United States General Accounting Office

GAO Testimony

Before the Subcommittee on Surface Transportation and

Merchant Marine, Committee on Commerce, Science, and

Transportation, U.S. Senate

Not to Be

Released Before

2:30 p.m. EST

Tuesday

March 31, 1998

SURFACE

TRANSPORTATION

Issues Associated With

Pipeline Regulation by the

Surface Transportation

Board

Statement for the Record by

Phyllis F. Scheinberg, Associate Director,

Transportation Issues,

Resources, Community, and Economic

Development Division

GAO/T-RCED-98-127

Madam Chairwoman and Members of the Subcommittee:

We appreciate the opportunity to provide this statement for the record on

the regulatory role of the Surface Transportation Board (STB) as the

Subcommittee considers the reauthorization of this agency. Our statement

presents preliminary information based on our ongoing work on STB’s

pipeline regulation. As you know, this work was required by the Interstate

Commerce Commission (ICC) Termination Act of 1995. In asking us to

study pipeline competition issues, the Congress was particularly

concerned about the impact of STB’s regulation on the pipeline

transportation of anhydrous ammonia—an important crop fertilizer in the

midwestern states.1

 A good portion of this statement will focus on this

topic.

Specifically, this statement describes (1) STB’s responsibilities in regulating

surface transportation, (2) the historical reasons for the economic

regulation of pipelines, (3) the ability of alternatives to anhydrous

ammonia pipelines to compete in the Midwest, and (4) issues before the

Congress as it decides whether to extend, modify, or rescind STB’s

authority to regulate pipelines. In summary, our preliminary work shows

the following:

• The Surface Transportation Board is responsible for the economic

regulation of railroads and certain pipelines, as well as some aspects of

motor carrier and water carrier transportation. The majority of the Surface

Transportation Board’s resources and workload are devoted to examining

rail issues. In fiscal year 1997, the Surface Transportation Board dedicated

89 percent of its staff years to rail issues and less than 1 percent to

pipeline issues. Only 21 pipelines are under the Surface Transportation

Board’s jurisdiction.

• Historically, the federal government has regulated the rates charged by

interstate pipelines because pipelines have inherent cost advantages that

may limit competition from other pipelines as well as from other modes of

transportation. For example, pipelines have low operating costs which

may allow them to reduce their rates temporarily if faced with competition

from other modes of transportation. Two federal agencies—the Surface

Transportation Board and the Federal Energy Regulatory

Commission—regulate pipelines. This regulation includes ensuring that all

shippers have access to pipeline transportation services and that the rates

1

Anhydrous ammonia is a hazardous substance that is the primary source of nitrogen for growing

crops. It can be applied directly as a fertilizer, or used as a component in producing other nitrogen

fertilizers.

Page 1 GAO/T-RCED-98-127
charged by pipeline carriers for these services are reasonable and

nondiscriminatory.

• The ability of alternatives to anhydrous ammonia pipelines—local

production plants and barge and rail transport—to compete with pipelines

in the Midwest varies, depending on these alternatives’ access to the

market areas served by pipelines and their ability to increase their supply

of anhydrous ammonia to compete within those market areas. Our work

showed that some market areas currently served by pipelines also have

access to alternatives, while other market areas may not. However, even

where alternatives to pipelines are available, they may not offer effective

competition because they have limited ability to increase their supply of

anhydrous ammonia without additional investments in capital. Because of

the large number of local markets that exist along the two midwestern

anhydrous ammonia pipelines, we were not able to definitively determine

the number of markets that do or do not have competitive alternatives to

pipelines.

• No clear conclusions can be reached on whether continued economic

regulation of pipelines under STB’s jurisdiction is needed because such a

determination requires the examination of competition in numerous local

markets along 21 pipelines. However, as the Congress considers

reauthorizing the Surface Transportation Board, pipeline regulation issues

to consider include (1) whether pipelines do not face effective competition

in a significant number of market areas and subsequently have the

potential to charge unreasonably high rates; (2) what the costs of

regulating pipelines are; (3) whether the limited number of pipeline cases

before the Surface Transportation Board and and its predecessor indicates

there is no need for continued regulation; and, (4) whether shippers would

have any recourse if STB’s economic regulation of pipelines was

eliminated.

STB’s Role in Surface

Transportation

Regulation

STB is an independent agency administratively housed within the

Department of Transportation. The successor to ICC, STB is responsible for

the economic regulation of railroads and certain pipelines, as well as some

motor carrier and water carrier activities. STB has fewer responsibilities

and functions than ICC. STB’s fiscal year 1998 budget is nearly $15.9 million,

and it employs about 135 full-time equivalent staff, compared with ICC’s

fiscal year 1994 budget of $52.2 million and employment of 615 full-time

equivalent staff. STB’s current authorization ends on September 30, 1998.

Most of STB’s regulatory oversight centers on the rail industry. This

oversight encompasses enforcement of the “common carrier” obligation

Page 2 GAO/T-RCED-98-127
(that the rates, services, and practices of carriers be reasonable), mergers

and acquisitions, and the construction and abandonment of railroad lines.

The ICC Termination Act eliminated, among other things, the regulatory

requirement to file tariffs listing rates charged for transporting goods and

requirements pertaining to contracts for the shipment of nonagricultural

commodities. Rail issues constitute the majority of STB’s workload. In

fiscal year 1997, STB dedicated 116 of its 131 full-time equivalent staff

(89 percent) to rail issues. Of the 1,429 decisions STB issued in fiscal year

1997, 988 (about 70 percent) concerned rail issues.

STB has jurisdiction over pipelines that provide interstate transportation of

commodities other than oil, gas, or water. We identified 21 pipelines

carrying five commodities—anhydrous ammonia, carbon dioxide, coal

slurry, phosphate slurry, and hydrogen—that are subject to STB’s

regulation. STB’s regulation of these pipelines includes ensuring that

pipelines fulfill their common carrier obligations, including determining if

the rates charged for these services are reasonable and nondiscriminatory.

The ICC Termination Act limited STB’s role in regulating pipeline rates by

specifying that STB can begin a pipeline rate investigation only in response

to a complaint by a shipper or other interested party. The act also

eliminated the sole reporting requirement for pipeline carriers—tariff

filing. According to STB, over the past 10 years only five cases involving

pipelines have come before STB or ICC; one is ongoing. Because of the

limited caseload, STB issued only six decisions on pipeline cases in fiscal

year 1997 and devoted the equivalent of about one full-time staff member

to pipeline issues.2

STB also has regulatory authority over some motor carrier functions. This

oversight includes regulating the rates of household goods carriers and

disposition of motor carrier undercharge cases. The ICC Termination Act

eliminated some requirements for motor carriers, including tariff filing for

most carriers, and transferred responsibility for others, such as

registration and insurance, to the Federal Highway Administration. Finally,

STB has jurisdiction over domestic water carrier transportation to or from

Alaska, Hawaii, or territories and possessions of the United States. This

regulation is limited to tariff filing and rate regulation. In fiscal year 1997,

STB dedicated about 12 full-time equivalent staff to motor carrier and water

carrier issues, primarily motor carrier issues. STB issued 420 decisions

(about 29 percent of its workload) on these issues, most related to motor

carrier issues.

2

Each of the six decisions addressed aspects of two cases.

Page 3 GAO/T-RCED-98-127
Pipelines Have

Historically Been

Regulated to Ensure

That Their Rates Are

Reasonable

Historically, the federal government has regulated industries engaged in

interstate commerce—including common carrier pipelines—with inherent

cost advantages that may limit competition from other pipelines as well as

other modes of transportation. Specifically, because pipelines are

expensive to build—but relatively inexpensive to operate—it is more

efficient to build one large pipeline to transport a given amount of a

commodity rather than two or more smaller pipelines. In addition, low

operating costs may enable a pipeline to reduce its rates temporarily if

faced with competition from other modes of transportation. The

regulation of pipelines has been imposed to enforce the common carrier

obligation, including ensuring that, in the absence of competition, pipeline

carriers do not charge unreasonably high rates relative to their costs

The federal economic regulation of interstate pipelines is provided by two

agencies: the Federal Energy Regulatory Commission, which regulates oil

and gas pipelines, and STB, which regulates the remaining pipelines.

Regulation by the former covers more pipeline miles and involves more

reporting requirements than the latter. For example, about 400,000 miles

of oil and gas pipelines are under the jurisdiction of the Federal Energy

Regulatory Commission, while fewer than 6,000 miles of pipelines are

subject to STB’s jurisdiction. In addition, oil and gas pipeline carriers are

generally required to file tariffs and annual reports, while pipeline carriers

under STB are not.

Ability of Pipeline

Alternatives to

Compete Varies

Throughout the

Midwest

The ability of alternatives to pipelines—local production within the

Midwest, as well as barge and rail transport from other areas of the United

States—to compete with pipelines within local market areas in the

Midwest depends on two factors. First, because storage terminals are key

to the distribution of anhydrous ammonia in local midwestern market

areas, alternatives must have access to storage terminals within market

areas that are also served by pipelines. We found that, while some local

market areas currently served by pipelines also have access to

alternatives, other market areas may not. Second, alternatives to pipelines

must have the ability to increase their supply of anhydrous ammonia to

serve these markets. We found that alternatives may not offer effective

competition to pipelines because they have limited ability to increase their

supply of anhydrous ammonia without additional investments in capital.

Because of the large number of local markets that exist along the two

midwestern anhydrous ammonia pipelines, we were not able to

definitively determine the number of markets that do or do not have

competitive alternatives to pipelines.

Page 4 GAO/T-RCED-98-127
Two pipelines, one owned by Koch Pipeline Company, L.P., and one

owned by MAPCO Ammonia Pipeline, Inc., carry anhydrous ammonia

from Louisiana, Oklahoma, and Texas to the midwestern states. (See fig.

1.) These pipelines supplied 2.1 million tons (33 percent) of the estimated

6.4 million tons of anhydrous ammonia used in the Midwest in 1996. Three

alternatives to pipelines—local production within the Midwest; barge

shipments from Louisiana up the Mississippi, Illinois, and Ohio Rivers; and

rail shipments primarily from other areas—also provide anhydrous

ammonia to the Midwest. Local production accounted for about 3 million

tons, or about 47 percent, of the total midwestern demand. Barge

shipments accounted for 0.9 million tons (14 percent) and rail shipments

accounted for 0.4 million tons (6 percent).

Page 5 GAO/T-RCED-98-127
Figure 1: Map of Koch and MAPCO

Pipelines

South Dakota Minnesota

Nebraska Iowa

Kansas

Missouri

Oklahoma Arkansas

Texas

Louisiana

Mississippi Alabama

Tennessee

Kentucky

Illinois Indiana

Ohio

Wisconsin

Michigan

Koch Pipeline

MAPCO Pipeline

Terminal

Lo

wer Mississippi

River

Ohio River

Illinois

River

Miss o uri River

Upper Mississippi River

Sources: Koch Pipeline Company, L.P. and MAPCO Ammonia Pipeline, Inc.

Page 6 GAO/T-RCED-98-127
The highly seasonal demand—lasting as little as 10 days each in spring and

fall—for anhydrous ammonia applied directly to fields as a fertilizer makes

it important to have large amounts of this product stored close to farms if

farmers’ needs are to be met. Regardless of the means of transport, the

most efficient way to meet this demand is to have large storage tanks

(generally from 20,000 to 40,000 tons of anhydrous ammonia per tank) in

terminals located close to fertilizer dealers and farmers throughout the

Midwest. As a result, anhydrous ammonia markets in the Midwest appear

to be fairly localized. Currently, 60 terminals throughout the Midwest—28

of which are located on pipelines—store anhydrous ammonia for

peak-season use.

Currently, more than half of the 28 terminals located on pipelines have no

alternatives to the pipelines. (See tbl. 1.) The remaining terminals have

access to alternatives that may limit the pipelines’ ability to charge high

rates to deliver the product to that terminal.

Table 1: Alternative Types of Access

for Terminals Served by Pipelines Type of access Number of terminals (percent)

Single pipeline 16 (57)

Pipeline and rail 7 (25)

Pipeline, local production, and rail 2 (7)

Pipeline and barge 2 (7)

Pipelines and rail 1 (4)

Total 28 (100)

Note: No other combination of access exists, such as a location served by pipeline, barge, and

rail.

Some of the 32 terminals not on the pipelines may also be able to supply

anhydrous ammonia to fertilizer dealers in a pipeline terminal’s market

area and effectively limit pipelines’ ability to charge high rates. For

example, if the price of anhydrous ammonia were to increase at a pipeline

terminal in response to higher shipping rates on the pipeline, fertilizer

dealers in the area could turn to cheaper sources of anhydrous

ammonia—such as terminals served by barge, rail, or local production—if

available. If these other sources could increase their supply without

incurring significant increases in their transport and storage costs—thus

enabling them to keep their prices steady—the pipeline might be forced to

keep its rates reasonable in order to retain customers.

Page 7 GAO/T-RCED-98-127
However, the ability of these alternative sources to expand their supply of

anhydrous ammonia beyond current levels without additional investment

may be limited. It is unlikely that plants devoted to producing anhydrous

ammonia as a first step in manufacturing other forms of fertilizer will

switch to producing anhydrous ammonia for direct application. According

to representatives from barge companies and barge terminals, the current

fleet of barges is operating at or near capacity and terminals also have

limited excess capacity. Fertilizer dealers and shippers were also skeptical

about the ability of rail to expand capacity to compete with the volume of

product currently provided by the pipelines. Expanding capacity in any of

these modes could be expensive. For example, new barges are estimated

to cost between $4 million and $5 million each, while new barge terminals

cost approximately $15 million.

As an alternative to the direct application of anhydrous ammonia, farmers

could substitute other forms of nitrogen fertilizer. This action would

lessen the need to have large amounts of anhydrous ammonia shipped to

the Midwest. However, it is not clear that other nitrogen fertilizers are

substitutable for anhydrous ammonia. For example, of the nitrogen

fertilizers, anhydrous ammonia is best suited for fall application because it

loses little of the nutrient during the winter compared with other forms of

nitrogen fertilizers. In addition, anhydrous ammonia is relatively low cost

and is the most concentrated form of nitrogen available. For example, in

April 1997, the cost to farmers of nitrogen in anhydrous ammonia

form—82-percent nitrogen content—was $369 per ton, while the cost of

nitrogen in a liquid upgrade form—28- to 32-percent nitrogen

content—was $533 per ton. Because an increase in pipeline transportation

rates would represent only a small portion of the cost of anhydrous

ammonia to farmers, a substantial increase in pipeline rates would be

required before farmers would be likely to switch.

Issues Before the

Congress in Deciding

the Future of STB’s

Regulation of

Pipelines

No clear conclusions can be reached on whether the continued economic

regulation of pipelines under STB’s jurisdiction is needed because such a

determination requires the examination of competition in numerous local

markets along 21 pipelines. Such an examination was not feasible for our

study, nor was it feasible to address whether anhydrous ammonia

pipelines are representative of all pipelines under STB jurisdiction. There

will be several issues before the Congress as it decides whether to extend,

modify, or rescind STB’s authority to regulate pipelines. These issues deal

with whether to substantively change or leave in place how STB regulates

pipelines. We have not addressed whether the current approach to the

Page 8 GAO/T-RCED-98-127
economic regulation of pipelines might remain substantially unchanged

but carried out by another agency.

First, do pipelines under STB’s jurisdiction lack effective competition in a

significant number of market areas and have the potential to charge

unreasonably high rates? Whether pipelines under STB’s jurisdiction have

such power is uncertain. As discussed above, limited competition may

exist in a number of anhydrous ammonia markets on two pipelines in the

Midwest while other markets may have sufficient alternatives to constrain

pipeline rates. However, according to a 1986 report from the Department

of Justice, all markets along a pipeline do not necessarily have to be

competitive in order to justify deregulation of the pipeline.3

 Instead,

Justice concluded that the number of markets along a pipeline that do not

have competitive alternatives—and therefore require regulation—should

be balanced against the costs of regulating that pipeline.

Second, are the costs of regulation burdensome to pipeline carriers? The

regulatory requirements imposed on pipeline carriers do not appear to be

high. STB does not have the authority to initiate rate cases. In addition, STB

does not require that pipelines file rate schedules, nor does it impose

reporting requirements on pipelines wanting to start up or go out of

business. In fiscal year 1997, STB devoted the equivalent of about one

full-time staff member to pipeline issues. If a rate case is brought before

STB, the cost to the pipeline carrier of defending the case could be

substantial. The limited number of pipeline rate cases in STB’s and ICC’s

history provides little basis for estimating the cost of these cases.

However, STB officials told us that the cost of rail rate cases ranges from

less than $50,000 up to about $1 million.

Third, does the limited number of pipeline rate cases indicate there is no

need for continued regulation? It is possible that the very limited number

of rate cases brought before STB and its predecessor in the last 10 years is

evidence of effective competition and therefore there is no need to

continue pipeline regulation. However, some shippers we talked to

contend that the mere existence of a federal regulatory agency with the

authority to roll back rate increases acts as a deterrent to unfair rate

increases.

Finally, would shippers have recourse if STB’s economic regulation of

pipelines was eliminated? Absent STB or any other regulatory body,

shippers that believe they are being charged unfair rates would

3

Oil Pipeline Deregulation, Report of the U.S. Department of Justice, May 1986.

Page 9 GAO/T-RCED-98-127
presumably complain to the Department of Justice or the Federal Trade

Commission. However, neither of these agencies currently has the

statutory authority to investigate complaints from shippers that believe

they are being charged rates that are unreasonable or discriminatory,

unless the complaint alleges a violation of antitrust laws.

This concludes our statement.

(348081) Page 10 GAO/T-RCED-98-127
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