Reciprocal switching could help with system efficiency, Daniel Elliott says
By Joanna Marsh for freightwaves.com
Reciprocal switching occurs when a shipper has access to one freight railroad but wants access to a nearby competing freight railroad in order to cultivate a competitive pricing environment. President Joe Biden via a July executive ordercharged Surface Transportation Board Chairman Marty Oberman with looking into this issue and potentially begin a rulemaking on it.
FreightWaves recently chatted with Daniel Elliott, former chairman and member of the Surface Transportation Board, on what issues STB should keep in mind as it prepares for a two-day hearing this coming March on the topic.
Rail shippers first petitioned the board over 10 years ago to take up the issue, contending that reciprocal switching benefits captive shippers, or those that have access to only one railroad. Meanwhile, detractors point to operational challenges and potentially harmful economic impacts that could occur to the rail industry should reciprocal switching be implemented.
While the practice occurs in limited form in the U.S. via long-standing rail-shipper agreements, it has existed in Canada for years and is known as interswitching.
This question-and-answer interview was edited for clarity and length.
FREIGHTWAVES: Can you describe your involvement with reciprocal switching?
ELLIOTT: “I was on the Surface Transportation Board from 2009 to 2017, and I was designated as chairman by President Obama for both of my terms. When I got to the board in 2009, I think within a year or two the board did a proceeding on competition in the rail industry and examined that issue through a live hearing at the STB.
“After the hearing, NIT League [National Industrial Transportation League] filed a request to change the reciprocal switching regulations in ex parte 711. As a result of that, we opened a proceeding, and that proceeding continued until about 2016. We put out a notice of proposed rulemaking. 2016 was the last action and people filled comments. It’s been at the board [since then].
“I did engage in a few of the ex parte meetings that the board was allowing in that proceeding. And then I left the board and have been practicing law in the rail regulatory world. So I’ve been keeping an eye on what’s going on at the STB and I’ve been active at looking at reciprocal switching and hoping that something comes of it down the road.”
FREIGHTWAVES: Why did momentum stall after 2016?
ELLIOTT: “I was obviously the chairman until after the Trump election, and so I controlled how things would proceed. President Trump designated Ann Begeman as acting chairman shortly after the inauguration. So at that point, technically I couldn’t move the proceeding and it was in somebody else’s hands.”
FREIGHTWAVES: How have the industry and market conditions changed since reciprocal switching was first brought up in 2009, and why should STB tackle this issue now beyond being charged to do so according to President Joe Biden’s July 2021 executive order?
ELLIOTT: “Obviously the rail industry has changed in itself, and I think at some point, I was convinced after 2009 that taking a look at reciprocal switching was a good idea because of that hearing and because of the proceeding that we opened in EP 711. Once I opened that proceeding, I thought it would be a good idea to look at reciprocal switching, which, in my opinion, is still something that needs to be considered.
“And in my opinion, again, there needs to be a change in the former policy of the Interstate Commerce Commission that goes back to the ’80s. That was my opinion and how I voted at the time, and that opinion continues to this day.”
FREIGHTWAVES: And what’s the connection between the Interstate Commerce Commission and reciprocal switching?
ELLIOTT: “The first point is that there is a statute in the Staggers Act of 1980 that permits reciprocal switching. It’s statutorily allowed. Congress said, ‘This is something that we want to put in the Staggers Act.’ At the time [prior to the Staggers Act], the rail industry was not very healthy, and the Staggers Act significantly helped the rail industry by deregulating a lot of it. Today, the industry is very healthy and successful.
“At the time, the parties came to an agreement — I think even the NIT League was involved in the agreement with AAR [Association of American Railroads] — to arrive at certain regulations. And then shortly after that, the ICC issued a decision, which basically said that you had to show anticompetitive conduct. [But] the feeling out there, amongst especially the [rail] shipper community, is that that standard is very difficult to meet, and as a result, there have been very few reciprocal switching cases since that decision was issued back in the mid-’80s.
“The general opinion is if the parties out there that have the right to use that provision of the act don’t [actually] use it, then it’s ineffective even if people disagree about how good or bad it is. I see that for some of the rate cases and also for the use of competitive access at the STB. People just don’t use it, especially the small rate cases. My opinion was if you aren’t using the provision, then something doesn’t seem to be working right and it needs to be looked at.”
FREIGHTWAVES: In your opinion, why is looking at reciprocal switching still relevant?
ELLIOTT: “First of all, it was Congress’ intent when they created the statute itself to use this mechanism to introduce competition in the industry in certain instances. And the statute lines out very generally when it should be used in the public interest and also with respect to competition. So No. 1, you have this congressional intent to use reciprocal switching.
“When it was put in place back in the ’80s, I think everybody had good intentions. I don’t think there was any intent to write this out. And then I think over the years, people have determined as the rail industry has gotten healthier, that it doesn’t work. And obviously, shippers have decided that they’d like to have a mechanism that is effective, at least in their eyes, and that works in line with what Congress intended back then to introduce competition. Because there are certain situations — and I don’t think this is the entire reason for using reciprocal switching — where railroads have access to a shipper and the shipper doesn’t really have any competition for that rail service. So this is an opportunity for those shippers to get competition through the statute as Congress intended at the time.
“That’s what I think the STB is there for: There’s a balancing act between allowing the railroads to make adequate revenues so they can properly invest in their infrastructure, while also making sure that the shippers — [those] where the market doesn’t work because a railroad has market dominance — have some kind of ability to get competition. I think this is part of what Congress had in mind for that balancing act.”
FREIGHTWAVES: Have stakeholders reached that stage where there are ideas about how to achieve reciprocal switching or is the discussion still relatively abstract?
ELLIOTT: “The NIT League had their proposal, which they submitted to the STB in their petition for a rulemaking. The board granted that, and that’s when the process started.
“In the board’s notice of proposed rulemaking, the board put out their vision for reciprocal switching, which was a two-parter and a little broader than what NIT League had in mind. The board didn’t have the strict standards as NIT League proposed. And so there are those two standards.
“And then different parties throughout the proceeding had different ideas. The railroads were obviously fine with the status quo. And generally, the shipper community was in favor of something, either what NIT League proposed, the board proposed or somewhere in between or along those lines. So there were a lot of ideas being floated out there. And then there’s also the Canadian model that’s out there that people have looked at as well as a possibility.”
FREIGHTWAVES: Without going too much into the weeds, what were some of the ideas being floated around?
ELLIOTT: “There are two ideas from the board. One was looking at if the shipper is served by a Class I railroad and there’s a nearby interchange, can the party show that the potential benefits outweigh the detriments.
“The second one is if a shipper is served by a single Class I carrier and there’s no intermodal or intermodal competition. The shipper has to show the railroad’s market dominance in the way that you have to show market dominance in a rate case. And then you have to show that there’s an interchange within a reasonable distance. And if you can show that, you can get reciprocal switching.
“And then if the railroad can show that somehow reciprocal switching is not feasible or is unsafe or it really hurts the railroad’s rail system and their ability to serve their shippers, then the railroads can counter.
“The bottom line is that at the end of the day — and I think people sometimes forget this and this is why I think this makes it a little more attractive — there has to be a fee for the switch because you’re allowing this other railroad to somewhat operate. The incumbent railroad is actually still operating on their railroad. They’re just giving the other railroad access. So there has to be some kind of switching fee that’s paid, and that switching fee is actually negotiated between the two railroads. That’s pursuant to the statute.
“So even if the shipper shows that they’re entitled to a reciprocal switch under these guidelines, the railroads get together and they try to negotiate. And then if they can’t reach an agreement, the STB comes in and arrives at the fee. And the board hadn’t settled on how that would be determined. I think they were still looking for comments on that. And I don’t know where the board would come down on that.”
FREIGHTWAVES: Some have mentioned that there are some operational issues that could arise or that service could deteriorate further. Would those operational issues be part of the proposed rulemaking discussion?
ELLIOTT: “That’s included in the actual proposed rule, that if this does create some kind of service issue — I don’t know what the standard will end up being — that that is something that the board will certainly look at. And the railroads certainly raised that as one of their issues when they were opposing the rule that was proposed by the board.
“But I do want to point out that there is reciprocal switching going on across the United States already. Railroads already have these agreements arranged between themselves voluntarily. And then there was significant reciprocal switching put in place by some of the old mergers from the ’90s. So it’s not something that railroads aren’t good at. They know how to switch. It’s just part of the process.
“I think it’s an attempt to set off some alarm bells, especially right now with everything that’s going on. But at the same time, I don’t think it’s the large issue that people are making it out [to be] today. It’s something that railroads do very well already and will continue to do well. You already have an example of this kind of regulation up in Canada that seems to work well, and the Canadian industry seems to be doing quite fine even though they have, I think, what are probably stricter rules requiring reciprocal switching.”
FREIGHTWAVES: What else about reciprocal switching might be good for people to know?
ELLIOTT: “There are two big points. No. 1 is the one I made earlier about the railroads: The railroads would end up negotiating over what the [switching] rate would be. So that’s one point.
“And then I think the second point that maybe even shippers ignore sometimes and the railroads might ignore sometimes is that this could be an opportunity for growth. It may open up more efficient routes where the shipper that’s captive might have a better route to their facility through another railroad. So it may actually make the system more efficient in certain situations.
“A lot of shippers have limited switching from railroads, and so they may only get two days of service, and there may be another railroad nearby that’s willing to give them another three days of service. The shipper may end up using rail more often if they had the access through reciprocal switching and that could attract more business to the industry.
“The last point is there’s kind of a general concern that the rail industry has gotten consolidated to the point where competition is lacking in certain situations, and this would be a place to introduce or strengthen competition. So I do think this is also a good opportunity to introduce more competition into the industry where it’s needed because of all this consolidation. And obviously, we’re probably going to go through some more consolidation here in the near future with a proposed merger among the Class Is. So you could say it’s a bad time, but you could also say it’s a good time for reciprocal switching because it could help make the system more efficient and it also could help with any competition issues that are out there.”