Issues & Insights

Time To Change Freight Rules That Add Barriers To The U.S. Recovery

Railroads were deregulated in 1980, but rules now in place need to be updated. Source: Department of Transporation

A U.S. regulatory body is taking aim at one of the most vital U.S. transportation networks that has been instrumental in allowing the nation to weather the COVID crisis and move essential supplies to where they are needed most.

The Surface Transportation Board (STB) is looking to regulate rates charged by the U.S. freight railroad industry using its antiquated modeling of “revenue adequacy.” This 40-year-old system previously used to monitor revenue requirements has no practical correlation to setting shipping rates today.

It would surely exact a devastating cost on America’s rail industry, at a time when the nation is still struggling to rebound from economic devastation wrought by the shutdown, when a healthy rail network is vital to serve other sectors, such as automotive, construction, consumer goods and energy.

Rates set by arbitrary “adequacy” measures all but ignore that rail currently offers the most competitive shipping rates in the world. Given this achievement, the STB needs to update their revenue criteria to reflect the reality of the U.S. freight rail sector.

One positive, and modern, alternative was submitted in a petition to the STB by Professors Kevin Murphy and Mark Zmijewski. Their recent study affirmed that rail, similar to most companies, earns a positive return on capital costs. This is not a sign of an abuse of market power requiring heavy-handed rate regulation but a positive sign of financial health.

In the 1980s Congress lifted price controls on railroads through the Staggers Rail Act, allowing the market to set shipping rates to “promote a safe and efficient rail transportation system by allowing rail carriers to earn adequate revenues.”

This shift helped resuscitate an industry in dire shape and permitted it to strike a balance between government regulations and market-influenced freight rates. A Department of Transportation study claims this deregulation brought many benefits in terms of economic efficiency. Freight prices fell by 45% and remain highly competitive today.

Yet, the STB’s outdated analysis method of the rail industry could now threaten the health of a growing sector when better and more accurate alternatives are readily available.

Capping rates will see railroads struggle to reinvest in their networks, which could affect safety, as well as have a negative effect on long-term planning in which investments had been contingent on predicted returns.

Caps could also threaten the railroads’ ability to adapt to operational and regulatory changes over the coming years. Shippers today can actually move more freight for the same price they paid 35 years ago. The STB’s efforts should work to maintain this advantage.

Updating its determination of revenue adequacy will provide the STB with a far more accurate picture of the rail industry’s financial health and allow the agency to fulfill its legal responsibility to help railroads earn “a reasonable and economic profit or return (or both) on capital employed in the business.” This is the best outcome for rail, for consumers and our entire economy.

As most industries earn accounting returns above the cost of capital, revenue adequacy is a normal and expected outcome in our economy. This is why the metric isn’t used in other industries to justify regulatory action — it is symptomatic of a functioning economy, not an abuse of power.

We should not use the current revenue metric to look backwards but focus on what railroads need to earn in the future and incorporate comparisons across sea, land and air freight industries. The STB should examine whether railroads earn returns on equity over cost of capital incongruent with peers in the S&P 500.

Updating these protocols now would provide the STB greater insight on requirements for attracting capital and paying for upkeep. We would gain clarity on the expansion needed to meet our nation’s growing future freight transportation demand. It is the only way to secure a bright economic future while supporting an invaluable industry.

Gerard Scimeca is an attorney and co-founder of CASE, Consumer Action for a Strong Economy, a free-market oriented consumer advocacy organization.

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