The economics of the grain handling and transportation system under deregulation
Baylis, Katherine Ruth
Grain transportation and handling is a large component of the export basis and is a large cost to western Canadian farmers. In the past, the components of this basis have been highly regulated. Recently, Canada has moved to deregulated elevator tariffs and ended the subsidy on the transportation of grain to port. Further deregulation of grain transportation is expected. Public policy has long grappled with both the problem of lack of entry in the rail and elevator industries and the potential for market power of existing firms. The industries involved in getting grain to port have high sunk costs, which act both as barriers to entry and allow firms, once established, to have some market power. Governments have faced the difficulty of first getting firms into the industry, and then trying to limit their use of market power once the firms are established. The rail industry benefited from some of the government intervention. Railways were given large subsidies of land and money to get started. The federal government in Canada protected the new Canada Pacific Railway (CPR) from competition. In the early days of freight rate regulation, railways were allowed to price discriminate on the basis of value of the product hauled, which improved their profits while serving the national interests of developing the West in both Canada and the U.S.. In both countries, regulation over freight rates also allowed railways to put a stop to rate wars that bit into their revenue. More recently, governments in both countries have begun to return these industries to a more market-based framework. The current regulatory regimes in both countries are described. Some of the impacts of this shift to deregulation were discussed. The U.S. deregulated its rail industry in 1980; this action provides some evidence of what can occur without rate regulation. Although freight rates have fallen in the years immediately after deregulation, there is evidence that railways are price discriminating between routes and commodities and in some locations monopoly pricing is emerging. This thesis describes the development of a model used to simulate the different components of the export basis. The model illustrates the setting of the tariffs charged for local and terminal elevation, and rail transportation. The charges are interdependent and together comprise the export basis. The model is founded on a spatial model of heterogeneous products for each component sector of the basis. The heterogeneity allows each firm to set their own price for their product. The size of the demand faced by each firm will vary with the price they charge, the price competing firms charge, and the existing market shares of the firms. In equilibrium, it is assumed that all firms will have no incentive to move from charging the same price. The model assumes that rates are set in a two-stage game. The terminals and railways are assumed to set their rates first, with ex-ante information about the reaction of local elevators. Local elevators are then assumed to take the railway and terminal charges as fixed, and set their tariffs accordingly. The result is rates at each level which are a weighted average of the intercept of the industry's derived demand, and the industry marginal cost. The weight considers a number of parameters of market power, such as the number of firms, market share, conjectural variation of the reaction of other firms to a change in price of anyone firm. The model is then used to illustrate a several scenarios. The model is calibrated for the 1997-98 crop year and is then used to anticipate what might occur without the freight rate cap on western grain. The model illustrates that railways would be expected to engage in various forms of price discrimination under deregulation. It is anticipated that railways will price discriminate by route and by value of commodity. Although the overall result of this deregulation is unknown, it is anticipated that railways will re-exert some of their market power if the freight rate cap is removed. The model is also used to illustrate the impact of common running rights. It is shown that common running rights with a sufficient number of carriers may be able to replicate freight rate charges currently enjoyed under regulation.