With precision railroading looming as the dominant operating strategy in the North American rail sector, and with coal markets facing enormous competition from natural gas and renewables, Raymond Atkins asked a question: what’s the proper role of the federal government in regulating railroads?
Atkins was on a panel at the annual meeting in Washington of the Transportation Safety Board that looked at the role of the federal government in regulating the nation’s rails. While much of the discussion got deep in the weeds on the elements of how the U.S. Surface Transportation Board figures out costs – the Uniform Rail Costing System (URCS) and the Stand-Alone Cost guidelines – came up frequently, Atkins, a lawyer with the firm of Sidley Austin and a former STB general counsel, asked a more existential question.
“In the airline industry and the trucking industry, they pretty much moved away” from federal rate regulation after the late 70s and early 80s deregulation of those businesses,” Atkins said. “Why do they keep it for freight railroads?”
Much of the answer is coal, he said. There had always been concern during the formulation of the Staggers Act (railroad deregulation) that fully freeing railroads to set their own rates on moving their biggest product – coal – would filter its way down into the retail rates that homeowners and businesses ultimately pay. “The concern back then was that the railroad had so much control over coal that they would jack up rates,” Atkins said. “Coal really drove the bus.”
But given the changes in electricity generation in the U.S., with natural gas now being used more than coal and renewables taking a larger piece of the pie, “does that industry continue to justify federal regulation?” Atkins asked. “I would say it’s an interesting question whether that continues to be the case.”
Atkins noted that chemical companies, highly dependent upon rail transportation, are putting many new facilities “where they are captive to the railroads.” He did not specify any particular plants, but ethane-dependent polymer plants are being built in the U.S. Midwest to take advantage of the natural gas boom in that region instead of being built on the U.S. Gulf Coast. On the Gulf, product can be exported by ship if rail rates aren’t favorable.
Yet the chemical companies “are placing their new plants where they are captive to the railroads,” Atkins said. They know that but they realize that captive is a relative term; that there are “other factors” governing the market that restrict just how much a railroad can charge its customers.
The big changes in coal are occurring at a time when there are equally sweeping changes in the operations of the nation’s railroads, which Atkins referred to as the “Hunter effect, or whatever you want to call it.” The reference is to Hunter Harrison, the deceased father of precision railroading, now firmly in place at CSX (NYSE: CSX) and the two Canadian railroads and in the process of being implemented at Union Pacific (NYSE: UNP) and Norfolk Southern (NYSE: NSC).
What is the role of the STB in such a completely different system? Atkins said rail freight is going through a ”metamorphosis” as railroads adopt to precision railroading. “Do we send trains on a schedule no matter how full they are?” he said, focusing in on the types of decisions that precision railroading needs to make. “How much equipment do we have in the fleet?” That latter issue is inevitably going to cause tensions with shippers, particularly given the growing friction between railroads and shippers on the amount of demurrage that the railroads are charging shippers for boxcars not returned in a timely manner. (STB chairwoman Ann Begeman wrote some of the railroads late last year to begin a discussion on that issue.)
Atkins said change is coming and “nobody likes change in the railroad industry.” But he said while shippers don’t like change, they are flexible. “But federal regulators don’t like change and you’re seeing a lot of change.” The rise of precision railroading is such a sweeping movement that regulators at the STB are going “to need to figure out where it is appropriate to intrude versus places where they say we’re hands off and we’re not intruding in this.”
James Nolan, a rail expert and a professor at the University of Saskatchewan, agreed that the STB will need to become a more flexible agency “and a quicker agency.” Currently it is a regulatory agency “that takes years to make decisions.”
By contrast, Transport Canada, the Canadian equivalent of the STB, largely leaves rail rates alone except for those pertaining to grain, which Nolan said is mostly a political issue. The Canadian approach, he said, is “if it’s competitive, let it be.”