Agricultural shippers and farmers have made large investments based on the expectation of
railroad service levels and price. Inadequate service levels and higher rail tariffs undermine the
viability of those investments and result in a deterioration of the market values of shipper assets.
Since the Staggers Act specifically lists protection of captive shippers as one of its major goals, it
is only right for the Board to reemphasize the goal of providing rate and service protection to

captive shippers.

GEOGRAPHIC AND PRODUCT COMPETITION

Although the Department of Agriculture recognizes that geographic and product
competition can limit railroad pricing in some cases, we believe that these forms of competition
are less relevant to market dominance today in light of the rapid consolidation of the rail industry.
This railroad consolidation has created many more captive shippers and has resulted in an increase
in the market power of railroads relative to shippers. Of the crop reporting districts (CRDs) in
the top twenty grain producing states, 87 CRDs were served by fewer than three railroads in
1996. Of these 87 CRDs, only 58 were served by fewer than three railroads in 1992. Thus 29
CRDs lost competitive choices between 1992 and 1996.

In 1980, the ability of a farmer to haul grain to an elevator served by a competing railroad
often provided the competition necessary to constrain rail rates. Today, since only two Class I
railroads serve the western United States, and many of the short line railroads are either physically
or contractually tied to only one Class I railroad, most farmers no longer have a cost-effective

option of hauling grain to an elevator served by a competing railroad. This decrease in intramodal


CERTIFICATE OF SERVICE
The undersigned hereby certifies that on May 29, 1998, he caused a copy of the
Department of Agriculture’s comments to be served by first-class mail, postage prepaid, on all
parties of record in STB Ex Parte No. 627, Market Dominance Determinations--Product and

Geographic Competition.

Keith A. Klindworth

Program Manager

Marketing and Transportation Analysis
Agricultural Marketing Service


recover only their variable costs but not the bulk of their fixed costs. This results in railroads
extracting profits that rightfully belong to shippers.

Indeed, the ability of merged railroads te abrogate shipper contracts allows them to
capture even the profits from long-lived shipper investments which have been made in the past.
Once a shipper has made an investment, it becomes a fixed cost which the shipper needs to
recapture, but is unable te do so when the railroads use their market power to charge unjustifiably
high rates. The railroad will usually set its rates so as to allow the shipper to extract only a small
amortization of the longer-mun fixed costs.

Even if these problems did not exist, the concepts of geographic and product competition
have several major problems. One of these is the definition of the relevant market. Railroads
define the relevant market as the world market, claiming that if the price of a commodity is too
high, the customer can obtain that commodity from other sources. But the fact that a shipper’s
customers have an alternative to buying from that shipper does not change the fact that the
shipper has no alternative to dealing with the railroad. In other words, downstream competition
in the product market does not translate to competition in the upstream market for transportation
services.’ Thus, the lack of shipping alternatives, at either the origin or the destination, effectively
removes the constraints of geographic and product competition upon the railroad’s pricing. Since
the final customer does not pay the additional shipping costs due to competitive alternatives, the
captive shipper must absorb these costs. Thus, shippers define the relevant market as the

transportation of the shipper’s product between the two points involved in the move.

§ William B. Tye, The Transition to Deregulation, p. 159-60.

6


competition has also decreased the effectiveness and the relevance of geographic and product
competition as a potential limit to railroad market power.’

Allowing railroads to exploit their dominance over domestic shippers is contrary to the
principles of the Staggers Act which justified the deregulation of rail rates by the presence of
effective competition. Deregulation of rates based on the assumption of product and geographic
competition misses the point that unreasonable rates are more likely to be related to the existence
of market dominance by the carrier than to the lack of product and geographic competition.*
Thus, by allowing the assertion of product and geographic competition in market dominance tests,
major classes of shippers have been effectively eviscerated of Staggers Act protections.

In the past, railroads have argued that a railroad would be motivated to set a competitive
rate without regulation because it could not afford to price its shippers out of the markets in
which they compete. Due to the consolidation of railroads, these constraints upon a railroad’s
ability to set unreasonable rates do not prevent railroads from extracting the economic profits
which are due to the efforts and innovations of shippers.’ The current market dominance tests
using geographic and product competition fail to recognize this fact. Thus, railroads have been

allowed to use their market power to charge captive shippers a rate which allows shippers to

* Geographic competition is defined as the ability te ship a commodity to, or receive it from,
another location via other railroads. Product competition is defined as the ability of the shipper to use a
suitable substitute product that can be acquired without relying of the services of that railroad.

* William B. Tye, The Transition to Deregulation, Quorum Books, Westport, CT, 1991, p. 158.
7 Rail rates resemble Ramsey pricing which is based upon the market power of the firm. Ramsey

prices are calculated according to the inverse elasticity nile. As the price elasticity of demand for a product
decreases, the price for that product increases.


Respectfully submitted,

Assistant Secretary

Marketing and Regulatory Programs

U.S. Department of Agriculture
Washington, D.C. 20250


A
RECEIVED

HAY 29 1998

MAIL
MANAGEMENT
STB

BEFORE THE

SURFACE TRANSPORTATION BOARD

STB EX PARTE NO. 627

MARKET DOMINANCE DETERMINATIONS —

PRODUCT AND GEOGRAPHIC COMPETITION

COMMENTS OF THE

UNITED STATES DEPARTMENT OF AGRICULTURE

Michael ¥. Dunn

Assistant Secretary

Marketing and Regulatory Programs
U.S. Department of Agriculture
Washington, D.C. 20250

Date: May 29, 1998


The Department of Agriculture supports the removal of product and geographic
competition from the market dominance test used by the Board. In addition, the Department of
Agriculture supports legislative remedies either to greatly simplify market dominance
determinations or te remove them entirely from rate reasonableness challenges. The revenue-to-
variable cost ratio and evidence of effective intramodal competition cr intermodal competition, as
envisioned by the authors of the Staggers Act in 49 § U.S.C. 10707, should in themselves

provide an adequate indication of the presence of market dominance.

CONCLUDING REMARKS
The Department of Agriculture commends the Board for its review of product and
geographical competition as factors in market dominance determinations in railroad tate
proceedings. As shown by our presentation, allowing the assertion of product and geographic
competition has in effect deprived captive shippers of the statutory protections against
unreasonable rates which are included in the Staggers Act.
In summary, the Department of Agriculture requests that the Board:
. Reduce its charges for filing rate reasonableness cases to accommodate rate
reasonableness challenges from smaller shippers.
. Remove product and geographic competition from the market dominance test.
* Support legislative efforts to greatly simplify the remaining procedures to
determine market dominance or support the removal of the need to prove market

dominance in rate reasonableness cases.


of product and geographic competition.’ Since, under current law, market dominance must first
be shown before the Board will open a rate reasonableness proceeding, it is important that the
Board remove unnecessary obstacles to the proof of market dominance.? The Department of
Agriculture commends the Board for its willingness to reevaluate the use of product and
geographic competition in making market dominance determinations.

The procedures to determine market dominance need to be greatly simplified, particularly
so that effective protection against unreasonable rates is afforded even to those smaller shippers
without the monetary and legal resources to challenge large railroads. The Department of
Agriculture encourages the Board to reduce its charges for filing rate reasonableness cases so that
smaller shippers are not precluded from challenging rail rates.

Indeed, one of the major goals of the Staggers Act was to maintain reasonable rates where
there is an absence of effective competition.‘ Due to the financial condition of the rail industry
during the [970s and early 1980s, the goal of revenue adequacy for the carriers was given priority
over the other goals of the Staggers Act. Currently, the large premiums being paid over book
value when railroad firms merge and the large investments being made in infrastructure

demonstrate that the railroad industry has regained financiat health.

749 § U.S.C. 16707 requires only that intramodal and intermodal competition be considered. The
Interstate Commerce Commission had initially concluded that consideration of product and geographic
competition would complicate rate proceedings unduly.

? Once market dominance is shown to exist, and if the revenue-to-variable cost ratio exceeds 180-
percent, the Board then considers the revenue adequacy of the railroad before it rules on the reasonableness
of a rate.

* 49 § U.S.C. 10101 (6).



producers in improving transportation services and facilities by, among other things, initiating and

participating in Board proceedings involving rates, charges, tariffs, practices, and services.

PREFATORY REMARKS

Farmers are dispersed over the entire country. Unlike the situation in many other
industries, agricultural producers are unable to move their operations to other locations — indeed,
their operations are tied to the land and often to a particular climate. Rail and barge
transportation are the only cost effective modes of transportation for those agricultural
commodities produced far from domestic or export markets. To compete effectively in
increasingly competitive world markets, American farmers must have access to efficient, reliable
and cost-competitive transportation. The rates agricultural producers pay for rail transportation
must be at a level which will preserve American competitiveness in world agricultural markets

while adequately compensating those transporting agricultural commodities.

FAILURE OF THE CURRENT MARKET DOMINANCE TESTS

Since the Interstate Commerce Commission replaced the four tests' used to determine
market dominance with the current evidentiary guidelines, there have been virtually no regulatory
constraints on rates charged to captive shippers. Current market dominance guidelines make it

too expensive, time consuming, and risky for most agricultural shippers to refute the effectiveness

? These four tests were a revenue-to-variable cost test, market share test, the presence of
substantial investment or long-term contracts, and whether the rate had been set by a rate bureau.

2


BEFORE THE

SURFACE TRANSPORTATION BOARD

STB EX PARTE NO. 627
MARKET DOMINANCE DETERMINATIONS —

PRODUCT AND GEOGRAPHIC COMPETITION

COMMENTS OF THE

UNITED STATES DEPARTMENT OF AGRICULTURE

AUTHORITY AND INTEREST

Pursuant to its decision in Review of Rail Access and Competition Issues, STB Ex Parte
575, served April 17, 1998, the Surface Transportation Board (Board) has instituted this
proceeding to consider removing product and geographic competition as factors in market
dominance determinations in railroad rate proceedings. USDA believes that product and
geographic competition should be removed as factors considered in market dominance
determinations,

These comments are filed on behalf of the Secretary of Agriculture. The Secretary is

charged with the responsibility under the Agricultural Adjustment Act of 1938 and the

Agricultural Marketing Act of 1946 to represent the interests of agricultural shippers and