For two days in March 2022, the Surface Transportation Board will hear opinions from industry stakeholders on how it should address reciprocal switching.
Reciprocal switching occurs when a shipper has access to one freight railroad but wants access to a nearby competing freight railroad in order to cultivate a competitive pricing environment. President Joe Biden via a July executive order charged STB Chairman Marty Oberman to look into this issue and potentially begin a rulemaking on it. While the practice occurs in limited form in the U.S. via long-standing rail-shipper agreements, it has existed in Canada for years and is known as interswitching.
Rail shippers first petitioned the board over 10 years ago to take up the issue, contending that reciprocal switching benefits captive shippers, or those that have access to only one railroad. Meanwhile, detractors point to operational challenges and potentially harmful economic impacts that could occur to the rail industry should reciprocal switching be implemented.
One skeptic of reciprocal switching is Steve Pociask, an economist with the American Consumer Institute Center for Citizen Research, a nonprofit think tank that aims to examine how public policy impacts consumers. He co-authored an October 2021 report with Liam Sigaud entitled “Veering Off the Rails: How the Recent Push to Reregulate Railroads Threatens Consumer Welfare.”
FreightWaves recently chatted with Pociask about the report. This question-and-answer interview has been edited for length and clarity:
FREIGHTWAVES: The STB is having a two-day hearing in March on reciprocal switching. As the board prepares for the hearing, what things should board members keep in mind as they’re taking in all this information?
POCIASK: “There are a couple things. I would say they should look back at the history of what’s happened [with regulating the freight rail industry] and what the impact of that was — and then … [the] analogies where we’ve seen similar things applied to other industries and then the whole issue of why is it that we regulate. What’s the purpose of it? And is this something that addresses a market failure that’s been identified?
“One of the conclusions that we came across was this whole idea of reciprocal switching in some ways amounts to corporate welfare in the sense of kowtowing to rent seekers and lobbyists. If we can’t identify a true market failure that requires a government remedy, then what’s the purpose of the regulation? Those are the number of things that need to be addressed and looked at in more detail.
“And of course, I’m sure your readers will know the success of what took place as a result of the Staggers Act, with decreasing prices and skyrocketing productivity and increases in consumer welfare that in real dollars was somewhere, depending on the study, in the range of 10 to 18 billion dollars per year. … When you add up the reforms that took place back in that time period [for rail, airlines and trucking], in real dollars, we’re looking at well over a hundred billion dollars’ [worth] of consumer welfare. Consumer welfare is a broad and well-recognized measure of consumer benefits.
“The results of the Staggers Act made it clear to me and to Liam that what we saw here was providing increased rate flexibility, allowing movement to make investment decisions, entering into private contracts — those sorts of things changed that entire industry, just like in the airlines. We moved to hub-and-spoke networks, which made prices plummet. Interestingly, that was another example as in rail where you had a Democratic legislative body and president sign these things into law. … Of course, there always has to be safeguards, particularly consumer safeguards, for safety. But depriving an industry of the ability to invest in safety is not in the public’s interest. So that’s one aspect of it. We need to look back and see what actually happened and do we want to go back there again and what would the consequences be.
“My comments here don’t reflect the views of the FCC [Federal Communications Commission], but I chair the FCC’s consumer advisory committee so I’ve also dabbled a lot in understanding what’s happening in the regulations and communications sector. And there are some really interesting analogies to what happened then and what could be happening now to rail.
“Up to the early 2000s, I think 2002, there were a lot of interesting regulations that were similar [to reciprocal switching]. One was [in telecommunications] … a means by which an incumbent local exchange carrier would have to make its network facilities available to its competitors at [heavily] subsidized prices essentially. … [But] propping the resellers up didn’t do anything for expanding or increasing competition.
“What I’m trying to say is that there are some interesting parallels in place that show, time and time again, how forced access fails, as well as price controls. Price controls tend to hurt innovation and potentially consumer safety, but most importantly, create shortages. And that’s a precursor of what could happen here as the rail carriers may find themselves in the position of cutting back investments. And there’s nothing good about that.
“What this really gets to, to some extent, is why do we regulate in the first place? What’s the point of this regulation? And in a basic sense, sometimes people regulate because there’s an externality: I’m polluting in a river and I’m killing fish and the fishermen are [being affected]. There’s a reason to step in and say, ‘Wait a minute. You’re not actually paying the social costs because you’re polluting in that river and in effect creating harm to someone else.’
“And then there’s another issue of market failure. And this is the reason why sometimes it requires a remedy for the government to come in. And so what my study and Liam’s does is look at what’s the situation in terms of market structure, the conduct of the industry, the performance of the industry and that sort of thing. It’s a basic way of saying, ‘Can we identify a market failure here?’ And that’s a major part of the paper because typically you can justify some regulation by the presence of a market failure. But even if you determine that a market failure exists, it’s really only the first step in evaluating whether intervention is even worth pursuing. Because what you can find is that sometimes … even imperfect markets can outperform government regulations. And so the question is: Have we identified a market failure here? And I’m not sure that we have.
“If you look at over the years, for example, there’s only been a few complaints by shippers but really nothing that’s sufficient to grant reciprocal switching. … I don’t believe there’s a single incident where the board has identified an … action that would have justified reciprocal switching. So the question then is: If we can’t identify whether a market failure exists, then why do we require a regulatory remedy to fix it? And that sets up the whole question of what’s the purpose of all this. What I think this gets at is this whole idea of rent seeking. So we have a particular group made up of shippers who filed a complaint, and then the complaint has led to some action to have a proposed rulemaking, and we now have a hearing coming up in mid-March to discuss this.
“Rent seeking — think of it in the simplest terms — is lobbying. … Rent seeking gets into this whole field of economics that emerged in the 1960s. Rent seeking essentially is lobbying or extending time and resources to transfer wealth between companies without creating any total increase of benefit to the economy as a whole. In this example here, it’s like someone trying to step in and take income or compensation from rail carriers as a direct benefit to [the person stepping in], without necessarily an improvement in social welfare. And that’s sort of what this is about. And the government then conceding to reciprocal switching essentially amounts to corporate welfare.
“The first thing we have to do is identify that there is a market failure. And if we fail to identify a market failure, then there really are no grounds for government to fix anything. And really all they’re doing is essentially looking to benefit someone at someone else’s expense. What the paper tries to demonstrate is, for those companies in that association, they’re not impoverished. They’re not in need of some financial help. And transferring wealth … is not necessarily a better way to improve the welfare of society overall. That’s the takeaway of that.
“And there are other things, like going back to the analogy of what happened to telecom, for example. … Back then it was DSL versus cable — that was the pre-fiber broadband service that people used to receive. When these regulations came out back in 1998 or ’99, cable’s market share was around 40 to 45% … compared to DSL.
“As a result of forced access … [and] the onerous cost of regulation and the risks associated with renting facilities to competitors at bargain prices, the incumbent local exchange carriers were discouraged in investing in broadband services. And so by the time the regulations were lifted, cable’s market share had nearly doubled and gone up to 75%.
“For the railroads, I think what it’s going to do is going to end up pushing a lot more traffic eventually to trucking. If we begin to see rail investment falling, then obviously the demand for trucks will increase. And what’s the implication of that? What does it do to our roads? What does it do to the environment and the infrastructure? As opposed to rail, which is funded on private investments?
“My thinking is the board really needs to go easy on this and be careful about stepping into this. They need to identify not only that there’s a market failure, but that their solution outperforms what might be looked upon as a market imperfection. They need to identify the failure and then they need to demonstrate that the benefits of such regulation will outperform or outstrip the costs of them. Otherwise, what they’re doing amounts to corporate welfare.”
FREIGHTWAVES: What would market failure look like in rail?
POSCIAK: “The way to look at it is through structure, conduct and performance. If you see extraordinarily high profits … then that’s usually an indicator that something’s going on, that my prices are substantially higher than my costs. But when you look at the companies that have complained to the board, you’ll see that their profits are higher than the ones they’re trying to regulate.
“The other way is to say that the industry is not reinvesting — let’s say, like, if the industry is milking the cash cow. … But it indeed does put a lot of its cash flow back into investment. So it doesn’t show up that way.
“There are certain little things you look for: Are they holding prices up to the point that they’re restricting demand? Sort of the standard monopolist. If you don’t see those things happening, then there really isn’t a market failure in that sort of offense.
“I think it’s really important to go back and look at the regulatory reforms that took place and think about the analogies and the other examples where we’ve seen forced access. They were total failures. The FCC completely reversed those decisions.
“And ask the question: Why are we regulating in the first place? Have we identified a market failure? Have we done the quantitative analysis? Do we actually know if this proposal that benefits will outweigh the costs? And what’s the impact on consumers? Why are we thinking about shippers necessarily and not the impact on consumers? In the end, the thing that matters is to what degree are consumers better off and the rail is safer.
“The irony of all this is that we have a Democratic Legislature and president, in effect, and that was exactly what we had at the time when we had the Staggers Act go through. And I just find that very interesting because the end result of all this could have some major environmental effects in terms of pushing more trucks on the road and impacting the infrastructure as well as the potential for pollution and other matters. … So the question is: Why are we doing this and do we really need to do it?”
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