The U.S. Navy can project military power using the largest piece of military equipment ever built. The USS Gerald R. Ford, commissioned in 2017, is the first of the new Ford-class aircraft carriers, and it deploys a great deal of firepower. The Ford-class also offers efficiencies compared to the similar-sized but older Nimitz-class carriers. These efficiencies include 700 fewer crew members and lower maintenance costs from its two nuclear reactors which, at 600 megawatts, generate triple the electric power of the Nimitz-class and enough to light up a city of 500,000 people. Newport News Shipbuilding charges about $13 billion for a Ford-class carrier, which is twice as much as the last Nimitz-class, the USS George H. W. Bush, commissioned in 2009. These prices, of course, do not cover the cost of aircraft. Currently, the United States maintains a fleet of 11 aircraft carriers and no other navy even comes close.
From a military perspective, aircraft carriers have allowed the U.S. Navy to establish air superiority off the coast of any nation, thus alleviating the need to secure access to neighboring countries’ airspaces –let alone the need to be granted permission from them to establish airbases. However, aircraft carriers are also multi-billion dollar targets that are vulnerable to attack from enemy submarines, aircraft, ballistic missiles and, perhaps one day, drones. As such, aircraft carriers need to be positioned farther off enemy shores (perhaps as much as 1,000 nautical miles) to be able to avoid today’s modern and maneuverable missiles. Each nautical mile off-shore presents the trade-off of keeping the military asset safe while limiting the range of its fighter and recognizance aircraft. More escort vessels and submarines may allow for closer positioning, but that ties up even more assets. Despite the increased efficiencies of Ford-class carriers, U.S. Navy strategists are no doubt wrestling with the thought that these supercarriers may be suffering from a non-military concept known as diseconomies of scale. In the business world a company needs to guard against becoming too big to fail. The military needs to guard against weapons becoming too expensive to lose.
Economies of scale is a concept well-known to ocean vessel carriers. The term can be simplified to mean that bigger is better. The cost of container carriage per twenty-foot equivalent unit (TEU) falls as the vessel size increases. At the same time each extra container brings in more revenue, meaning that operating profits are likely to rise when economies of scale are present. But this cannot go on forever. Sooner or later, however, the ocean vessel becomes so big that cost per TEU actually begins to rise. These diseconomies of scale can squeeze operating profits to zero and below if something is not done to rationalize vessel size.
Economies of scale are fairly straightforward to exploit and can be tempting to overdo. As a simple example consider building a cube-shaped container measuring three feet on each side. It would have a carrying capacity of 27 cubic feet. Now, if a larger container were desired measuring six feet on each side, the material cost of each side would be four times larger. The cost is not simply double because you can fit four 3’x3’ sides onto a 6’x6’ side. The carrying capacity would increase to 216 cubic feet. So the material cost increases by four times but the revenue-generating potential from the carrying capacity increases by eight times. It is great news when revenue potential rises faster than material cost.
Another way to understand economies of scale is to compare a fully-laden 10,000 TEU container vessel with one that is double in size. Does doubling the size mean that the crew size doubles? Does it require double the amount of gantry cranes to load and unload? Does it require double the amount of bunker fuel to steam from point A to B? Does it require double the amount of office workers to handle the doubled flow of container shipping documents? The answer to these questions is no. The fact that not all sources of cost rise at the same rate as others means that a double-sized TEU operation will indeed cost more but it need not cost double when economies of scale are present. Again, this is great news.
Ocean vessel carriers offering a lot of capacity in one large vessel gives consignors with high demand for transport (e.g., Walmart, Home Depot, etc.) a chance for even larger bulk discounts on their freight rates. There are external benefits to be had as well. A vessel double in size does not double its burn rate of bunker fuel. This means that the fuel savings per TEU lessen the environmental impact of air pollution per TEU.
Now for the bad news. Any source of economies of scale can, if taken too far, generate diseconomies of scale. Following the examples noted above, suppose the container becomes so large that its sidings collapse due to the weight of the shipments loaded into it. Suppose the new 20,000 TEU vessel is too big to be handled by the gauges of the gantry cranes available at the required ports of call. Suppose the vessel takes too long to load and unload given the time constraints of the consignors and/or the workday requirements of unionized dock personnel. Suppose the increase in office workers and management oversight lead to bureaucratic red-tape. In other words, the sources of revenue and of cost savings afforded from higher carrying capacity begin to evaporate under the limitations of container engineering, the indivisibilities of labor, the cost of bureaucracy and the patience of consignors. Longer load and unload times per TEU and the extra time moored offshore waiting for other large vessels to be serviced lead to extra fuel burn in idle time. This, of course, increases the environmental impact of air pollution.
There is quite a diverse set of variables to stay on top of to prevent economies of scale from turning into diseconomies of scale. Ocean vessel companies need to be mindful of not taking things too far. American Shipper notes that there are 105 commercial vessels with at least 18,000 TEU capacity. Of these, 47 exceed 20,000 TEU and 37 more of them are on order between now and 2021. Currently, the MSC Gulsun launched this year has a capacity of 23,756 TEUs and is the world’s largest container vessel. It beat out the OOCL Hong Kong at 21,413 TEUs.
“Build it and they will come” is no guarantee in any mode of transportation – especially in ones that are competitive and prone to economic downturns. More flexibility is afforded through fleets of smaller and more nimble vessels. This overcomes the indivisibility problem and the dangers of excess capacity if and when consignors become scarce. A single large vessel is either at sea with any excess capacity resulting from lack of demand or it is out of business in dry dock. On the other hand, a fleet of several smaller vessels with aggregated TEUs equal to the large one have more options. These include making adjustments in routing to avoid congested ports, seeking out scarce freight from more ports of call, and moving to dry dock on a piecemeal basis if business declines.
As mega-vessels dock at fewer ports there will also be more drayage, more trucks on the road, and more trains moving containers to and from places all over the country. All of these activities will concentrate in a few large ports able to handle the world’s largest vessels. Economies of scale require careful planning and timing in order to adjust to changes in consumer demand and technology. A good rule of thumb for all business and military strategists is – too big to fail simply means too big.