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It Is Time to take A Fresh Look at Rail Regulation

Recent customer abuses revealed at an STB hearing suggest it is time to revisit Robber Baron era reforms.

Commentary & Analysis

 

Freight railroad customers unpacked and displayed a wide range of abuses perpetrated by three of the Class 1 railroads operating in the United States at the hearing on rail demurrage and accessorial fees held by the Surface Transportation Board in late May.

The shippers provided documentary evidence and perceptive data analysis to back up their accusations of widespread abuses and economic exploitation by these railroads, each of which enjoys near monopoly status in the regions in which they operate. The shippers also offered sensible solutions to the demurrage crisis for the STB to embrace.

But even if the board eventually pursues these measures, still left hanging in the air at the end of the hearing was the inescapable perception that railroads are wielding their enormous market power to abuse their customers by taking full advantage of an out-of-date regulatory scheme created for a different industry in a different century.

Economic regulation of the rail industry began in the late 19th Century era of the robber barons, when railroads wielded their enormous economic power against their own customers, including America’s farmers during a time when our economy was primarily agricultural. Those abuses led to Congress creating the Interstate Commerce Commission (ICC), which later expanded to encompass economic regulation of the interstate trucking industry in the 1930s.

By the late 1970s economic regulation had lost favor among policymakers and first the airlines were deregulated followed in 1980 by the interstate trucking industry and enactment of the Staggers Rail Act, which also substantially deregulated the nation’s freight railroads.

The Staggers Act was passed in large part in reaction to the parlous state of the rail industry, which had been in economic decline since World War II and was largely blamed on rail management’s inward-looking focus on operations in the face of growing competition from trucking. A jibe that gained currency at the time was that rail executives thought they were in the railroad business when in reality they were in the transportation business.

The railroads eventually were allowed to give up their money-losing passenger service, which was picked up by the government’s creation of Amtrak. A series of bankruptcies also ensued, leading to the government creating Conrail out of the wreckage of the Penn Central and Erie Lackawanna railroads.

Reshaping an Industry

The stated goal of the Staggers Act was to allow the railroads and their investors to make profits while improving service for rail customers and protecting the interests of railroad workers. In that regard the law succeeded and by the 1990s, with the advent of intermodal and improvements in technology, railroads were profitable once again.

Then the Class 1 (the largest) rail companies began a wave of mergers, and the federal government closed down Conrail after splitting its operations between Norfolk Southern (NS) and CSX Transportation. Following the mergers, service failures spread across the country as the merged railroads struggled to combine their operations.

Around the same time, Congress closed down the ICC and relegated its rump rail regulatory responsibilities to a much smaller body called the Surface Transportation Board (STB). In the 21st Century, shippers complained about the outsized market power wielded by the Class 1 railroads, particularly during major service failures.

In 2017, CSX grabbed headlines when it succeeded in significantly increasing its stock price by adopting the Precision Scheduled Railroad (PSR) model imposed on it by hedge fund managers who had forced the company to accept the leadership of its inventor, E. Hunter Harrison.

Although he was seriously ill at the time and would die by the end of the year, in just six months before his death Harrison eviscerated CSX rail operations by firing thousands of employees, sidelining rail equipment and closing railyards in an all-consuming quest to reduce the railroad’s operating ratio and boost its stock price.

Harrison’s haste and volatile manner of dismissing any and all criticism angered shippers, as did the resulting service wave of failures throughout the CSX system. This drew the attention of the STB and Congress prior to his death from a still-unexplained chronic illness in December 2017.

His successors in leadership roles at CSX have shown themselves to be equally committed to implementing PSR. Then in 2018, two other carriers—NS and Union Pacific—also embraced the PSR operating model and began implementing similar changes.

PSR’s advocates claim that it creates bigger profits for investors by driving inefficiencies out of rail systems, but their customers see it simply pushing costs onto them, and ultimately onto consumers in a quest for ever-higher stock prices.

Not Your Father’s Railroad

Richard Gupton, senior vice president of public policy and counsel for the Agricultural Retailers Association, told the STB, “The railroad industry has changed dramatically over the past three decades. If the railroads are left to continue to operate in their present state and impose excessive freight rates and demurrage charges, the nation’s agricultural productivity will be negatively impacted, and consumers will be impacted by higher food costs.”

During the hearing STB Chairman Ann Begeman echoed his comments by observing, “The industry is in a far different place than it was at the dawn of the Staggers Act.” She added, “The focus on PSR, and the use of supplemental fees as part of it, only grows more cumbersome and expensive, and left unchecked it will continue to impact shippers, and by extension, the broader economy.”

Perhaps more important than the controversy over demurrage charges and fees are the railroads’ other abuses of power that surfaced in the STB testimony, including attempts to intimidate customers into not complaining, and financial punishments and loss of service that can result from objecting to demurrage and other fees.

Their regional monopoly power also has allowed railroads to bully customers in the few places remaining where the rail lines compete with each other. MillerCoors executive David Burchett told the board that NS recently took advantage of its market power to impose an embargo on the beer maker’s service, refusing to provide service and threatening rate increases if MillerCoors sought rail services from other providers.

Burchett cited the example of a MillerCoors brewery that is served by two of the Class 1 railroads. The beer company requested rate bids from both NS and CSX to introduce market competition.

“NS was the incumbent carrier on the lane but responded with a much higher rate than CSX. When told it was in jeopardy of losing the lane, instead of negotiating in good faith with MillerCoors, NS threatened to raise rates on captive lanes to other breweries by a comparative amount if it was to lose this lane,” Burchett revealed.

It is time for policymakers in Congress and elsewhere to take notice of and confront these abuses by freight railroads. Something needs to be done to correct this situation if turns out that incremental measures imposed by the STB cannot cure it.

One possibility that bears consideration is returning to the public utility model for regulation of the rail industry. Under this model, for example, a local power company is granted a monopoly within a geographic area while a government commission supervises its practices and the rates it charges, guaranteeing a reasonable return for investors while protecting the public interest.

If such a model were imposed on rail companies now exploiting their monopoly power, it also could guarantee reasonable profits for rail investors instead of allowing them to reap a windfall because company management is now free to generate profits by abusing rail shippers and pushing costs onto the rest of us.

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