Staggering reform

Staggering reform

Senate proposes rail reregulation, but legislation still has miles to go.



By Chris Dupin

      Sen. John D. 'Jay' Rockefeller IV, D-W.Va., remarked in December that a proposed law to revise railroad industry regulation was the result of 'tough negotiations. I have been working carefully on the health care bill. I think this is a tougher negotiation.'

      The comparison may be apt. As with health care, the Senate spent much of 2009 working on a sweeping proposal its advocates have wanted for years before any real progress was seen in the waning weeks of the year.

      In 2010, as the full Senate and House of Representatives take up the rail regulation, there may be further compromise, and perhaps pitched battles, before any new law is enacted.

      The Senate Commerce, Science and Transportation Committee that Rockefeller chairs marked up and approved the Surface Transportation Board reauthorization bill, S. 2889, on Dec. 17, just one day after it was introduced. Yet it was the product of months of negotiations between the committee, shippers and the rail industry.

Rockefeller

      'This bill would be the most significant rewrite of the railroad industry's regulatory system in the last three decades,' said Edward R. Hamberger, president and chief executive officer of the Association of American Railroads (AAR). The bill would make major changes to the STB and the regulatory scheme enacted in the Staggers Act of 1980.

      Unlike health care, there may be bipartisan support for rail reform. The STB reauthorization is cosponsored by Rockefeller; Byron L. Dorgan, D-N.D.; Frank R. Lautenberg, D-N.J.; Kay Bailey Hutchison, R-Texas; and John Thune, R-S.D.

      Hutchison said the law 'strikes an important balance for both the shippers and industry, especially the new arbitration provision that allows smaller shippers to raise legitimate complaints and seek a remedy through the STB.'

      The bill has been greeted enthusiastically by many shipper groups, though some complained it did not include a provision to eliminate antitrust protections that railroads enjoy.

      'The bill needs to do more to fix outdated federal policies by including the antitrust measures approved earlier this year by the Senate Judiciary Committee,' said the American Chemistry Council.

      But there was still plenty of support from shippers:

      ' 'The bill will better balance shipper needs for reasonable rates and service with railroad needs for adequate revenues and provide for a fair, expeditious, accessible and cost-effective regulatory process,' said a group of 16 agricultural organizations including the National Association of Wheat Growers, National Corn Growers Association, National Cotton Council, and National Grain and Feed Association. 'The railroads need adequate revenues to reinvest in capacity, but there is also a need to facilitate a more normal business-to-business relationship between shippers and carriers. This bill will assist in reaching that goal.'

Steenhoek

      ' Mike Steenhoek, executive director of the Soy Transportation Coalition, said the bill would give shippers 'a more accessible process for resolving rail rate and service disputes, and greater transparency within the rail industry.' But he also said, 'since our nation's transportation challenges are more the result of a lack of investment, rather than a lack of regulation, Chairman Rockefeller and his colleagues were prudent to ensure the current environment remains conducive to continued investment by the rail industry.'

      ' Glenn English, chairman of Consumers United for Rail Equity (CURE), called it 'historic legislation. It is the first bill since 1980 to move out of the Senate Commerce Committee with customer-advocated improvements in the freight rail regulatory program.'

      ' The American Forest Products and Plywood Association said the bill would benefit the estimated 30 percent of the nation's paper, packaging and wood products manufacturing facilities that are 'captive shippers' with access to only a single rail carrier.

      ' The nation's largest shipper group, the National Industrial Transportation League, was scheduled to meet Jan. 12 to discuss the bill. Bruce Carlton, NIT League president, said it was legislation of 'historic importance' for his members, describing it as 'a little bit like Halley's comet ' it comes around very infrequently.'

Carlton

Antitrust Amendments? 'We didn't get everything we wanted and they didn't get everything they wanted,' said Robert G. Szabo, executive director of CURE. He still thought it likely antitrust provisions might be inserted in the bill at a later date.

      Last May, the Senate Judiciary Committee unanimously approved another bill sponsored by Sen. Herb Kohl, D-Wis., to repeal what he said were obsolete antitrust exemptions, and the House Judiciary Committee also passed a similar bill and held hearings.

      Kohl said the ordinary protections of antitrust law are unavailable to captive shippers. 'Railroad shippers of vital commodities have faced spiking rail rates. Rail customers are forced to pass these price increases along into the price of their products, and ultimately, to consumers,' he said.

      A study by the Consumer Federation of America last year claimed abuse of market power by railroads 'sustains $3 billion per year of excess profits and costs.'

      But the AAR contends freight railroads are subject to almost all antitrust laws, with exemptions only covering areas where the STB already has regulatory oversight.

Kohl

      Kohl's proposal to end antitrust protection for the railroads had received wide support from shippers, including the NIT League, which said it would 'promote competition in the industry and set forth operational and policy mandates to serve as effective guidelines for the STB.'

      But in June, Kohl's bill got put on hold as he and Rockefeller said they would 'work together on comprehensive rail competition legislation,' and his bill did not go to the full Senate.

      While antitrust provisions were not a feature of S. 2889, Rockefeller said during the committee mark-up that if it had included the antitrust provision the bill would 'fail and that is not something we can tolerate.' But he said he would continue to work with Kohl and others 'to add strong antitrust provisions.'

      Szabo said reform advocates seemed more pleased with the legislation than the railroad industry.

      'Our statement was pretty upbeat,' he said, contrasting his group's press release on the day that the bill was passed by the Senate committee with that of the AAR. 'They don't appear that happy.'

'This bill would be the most significant rewrite of the railroads industry's regulatory system in three decades'

Edward R. Hamberger president and chief executive officer, Association of American Railroads

      Hamberger said, 'Class I railroads would be required to open their privately owned and maintained rail networks and would face vastly expanded government involvement in railroad operations.'

      The AAR was concerned about 'the nature and scope of the antitrust provision that may be added at a later date' and other provisions.

      Hamberger vowed to work for 'final legislation that ensures railroads can continue to make the investments that sustain a healthy national rail network.'

      Wall Street rail analyst Jason Seidl, of Dahlman Rose & Co., said the legislation 'could have been a lot worse. I think it likely will lack the vicious teeth that people feared. Is it a positive for the railroads? No, I would not call it positive. But ' the contacts I speak to with the rail industry say the bill as written, with some clarifications, is something they think they can work with. If there is a lot of stuff negative added to the bill that's a different story.

      'The main thing is the industry doesn't want the government to encroach on them making a reasonable return on their invested capital,' he added.

      The Staggers Rail Act of 1980 largely deregulated the rail industry. The AAR said average inflation-adjusted rail rates, as measured in revenue per ton mile, are down 49 percent and that railroads reinvested $440 billion from 1980 and 2008.

      'Since the Staggers Rail Act reforms in 1980 adopted national policy that railroads must be allowed to earn their cost of capital, railroads and their investors have delivered a revitalized rail network,' said J. Michael Hemmer, senior vice president and general counsel of Union Pacific Railroad, in testimony to the House on a railroad antitrust bill earlier in 2009.

      'We truly lay golden eggs for America,' he contended, saying the industry attracts 'private investors to invest billions of dollars in transportation infrastructure that benefits shippers and consumers and displaces taxpayer investment.' He pointed to the ability of railroads to reduce

congestion and damage to roads, their ability to move freight with less fuel than trucks, thereby reducing shipping costs, pollution and oil imports. It 'costs 54 percent less, in inflation-adjusted terms, to move freight by rail in 2007 than it did in 1981,' he added.

      When Staggers was passed, 'there was a real push to try and save this industry and ensure that railroads were able to earn a reasonable return on investment so they could replace capital as it wears out, pay adequate wages, meet their costs and survive,' said Frank J. Mulvey, an STB member since 2004, during a transportation conference last fall sponsored by Royal Bank of Canada. 'I think the board for a long time was concerned about the health of the railroad industry,' noting that one of the STB's duties is to develop an estimate each year of the cost of capital and whether railroad revenues are adequate.



Abuse Of Power. But railroad shipper advocates like Szabo say the STB and its predecessor agency the Interstate Commerce Committee have not protected shippers from monopoly abuse.

      'Staggers was supposed to deregulate activities. Where there was competition, the market would regulate competition. But where there was not competition the federal agency was supposed to protect shippers from being adversely affected by railroad monopoly power. If a shipper can only use a railroad and only use one railroad they are in a 'take it or leave it' situation and can be taken advantage of,' he said.

      Szabo also contends that much of the investment that railroads are making is in projects aimed at intermodal cargo, pointing to projects like Norfolk Southern's Heartland Corridor.

      'Their growth investment is in containers,' he said, claiming intermodal projects often benefit foreign manufacturers whose products arrive by ship, more than domestic companies, and help drive business overseas.

      He gave the example of the plastic molding industry, many of which receive resin in rail hopper cars from U.S. Gulf manufacturers. He estimated that 80 percent of those plastic pellet makers, and some molders, are captive to a single railroad.

'It is the first bill since 1980 to move out of the Senate Commerce Committee and with customer-advocated improvements in the freight rail regulatory program.'

Glenn English chairman, Consumers United for Rail Equity

      If a shipper wants to prove it is the victim of price gouging, the customer must show that a railroad is charging 80 percent more than the direct cost to the railroad of the movement, because the STB has no jurisdiction to reduce rates to less than 180 percent revenue-to-variable cost.

      When combined with the lower costs that, say, a manufacturer in China may enjoy because of lower natural gas prices, an industry with brand new factories that may even be built in clusters so makers of plastic products are located immediately adjacent to plastics factories, the U.S. manufacturer has great difficulty competing.

      Mark Cooper of the Consumer Federation of America calls Staggers 'a particularly pernicious example of excessive deregulation, because at the same time that Congress deregulated the rails, it also exempted the sector from the antitrust laws ' the result has been a double whammy for captive shippers and consumers.'



STB Changes. The STB reauthorization bill would make many changes to the board, making it an independent U.S. government agency rather than part of the Department of Transportation. It would also increase the size of the board from three to five members, and enable it to be more proactive, giving it the authority to initiate proceedings.

      The bill would authorize the Office of Public Assistance, Government Affairs and Compliance to assist shippers with complaints regarding railroad services and rates. It also proposes creating a rail customer advocate and STB ombudsman to help shippers resolve rail service and rate issues.

      The bill would reduce the cost of making a complaint to the $350 filing fee for cases in U.S. courts. By comparison, CURE said the filing fee for a coal rate case at the STB was $140,000.

      These changes would shake up an agency that critics like Cooper say have 'turned a deaf ear' to captive shippers, and 'is thoroughly captured by the industry it is supposed to oversee.'

      The STB would also be allowed to direct rate and service disputes ' limited to $250,000 per year for two years ' to binding arbitration, with the board to develop a list of arbitrators.

      The bill comes even as some say the STB has been making reforms on its own.

      President Obama last year appointed labor attorney Daniel R. Elliott III to chair the STB. In a December speech, Elliott said he has 'begun to change the culture of the STB.

      'While we all wait to see what Congress will come up with, I am moving forward with several projects to make the board and its processes more transparent and more focused on settling disputes before they become formal proceedings,' he said.

      'For years, the board's decision process operated sort of like this: Shippers and railroads paid lawyers lots of money to generate file cabinets worth of legal filings and briefs. They shipped it off to the STB. Then everyone waited silently, for months and months. Then, one day, a decision would come down from above.'

      Elliott said he has 'begun a policy of holding oral arguments so that parties have a chance to talk face-to-face with me and other board members before we rule on their dispute. We have had three oral hearings so far and I think everyone has been pleased with the way they have gone. Stakeholders and the public have been allowed a peek into a process that has long been close.'

      Elliot also said he hoped to 'breathe some life into the arbitration process at the agency that has lain dormant and unused since it was created in the late 1990s. Finally, I plan to bolster the agency's successful Rail Customer and Public Assistance program, where disputes are informally settled.'



Freeing The Captives. The Senate rail reform bill has many features that are aimed at assisting 'captive shippers.'

      The bill would require major railroads to quote 'bottleneck' rates and have the STB establish a new process to determine whether such rates are reasonable.

      Captive shippers say current STB bottleneck policy has prevented them from taking advantage of competing carriers who might be able to carry their cargo for thousands of miles at savings of millions of dollars.

      For example, Terry Huval, director of the Lafayette Utilities System in Louisiana, told the House Judiciary Committee last year that its Rodemacher generating station, which buys coal from the Powder River Basin in Wyoming, is captive to the UP because only the railroad serves the last 20 miles to the plant.

      If the bottleneck rule was eliminated, he would be able to get quotes from competing carriers BNSF, which also has tracks into the Powder River Basin, and the Kansas City Southern Co., which could carry the coal for 99 percent of the 1,500 miles from the coal fields to the power plant.

      Huval said his utility believes current bottleneck policy 'has translated into over $65 million in captivity payments during the last 10 years.'

      But the AAR has argued against reversing bottleneck policy, saying it 'would force railroads to use routes and connecting points chosen by shippers.' That, it argues, means the efficiency and predictability of rail service would be lost.

      'A few individual shippers might benefit, but America's railroads would become much less efficient overall ' and that's not in anyone's best interest,' the association said.

      It also argues that because of regulatory caps on bottleneck segments, total rates on through movements of cargo could be driven 'below what a railroad would need to cover its costs. Extended over the entire U.S. rail network, this could lead to a revenue loss of several billion dollars per year.'

      The bill would set standards for reciprocal switching and terminal access rates, and overturn an STB decision called MidTec, which the Senate committee said has stifled shippers from bringing cases because they are required to prove a railroad is engaged in anticompetitive conduct.

'We truly lay golden eggs for America'

J. Michael Hemmer senior vice president and general counsel, Union Pacific Railroad

      'I think there is a notion that getting to an interchange should be more of a standard feature of the railroad system than it is today,' Szabo said. 'The idea Congress had in 1980 was that there would be free flow of traffic across junctions between railroad systems. That's the way traffic has always moved from one end of the country to another. But the railroads have pretty much closed these junctions except when they want them open. One of the items in the Rockefeller bill is to open these junctions, these intersections, to the free flow of traffic and to publish what their rates are going to be so people will know and they can easily determine a route.'

      The AAR said existing law already gives the STB effective tools to fix the problem, but contends if a railroad is not engaged in anticompetitive conduct, 'this remedy isn't warranted. Requiring reciprocal switching for all rail customers would cut revenues railroads need to reinvest in their systems.'

      The bill would also allow parties to challenge so-called paper barriers, agreements typically between a Class 1 railroad that has sold or leased track to a short line or regional railroad that may penalize the smaller railroads if they hand off traffic to other railroads.

      Cooper, of the Consumer Federation of America, calls these 'among the most blatantly anticompetitive contrivances that the U.S. government has allowed to be written into the routine practice of any sector in American history.'

      As railroads merged, they 'found it convenient to spin off short lines to service individual facilities or local areas. However, in order to ensure that the long haul freight railroads would be able to exploit their newly minted market power, the dominant railroads forced the new short lines to sign contracts that said in essence, 'thou shalt not compete or do anything that promotes competition,' ' he said.

      The bill also calls for increased scrutiny of future railroad mergers, though critics say the STB and its predecessor industry allowed over-concentration of the industry. In 1980 there were more than 40 railroads. Today, the U.S. business is dominated by four major railroads ' CSX, Norfolk Southern, Burlington Northern Santa Fe and Union Pacific.

      'While some consolidation in the rail industry was certainly necessary, by the mid-1990s the benefits of consolidation had been captured,' Cooper said. 'Over the opposition of the Department of Justice, the STB allowed mega-mergers to take place in the mid-1990s that rendered much of the nation captive to, at best, duopolies in the East and West. Vast swaths of America's heavy industries, raw materials and agricultural heartland are now captive to one or two railroads.'

      One merger not likely to come under review by the STB is the proposed purchase of BNSF by Warren Buffett's Berkshire Hathaway, which is a non-carrier.

      That is unless, said Elliott injecting a little humor in what may be a very sober debate about rail regulation during the year,

the model railroad in billionaire Buffett's home turns out to be large enough to 'qualify as a Class 3 railroad with common carrier obligations. Then, of course, we would have to become involved in a big way.'