The nation's railroads are an American success story.
They’ve been deeply ingrained into our nation’s cultural and economic fortunes since long before that final 17.6-karat golden spike was driven into the Transcontinental Railroad outside of Salt Lake City in 1869, capping off construction begun in 1863.
The Transcontinental Railroad connected existing U.S. rails, in the east, in Council Bluffs Iowa, to San Francisco Bay.
While much has changed since those early days, freight rail is as fundamental as ever.
American freight rail represents one of the most cost-efficient and competitive means of shipping in the world.
Private investment has helped to drive this competitiveness and efficiency.
Railroad companies invest an average of $25 billion each year to improve efficiency, enhance environmental sustainability, and expand infrastructure to meet the demands of a modern economy.
These are private investments in the public good, and they play a crucial role in keeping our economy moving. And given that freight demand is expected to increase by 35% over the next 20 years, such investment is essential to meeting demand in years to come.
The market has been effective in compelling investment in expansion and in keeping rates competitive.
Beginning in the 1980s, Congress deregulated the railroads through the Staggers Act, moving to let the market set rates.
This step delivered significant economic efficiency benefits and resulted in a 45% drop in freight rates, according to the Department of Transportation and Hoover Institution.
Prior to this deregulation, Congress tapped the Surface Transportation Board (STB) to restrict rail rates against a backdrop defined by market manipulation and lacking adequate competitiveness.
The STB continues to analyze the financial health of the railroads today, but the metrics it uses — including revenue adequacy — are ripe for modernization.
Some stakeholders are pushing the STB to implement a revenue ceiling for railroads.
This misguided, regressive policy shift would undermine the market-driven competitiveness that led to lower rates and increased efficiency realized after deregulation.
At the root of the issue is the definition of revenue adequacy.
And while an update may be in order, the "one year at a time" approach favored by some shippers as a means of artificially restricting rail rates is a big miss.
Analysis of a single year of revenue can’t tell a complete story of financial health for railroads or any other capital-intensive sector.
Such analysis can paint a misleading picture — one good year of revenue doesn’t tell a clear story about the years that will follow, the capital that will be needed to expand, or the impact of fluctuating demand.
A better approach, examined by University of Chicago professors Kevin Murphy and Mark Zmijewski in a new study, would be to treat railroads like any other capital-intensive industry, looking forward at what a is needed to earn continue to operate, invest, and grow for the future rather than back at an arbitrary revenue threshold.
In their study, the authors assert that the fact that railroads earn returns higher than their cost of capital does not represent abuse of market power. Rather, strong financial performance is an expected outcome in our economy.
To make their point, Murphy and Zmijewski compare railroads to the S&P 500 companies with whom they compete for capital investment, finding that 88% of all such companies earn return on investment (ROI) higher than their cost of capital.
Rather than assessing financial health through the year-by-year approach favored by some shippers, the STB should instead compare railroads’ return on investment to the returns generated by others in similar industries (in addition to revisiting treatment of the railroads’ deferred taxes, among other changes).
The fact that railroads are on par with comparable private companies when it comes to their ROI is not evidence of a need for further regulatory constraints on railroad companies’ revenue.
Rather, this fact shows that railroads’ financial performance is improving — and that’s something that shippers, consumers, and the economy at large should all embrace.
There was a time when revenue adequacy made sense as a bellwether metric for the STB.
Long ago, shippers in some industries had fewer options and were in effect "captive" to the railroads. In those days, it made some sense for the STB to ensure railroad profits didn’t reflect market manipulation or hurt these captive shippers.
Those days have been over for many decades.
Today’s shippers have options and recourse — and the efficiency and cost-effectiveness of freight rail wins on its merits as a shipping method of choice.
Regressive actions that restrict railroad revenues are a relic of another time, and not a sound path forward for the STB.
Drew Johnson is a government watchdog who serves as a senior fellow at the National Center for Public Policy Research.
Drew Johnson is a senior fellow at the National Center for Public Policy Research. Read Drew Johnson's Reports — More Here.
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