tully as possible, in order to represent more accurately the behaviour of the user and

facilitate better economic evaluation. This involves essentially the treatment of direct
and indirect transport costs. In the course of the following analysis it will become
apparent that a thorough understanding of logistics operations and business
management is critical. On the other hand, models will help to piece together an
overall picture of the cost impact, once such knowledge of direct and indirect
transport costs is incorporated in the implementation.

Direct and indirect transport costs are no alien to transport analysis and modelling.
For example, the cost implications of time and service quality elements of
metropolitan passenger travel are in general well understood. However, the
understanding and representation of freight transport costs are a lot less satisfactory.
]'his is mainly because in conventional modelling, transport is represented
independent of the remainder of the logistics operation. Usually only the line haul
and transhipment costs are included in modelling; in some instances terminal handling
and value of goods in transit are considered. Yet the connection of transport to
warehouse distribution and production/supply management is so far largely ignored in
strategic modelling. At a more detailed level, there is a considerable body of literature
and documentation of the direct and indirect costs of freight transport, and the task
appears to be one of making use of them in modelling.

Business passenger travel appears to be a rather different issue. In metropolitan

modelling in course of business trips are often modelled in a way analogous to
personal travel. However, the relationship between industrial activity and business
travel is yet very much a topic under study, and a large number of issues are in need
of clarification. A recent survey shows that even a considerable number of
manufacturing and service sector company themselves, which spend a fair share in
course of business travel, do not monitor effectively these costs (Ernst & Young,
1906, p5 and p7). Here the issue is mainly to do with develop a better understanding
of the business travel demand

The issues seem to be most acute with medium to long distance interregional
transport, which is growing at a considerably higher rate than shorter distance
movements in Europe. This paper will focus on issues in this area. Also, the
discussion below will concentrate on freight and business passenger travel, whilst
leaving medium to long distance personal passenger travel to a separate analysis.

2. TYPES OF COSTS RELATED TO TRANSPORT

We shall start the discussion with the types of transport costs that are broadly related
to the use of transport, and in particular focus on those aspects that are likely to affect
the volume, frequency of usage and the choice of modes.

2.1 Costs Involved in Freight Transport

The costs involved in freight transport could be summarised as

 • Direct costs incurred in the course of transport, including transit and
loading/unloading at terminals and transhipment sites
• Costs associated with transport service quality, which include time-related
inventory costs, operation-related inventory costs, and product quality related costs

The firm's decisions on the volume, frequency as well as modal choice do imply a
certain level of energy consumption, pollution, accident rate, etc. Some of these
elements are being internalised as monetary costs to some extent, and environmental
consciousness have in some instances promoted the use of transport which is thought
to be causing less environmental problems. Once these external costs are internalised,
the savings and losses to firms may be assessed as part of the direct and indirect costs
discussed above in economic evaluation. The outcome of this procedure will then be
incorporated in a wider framework of multi-criteria analysis, which will not be dealt
with here.

The direct and indirect costs are well understood in Iogistics circles; though in
modelling, the indirect costs are often treated inadequately. The costs are reviewed
briefly below.

2.1.1 Direct Transport Costs

Direct monetary costs have been the main focus of attention in traditional transport
studies. They include costs inculred on the line haul, as well as through
loading/nnloading and temporary storage associated with transhipment.

Improvement and optimisation in transport infrastructure mid operations result in cost

savings to operators, some of which are then passed on to the users. For example for
road transport, better roads, larger vehicle pay-toad capacity, reduction of empty
running lead to benefits to the operator, and eventually, to the user. On rail and short
sea shipping, improvement in intermodal operations would lead to reduction of cost
for general freight, as well as improved service quality; for bulk products innovations
on the line haul could also contribute to cost savings.

For bulk freight, direct line haul and transhipment charges are likely to be the main
elements of transport-related costs. For general freight the direct transport costs are
also substantial, yet they are increasingly looked at as a component in a broader
sphere of logistics operations. In other words, whilst it is evident that the freight
transport users have an interest in reducing the direct transport costs, they seem to be
more concerned with overall optimisation in supply logistics through establishing a
complete distribution system that suits the need of the industry (AT Kearney, 1996;
Ernst & Young, 1996).

2.1.2 Costs Associated with Transport Service Quality

In Europe, 30 years ago, since the main freight is bulk, the cost of moving freight is
the main issue. Now the situation has changed radically: the economic base is no
longer as dependent on heavy industries, and the growth of light industries and the
service sector means that general freight is taking the central stage in transport. As
the value of goods becomes higher, the supply deadline more stringent, and the
product requirement more user-specific, the quality of transport service is becoming
as important as, if not more than, the cost of transport. Furthermore, there is growing
body of documented evidence which suggests that improvement of transport service
quality may prompt or lead to further savings in other stages of the production
process.

In particular, the unique requirement for high value freight is reflected through the
rapid development of time sensitive distribution, which is increasingly affecting all
types of production as well as final consumption. This results from, on the one hand,
growing expectation of consumers for choice and quality of products, and on the
other, improvement of different aspects along the production chain: Quality
management and control which ensures production of goods with 'zero defects',
which encourage the recipient producer to reduce their stock to a minimum: rapid
development of information technology enables the producers and freighters to have
accurate inIbrmation about where the products are, the means to exercise control on
them, and the ability to review and optimise every detail of production and supply
logistics: centratisation of stockholding, improvements in communications between
customers and suppliers, and high reliability of the supply system which replenish
stock quickly and accurately all have contribute to the changes in logistics.
Utilisation of return load capacity and changes in attitudes towards the sharing of
facilities further improve the efficiency of the system.

Service quality is a general term which covers a wide set of requirements which vary
according to the type of freight. For example, speed of delivery is an important factor
|k~r high value freight; for other goods, adherence to delivery schedules would often be
the main concern than speed. Thus reliability and punctuality mean different things to
different freight users. Security, flexibility, minimised damage to goods are also
becoming increasingly important. It is often found that the users are willing to pay a
premium for high quality service, especially when the value of goods is high.

There are a wide variety of studies on the myriad aspects of service quality, and the
reasons why they are important to the freight user. In cost terms, it seems that the
reasons would fall generally in the following 3 categories: time related inventory
costs, operation related inventory costs, and product quality related costs.

• T i m e - r e l a t e d i n v e n t o r y costs

That is, the cost incurred by the user through the time spent shipping the goods. Two
components have been identified (Peeters et al, 1995, Chapter III p16):

i Capital costs incurred whilst the goods are in transit, subject to the value of
goods and the interest rate
ii depreciation of the goods whilst in transit, subject to the product life time

For low value freight such as bulk products, these costs should be minimal. However,
lbr high value goods such as computers, the value of freight could be as high as
US$100,000 per ton, which, assuming an interest rate of 15 per cent per annum,
means an interest cost of US$ 41 per ton per day. Machinery valued US$ 40,000 per
ton would similarly incur an interest cost of US$16 per ton per day. Perishable
products, on the other hand, are associated with a high depreciation cost. For
example, vegetables valued at US$1000 per ton having a product life of 30 days
would incur a depreciation cost of US$ 33 per ton per day on average (ibid., pl 7).

• O p e r a t i o n related inventory costs

These costs stem from the fact that firms increasingly tend to optimise the supply
logistics operation as a whole, such as in time sensitive distribution. This often
involve the dispatcher and the recipient as well the carrier of freight. For example,
time sensitive distribution is viewed as 'a partnership between supplier, carrier and
customer to improve efficiency and reduce waste' (FTA 1995a). Through modern
consolidation systems it contributes to the reduction of warehousing, waste, vehicle
movements, handling at depots, quality and choice of goods, and the competitiveness
of the producers in general.

For example, the use of regional distribution centres by the superstore food retailers
means that the manufacturers no longer deliver products directly to stores. As a
result, cost of holding and handling stocks at stores is reduced to a minimum, more
space is devoted to sales, better quality products are achieved owing to fewer days of
stock cover. Also, suppliers' vehicles delivering to a regional distribution centre may
even be used by the superstore to deliver goods from the centre to the local
supermarkets, using the return load capacity..Further shared use of delivery vehicles
and storage facilities between different firms have appeared. Similarly, a car
manufacturer has organised ex-works collection which consolidates supplies and exert
better control over the timing and frequency of supply deliveries. The move from
producer controlled to customer controlled transport has provided greater
opportunities for loads to be consolidated into larger but fewer and more efficient
movements. There are also large firms which set up joint production sites to so as to
avoid bulky supply delivery using transport. Examples of this type are being
documented more systematically (FTA, 1995a; Ernst & Young, 1996).

It is clear that in the optimisation process, the firms tend to focus on the overall cost
savings in which transport is an important element. However, not all of the objectives
are complementary, and under each particular set of circumstances a combination of,
and possibly trade-offs between, the components have to be worked out. For
example, 'tighter scheduling of collections and deliveries making it more difficult for
some firms to arrange return loads' (FTA, 1995b). Also, time sensitive systems
depends on a highly reliable transport network, and the cost will be high once it is
made unreliable by recurring congestion.

* P r o d u c t quality related costs

In addition to the drive to optimise logistics, producers may also impose higher
service quality requirements upon transport in order to compete effectively on the
sales market. Increasing pressure in sales competition tends to exert higher
requirements not only on the quality of the product itself, but also on its delivery to
retailers or other customers. A reliable and flexible transport service often provides
opportunities for a producer to optimise production scheduling, as well as to deliver
products as and when the customers require. In such cases transport costs are weighed
against savings that are to be achieved elsewhere in the production chain, and in
marketing benefits.

2.2 Business Travel

For business travel, the issue is yet of a better understanding. A key problem is that
with many firms the travel expenses are not monitored, or monitored in a manner that
would help the understanding of the behaviour. The main focus of transport cost
monitoring tbr many manufacturing firms is their costs in moving goods; they rarely
include individuals' travelling expenses in transport costs, even though in some high
value added sectors such as pharmaceuticals the cost of goods transport was less than
1 per cent of the total business costs, whereas the travelling expenses of employees
could be as high as 4.5 per cent (Ernst & Young, 1996).

Generally speaking business travel costs may also be divided into direct costs and
indirect costs, where the indirect costs could be related to

• Time related costs

• Costs of travel packages
• Product quality related costs

2.2.1 Direct Costs for Business Travel

Conventional models handle the direct out-of-pocket costs of business travel in a way
analogous to other passenger travel, taking into account fares, as well as parking,
transfers and other terminal charges.

Whilst the models may function fairly accurately in accounting for the cost of travel,
they often provide a very crude representation of how the business traveller decide on
the length and frequency of their journeys as well as their choice of modes. There is
some evidence to suggest that the current tax rules on company cars and business
mileage are leading to individuals driving when they can either conduct business by
telephone or travel by other modes ( Ernst & Young, 1996). Also, the expenses of
overnight stays away from home are rarely taken into account in modelling medium to
long distance travel.

2.2.2 Indirect Costs for Business Travel

 Some indirect costs for business travel, such as time-related costs, are understood in a
way similar to personal travel. Other indirect costs are often absent from the
conventional model formulation.

• Time related costs

The significance of time related costs are understood in modelling circles, and are
conventionally represented through using the value of time in the disutility function.
Nevertheless such costs are conceivably variable across the sectors of the industry,
which is much less well documented.

• Costs of travel packages

In addition to modal service quality such as comfort, reliability, punctuality, safety

and flexibility, there are other indirect costs. In interregional travel, the indirect costs
may take a rather different form to that of metropolitan travel. As travel distance
becomes further away from home, timing and scheduling of the trips, luggage
requirements, local transport upon arrival and lodging away from home are
increasingly to become part of the travel package within which potential trade-offs
take place. Furthermore, travel by private car has a limited distance range beyond
which stops/lodging would have to be arranged. It would not be unreasonable to
assume that a traveller would optimise on the overall travel package, the cost of which
wnuId affect the number and frequency of trips, timing and scheduling, distance
range, as well as modal choice.

• Product quality related costs

Since business travel is only a means to an end - either to provide a service or to

improve the quality of service - the costs involved in transport are quite naturally
weighed against the requirements of product quality that the business traveller is
responsible for. A change in direct transport cost may lead the business traveller to
modify the existing balance between

3. INCORPORATION OF TRANSPORT COSTS IN MODELLING

This section reviews the methods used in integrated regional economic and transport
modelling, and in particular, discusses how the indirect costs may be incorporated in
the modelling framework.

The incorporation of indirect costs would take place at these two levels:

• behaviour modelling, i.e. how the direct and indirect costs affect the decision of the
user with regard to the use of transport
• cost accounting, i.e. the savings and losses by each type of user in terms of direct
and indirect costs, and their impact on spatial distribution of activities

~o
It is clear from the discussion in Section 2, that without taking into account of the
indirect costs a model is unlikely to represent well the behaviours of freight shippers
and passengers. At the same time, the costs of transport and production in general
would not be accounted properly.

In this section a preliminary structure is presented which details what is envisaged to

be necessary to incorporate. Before dealing with the specific issues of freight and
passenger transport, a brief review is given of the general regional economic and
transport model structure, as used in the package MEPLAN.

3.1 General Modelling Framework

The MEPLAN structure is set up as a context-free modelling system which needs to

be implemented for each study area. First of all the study area and the rest of the
world are divided into certain number o f zones, which represent an level of
geographical division appropriate for the policy analysis at hand. The simulation
model is best described in terms of its 3 modules:

• aregionaleconomicmodulewhichmakesuseofaregionalisedinput-outputtable
to represent the various branches of the regional economy; it includes population
and other final demand such as export, investment, and public consumption.
Import is included as an exogenous input to the study area. The regionalised
input-output table is applied to obtain flow of trades between different branches of
the economy in one's own zone as well as other zones. Demand for freight
transport is simulated through the flow of trades from primary and secondary
industries to one's own zone as well as to other zones; business travel is generated
through the flow of trades from the tertiary industries. Personal travel is generated
through population in each zone
• atransportmodulewhichrepresentsthesupplyoftransportinthestudyareaas
well as its connection to the rest of the world with an integrated multi-modal
network. It takes the transport demand generated by the regional economic model
and carry out modal split and network assignment procedures on the transport
network. It then outputs the modelled modal matrices, a loaded network, as well as
the monetary transport costs and disuti}ities (i.e. genera}ised cost including the
contribution of time and modal quality of service factors).
• aninterfacemodulewhichcarriesouttheconversionofannualtradevolumesin
monetary units (that is used in the regional economic module) to appropriate
freight tonnes or passenger trips per day; it also converts the transport costs and
disutilities from the transport module into units that are appropriate to use in the
regional economic module.

In particular, the total production cost of a branch of industry is defined as

p" = 5 " a""c .... [3.1]

ttt
where

P," is total production cost for output n in zone i

a ..... is demand for input m in order to produce a unit of n
C~" is the consumption cost (i.e. the selling price) of m in zone i

whilst C;" is defined as

C" = ~{(P;" +R;' +c;I)ITd'}I~Td' [3.2]

k k

where

P;" is production cost of input m in zone k

R~" is the economic rent commanded by m in zone k over and above
production cost
c~'I is the monetary cost of transport incurred for each unit of m
between zones k and i
Tff is the volume of trade o f m from zone k to zone i

In this way the cost of inputs, including the transport costs, is accounted for in the
model.

On the other hand, the transport disutilities are used in the model to determine the
location of activities in the following manner: given the total demand for consumption
in a zone j, Yj , supply from a zone i is estimated as

"S;' e <-
[ 2.°'(n'+/(<')-w:')]
Tij = Y j [3.3]
[ "On'+ f ( d , ,") - w , ")]
~',S;" e - 2 .
i

where
r j= trade to consumption zonej from production zone i,
rj= total demand for consumption in zone j,
Si= measure of size of zone i (i.e. capacity for production),
Ci= cost of production at zone i,
f(do) = a function of d/j, the disutility of transport between zones i and./',
w i = zonal attractor for zone i,
2. = concentration parameter (which is always positive in value).
 Transport disutility d!i is a log sum of the disutilities of the modes that are available
for journeys from i toj. The modal disutilities, d~ are conventionally defined, in its
simplest form, as a linear sum of direct monetary cost, time, and a modal constant, i.e.
~br a given mode k

d,k=p,k+a*t,,+ [3.4]

where
p,,k = direct monetary cost on mode k from i to j
a k = value of time attached to mode k
t tlk = time involved in travelling on mode k from i toj
M* = modal constant for mode k representing service characteristics not represented
by cost, time and the value of time

The modal disutility function, defined in this form, are generally used to represent the
trade-offs open to a user between direct monetary cost, time, and other service
characteristics when choosing a mode. It is now widely used in modelling passenger
travel. However, for freight transport, if the value of time parameter and the modal
constant are consciously calibrated to represent the potential indirect cost savings
derived from time savings and modal service quality, then the disutility function could
be used, albeit crudely, to gauge more accurately user behaviour in monetary cost
terms. Moreover, this formulation would also be significant in economic evaluation.
More sophisticated functional forms may become possible as the understanding of
logistics and production management improve.

Consumption disutility of a given product m in a zone j, on the other hand, is defined

as the log sum of the disutilities incurred by suppliers from all possible supply zones i,
i.e.

D;'-- ,o Z [- x(F,"+ w:">]

[3.51
which is consistent with its discrete choice formulation. The production disutility, i.e.
average unit disutility associated with the inputs m facing a producer of n in zone i, in
turn, may be defined simply as

Q;' = ~ a"' D;" [3.61

t~t

In summary, whilst the production consumption costs reflect the impact of direct
monetary cost of transport, the production and consumption disutilities may be
fbrmulated in such a way that the potential trade-offs between cost, time, and service
quality which have become increasingly important in European freight transport. This
tbrmulation will become particularly meaningful in policy and project assessment

%©
 where firms are offered opportunities to use reliable, high quality yet more expensive
transport services to optimise logistics and production management.

3.2 A Simple Case Study

A simple case analysis was carried out as part of a study commissioned by the
Commission of the European Communities Directorate General XV. This is a joint
project of TRT and AT Kearney in Milan, and Marcial Echenique and Partners in
Cambridge. The project aims to examine the potential benefits of introducing a series
of infrastructure investment and policy measures that are designed to improve the
efficiency of the functioning of the internal market of the European Union. The study
horizon is 2005.

In this context, the issues described in the previous sections become central to the
analysis. An integrated regional economic and transport model is set up. in line with
the formulations described above. The regional economic model makes use of the
Eurostat 1985 7-country input-output tables at the 59 branch level (EurostaL 1995). A
multimodal transport model is implemented incorporating all strategic links of road,
rail, shipping and inland waterways at the interregional level for the 15 countries of
the European Union.

A first issue to resolve with this set up is to introduce the transport costs and
disutilities estimated by the strategic transport model, to the accounting structure of
the input-output tables. Conventionally, input-output tables are set up in monetary
value terms of industrial branches, each of which has a unit input cost of 1.0, although
tables using physical units are also possible (Leontief, 1986). The Eurostat 1986
country tables are implemented in monetary units, where the national economy is
represented through 59 branches of industries, including 6 branches of transport
services (i.e. railway, road, inland waterways, maritime transport, and auxiliary
services). In order to introduce the transport cost components from the transport
model, and avoid double counting, the input costs of the transport services branches in
the input-output tables are set to 0.0. The technical coefficients related to and final
demand for these branches are maintained in order to retain the integrity of the input-
output tables.

Once the costs of the transport branches are set to zero, the costs and disutilities
associated with moving freight/business travel that are estimated in the transport
model are fed into the regional economic model. Under ideal circumstances, where
all transport services input are accounted for with the transport branches in the
regional economic model, and the transport costs are estimated accurately in the
transport model, the unit cost of products in the input-output model will become 1.0
on average when the modelled costs are fed in. However, in practice there are several
difficulties to overcome. First, it is clear that the transport service branches in the
input-output tables do not include all transport inputs, an obvious example being own-
account transport; business travel is usually treated as current expenditure, thus
intermediate purchases include the cost of travel, and only in a limited number of
cases that such intermediate purchases are separately identifiable and attributed to
transport services (Eurostat, 1996; HM Treasury, 1996). This means that discounting

7.4~
the costs of the transport branches does not in normal events avoid completely double
counting. Own account transport are only used in a limited way, and increasingly so
(Ernst & Young, 1996), and in the context of interregional transport it is perhaps even
less significant. Business travel, however, remain an issue to be studied further.

Nevertheless, the connection of the regional economic model to the transport model
does offer a number of opportunities in modelling. With all the imperfections in cost
accounting, the transport branches account for a large share of the transport input.
The level of overall product costs in the regional economic model after the modelled
transport costs are incorporated may be used as a valuable validity check whether the
freight and business travel demand and user tariffs are estimated accurately. At the
same time, it is possible to take account of the costs and disutilities of transport in the
regionalised input-output framework, which may be used to gauge the impact of direct
and indirect transport costs upon production and consumption in space.

The validity of the approach would very much depend on the fbrmulation of the
modal disutility functions, which is a complex issue and will be dealt with in a
separate paper. In this simple case study some initial results appear to be
encouraging: in a number of policy runs where the direct transport costs are increased
substantially, the regional economic model is capable of picking up the gains by
producers and consumers through time savings and improvement service quality. An
example is given in Table 1.

4. CONCLUSION

A preliminary discussion is put forward above, illustrated by a simple case study, of

the significance of incorporating direct and indirect transport costs in regional
economic and transport modelling. A simple and crude formulation is given, which
may be taken as a starting point for further work. This is, in many respects, a call for
better understanding of the position of transport in logistics and production
management, which we shall aim towards in the research projects to be carried out in
the near future.

REFERENCES

A T Kearney (1996). The impact of inadequate transport infrastructure on the

functioning of the internal market: Logistics excellence study. Milan, March.

Ernst and Young (1996). Transport Infrastructure, Business Costs and Business
Location. April.

Eurostat (1995). The Input-Output Tables Database ofEurostat. Eurostat/B2,

l,uxembourg. January.
Eurostat (1996). Communications on the nomenclature of products used in tile input-
output tables. January.

FTA (1995a). Time Sensitive Distribution. Freight Matters, 1/95. Tunbridge Wells,
Kent.

FTA (I995b). Vehicle Utilisation. Freight Matters, 3/95. Tunbridge Wells, Kent.

HM Treasury (1996). Commtmications on treatment of transport costs in input-output

tables. January.

Krugman P (1995). Development, Geography and Economic Theory. The MIT Press,
London.

Leontief, W (1986). Input-Output Economics, Oxford University Press, Oxford.

Mackie, PJ and Simon D (1984). The direct benefits of road improvements to

commercial vehicle operators - a review. Institute for Transport Studies Working
Paper 182, University of Leeds.

Peeters, C, Verbeke, A, Declercq, E and Wijnolst, N (1995). Analysis of the

Competitive Position of Short Sea Shipping: Development of Policy Measures. Delft
University Press, Delft.

Williams IN and Echenique, MH (1978) A regional model for commodity and

passenger flows. Proceedings of the PTRC Summer Annual Meeting.

Wilson AG, Coelho JD, Macgill, SM and Williams HCWL (1981). Optimisation in
LocationaI and Transport Analysis. Wiley, Chichester.

7. 6,
Table 1 Production and Consumption Cost and Disutility Indicators
by Sector and Region: Policy Impact Assessment

Production Consumption
Cost Disutility Cost D sut ty
P~'~) (Q[') • ,- (D,)

Agriculture Cohesion Countries 1.0030 0.9994 1.0025 1.0014

New Member States 1.0025 0.9994 1.0030 1,0015
Rest of the EU 1.0031 1.0004 1.0044 1.0046
All EURI5 1.0030 1.0005 1.0040 1.0039

Heavy Industries Cohesion Countries 1.0022 0.9952 0.9997 0.9998

New Member States 1.0009 10060 ,0003 0.9905
Rest of the EU 1.0012 1.0008 1.0001 0.9999
All EURI5 1.0013 1.0004 1.0001 0.9993

Other Manufacturing Cohesion Countries 1.0042 0.9994 1.0019 0.9991

New Member States 1.0033 0.9994 1.0032 1.0011
Rest of the EU 1.0040 1.0004 1.0037 1.0021
All EUR15 1.0040 1.0005 1.0034 1.0016

Services Cohesion Countries 1.0043 0.9946 1.0340 0.9928

New Member States 1.0051 0.9933 1.0208 0.9972
Rest of the EU 1.0069 0.9967 1.0223 0.9947
All EUR15 1,0065 0.9963 1.0238 0.9946

Total Production Cohesion Countries 1.0052 0.9997 .0187 0.9964

New Member States 1.0045 0.9971 1.0121 0.9973
Rest of the EU 1.0054 0.9988 1.0129 0.9971
All EURI5 1.0053 0.9988 1.0137 0.9970

Notes:
1 See Equations 3.1, 3.2, 3.5 and 3.6 for the definitions of costs and disutilities.
2 The cost and disutility indicators are calculated assuming the corresponding
values in the base case to be 1.0000.