The Price Of Taxi Licences Needs To Be Reduced SLOWLY

The inquiry into the Victorian taxi industry has submitted its report to the Victorian government. This report and its recommendations are in the process of being released publicly.

Various speculations are being made about plans to significantly reduce the cost of a taxi licence and the consequent effect on the financial position of owners who have borrowed large sums to buy existing ones.

Taxi licences are a scarce and closely held asset, particularly in Victoria. If the owner does not wish to drive the taxi themselves, the licence may either be sold or held and only the operating rights transferred ie. the licence is leased.

Page 5 of the inquiry’s fact sheet shows a graph of taxi licence sale prices from 1974 – 2011. They have increased from a value of $20,000 in 1974 to around $500,000 now. That’s an average annual capital gain of 12.7%. In fact, plate prices have only been rising since mid 1982. That’s an average annual increase of 18% since 1982. In comparison, average inflation has been 7.35% p.a. since Dec 1974 and 6.1% p.a. since June 1982. Even factoring in real economic growth, per capita GDP, a better estimator of the long term growth of asset values such as property or taxi plates, has only risen by an average of 9.6% p.a. and 9.25% p.a. over the respective periods.

The graph on page 2 of the inquiry’s fact sheet shows taxi licence “assignment fees” ie. yearly lease charges are now over $30,000 p.a., giving an effective rental yield varying between 6 and 7.5% since Jan 2004. With rental returns significantly greater than residential property, no wonder taxi plates have increased in price so much … and no wonder so many licence holders are keeping them and renting out their plates. The fact sheet says that approximately 80% of Melbourne taxi licences are leased out. Some people own several licences.

The price of taxi plates is clearly too high. The rate of increase over the past 30 years has been twice that of per capita GDP. That is unsustainable. It has reached the point where the yearly lease fees are so high that fares must increase beyond a point the public will tolerate just to allow the tenant drivers to make a normal wage.

Now, somewhat ironically, we have a new class of rentiers earning high rental yields and until recently, even higher capital gains from licences to drive a taxi which have been turned into classic cash flow assets. This situation has developed over the past 30 years as successive governments have ignored and thus exacerbated the problem by not continuously releasing enough new taxi licences into the market, while facilitating the creation of this asset class by allowing the licences to be leased.

Prices and lease rates of taxi licences need to fall in real terms ie. versus per capita GDP. However, to abruptly decrease the value of licences by immediately selling a large number of new ones at heavily discounted prices and / or removing the right of “assignment” would have disastrous consequences for particularly those owner drivers who have borrowed to buy their plates. Additionally, it would irresponsibly expose Australian banks to significant and unnecessary credit risk and have a knock on effect on bank share prices and superannuation accounts.

Banks will typically lend up to 50% against the value of a taxi licence. This means prospective purchasers must come up with $250,000 of their own. Some borrow a large proportion of this against their home. So, suppose the government decides to flood the market and sell an additional 1,000 licences for $250,000 each (there are currently around 5,250 Victorian taxi licences).

What would happen to all the people who have borrowed the money to buy a licence for $500,000? If banks decide to call in loans because of the decrease in collateral, they will lose their plates and / or their homes. In fact, banks probably won’t call in the loans as long as the repayments are being made. They don’t call in home loans when property values fall because they know they’d destroy the value of their collateral even further.

However, the banks will be exposed to much greater credit risk because of the decrease in collateral values. They will need to provision these loans and also take a higher capital charge. This will affect profits, dividends and thus their stock prices and the value of many Australians’ super.

Aside from the responsibility of government to minimize the human cost, it would be economic vandalism. Some might argue that most plate holders have owned them for a significant period of time and have had it too good for too long. Those who bought recently are like property owners who buy at the peak of the cycle and just have to suffer the consequences. However, there is a gentler and more economically stable solution. It is possible to manage taxi plate prices and lease rates down slowly in real terms over a long period.

Fortunately, taxi plates are an asset class in which prices can be slowly deflated. Extra taxi plates can gradually be released, at the prevailing market rate of $500,000, or a not excessive discount to it. If the population of Melbourne is growing at 2% p.a., ceteris paribus there will be demand for about 100 new plates per year. That’s $50M p.a. in revenue to the government. But that doesn’t solve the supply and overpricing problem.

Suppose the government released 500 new plates per year for the next 10 years at the static price of $400,000. It’s hard to release more than this amount because the increase in demand for taxi vehicles will be difficult to fill. Notice from the graph in the fact sheet that licence prices fell by this much over 2007 – 09 without a significant increase in supply. In fact, it was the tightening of bank credit during the GFC which was as much to blame as loss of consumer confidence due to the stock market falling.

As well as guaranteeing $200M p.a. in government revenue for the next decade, there would be twice the number of taxis on the road by 2022. That’s probably the upper limit of what is needed. Plate lease rates should fall to around $20 - 25,000 p.a. and stay there. Even with a modest average per capita nominal GDP increase of 6% p.a. over the next 10 years, this would effectively mean falls in licence prices and lease rates from their current values of 50% in real terms.

It’s not fair to make taxi licences “non-assignable” ie. not able to be leased. What if the owner becomes sick or injured, or even goes on a holiday? Why should they not be able to earn an income on their plates? They should not have to sell them just because they cannot work.

If the government wanted to place a firm ceiling on plate prices, they could regulate that a taxi licence could be assigned / leased for a maximum of 5 (or 10) years, after which it must be sold, or the owner return to operating the cab. If the owner then drove for only 6 months, they could only subsequently lease the plates for 6 months, to prevent rorting. This would be a sufficient time period to allow for recovery from any illness, to earn a living immediately post retirement in case the owner decided to later return to work and to transition from the current system.

The high prices of taxi licences and the ability to rent them out are major contributors to high fares for customers and low incomes for tenant drivers. There are ways to effectively deflate the prices of taxi plates without unnecessarily harming existing owners, chief among them slowly increasing supply by selling more licences at a constant price.