The Surface Transportation Board has recently proposed regulations that would control the prices and earning of railroad carriers. The regulations, however, are eerily similar to those previously repealed that devastated the rail industry nearly 50 years ago. The American Consumer Institute recently released a report on these newly proposed policies stating, in a nutshell, that the current proposed regulations should be avoided as failed policies.
Nearly 130 years ago, the Interstate Commerce Commission was created and in the ensuing years stifling railroad regulations grew, creating inflexible prices and unprofitable lines. By the 1970s, the financial viability of the rail industry had become so threatened that several large carriers went bankrupt, and industry profits began to disappear. In 1980, Congress stepped in and began to reduce the ICC regulatory barriers. Within a few years, the industry rebounded with an unprecedented recovery that included increased freight volumes, significantly improved productivity, and decreased rates for shippers. By the 1990s, the ICC was abolished, and a few of its remaining functions were transferred to the STB. Economic studies estimate that consumer benefits increased annually by $10 billion.
Recently, the STB proposed four new regulations that, if implemented, will result in artificially low rates for shippers and a decrease in earnings for carriers. But the proposal is dangerously similar to the previous policies that drove carriers to bankruptcy.
For example, one of the proposed regulations, Railroad Revenue Adequacy, deals with whether or not Class I railroads are “revenue adequate.” The congressional reforms that took place nearly 40 years ago enabled railroads to make sufficient earnings to cover their operations, attract capital, and receive a reasonable return on investment. A railroad is deemed to be “revenue adequate” when its return on invested capital meets or exceeds the industry’s percent cost of capital. The cost of capital establishes a “floor” for adequate returns on investment, while the proposed Railroad Revenue Adequacy proposal would implement a “cap” on the rate of return.
The problem, as recent research demonstrates, is that railroads, collectively, are running near revenue adequacy, while, by the same measure, “the norm across other industries” is over adequacy. As such, there is no evidence of supernormal profits that would justify a regulatory remedy. If anything, the proposed regulations would result in mandatory price decreases, which would affect tamping down earnings and investments compared to today’s rules.
A second proposed regulation, the Final Offer Rate Review, seeks to modify the current procedure for settling a rate dispute between a railroad carrier and a shipper. If confirmed, this regulation would give STB a binary choice: to either accept a railroad’s final rate offer or accept a shipper’s last rate offer. While the proposed regulation only offers two possible solutions for a settlement, the parties could have given a final offer of any rate along with an endless array of choices.
The problem is that offers and market rates are unlikely to be exactly the same, meaning that a binary option would almost always be wrong. As a result, the STB may mandating a shipping rate that is too low; or it may require a price that is too high. Shippers would be incentivized to challenge rates knowing that a binary solution could occasionally be settled in their favor. As a result, adopting this proposal would encourage more rate disputes and increase rate mandates.
To put this problem in better context: In the last decade, there have been only three instances where the STB agreed with a shipper that rates were unreasonable. With so few rate problems before the STB, it is not clear how encouraging more rate disputes would be in the public interest.
Such regulations have been rationalized as efforts to address market failures within the overall structure, conduct, and performance of carriers. However, as research and history shows, there hasn’t been one apparent market failure to justify the proposed regulation. That is why regulations like these should be remembered as failed policies and should not be approved.
Steve Pociask and Aaron Morrison are with the American Consumer Institute, an education and research organization.
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