy makers are one
and the same. Whereas in many European countries, rail regulators are separate fromministries involved in policy making (see for example, Nash (2008)), in Japan the government
itself both creates and regulates policy, one reason being that competition in the rail market is
not fully open. The market itself is tightly limited to existing incumbent companies, and theidea of pursuing fair judgment from disinterested regulators has not taken hold.
Under these circumstances, the Ministry of Land, Infrastructure and Transportation has
assumed the role of regulator, making and enforcing regulations as well as formulating policy inthe rail industry. Further details will appear in the following section, but this regulator is
responsible for permitting new entrants into the rail industry and approving the ceiling price for
local rail service. Furthermore, the Ministry of Land, Infrastructure and Transportation applies
yardstick regulation to the rail service industry by collecting the results of several performance
evaluation measures and determining the standard costs of each operator.

3.3 Entry Regulations
While vertical integration is the norm in the rail industry in Japan, there are some railways thatare vertically separated. In Japan, railway organizations are classified into three categories:
Class 1: Rail organizations that provide passenger and/or freight services while holding
their own rail infrastructure (i.e. integrated rail companies);
Class 2: Rail organizations that provide passenger and/or freight services using anotherorganization’s rail infrastructure (i.e. rail operation companies); andClass 3: Rail organizations that own infrastructure and rent it to a class 2 organization (i.e.
rail infrastructure companies).
Most railway organizations in Japan are class 1 railways. Examples of class 1 railways
are the 6 passenger JR companies and the 15 largest private railways and public subway systems.
On the other hand, there are only a few class 2 and class 3 railways. A typical example of aclass 2 enterprise is JR Freight, which provides freight service by borrowing the rail tracks of
the 6 JR passenger companies. An example of a class 3 enterprise is Kobe Rapid Transit
Railway (Kobe Kosoku), a rail track holding company connecting points in downtown Kobe.
Details of Kobe Rapid Transit Railway can be found in Mizutani and Shoji (2004). Although thevertical separation policy in Japan is quite different from that in Europe, it is worth noting thatcases of vertical separation are gradually growing more common in rural areas in Japan. I will
explain these cases in a different section.
As for entry and exit regulations, in order to enter the market, it is necessary for a railorganization to secure permission from the government. The only exit regulation is that
operators notify the government one year prior to terminating rail services.

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Entry regulation: Permission system (individual operator basis)
Exit regulation: Report in advance (1 year prior)
For entry into the market before 2000, it was necessary for a rail organization to have alicense, but the system has changed and is now based on acquiring permission. Although theduration of permission is not specified by law, operators may continue operating as long as there
are no serious management or safety concerns.
Exit regulations were also lightened after deregulation. Former regulation stipulated
that operators obtain permission to exit the market. However, to quell any concern that rail
services in rural areas might be too easily abandoned, a regional council system was also
instituted, whereby if the proposed termination of rail services is deemed unreasonable, then the
council has the option of petitioning the regulator to contest the operator’s intent to terminate
service.

3.4 Fare Regulation
Rail fare in Japan is regulated. The most important feature of rail fare is that the full costprinciple has generally been applied in the rail industry, whereby it is expected that the demand
for rail services is high enough for fare revenues to cover the costs of services. The full costprinciple, however, can no longer be universally justified, as fares often no longer cover costs,
especially in rural or small urban areas.
As for price level, approval by and reporting to the regulator are required. The ceiling
price of the rail fare of each rail operator is set based on the cost structure of each operator, andthis must be approved by the national government. If the operator is faced with conditions
making it necessary to change the ceiling price, then the operator must gain approval from theregulator. In cases where the fare change falls under the ceiling price, it is not necessary forthe rail operator to seek approval; it need only report the change to the regulator.
The third important point regarding fare regulation is that yardstick regulation is applied
to the rail industry. In the rail industry in Japan, there is no direct competition for rail track, sothat many rail service companies, especially in large metropolitan areas, might tend to become
regional monopolies due to the lack of competitive transportation modes. In order to avoid
inefficient or monopolistic rail operation management, the regulator applies yardstick regulation.
Details of yardstick regulation can be found in articles such as Okabe (2004) and Mizutani(2012), but its essence is that the regulator evaluates the performance of a rail operator by using
common measures such as average cost. If an operator’s performance is inferior to thestandard level, then as a penalty the regulator orders the operator to reduce costs. Since 1997,
yardstick regulation has been applied to three railway groups: the JR passenger companies, 15
large private railways, and 10 subway systems. The results of empirical analysis show thatyardstick regulation is effective (see Mizutani (1997), Mizutani et al. (2009)).
Last, there are no specific criteria for the assessment of rail track fees. However, as for
JR Freight, the avoidable cost principle is used. In general, because rail track fees are set up tocover providers’ costs, the regulator assesses whether or not the cost is reasonable.

3.5 Other Regulations
One important characteristic of private railways in Japan is that many of them are also engaged
in non-rail business such as real estate development, retailing, tourism and others, for the
purposes of enjoying scope economies, increasing rail ridership, acquiring external economies
by land development, and so on (see for example, Saito (1993), Shoji (2001) and Mizutani(2006, 2008)).
Some railway analysts might argue that the good financial performance of private

7railways in Japan could be the result of cross-subsidization from their non-rail businessdivisions to their railway division, but this view fails to consider that rail accounting regulations
strictly prohibit a railway company from allocating rail and non-rail cost at its own discretion.
Railway companies are required to avoid intentional cross-subsidy strategies like charging highrail fares or transferring costs to and from non-rail services.

4 REGULATORY REFORMS IN JAPANThis section describes regulatory reforms of the rail industry in Japan since 1987. Reforms of
the rail industry were carried out three times. After explaining the main features of thesereforms, I will explain the privatization policies of the Tokyo Metro, which was privatized after
the privatization of the Japan National Railways.

4.1 A Brief History of Regulatory Reforms Since 1987
Since the massive regulatory reform in the rail industry that took place in 1987, two other major
regulatory reforms have been undertaken. Although the details of these reforms are explainedin Mizutani (2012), the features of these regulatory reforms are summarized as follows.
The first massive reform was enacted in 1987. In this year, the Japan National Railway(JNR) was privatized and separated into 6 regional passenger railways (i.e. JR East, JR Central,
JR West, JR Hokkaido, JR Shikoku, and JR Kyushu) and a nationwide freight railway (JRFreight). The main laws describing entry and exit regulations, price regulations and so on in
the rail industry were unified into one main law called the Railway Business Law (Tetsudo
Jigyo-ho). This law defines three categories of railway license: class 1 (for both rail operationand infrastructure), class 2 (for rail operation only), and class 3 (for infrastructure only).
The second reform was in 1997, when both the ceiling price system and yardstick
regulation were introduced. The ceiling price in Japan is different from the general ceiling
price under the price-cap regulation, which is obtained by the deflator of the consumer priceindex (CPI). As mentioned before, the ceiling price is obtained as each individual railway
company’s full cost level and must be approved by the regulator. As for yardstick regulation,
information about each individual rail operator (i.e. the average cost, efficiency improvement) isevaluated and used for fare revision evaluation.
Third, extensive reform of the Railway Business Law was enacted in 2000. Entry
regulations changed from a licensing to a permission system. As the permission systemtheoretically grants potential entrance to any organization, this change can be considered asliberalization of the rail market. The second point is that stipulations controlling the balance
between supply and demand were abolished. Before 2000, the demand and supply situation ofrail services was heavily considered when any potential new entrant appeared. The third point isthat exit regulations were also lightened after deregulation. Last, fare was deregulated. Fareapproval became necessary only when rail fare exceeded the ceiling price.

4.2 Privatization
As for privatization in the rail industry in Japan, the privatization of JNR is the most famous.
The characteristics of the Japanese approach to state railway restructuring can be summarized in
the following seven points: (i) horizontal separation (or regional subdivision); (ii) functional
separation (or passenger-freight distinction); (iii) vertical integration (or operation andinfrastructure integration); (iv) lump-sum subsidies for low density JRs; (v) establishment of an

8intermediary institution; (vi) allowance of non-rail service; and (vii) yardstick regulation.1 As
information about the privatization of JNR is widely available, I would like to focus on theprivatization of the “Teito Rapid Transit Authority” (hereafter “Eidan”) as a current case in therail industry in Japan.
The privatization of Eidan became official on April 1, 2004, when the new corporation
became known as “Tokyo Metro.” Tokyo Metro’s current profile is summarized in Table 4.

Table 4 The Current Profile of Tokyo Metro

Corporate Figures

Rail
Transportation
Figures

8,692 (as of March 31, 2013)(a)58.1 billion yen(a)53.4% (National Government),
46.6% (Tokyo Metropolitan Government) (a)343.6 billion yen (as of FY2012) (a)195.1 km(b)9 lines(c)179(c)
2,773(c)283,871 thousand car-km(b)2,278 million persons(b)18.4 billion passenger-km(b)333,215 million yen(b)255,046 million yen(b)1.31(1)

Total Employees
Capital Stock
Major Shareholders
Total Sales
Route-km
Number of Lines
Number of Stations
Rolling Stock
Vehicle-km
Number of Passengers
Operating Revenues
Operating Costs
Revenue/Cost Ratio[Source]:(a) Tokyo Metro (2014).
(b) Ministry of Land, Infrastructure, Transport and Tourism (2013)(c) Ministry of Land, Infrastructure, Transport and Tourism (2014)[Note]:
This is obtained by dividing operating revenues by operating costs.

Since 1941, when Eidan was established to build a subway network and provide subway
services in downtown Tokyo, it has become the essential transportation mode in Tokyo. It was
privatized as part of reforms of special public corporations under Prime Minister Koizumi,
whose cabinet devised the “Reorganization Plan of Special Public Corporations” in December
2001. Among other public corporations, Eidan was slated to be changed to a special
corporation as one step toward full privatization around 2004. In December 2002, the Tokyo
Metro Corporation Law was promulgated and the Tokyo Metro Corporation founded.
As the shares of the new corporation are still held by the public sector, strictly speaking
the Tokyo Metro Corporation has not yet been privatized, so that it is more appropriate to refer
to what has occurred so far not as “privatization” but as “corporatization.” Whatever theprocess is called, however, it is clear that since the first steps toward privatization have beentaken, corporate management has become much more free. Morichi (2003) describes thefollowing changes after the initial steps toward Eidan’s privatization. First, non-rail business1

For further details, please see previous articles such as Mizutani (1999) and Mizutani andNakamura (1997, 2000, 2004).

9endeavors have begun to be allowed at stations, such as real estate development and retail
outlets. Second, business plans formerly requiring government approval now need only to bereported. Third, offering corporate bonds also used to require government approval, but
approval is no longer necessary. Thus, financing methods have become more flexible.

5 COMPETITION POLICY IN JAPAN
Competition for and within the market among rail operators is almost unheard of in Japan, but
this does not mean that rail competition policy does not exist. An indirect competition policy inthe form of yardstick regulation has been adopted. This section explains the yardstick
regulation scheme and its effects, examining whether or not the scheme can be effective increating competition among operators.

5.1 Yardstick Regulation as a Competition Tool
The fifth section concerns competition policy. Compared with European countries, directcompetition among railways in Japan is limited. In particular, competitive tendering forrailway lines and railway network in general does not occur in Japan. Instead, yardstick
regulations are applied to 15 large railways, 10 public subways and 6 passenger JR companies.
In this section, the yardstick regulation scheme and the effects of the scheme are described.2
Yardstick regulation is used to evaluate rail operators when individual operators change
rail fare. In this scheme, a regulator sets up several performance measures, such as operating
cost, and evaluates rail operators’ performance. Five measures of operating cost are used: (i)track costs, (ii) catenary costs, (iii) rolling stock costs, (iv) train operating costs, and (v) station
operating costs. The standard costs for these five measures are obtained by using eachindividual rail operator’s data. The standard cost of each individual rail operator is consideredas the cost, excluding noise and conditional differences such as market. And, by comparing
the actual cost of each rail company with its standard cost, the performance of each rail
company is evaluated. If a rail operator has higher actual costs than the standard costs, thenthe rail operator is considered a less efficient rail operator. As a penalty, this less efficient rail
operator is expected to reduce actual costs. On the other hand, the more efficient rail operator,
whose actual costs are lower than its standard costs, can be rewarded for its efficiency by being
remitted half the difference between the actual and standard costs.

5.2 The Effects of Yardstick Regulation
The general attitude in Japan is to use indirect rather than direct competition. Mizutani(2005) explains that the rail system in Japan is based on incumbent operators and that thesystem has both advantages and disadvantages. One advantage is that a rail operator canconcentrate on providing better service in the long run, because the system protects incumbent
rail enterprises from potential entrants as long as incumbents’ services are not egregiously bad.
Although there is no direct competition with potential rail entrants, there is always competition
with other transportation modes such as the private auto. Furthermore, as private railway
companies develop areas along rail lines and stations by building housing and operating
department stores, they have incentives to provide better and more varied service to capture railpassengers. However, the efficiency of incumbent rail operators may suffer in the absence of
2

In addition to yardstick competition, there are other kinds of competition in Japan, such ascompetition in the same market. As for details of this kind competition, see, for example, Mizutani
and Nakamura (2000).

10

rigorous competition, especially in large metropolitan areas. In order to avoid inefficiency due
to a monopolistic situation, the yardstick regulation scheme has been introduced. It isnecessary to determine from empirical data, however, whether yardstick regulation really works.
In fact, there is empirical evidence regarding yardstick competition. First, theCommittee of the Regulatory Impact Study on Government-Regulated Public Service Charges(2005) investigates the effect of the comprehensive yardstick regulation introduced into the rail
industry in 1996. According to this study, the suppression effect on fare increase due toyardstick regulation was 1.1 to 5.5 yen per passenger, so that total user benefits in the Tokyo
metropolitan areas were 5.3 billion yen in 2000. Second, Mizutani et al. (2009) investigatedthe effectiveness of yardstick regulation by using a data set of rail companies in Japan andestimating the variable frontier cost function. They found that railways subject to yardstick
regulation improved cost efficiency by about 11.5% between 1995 and 2000.
However, it is necessary to refrain from drawing conclusions. It can be assumed thatyardstick regulation is to some degree effective. Nevertheless, as the former study has
weaknesses, it remains unclear whether the effects were caused only by yardstick regulation.
Second, even if yardstick regulation is effective, it is unknown how long the effect continues.
Third, it is necessary to know whether the same effects are generated when we apply yardstick
regulation to the public sector. These are questions to be explored in future research.

6 UNBUNDLING POLICY IN JAPAN: THE JAPANESE APPROACH
In this section, I would like to explain unbundling policy in Japan. While vertical separation is
a common policy in Europe, vertical integration is the norm in Japan. However, there arecases of vertical separation in some urban areas in Japan, such as Kobe Rapid Transit, Narita
Airport Rapid Transit, and Kansai Airport Rapid Transit. The Kobe Rapid Transit is anespecially well-known case of vertical separation, as it was established in 1958 to connect
several private rail networks downtown Kobe.3 In addition to these cases in urban areas inJapan, other cases of vertical separation have been seen in rural areas as well. In this section, I
will explain vertical separation policy in rural areas.
Vertical separation in Japan is basically taken by both class 2 railways (Rail operationcompany) and class 3 railways (Rail infrastructure holding company). However, there are now
new variations in vertical separation, with new cases being developed recently for financial
reasons. In the railway industry, the full cost principle is still the ideal, with the costs of railways
expected to be covered by fare revenues. Even infrastructure costs are included in the costs.
However, railway services in non-metropolitan areas are facing difficulties in maintaining theirbusiness because the demand for railway services has been declining. Many railway
companies in small urban areas cannot maintain their business without relying on operating
subsidies or somehow supplementing their finances to renovate infrastructure. In order toreduce the financial burden to the railway company, the vertical separation policy is used.
In regional areas, vertical separation is classified into four types, as Figure 1 shows.
The first type is a case of institutional vertical separation, whereby railway
organizations are separated into a rail operation company and an infrastructure company. This
type is further divided into two types: rolling stock held by a rail operation company and rollingstock held by an infrastructure company. As the figure shows, the rail operation company isfinancially supported by an infrastructure company or by local governments. Aoinomori
Railway and Yoro Railway are examples of this type.

3

Details of the case were provided in Mizutani and Shoji (2004).

11

Rolling Stock

Reimburse Some
Infrastructure Fee

Infrastructure Fee

Infrastructure Company
Infrastructure

Land(a) Institutional Vertical Separation-Type 1
Local
Governments

Rail Operation Company

Operating
Subsidies
Infrastructure Fee
Infrastructure Company
Rolling Stock
Infrastructure

Land

(b)

Institutional Vertical Separation-Type 2
Figure 1 Types of Vertical Separation(continued)

12

Rail Operation & Infrastructure Company
Operating
Subsidies

Rolling Stock

Infrastructure

Prefecture
Government

Lending land at
no charge
Municipalities

Land

PurchasingLand
Subsidies(c) Partial Institutional Vertical Separation

Rail Operation & Infrastructure Company
Local
Government

Operating
Subsidies

Rolling Stock
InfrastructureLand

Subsidies for
Infrastructure
Development(d) Accounting Vertical Separation
Figure 1 Types of Vertical Separation

13

The second type is a case of partial institutional separation, whereby local governments
own potions of railway assets (e.g. land), except for rail facilities. This type allows the railway
company to be financially supported by holding a portion of facilities, in a kind ofprivate-public partnership. Wakayama Railway and Sangi Railway are examples of this type.
The third type of vertical separation involves accounting separation. Although arailway company holds all kinds of facilities, the railway company provides railway services.
In order to receive certain kinds of subsidies, each activity’s accounting costs are separated.
Echizen Railway, Jomo Railway and Joshin Railway are examples of this type.
Thus, some kinds of unbundling are quite different from those in Europe. The main
purpose of vertical separation in Japan is as a tool of financial support by local governments.
On the other hand, the unbundling policy is also used as a competition tool. Even if an
infrastructure company is vertically separated in Japan, that company is not quite different froman infrastructure manager in Europe.
It is still hard to provide rail services with financially healthy figures, even if railway
organizations in rural areas take the vertical separation scheme. For these organizations, it
might become necessary in the future to stimulate competition for the rail track by promoting
new entrants with competitive tendering. On this point, policy makers in Japan should learn
lessons from the European experience.

7 LESSONS FOR EUROPEAN RAILWAYS: JAPANESE POINT OF VIEW
In this section, by focusing on competition and regulation policy, the unbundling scheme, anddemand creation, I would like to discuss possible lessons for European railways from
non-European railways, with a particular emphasis on Japan.
First, the essence of common policy in the European rail industry is that faircompetition is applied to any qualified rail operator wishing to enter the market. This policy isdesigned to foster opportunities for any qualified rail operators and to prevent inefficiency
among incumbent rail operators resulting from a monopolistic environment. On the other hand,in the Japanese rail market, new entry into the existing rail system happens quite rarely, so thatincumbent rail operators are in a monopolistic position. However, compared with European
rail operators, Japanese rail operators can stand alone financially and are not dependent on
subsidies. European policy seems to depend too much on direct competition in the market.
Competition is certainly necessary in order to improve efficiency, but a new entrant’s entry into
the market does not always ensure long-lasting efficiency. For example, researchers finddiffering results when investigating whether competitive tendering cases in Europe contribute to
the reduction of costs or fail to reduce cost (e.g. see Nash, 2010). One possible reason for thisdifference might be the result of poorly designed regulation after the rail operator is selected.
On the other hand, in Japan, stable service provision to rail users takes priority over competition
among rail operators. Therefore, yardstick regulation among rail operators is applied toprevent inefficiency of existing rail operators. An indirect competition scheme such as
yardstick regulation might be one option to maintain efficiency in some cases.
Second, while vertical integration is common in Japan and the U.S., verticalseparation is common in Europe. The European Commission seems to carry the policy evenfurther, with its tendency to separate operation and infrastructure institutionally. This policy
seems to be applied to all EU railways. However, in terms of cost, vertical separation is notalways advantageous. Current empirical research by Mizutani and Uranishi (2013) show thatvertical separation is cost advantageous when there is low train density but that it is more costly
when there is high train density. Nash (2008) classified vertical separation into three types: theSwedish model (complete separation), the German model (holding company), and the Frenchmodel (separation of key powers). Even in Japan, there are several types of unbundling.

14

Instead of applying a universal separation policy, the unbundling scheme should be tailored toeach country’s environment.
Third, what most distinguishes Japan from Europe is the private railways’ demand
creation activities. Most railway policies in Europe focus mainly on how to improve each rail
operator’s efficiency and create a fair competitive environment. On this point, European
policies, although there are many variations among countries, are advanced. However, there
are few options for stimulating demand. The demand for transportation is in general a derived
demand. Therefore, in order to increase rail ridership or rail share, strategic actions by the rail
operators and cooperation with other business activities are necessary. It is well known thatprivately owned railways in Japan have been taking business diversification strategies (e.g.
shopping complexes near terminal stations, housing developments along rail lines, professional
sports operations). Although a direct transplant of these systems to European railways is notpossible, it is possible at least for European railways to cooperate with other organizations andfirms.
Fourth, as for types of regulators in the rail industry, Japan’s is the ministry-type,which does not separate application of regulation from general rail policy making. Comparedwith other regulation types (i.e. railway authority-type or the special-regulation type), it seems
that there are three potential problems with the type of regulator in Japan. First, there is alimited number of professional regulation specialists who know both transport regulation
economics and railway technology. Ministry-type regulators are mostly general administratorswith limited specialized knowledge. Second, fair evaluation based on regulation might faceinterference. For example, if a rail operator feels that the application of regulation seem to be
unfair, the operator might self-censor and fail to verbalize its objection to the ministry out offear that it would later be treated unfairly in the allocation of subsidies. Last, rail operators
might affect the ministry politically through the use of politicians, resulting in the creation ofregulations advantageous to operators but not to users. Therefore, regulatory authority should
be separated from policy making with regard to railways.
Last, cooperation among rail companies seems to have in general not been seen in
Europe, although the Japanese experience demonstrates the benefits of cooperation. The
benefits of cooperation can be seen in the Shinkansen system, which is operated directly andjointly by several JR companies: the Tokyo-Osaka route (the Tokaido Shinkansen) by JR
Central, and the Osaka-Fukuoka route (the Sanyo Shinkansen) by JR West. This direct,
smooth train operation by JR Central and JR West cooperatively creates more user convenience,
which has resulted in more mode share compared to air transportation. As a second example,
even in urban transportation, there are a lot of cooperative projects. In Tokyo, Tokyo Metro ismainly providing service in downtown Tokyo while private railways operate more in thesuburbs. Many Tokyo Metro and private railway lines have been directly connected, reducing
users’ travel time. Thus, cooperation between rail operators is as important as competition in
improving rail transport.

8 CONCLUSION
The main purpose of this chapter is to summarize regulatory structure and reforms in the rail
industry in non-European countries and to find possible lessons for European railways.
Although I briefly describe the circumstances in Australia, the United States, Russia and Japan,
the main focus is Japan because its rail regulatory structure is quite different from that ofEuropean countries. The characteristics of the rail industry in Japan and lessons for European
railways are summarized as follows.
First, most railways in Japan are privately owned and continue to play an importantrole. Passenger rail transportation is vital but freight rail transportation is relatively minimal,15

in clear contrast to the US, where freight rail dominates and passenger rail is less important. In
order to stimulate rail demand in Japan, many private railways run non-rail businesses such asreal estate development, department stores, bus operations, and so on, all of which can increase
rail ridership in urban areas.
Second, regulation and competition policy are quite different from what exists in
Europe. The regulator is not independent from the ministry (and is thus the ministry-type).
Compared with European countries with independent regulators, the system in Japan seems to
be weak in terms of fairness and strictness in applying regulations. Entry into the rail market
remains regulated by the use of a permission system. In fact, competition for entry into the rail
market and competition within the market among rail operators is almost unheard of in Japan,
where an indirect competition policy such as yardstick regulation is adopted instead. The
yardstick regulation scheme is applied to three groups: (i) 15 large private railways, (ii) 6
passenger JRs, and (iii) 10 subways. Empirical results show that the scheme is to some degree
effective in reducing railway costs among operators. Although direct competition in themarket is important, Japan’s experience with an effective indirect competition scheme such as
yardstick regulation might serve as a lesson for Europe, even though rural areas in Japan might
benefit from instituting more competitive European-style tendering schemes.
Third, while competition among rail operators is important, cooperation among rail
operators is also important. As competition among rail transportation and other transportation
modes becomes more strenuous, cooperation among rail operations is necessary in order toincrease the attractiveness of rail services.
Fourth, railways in Japan are in general vertically integrated. This is quite different
from the situation Europe. The main reason for vertical integration is the difficulty of
unbundling rail assets, as most railways are privately owned and there is such a multitude ofoperators (i.e. about two hundred rail operators). However, there exist some verticallyseparated railways in Japan that have adopted the separation scheme mainly for financial
reasons. In rural areas, private railways are facing difficulties in running rail operations
without subsidies, and vertical separation is chosen to reduce financial burdens (e.g. theinfrastructure costs of railways), and not for the purpose of introducing competition.
Furthermore, recent empirical research shows that vertical separation is cost advantageous when
there is low train density but that it is more costly when there is high train density. As there
are various types of vertical separation, the unbundling scheme should be adjusted appropriately
to each country’s environment.
Last, because transportation is a derived demand, it is also important to glean
benefits from private railways’ strategic behavior, especially their skillful promotion of rail
demand through business diversification (e.g. shopping complexes near terminal stations,
housing developments along rail lines, professional sports operations). Although a directtransplant of these systems to European railways is not possible, it is possible at least for
European railways to cooperate with other organizations and firms.

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