copy the linklink copied!3. State of play and reforms of the rail sector of Mexico

This section starts with a brief description of the industry development since its origins. A review of the main characteristics of the current regulatory framework is then presented. In particular, the analysis focuses on the network and competition conditions, exclusivity of the concessions, tariffs schemes and other topics on economic regulation. Finally, examples of best practices regarding regulatory frameworks of the rail industry in the United States and Canada are presented.

    

copy the linklink copied!Development of railways from the 19th century to 1994

Mexico’s first major rail line was inaugurated in 1873, a freight and passenger railway connecting Mexico City to the port of Veracruz on the Gulf of Mexico. The line was financed with British capital by the Mexican Railway Company Limited (Ferrocarril Mexicano, which is also the official name of today’s Ferromex freight operator that holds concessions on other parts of the network). Under the terms of the concession, granted by the Imperial Government in 1864, the company was given an annual subsidy to operate the line for a period of 25 years. Tariffs for both freight and passenger services were subject to review by the government every two years. The railway was profitable but only moderately so, paying dividends from 1902. It was extensively damaged between 1914 and 1919 during the Mexican revolution and occupation of the port by US troops (Donly, 1920[1]).

In the 1880s, three railways were constructed to serve the central plateau and north of the country, under concessions that provided subsidies for construction of the lines and 10 year periods of freedom from competition from new rail concessions. These three railways were as follows (the locations mentioned are indicated on Figure ‎3.1, Figure ‎3.2 and Figure ‎3.3).

  • The Mexican National Railroad (Ferrocarril Nacional), from Mexico City to the north east, via San Luis de Potosi and Saltillo and Monterrey to Laredo on the US border.

  • The Mexican Central Railway (Ferrocarril Central Mexicano) with a line from Mexico City to Leon later consolidated with further concessions. These are: 1) one line to El Paso on the US border, 2) a branch to Manzanillo on the Pacific coast through Guadalajara and 3) two branches to the port of Tampico on the Gulf coast, one from Aguascalientes via San Luis Potosi and the other from Torreon via Monterrey.

  • The Mexican International Railroad (Ferrocarril Internacional Mexicano), from the Piedras Negras – Eagle Pass crossing on the US border to Torreon on the Central line and to the mining area of Durango in the centre-west.

The concession conditions covered free carriage of mail and military equipment and concessionary passenger tariffs for government officials and military personnel. General tariffs were subject to review by the Ministry of Communications and Public Works every three years (Donly, 1920[1]).

After several failed concession agreements, the Tehuantepec National Railway in the south of the country was built between 1892 and 1894 from the Gulf of Mexico to the Pacific Ocean across the Isthmus of Tehuantepec under concession to an American partnership. On completion, the concession was bought-out and made part of an agreement with a British firm to develop ports on both coasts. The railway operated successfully, carrying Hawaiian sugar and Canadian and US west coast produce to Atlantic ports, despite strong competition from the Panama Canal, until it was extensively damaged in 1913 during the revolution (Donly, 1920[1]).

The Inter-Oceanic Railway (Ferrocarril Interoceanico) was granted a concession to run from Veracruz to Acapulco on the Pacific coast in 1878 and finally opened a line from Veracruz as far as Mexico City in 1891. The Veracruz – Isthmus Railway (Ferrocarril de Verarcruz al Istmo) was granted a concession in 1891 and linked the Mexican Railway at Cordoba to the Tehuantepec National Railway in the south east. The Pan-American Railway (Ferrrocarril Pan-Americano) was granted a concession in 1901 to run along the Pacific coast from the Tehuantepec National Railway to the border with Guatemala (Bach, 1939[2]).

In 1903, the Finance Minister of President Porfirio Diaz began a policy of taking railways into State control in the national strategic and defence interest, acquiring a controlling government share in the Mexican National Railroad. In 1908 this was merged with a series of main line, short line and narrow gauge railways across the country, creating the company Ferrocarriles Nacionales de Mexico (FNM) in 1909, to exercise control on the main trunk lines through majority share ownership (Donly, 1920[1]).

Between 1929 and 1937 the State took majority control of the rest of Mexico’s railways. The private holdings in FNM were expropriated in 1937 in an uncontested nationalisation of a system from which the private owners no longer expected to generate profits (Bach, 1939[2]). Five State-owned regional railways were consolidated into FNM in 1987, which was then legally composed of three railways: Nacionales de Mexico (NdeM), the major part, Ferrocarril Chihuahua-Pacifico (Chepe) and Ferrocarril del Pacifico (FdelP).

By the early 1990s, Mexico was experiencing a railroad problem similar to that in other major countries in Latin America. FNM offered poor service, was not very productive and had a deficit of more than half a billion US dollars annually. The government’s response, similar to that followed in Argentina and Brazil, was to break FNM into separate pieces and offer them as concessions to be operated by the private sector. The strategy was agreed by an Inter-ministerial Commission on Restructuring established in 1995 (Gobierno de México, 1995[3]), based on a government review that considered a range of options for reform of the rail sector. The government made its first priority facilitating investment in the railway from the private sector as the public sector was not in a position to provide the funding needed (COFECE, 2016[4]).

copy the linklink copied!1995 Law on the Regulation of Rail Services and Mexico’s Railway Concessions

Railway concessions

In 1995, the government reformed Mexico’s railways by statute through the Law on the Regulation of Rail Services. This provided for the national rail network to be divided into a small number of exclusive, vertically integrated freight railway concessions. The statute gives primary regulatory responsibility to the Ministry of Communications and Transport (SCT). Specific powers concerning rail tariffs and issues of competition are also given to the independent Federal Commission of Economic Competition of Mexico (COFECE). The law is supplemented with more detailed provisions in regulations by the Bylaw on Rail Services issued by the Ministry in 2010, updated in 2011 and 2016.

The 1995 law authorises SCT to grant concessions to private companies to operate rail lines under conditions established by the Ministry and set out in the concession titles. Terms of access to rail infrastructure are established by the three instruments – the law, the bylaw and the concession title agreements – together. The concession titles carry the most practical import; see for example the title document for the Northeast concession, the first to be issued (SCT, 1997[5]). The concessions were issued between 1997 and 1999 and all follow the same format, with some variation in the contents of their clauses. The law limits the initial terms of concessions to 50 years, with the possibility of extension for a maximum of a further 50 years (Allen, 2001[6]).

The concessions were designed to maximise the income produced by sale of the leases and therefore provided long periods of exclusive access to markets. The three main concession titles set exclusive periods for the operation of freight services on the lines under concession, initially for 30 years. The sales yielded approximately USD 3 billion (in 2014 prices). Competition between the concessions to serve Mexico City, Monterrey and the port of Veracruz was created in the structure of the networks under concession.

Some limited trackage and haulage rights were also included in the concession deeds, some to provide for competition, most for more practical operational reasons. Most are limited to specific products, routes, slots and origin-destination pairs (excluding transport between intermediate points). Table ‎3.3 below, summarises the rights incorporated in one of the concessions agreements, giving an indication of the range of purposes the rights were established to serve. In some cases, they allow specific industrial plants to be reached by two concessions using each other’s tracks so that, for example, a single rail operator can serve all of the company’s plants. In other cases, they provide access to an industrial park or zone to alternative concessions, sometimes with mention of the explicit goal of fostering competition between the concessions. A few of these concern long segments of trunk lines, others concern access to adjacent freight yards, in some cases they simply provide for switching services for the last leg of interline traffic. Some of the rights ensure connection with US railways through yards at border crossing points. Some of the rights provide temporary relief from congestion on trunk lines, or temporary access to facilities that the second concession is expected to replicate.

In three cases, trackage rights were included in concession titles to provide rights to interconnect isolated lines held by one concession over the lines of another concession. Over the Isthmus of Tehuantepec railway in the south of the country, general access rights were provided for the two neighbouring concessions to run services over its line.

The limited nature of most of the mandated trackage rights was designed to protect the overall market of each concession and maximise its value. The concessions are also allowed to use trackage rights on a voluntary basis to manage disruptions and congested sections of track (Regulation 107).

The government decided to restructure the national rail network into three large, regionally distinct networks of trunk lines with a shared terminal railway for the Mexico City metropolitan region (SCT, 1997[5]). The three main concessions are the Northeast, North-Pacific and Southeast, established by orders issued by the Government (Gobierno de Mexico, 1996[7]). Despite the geographic concentration of assets, the concessions do not give rights to a geographic territory but just to the designated network, and the networks overlap. Seven smaller freight concessions were established on lines with low traffic levels, three of which were awarded to the main concession holders. The concessions were awarded between 1996 and 1999 and transfer to the new operators began in 1997 and was completed in 1999 (ITF, 2014[8]).

The three major concessions were awarded as follows.

  • The Northeast line, let to Kansas City Southern of Mexico (KCSM), initially Transportación Ferroviaria Mexicana (TFM), operating the so-called ‘golden line’ from Mexico City to Saltillo, Monterrey and the US border at Nuevo Laredo, together with lines to the Gulf ports of Veracruz and Tampico and the Pacific port of Lazaro Cardenas. The concession accounted for 19% of the national network’s route kilometres but over 40% of the freight tonne-km carried, and sold for USD 1.4 billion in June 1997 (Allen, 2001[6]). TFM also agreed to pay 0.5% of net operating income to the government in each of the first 15 years and 1.5% for the remainder of the concession (Railway Gazette, 1997[9]). TFM was a consortium of Mexico’s biggest maritime shipping company, Transportación Marítima Mexicana (TMM) and Kansas City Southern Industries, which bought out TMM in 2005.

  • Ferrocarril Mexicano (Ferromex) purchased the North-Pacific concession in late 1997, covering the Pacific coast and central routes from Mexico City to five US border crossings, with connecting lines from Torreon via Monterrey to the Gulf port of Altamira and from Guadalajara to the Pacific port of Manzanillo. Four other Pacific ports are served by the coastal mainline. Ferromex operates over the largest part of Mexico’s rail network. The company is a subsidiary of the mining consortium, Grupo México, Mexico’s largest company, and Union Pacific railway, which holds a 26% share. The concession sold for a little under half the value of the Northeast concession, see Table ‎3.1. Ferromex also purchased two smaller freight concessions: the Ojinaga-Topolobampo concession running from the US border to the Pacific coast and crossing Ferromex two north-south trunk lines; and the Nacozari concession connecting a mine in Sonora to Ferromex US border crossing point at El Paso. It also holds a concession in the northwest running mainly passenger services for tourists, the named “El Chepe” line through Copper Canyon between Chihuahua and Los Mochis. Ferromex also operates the Tequila Express passenger service, mainly for tourists, from Guadalajara to Amatitan.

  • Ferrosur purchased the Southeast concession and the South short line concession in 1998, operating lines from Mexico City south to the Gulf ports of Veracruz and Coatzacoalcos. Ferrosur is a consortium of banking and industrial interests and was acquired by Ferromex for USD 245 million in stock in 2005 (see section on Mergers and Acquisitions below). Ferrosur was awarded the Oaxaca and Sur concession in 2005, but by 2008 found part of the line uneconomic. SCT took the concession back into State ownership in 2012 and it was awarded to the Isthmus of Tehuantepec railway in 2018.

Access to the metropolitan area of Mexico City and the surrounding Mexico Valley is provided by a neutral track access and terminal company, Ferrocarril y Terminal del Valle de México (Ferrovalle), jointly owned by KCSM, Ferromex, Ferrosur and the government. This also accommodates a commuter passenger operator, the Suburban Railway of the Valley of Mexico Metropolitan Area, given in concession to Construcciones y Auxiliar de Ferrocarriles S.A (CAF) in 2005.

The smaller freight railways are as follows.

  • Linea Coahuila-Durango (LFCD) in the centre and north serving steel plants and mines inter alia. The concession was purchased in 1998 by steel and mining interests including Altos Hornos de México and Peñoles and is now controlled by Industriales Peñoles. Operation of the lines is contracted to Genesee and Wyoming Railroad (Middleton, Smerk and Diehl, 2007[10]).

  • The Isthmus of Tehuantepec railway (FIT) in the south, linking the small Pacific port of Salina de Cruz to the Ferrosur network at Medias Aguas (100 km south of the Gulf Port of Coatzacoalcos). This is a Federal State-owned railway, established in 1999. It does not operate trains itself but provides general trackage rights to other operators, mainly Ferrosur. Operations were initially leased to the Compañía de Ferrocarriles Chiapas-Mayab (FCCM) concession but switched to Ferrosur in 2007.

  • The FCCM concession was awarded in 1999, with one line along the Pacific coast of Chiapas from close to the small Pacific port of Salina Cruz to Guatemala and another from the oil refinery at the Gulf port of Coatzacoalcos to the Yucatan peninsula. The concession includes trackage rights to use the Ferrosur and Isthmus lines between Coatzacoalcos and Salinas de Cruz (via Medias Aguas). The concession was bought by Genesee and Wyoming Railroad, sold to Viabilis Holdings in 2008 and taken back by the State in 2016.

  • The Via Corta Tijuana-Tecate, which runs 50 km between the cities of Tijuana and Tecate on the border with California. The railway is owned by the State of Baja California and operated by Administradora de la vía corta Tijuana Tecate (Admicarga), which has plans to establish a new line to the port of Ensenada.

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Figure ‎3.1. The initial concession structure in Mexico
Figure ‎3.1. The initial concession structure in Mexico

Source: (SCT, 2015[11]), Anuario Estadístico Sector Comunicaciones y Transportes 2014 (2014 Statistical Yearbook of the Communications and Transport Sector), http://www.sct.gob.mx/fileadmin/DireccionesGrales/DGP/estadistica/Anuarios/Anuario_2014.pdf (accessed 3 March 2019).

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Table ‎3.1. Sale prices for the main concessions in Mexico

Concession

Length of rights of way (km)

Amount

(Current MXN, year of sale)

Northeast

4 251

11 669 161 355

North-Pacific

6 858

5 075 918 879

Southeast and Via Corta del Sur (Ferrosur)

1 479

3 573 305 106

FERROVALLE

-

177 349 971

Coahuila and Durango

974

180 000 000

Isthmus of Tehuantepec

207

627

Source: COFECE (2016[4]), Reporte Preliminar sobre Competencia Efectiva en el Sistema Ferroviario Mexicano (Preliminary report on the Effective Competition in the Mexican Railway System).

The principle mandatory trackage rights that were designated in the annexes to the concession titles to facilitate interconnection are listed in Figure ‎3.2, with the total number of access rights designated between the concessions listed in Table ‎3.4, in the section below.

Some of the rights designed to promote interconnection were implemented without delay, serving specific industry plants or connecting fragmented networks (the case of Durango-Coahuila and Chiapas-Mayab). However, there were stalled negotiations between concessions on terms of use for many of the rights. The most significant of these stalled mandatory trackage rights were for KCSM to use Ferromex tracks from Mariscala (near Queretaro) to Guadalajara (Mexico’s second city) and to give Ferromex access to KCSM’s Viborillas to Ramos Arizpe segment on the main line north to the industrial and commercial centres of Saltillo and Monterrey. Negotiations over implementation of these rights were protracted and were not settled until 2011, in the context of the acquisition of Ferrosur by Grupo Mexico, owner of Ferromex.

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Figure ‎3.2. Principle mandatory trackage rights specified in concession titles
Figure ‎3.2. Principle mandatory trackage rights specified in concession titles

Source: ARTF (2018[12]), Anuario Estadístico Ferroviario 2017 (Railway Statistical Yearbook 2017), https://www.gob.mx/artf/acciones-y-programas/anuario-estadistico-ferroviario-2017-152797 (accessed 31 January 2018).

Mergers and acquisitions

Grupo Mexico initially proposed acquiring Ferrosur in 2002 but the take-over was rejected by COFECE. In 2005, Grupo Mexico purchased Ferrosur for USD 300 million but the acquisition was opposed by KCSM and in 2006, COFECE ruled against the purchase. The decision was appealed and the acquisition finally permitted to go ahead by a tribunal in 2011, with Ferromex and KCSM agreeing to terms for the exercise of access rights on critical sections of track paving the way for approval. These rights provide, for example, for the Honda car plant in Celaya, between Queretaro and Guadalajara, to be served by KCSM over a short stretch of Ferromex track. Grupo Mexico owns both concessions but Ferromex and Ferrosur retain their separate identities (and the concessions themselves remain separate). During the same period, KCSM was permitted to buy out the other investors in TFM and it is now the primary owner of the concession. As a result, Mexico now effectively has two large rail freight companies – KCSM and Ferromex/Ferrosur – along with the smaller concessions.

Following extensive hurricane damage to the Chiapas line in 2005, Genesee and Wyoming ceased operations and proposed returning the Chiapas-Mayab concession to State ownership in 2007. This was rejected by the SCT, which charged the Isthmus railway with operation of the lines. The concession was sold to Viabilis Holding in 2008 and the length of the concession extended from 30 to 50 years in view of the investment required for rebuilding the Chiapas line, and the exclusivity of the concession rights extended from 18 to 30 years. Viabilis’ licence was rescinded in 2016, however, returning the concession to the State. The Isthmus and Chiapas-Mayab lines are important to plans for the development of the southeast, Mexico’s poorest region. In 2018, the government integrated the Chiapas-Mayab railway and the Oaxaca y Sur concession into the Isthmus of Tehuantepec concession (Figure ‎3.3). This includes the general trackage rights to the 100 km of Ferrosur line linking the Isthmus railway from Medias Aguas to Coatzocoalcos (Gobierno de Mexico, 2018[13]).

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Figure ‎3.3. Mexico’s rail concessions and short lines in 2018
Figure ‎3.3. Mexico’s rail concessions and short lines in 2018

Source: ARTF (2018[12]), Anuario Estadístico Ferroviario 2017 (Railway Statistical Yearbook 2017), https://www.gob.mx/artf/acciones-y-programas/anuario-estadistico-ferroviario-2017-152797 (accessed 31 January 2018).

Exclusivity

The main concessions were awarded for 50 years. The Law on the Regulation of Rail Services provides for concessions to be awarded for a maximum of 50 years with an option of renewal in one or more stages for a maximum of a further 50 years in total. Exclusivity to run trains over the networks in concession was granted in the concession agreements for the three trunk railways for periods of 30 years, to protect the value of the concessions and safeguard the incentive to invest in infrastructure. The smaller concessions were granted for periods of 30 years, with exclusive rights for 18 years, see Table ‎3.2.

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Table ‎3.2. Concession periods for freight rail transportation in Mexico

Concession

Year awarded

Concession holders

Length (years)

Extended to (years)

Exclusivity (years)

Exclusivity extended to (years)

Current exclusive period

Current concession end

Mexico’s Valley

1996

FTVM

50

50

To 2046

2046

Northeast

1996

TFM; KCSM

50

30

To 2026

2046

North-Pacific

1997

Grupo Mexico, Ferromex

50

55.5

30

35.5

To 2033

2056

Ojinaga-Topolobampo shortline

1997

Grupo Mexico, Ferromex

50

30

To 2033

2056

Durango-Coahuila

1997

Industriales Peñoles

30

18

To 2015

2027

Southeast

1998

Ferrosur;

Grupo Mexico, Ferrosur

50

30

To 2028

2048

Nacozari shortline

1999

Grupo Mexico, Ferromex

30

2029

Chiapas-Mayab

1999

Genesee & Wyoming

30

18

 

Viabilis

50

30

To 2029

2049

 

State

To be retendered

Isthmus of Tehuantepec

1999

State

50

-

2049

Tijuana-Tecate

1999

Estado de Baja California

50

30

2029

2049

Cuautitlan-Buenavista passenger service

2005

Ferrocarriles Suburbanos

30

2035

Oaxaca and South shortline

2006

Ferrosur;

State

30

30

To 2036

2036

Source: SCT (2015[11])Anuario Estadístico Sector Comunicaciones y Transportes 2014 (2014 Statistical Yearbook of the Communications and Transport Sector), http://www.sct.gob.mx/fileadmin/DireccionesGrales/DGP/estadistica/Anuarios/Anuario_2014.pdf (accessed 3 March 2019).

Ferromex’s North-Pacific concession was extended five and a half years in 2017 in return for refinancing a 25 km rail by-pass around the city of Celaya (Gobierno de Mexico, 2017[14]). By-passes on the Ferromex and KCSM lines passing through Celaya, to avoid central parts of the town, were part of the Government’s national infrastructure investment plan for the five years 2014-2018. The investments were to be funded publicly. However, after construction had begun on the bypass on the North-Pacific concession line, a sharp fall in oil prices severely constrained public finances, leading the government to seek an alternate financing arrangement with Ferromex. Exclusive rights to the network in concession were similarly extended by five years and six months, to a total of 33.5 years.

Trackage and haulage rights mandated as exceptions to exclusivity

Specific trackage and haulage rights were provided for in the annexes to the concession agreements as an exception to the exclusivity granted to the concession holder. These trackage rights enable another concession holder to operate freight services over the tracks of the concession. Provisions for trackage rights were made as follows:

  • Mandatory trackage rights were designated in the concession agreements for specific concession holders to be able to negotiate access arrangements, mostly by location, product and slot, with the incumbent concession on a voluntary basis. The sections of track concerned are identified more or less symmetrically in the corresponding concession agreements, with Annex 9 setting out the obligations of the concession to provide trackage rights to others and Annex 10 setting out the rights the concession holder can expect to enjoy on other parts of the national network (see Table ‎3.3, Table ‎3.4 and Table ‎3.5).

  • The Coahuila-Durango Railway was granted trackage rights, for specific products and slots, to operate trains over a section of the Ferromex mainline to link the two parts of its concession.

  • In the South, the Chiapas-Mayab concession included general trackage rights to link its two lines using the Ferrosur line between the Gulf port of Coatzacoalcos and Medias Aguas and the Isthmus railway line between Medias Aguas and the Pacific ports of Salina Cruz. Then, Ferrosur was granted general trackage rights to run its trains over the Isthmus railway line to reach the port of Salina Cruz.

The government reserved the right in the concession agreements to assign additional trackage rights for passenger trains. It also reserved to assign additional trackage and haulage rights for freight trains in the public interest – conditioned on to the economically and technically feasibility from the point of view of the concession, the international traffic and on the basis of reciprocity. Now, no test of economic feasibility has been specified neither awards on trackage or haulage rights have been made. These provisions are set out in Article 1.4.2 of the concession agreements.

The general trackage rights applied to the Isthmus railway and Ferrosur in the south have been used regularly since award of the concessions. The Coahuila-Durango railway makes regular use of its rights to Ferromex track but finds these overly restrictive. Other trackage and haulage rights has proved to be problematic, nonetheless they are regularly used, as exemplified by the protracted negotiations between KCSM and Ferromex outlined in the previous section.

The exclusive right to carry freight has now lapsed on one concession, ending in 2015 for the Coahuila-Durango railway. There has been no entry by another concession into markets served by this railway.

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Table ‎3.3. Mandatory trackage rights assigned and received in concession titles in Mexico

Concession holder

Trackage rights assigned

(km)

Trackage rights received

(km)

Number of trackage rights received

Trackage rights assigned plus received

(km)

Grupo Mexico

8 643

1 611

36

10 254

Ferromex

7 164

1 035

24

8 199

Ferrosur

1 479

575

12

2 054

KCSM

4 283

1 602

30

5 885

FIT

219

n.a.

1

219

Chiapas Mayab

1 550

n.a.

10

1 155

Coahuila Durango

974

304

2

1 278

FERROVALLE

297

45

1

342

Source: COFECE (2016[4]), Reporte Preliminar sobre Competencia Efectiva en el Sistema Ferroviario Mexicano (Preliminary report on the Effective Competition in the Mexican Railway System).

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Table ‎3.4. Mandatory trackage and haulage rights included in the concession titles in Mexico

Concession

Obligations to other concession holders (number of trackage rights)

Rights to other concessioned networks (number of trackage rights)

Northeast railway line, under concession to KCSM

11 Ferromex

6 Ferrosur

2 Hidalgo railway line (Ferrosur)

1 FERROVALLE

11 North-Pacific Railway Line (Ferromex)

3 Southeast Railway Line (Ferrosur)

3 South Railway Line (Ferrosur)

1 Mexico’s valley Railway Line (FERROVALLE)

Pacific-North Railway Line, under concession to Ferromex

7 KCSM

2 Coahuila-Durango

2 Nacozari Railway Line (Ferromex)

11 Northeast Railway Line (KCSM)

1 Mexico’s valley Railway Line (FERROVALLE)

1 Coahuila-Durango Railway Line

Nacozari Railway Line, under concession to Ferromex

2 Railway Line North-Pacific (Ferromex)

2 Pacific North Railway Line (Ferromex)

Ojinaga Topolobampo Railway Line, under concession to Ferromex

1 Railway Line North-Pacific (Ferromex)

4 Railway Line North-Pacific (Ferromex)

Southeast Railway Line, under concession to Ferrosur

2 KCSM

4 Chiapas and Mayab

2 Oaxaca and South

1 Via Corta Tres Valles-San Cristobal (Ferrosur)

4 Northeast Railway Line (KCSM)

6 Mexico’s Valley Railway Line (FERROVALLE)

1 Via Corta Isthmus of Tehuantepec (FIT)

1 Via Corta del Sur (Ferrosur)

Mexico Valley Railway Line, under concession to FERROVALLE

7 KCSM

1 Ferromex

4 Southeast Railway Line (Ferrosur)

1 Via Corta del Sur (Ferrosur)

1 Northeast Railway Line (KCSM)

Coahuila-Durango Railway Line

1 Ferromex (for unit trains of fuel between Torreon and Villa Juarez)

2 Pacific-North Railway Line (Ferromex)

Chiapas and Mayab Railway Lines

None

Chiapas: 1 Southeast Railway Line (Ferrosur);

5 Isthmus of Tehuantepec Railway Line

Chiapas y Mayab: 1 Southeast Railway Line

Isthmus of Tehuantepec Railway Line

1 Ferrosur

6 Chiapas and Mayab

1 Southeast Railway Line (Ferrosur) between Medias Aguas and Coatzocoalcos

South and Oaxaca Railway Lines

1 Southeast Railway Line (Ferrosur)

1 KCSM (for unit and wagonload trains)

2 Southeast Railway Line (Ferrosur)

1 Northeast Railway Line (KCSM)

Source: COFECE (2016[4]), Reporte Preliminar sobre Competencia Efectiva en el Sistema Ferroviario Mexicano (Preliminary report on the Effective Competition in the Mexican Railway System).

Captive shipper protection

To protect captive shippers, where COFECE determines an absence of effective competition, the Law on the Regulation of Rail Services (Article 47) provided for shippers to request the imposition of regulated tariffs or for the regulator to take the initiative to impose such tariffs.

The concession titles provide for trackage and haulage rights to be awarded anywhere on the rail network on request by users, or potential users, where absence of effective competition is determined by COFECE. This is the subject of Article 3 of the concession titles and detailed in Annex 9 of each concession. These rights can substitute for the regulated tariffs provided for in the Law. Such trackage and haulage rights are specific to the trip and products for which there are deemed to be no viable alternatives and apply to a specific origin and destination so that intermediate points cannot be served. They can be assigned on the tracks of a concession only after a period of 20 years has elapsed since award of the concession and come into force one year after the decision to grant trackage or haulage rights.

The protection for captive shippers provided by this concession title clause is an alternative to the general power of the regulator to impose tariffs in situations where there is no effective competition, to which the 20-year exemption period does not apply. COFECE (2016[4]) interprets the 20-year period of exemption from the exercise of these trackage and haulage rights as exempting concessions from the application of regulated tariffs under Article 47 of the Law on the Regulation of Rail Services, which would appear counter to the intention of the Law. Regardless of the orientation of these views, the ARTF will face an increase in the demand of its functions and resources as the 20-year period of exclusivity will expire relatively soon for most concessions (see Table ‎3.2).

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Table ‎3.5. Example of trackage and haulage rights in concession titles in Mexico: North-Pacific Concession

Rights (Valid from initiation of concession for its duration, unless specified otherwise)

Valid from

Period of validity

Used from (to)

Obligations imposed in Annex 9 of the concession on the holder to provide rights to other train operators:

Trackage rights for the Railway Line Northeast

Mariscala-Guadalajara for wagon load trains with origin/destination in the industrial zone of Guadalajara, with the objective of increasing rail-on-rail competition.

12 months after award of concession

To end of concession

Pedro Morales-Cerro La Silla for wagon load trains, mainly carrying fuels.

 

 

 

Topo Grande-Chipinque for movements between the Monterrey platform and Chipinque to form trains using the line to Torreon.

 

 

 

Celaya-Silao for unit trains for the auto industry to serve General Motors.

 

 

 

Arbol Grande-Altamira to provide access to Ciudad Madero, Altamira and Miramar (in the Tampico conurbation on the Gulf Coast).

 

 

 

Arellano-Chicalote to serve Nissan in Arellano with unit trains and enable exchange of wagons in Aguascalientes.

 

 

 

Viborillas-Huehuetoca for operation of double stack trains and/or multi-level automobile trains to heights allowed by the catenaries on the double track line between Mexico City and Queretaro.

Initiation of Northeast concession

2 years

 

Trackage rights for the Railway Line Nacozari

On sections of the Nogales line for trains requiring interchange with the North-Pacific Railway (Ferromex) in Nogales or at the frontier with the Union Pacific Southern Pacific Railroad.

 

 

 

Nogales-Guaymas for unit trains of sulfuric acid or minerals for export.

 

 

 

Trackage rights for the Railway Line Coahuila-Durango

Sabinas-Ciudad Frontera for unit trains carrying coal and coke between Barroteran and Sabinas.

 

 

 

Torreon-Escalon for unit trains carrying iron ore.

 

 

 

Trackage rights for the Railway Line Ojinaga-Topolobampo

Tabaloapa-Chihuahua to provide access to the shunting yard and intermodal terminal of the North-Pacific railway (Ferromex)

 

 

 

Chihuahua-Ciudad Juarez, railhead of the Burlington Northern Sante Fe Railroad and link to railhead of the Union Pacific Southern Pacific Railroad for exchange of wagons with US railroads.

 

 

 

Sufragio yard for trains needing to use the weigh station in the yard, until installation of a weight station on the Railway Line Ojinaga-Topolobampo.

Inititation of Ojinaga-Topolobampo concession

One year.

 

Trackage and haulage rights on the whole network

On request by users or potential users where absence of effective competition is determined under Article 47 of the Law on the Regulation of Rail Services. These rights can substitute for the regulated tariffs provided for in the Law. Such rights are specific to the trip and products for which there are deemed to be no viable alternatives and apply to a specific origin and destination so that intermediate points cannot be served.

20 years after award of the concession.

And one year after rights awarded.

To end of concession

None

Awarded by the government, SCT (now ARTF).

5 years after rights awarded.

To end of concession

Rights awarded in Annex 10 of the concession to the holder to exercise rights on the lines of other train operators:

Railway Line Northeast

Viborillas-Encantada for wagon load trains to use line B to connect with traffic in Queretaro and Mexico City (in conjunction with following trackage right).

12 months after award of Northeast concession

To end of concession

 

Ramos Arzipe-Encantada for unit trains with origin/destination in Rojas, Saltillo or Encantada to use lines B and BS.

 

 

 

Topo Grande-Monterrey freight yard-Cerro La Silla to provide access to the Monterrey yard and connection to lines to Torreon and Tampico.

 

 

 

Apodaca-Matamoros to serve the industrial zone of Lagrange and Apodaca with wagonload trains.

 

 

 

Monterrey Freight Yard-Leona to serve the industrial zone of Leona with wagon load trains,

 

 

 

Tampico-Arbol Grande-Doña Cecilia for wagon load trains with origin or destination in Tampico or Doña Cecilia.

 

 

 

La Griega-Mariscala on double electrified Juarez and Morelos lines for all trains. For Hecules to Mariscala section duration for 3 years only.

 

 

 

Celaya-Escobedo for access to the Escobedo interchange yard.

 

 

 

Buenavista-Huehuetoca for trains with origin or destination in Buenavista, Pantaco, Mexico Valley Terminal and Lecheria.

 

 

 

San Juan del Rio-San Nicolas for wagon load trains for access to the industrial zone of San Juan del Rio

 

 

 

La Griega-Huehuetoca for use of the electrified double track line in case of congestion on Line B.

Initiation of the Northeast concession

2 years

 

Railway Line del Valle de Mexico

4 sections of line for traffic with origin or destination in Pantaco, Valle de Mexico and Lecheria that needs to use lines A or B.

 

 

 

Railway Line Coahuila-Durango

Torreon-Villa Juarez for unit trains carrying fuels.

 

 

 

Trackage and haulage rights on the whole network

Trackage and haulage rights on request to SCT (now ARTF) in conformity with the Law on the Regulation of Rail Services and where no other limitation to the award of such rights prevails.

Date of award

To end of concession

None

Source: Annexes to North-Pacific concession Gobierno de México (1997[15]), Concesión otorgada en favor de Ferrocarril Pacífico-Norte, S.A. de C.V., respecto de la Vía corta Ojinaga-Topolobampo [Concession granted in favor of Ferrocarril Pacífico-Norte, S.A. de C.V., with respect to the Short Vía Ojinaga-Topolobampo], http://www.dof.gob.mx/nota_detalle.php?codigo=4903433&fecha=11/12/1997CONCESION otorgada en favor de Ferrocarril Pacífico-Norte, S.A. de C.V., respecto de la Vía corta Ojinaga-Topolobampo publicly available in different format in COFECE (2016[4]), Reporte Preliminar sobre Competencia Efectiva en el Sistema Ferroviario Mexicano (Preliminary report on the Effective Competition in the Mexican Railway System).

Trackage rights negotiated in addition to those mandated in concession titles

Since award of the concessions a number of additional trackage rights have been agreed between concession holders by mutual consent. Ferromex has granted KCSM some trackage rights that extend those included in the concession titles to adjoining areas in four instances. KSM has granted very limited privileges of a similar nature to Ferromex in two cases and rights that help decongest lines in a metropolitan area in one case. Ferrosur granted Chiapas-Mayab rights to use 420 km of its tracks (COFECE, 2016[4]).

copy the linklink copied!2015 Amendments to the Law and Establishment of the Regulatory Agency for Rail Transport

Network objectives

The 1995 railway reforms achieved a complete turnaround in the performance of the Mexican railway sector (ITF, 2014[16]). Profitable concessions replaced a State-run railway that operated at a large and growing deficit. The concession holders invested in rolling stock and infrastructure, greatly improving freight services and facilitating economic growth and in particular a large volume of inward investment in the auto industry.

Nevertheless, the incomplete use of the trackage and haulage rights provided for in the concession agreements may indicate an unexploited potential for further improvements in efficiency and quality of service. Article 35 of the 1995 law provides for interconnecting services between the concessions through the use of these rights and there was criticism that the system was not working as intended as a national network. Dissatisfaction was exacerbated by the failure of concessions to agree on terms for the use of some of the most prominent mandated trackage rights in the concession agreements and subsequent rejection in court of the conditions imposed by SCT for use of these rights. Some shippers also saw the capacity of the authorities to implement the protection from abusive tariffs provided by Article 47 of the law as inadequate. At the same time, proposals to cease operation of some unprofitable freight lines, for example through Oaxaca City was rejected by the government as counter to national development objectives and the ending of passenger services on all but three lines was regretted by the public and seen by commentators less familiar with rail markets as a sign of failure.

This led to a series of amendments to the 1995 law being proposed in 2013 by legislators in the Chamber of Deputies. Reinforcement of arrangements for use of trackage rights was proposed together with additional rights of access to the networks in concession. Had all of the proposals been adopted, the resulting erosion of exclusivity might have seen the value of the concessions significantly reduced, putting at risk further investment by the major concession holders. Following discussion in the Senate in 2014, the proposals for additional access rights were dropped, retaining amendments to reinforce existing clauses in the law and adding proposals to enhance the capacity of the government for implementing trackage rights and tariff protection through establishment of the Regulatory Agency for Rail Transport (ARTF). These amendments were adopted and the law modified in 2015. There were further modifications to the law, adopted in 2016 and 2018, that added precision on procedures for reporting regulatory information to the Agency.

The 2015 amendments make some significant additions to the objectives of the law, set out in Article 1, adding guarantee of interconnection between rail lines, establishment of conditions for competition in rail services and operational efficiency. Whilst interconnection and competition can improve operational efficiency, they can also be difficult to reconcile with recovery of the costs of investment in infrastructure. The most important duty of the ARTF is to find the most effective balance between these objectives in fostering the long-term development of sustainable, high quality rail services. Striking this balance is a challenge in all jurisdictions and the reason that specialised rail regulators have been established in many countries in addition to competition authorities. Whilst the importance of viewing the rail system as a national network and fostering interconnecting services across the concessions is now clearly indicated in the Law, efficiency and preserving incentives for private investment from the concessions remain essential.

Tariffs and competition

The large fixed costs and relatively low marginal costs of rail transport mean that the most efficient use of the system is made when freight is charged in inverse relation to its price elasticity. That is, freight that cannot easily transfer to road or waterborne transport is charged as much as it can bear whilst still being competitive in the market, whilst freight that can easily switch is charged closer to the marginal cost of transport. Differentiating charges in this way to recover costs and provide for reasonable profit maximises the value of the rail service for society overall. This result was demonstrated a century ago by economist Frank Ramsey and developed into the basis for regulating the prices charged by natural monopolies 30 years later by Marcel Boiteux (Ramsey, 1927[17]) (Boiteux, 1956[18]). It provides the basis for the regulation of rail tariffs in Mexico and the rest of North America and many other countries.

Arguably, a single network-wide rail operator might be most efficient, but large markets can support competition in rail services, and competition is the most effective way of moderating prices and improving services. This is built into the structure of the Mexican concessions, where two concessions serve each of the largest markets and in the valley of Mexico the jointly owned concession provides equal access to three concessions. In the USA, the Surface Transportation Board under pressure from the Department of Justice introduced a moratorium on mergers between US Class 1 Railways in 2000 to preserve this kind of rail-on-rail competition issuing rules in 2001. The moratorium put the onus of proof on merger applicants that the effect of a merger would be procompetitive rather than anticompetitive (Pittman, 2017[19]). Over the rest of the Mexican network, the exclusive right to provide rail services enables the railways to apply Ramsey-Boiteux pricing and cover costs efficiently.

In most of Europe, in contrast, the railways charge freight prices close to marginal cost, and open access provisions in conformity with European Union law promote more atomistic competition to carry freight. This is possible because freight transport contributes little or nothing to fixed costs in most of Europe (see Table ‎3.6 for an example from the UK). Passenger trains are the prime user of most of Europe’s rail networks; they have priority over freight which is often relegated to off-peak slots and secondary lines. Passenger traffic covers fixed costs, to a greater or lesser extent, with a large part of infrastructure costs covered by government budgets. In principle, no freight is carried below marginal cost but charging full wear and tear costs to heavy trains, carrying steel for example, has proved politically controversial at times. When the Betuwe freight line serving Rotterdam was opened in 2007 for example, the Minister of Transport intervened to reduce prices for the heaviest cargos below marginal costs and was obliged by the regulator to provide compensation to the infrastructure manager for the loss of revenue. A national General Audit Office reports that between 2006 and 2013 EUR 17 million was spent by the Ministry to compensate for lower tariffs and tariff incentives (Algemene Rekenkamer, 2016[20]).

The UK Office of Rail Regulation (now Office of Rail and Road, ORR) reviewed opportunities to charge a mark-up over marginal cost on the carriage of coal and other heavy freight in 2006. The objective was to help cover fixed costs by charging more in markets that had been growing. However, the ORR found the markets too fragile to sustain such charges and concluded that the operator would be better at determining demand elasticities than the regulator. The contribution of freight to the total revenue of Network Rail, the infrastructure operator in the UK, is only around 0.5%, see Table ‎3.6. Preliminary results from the ORR’s latest five-year Periodic Review of Network Rail’s business plans, released in June 2018, confirm the freight contribution will not increase. ORR proposes that the variable network access charges for freight are capped, so that they only increase to reflect the full costs of wear-and-tear on the network (as required by legislation) towards the end of the control period, which runs from 2024 to 2029 (ORR, 2018[21]).

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Table ‎3.6. Network Rail Income in England and Wales
2011- 2012

Source

Income, 2011-2012 prices

(GBP Billions)

Share

(%)

Passengers

7.2

58

Commercial operations such as shops and car parks

1.3

10

Subsidy from the taxpayer

4.0

32

Freight

0.064

0.5

Total

12.5

100

Source: ORR (2013[22]), Periodic Review 2013, http://orr.gov.uk/rail/economic-regulation/regulation-of-network-rail/price-controls/periodic-review-2013/pr13-guide/about-pr13. (accessed 10 March 2019).

Where freight rail services have to cover the full cost of the network, as in Mexico, Canada, and the US, Ramsey-Boiteux pricing is the starting point for efficient charges. Regulators may need to intervene to protect captive shippers and to promote interconnection, but this should be done on a case-by-case basis as there is no simple alternative pricing formula that can be applied across the network.

Responsibilities for economic regulation

The amended Law on the Regulation of Rail Services assigns specific duties to ARTF in the Article 6 Bis. ARTF is charged with guaranteeing interconnection and, when concessions are unable to reach agreement on trackage or haulage rights, establishing conditions of access and charges for interconnection. ARTF is also charged with collecting the information and developing the tools to be in a position to exercise this authority.

Article 36 of the law requires concession holders to provide other concessions holders with interconnection services and associated trackage or haulage rights in return for fair compensation. The ARTF is charged with establishing access rights and charges where these are not agreed voluntarily.

Article 36 of the law provides for the Agency to establish mandatory trackage rights on specific routes when COFECE finds an absence of effective competition in a specific area. These rights will be for specific products and specific points of origin and destination. The conditions imposed must take into account principles recognised internationally and the Agency can consult with COFECE in making its determination.

Article 36 also gives shippers the right to choose, when transport over the lines of two concessions is involved, between paying tariffs set independently by the two concession holders for each part of the route or a tariff set for the whole route by one or other of the concession holders. The law omits to specify what action a shipper might take if neither concession proposes a tariff or if the proposals are unacceptable, and no role is identified for the Agency (or for COFECE) in the absence of agreement. This is a gap in the legislation that should be closed.

Article 46 provides for the concessions to set tariffs freely. This is essential for financial sustainability, and freeing tariffs from controls was the single most important factor in the recovery of freight railways in the USA following the 1980 reform under the Staggers Act. Roughly half of all freight in Mexico is transported under confidential negotiated contracts. In the United States the proportion is higher.

Article 47 provides protection from abusive tariffs for captive shippers, requiring the Agency to establish of its own accord or at the request of an affected party, the basis for regulated tariffs in cases where COFECE identifies an absence of effective competition.

In July 2018, the Agency issued a proposal on tariffs for captive shippers for comment by stakeholders. The basis for tariffs eventually agreed under this proposal could also provide the basis for access charges under Articles 35 and 36 of the law. This will fill a gap in tools for implementing the access rights provided for in the law.

At the same time, the primacy given to voluntary agreement by the law, the limited circumstances in which the Agency can intervene and the procedure to be followed to identify specific circumstances in which (rail and road) competition is insufficient, protect the concessions from undue interference in their freedom to set prices.

copy the linklink copied!Additional amendments to the Law on the Regulation of Rail Services

In June 2016 the Article 8 Bis was added to the Law on the Regulation of Rail Services. It states that for granting new concession titles or extensions, the Ministry of Communications and Transport must deliver to the Ministry of Finance a report with the economic profitability of the project, along with the supporting documents. The document must include the regulatory contribution that must be paid by the concessionaire. The Ministry of Finance will have 30 calendar days to approve or reject it. Also, the project would have to be registered in the list of programmes and investment projects of the Ministry of Finance when it considers public investment as part of the project’s funding.

The 2018’s amendments of the law include modifications to the Article 46 regarding the tariff’s section. Now, all the modifications to maximum tariffs will have to be registered previously with the ARTF detailing the service that will be provided for each, excepting those agreed between concessionaires and users. These must be available at any time for the Agency. The concessionaires will have to register with the Agency, the list of services and charges and its application rules.

In order to modify the maximum tariff, the concessionaire will have to justify it, and the Agency will be able to give recommendations about it. When the Agency considers convenient, it can ask for COFECE’s opinion in terms of competition.

copy the linklink copied!International practice on regulation and governance of the rail sector

International practice in setting principles for regulated tariffs and trackage rights is relevant, and stipulated in the Law to Regulate Rail Services as a factor to be taken into account by ARTF in making regulatory decisions. Given the structure of the railways in Mexico and the dominance of freight transport, the USA and Canada are the most relevant jurisdictions for comparison. There are, however, two significant differences between Mexico and the other railway systems of North America. First US and Canadian railways have no contracts with the government to define the specific rights of the railroads and the regulators can implement regulatory remedies independently of any such considerations. Mexican regulation will have to strike a balance between enforcing contract rights and obligations and the ability to regulate behaviour on other grounds. Second, the modal split in freight transport is much more heavily weighted toward trucks in Mexico than in the US or Canada, see Figure ‎3.4. Most Mexican concessions face more truck competition than US or Canadian railways, narrowing the range of situations in which there is likely to be no effective competition. The mix of commodities in Mexico is much more susceptible to truck competition than in the US or Canada, see Figure ‎3.5. The starting point for regulation is inherently different in Mexico because the underlying presumption of effective competition, valid already in most markets in the USA, will be even more prevalent in Mexico.

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Figure ‎3.4. International comparisons of rail share of rail vs truck ton-km (%)
Figure ‎3.4. International comparisons of rail share of rail vs truck ton-km (%)

Source: AAR (2019[23]), Rail Traffic Data, Association of American Railroads, https://www.aar.org/data-center/rail-traffic-data/ (accessed 5 March 2019); RAC (2013[24]), 2014 Rail Trends, https://www.railcan.ca/wp-content/uploads/2016/10/2014_RAC_RailTrends.pdf (accessed 5 March 2019); SCT (2015[11]) Anuario Estadístico Sector Comunicaciones y Transportes 2014 [2014 Statistical Yearbook of the Communications and Transport Sector], http://www.sct.gob.mx/fileadmin/DireccionesGrales/DGP/estadistica/Anuarios/Anuario_2014.pdf. (accessed 3 March 2019). ITF (2018[25]), ITF Transport Statistics-Goods Transport, http://dx.doi.org/10.1787/trsprt-data-en.

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Figure ‎3.5. Rail commodity distribution in North America
Figure ‎3.5. Rail commodity distribution in North America

Note: Mexico and the United States are indicated in % of tones and Canada in % of carloads.

Source: STB (2018[26]), Statistics of Class 1 Freight Railroads, https://www.stb.gov/Econdata.nsf/M%20Statistics%20of%20Class%201%20Feight%20RR?OpenPage (accessed 5 March 2019); RAC (2013[24]), 2014 Rail Trends, https://www.railcan.ca/wp-content/uploads/2016/10/2014_RAC_RailTrends.pdf (accessed 5 March 2019); SCT (2014[27]), Anuario Estadístico, Sector Comunicaciones y Transporte 2013 [2013 Statistical Yearbook, Communications and Transport Sector], http://www.sct.gob.mx/fileadmin/DireccionesGrales/DGP/estadistica/Anuarios/Anuario-2013.pdf.

The US and Canadian regulation reflects the implications of relatively high fixed costs and low marginal costs in providing rail services. If railways are to recover their fixed costs they must be able to charge tariffs that, in total, depart sufficiently from marginal costs to generate the difference between marginal and fixed costs. This has resulted in a Ramsey pricing approach to rail tariffs in the US and Canada, which means that every shipper pays prices that are as far above marginal costs as its price elasticity of demand permits, limited by the potential for regulators to intervene to prevent abuse of market power and undue discrimination for non-market reasons. The US approach has led to a wide range of average tariffs by commodity and of ratios of revenue to variable cost (see Figure ‎3.6). Note however, that the methodology used by the US regulator for measuring variable costs has been subject to intense criticism, see, for example, (McCullough, 2008[28]) and (Huneke, 2017[29]).

Figure ‎3.6 makes clear that there is a wide range of prices (revenue/tonne-km) and ratios of coverage of fixed costs in the overall US rail system today. Food, for example, travels at an average ratio of 168%, well below the 180% that, on average, would reflect full coverage of fixed costs. If food were raised to 180%, some traffic would have to be charged more, raising prices to the consumer of food, and some would either not move or would be forced to shift to trucks, again raising prices. Chemicals, by contrast, move at a ratio of 234%. Of course, the chemical industry would like to pay less, but the fact is the prices charged do not price traffic off the market or make the chemical industry uncompetitive, and the pricing ensures that, among other things, the food traffic can move at 168% without wrecking the finances of the railways. Note that Figure ‎3.6 is based on masked revenues that, on average, are about 25% higher than actual revenues, though the excess percentage varies between 10% and 50% depending on commodity. The basic import of the figure is the wide range of prices and the variation in coverage ratios remains.

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Figure ‎3.6. U.S. freight railway tariff structure with revenue masked
2016 US cents/tonne-km and ratio in percentage
Figure ‎3.6. U.S. freight railway tariff structure with revenue masked

Source: STB (2019[30]), Carload Waybill Sample (2 digit STCC level), https://www.stb.gov/stb/industry/econ_waybill.html (accessed 6 March 2019).

US methodologies

The US and Canadian governments have adopted an approach to regulation that accepts the tenets of Ramsey pricing and focuses on attempting to limit abuse of market power in circumstances where market power exists – in the United States, or in providing regulatory tools to shippers such as final offer arbitration, inter-switching, level of service complaints (in Canada) to balance the relationships between shippers and railways.

In the US, this is done principally by regulating specific rates where there is found to be abuse of a particular captive shipper– defined as a shipper lacking economic alternatives, intra-modal or inter-modal, to the serving railroad. In other words railways are allowed and indeed expected to adjust their prices (discriminate or engage in differential pricing) among shippers in the tariffs applied, including for transport of the same commodities, in order to be able to cover costs and operate at a profit overall.

The US approach to rail regulation originated in 1887 with the creation of the Interstate Commerce Commission (ICC). Based on populist reaction to abuses by the “Rail Barons” in the mid-1800s rail prices and charging practices were controlled in many ways that were intended to rein in the railroad owners, protect other modes, protect certain shippers or classes of shippers, and to force railroads to absorb social burdens within their commercial activities. US regulation expanded over the years to cover trucks and barges and attempted, mostly without success, to adjust to the new competitive conditions that emerged after World War II. As a result, by the 1970s, the entire US railroad system was in poor financial condition.

The government took two steps to change the situation: first, Amtrak was created in 1971 to shift the burden of passenger losses onto Federal and state hands; and, second, US railways were substantially deregulated through the 1980 Staggers Act (trucking and airlines were deregulated at nearly the same time) in order to allow transportation markets to respond to market forces. The US Congress further reinforced this trend toward deregulation in 1995 when it abolished the old ICC and created a new regulator, the Surface Transportation Board (STB), with a narrower scope of regulation to enforce.

In addition to easing abandonments and allowing more flexibility in tariff-setting, the STB totally exempted from regulation all rail tariffs for voluntary contracts between shippers and railroads. Voluntary contracts often include conditions on investment by railway and shipper, service quality commitments, minimum volumes to be shipped and ancillary services such as packaging and warehousing that reflect a complex balance of interests for which regulation is unnecessary, clumsy, and/or inappropriate. A number of specific commodities or groups of commodities (most agricultural products) and some types of services (intermodal and boxcar) have also been exempted because highway and/or barge competition is presumed to be a powerful restraint on rail pricing. The extensive use of exemptions is in part motivated by the concern that regulation often does more harm than good, as many years of overregulation clearly showed.

The STB does not usually prescribe competitive access. The philosophy of the Staggers Act was that adequate competition should be presumed to exist and that regulation should be used only to correct cases of abuse of market power. Overall, the STB estimates that only 10% of all US railroad freight traffic is subject to any form of regulation (Huneke, 2017[29]). Rates and service on the other 90% of the traffic are assumed to be constrained by competition, which may come from motor or water carriers (intermodal competition) for some commodities or from other railroads (intramodal competition) for other commodities. Regarding both intermodal and intramodal competition, both parallel competition (two carriers serving the same origin-destination pair) and geographic competition (two carriers both serving the same origin and/or both serving the same destination) have been shown to be effective in protecting shippers from anticompetitive behaviour by railroads (Mac Donald, 1989[31]) and (Mac Donald, 1987[32]).

Rates for non-exempt commodities and services that might potentially be regulated are subject to a regulatory regime that has been called constrained market pricing (CMP), which is intended to strike a balance between market forces and the potential for abuse of market power where it exists (ICC, 1985[33]) and (STB, 2006[34])

Two baseline conditions must be met before the STB may regulate the tariffs charged by a railroad to a shipper:

  • There is shown to be an absence of effective competition from other railroads or from trucks or barges.

  • The tariff for the traffic in question has an existing or proposed ratio of revenue to variable cost that is greater than 180%.

If these two conditions are met, shippers may request rate protection from the STB based on one of three grounds:

  • The railroad company is managed inefficiently, and shippers should not be forced to pay the price for this;

  • The railroad company is earning “economic profits”, and shippers should not be forced to contribute to these;

  • The rate charged exceeds the “stand-alone cost” of serving the shipper, where this means the theoretical cost of creating an entirely separate railway to serve just the shipper’s traffic.

In practice, up to now STB rate cases have been brought almost exclusively under the stand-alone-cost provision of the regulations. The stand-alone-cost test is designed to assess for the presence of cross-subsidisation. Though controversial, it is a standard component of some regulatory regimes for some infrastructure sectors around the world, perhaps most widely used in the postal sector. It is based on (Faulhaber, 1975[35]), and further discussion is available in (Baumol, 1987[36]), (ACCC, 2014[37]) and (Decker, 2018[38]).

The STB normally does not act on its own volition, but rather acts when a shipper complains. Much of US regulation ultimately relies on adversarial proceedings with the STB deciding after hearing argument from all parties. STB proceedings are open to all, and any party wishing to be heard can ask to appear or can file material it considers relevant. Although the focus is necessarily on the questions relevant to constrained market pricing and in particular the stand-alone-cost test, all other potentially relevant issues can be raised and considered.

STB decisions can be appealed if they can be shown to violate agency procedures or other federal law, but the agency’s findings of fact are generally accepted by courts as correct. There is a presumption in the courts that the agency is best qualified to make decisions based on economic judgment, as is the case with regulators and expert agencies in other sectors of the US economy–the so-called Chevron standard of administrative deference (Chevron U.S.A., Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837, 1984). In those fairly rare cases where the rate charged has been found to be above stand-alone cost, the remedy has been an STB order for the railroad to both reduce the rate and refund the excess charges.

STB is mindful of the opportunity for discussion and mediation as a way to forestall formal regulation and provides technical support for shipper/railway discussion and mediation – if both sides request it. For this, it uses a separate team of experts from those involved in making regulatory determinations.

The old US Interstate Commerce Commission used to try to make average allocations of fixed costs based on shares of tons and ton-km, or on shares of wagonloads and wagon-km, or on shares of revenue. The Commission eventually gave up, partly because the method of calculation of variable versus fixed costs was so unreliable and partly because it became clear that the method would under-price the high-rated commodities and over-price, and drive off the railroad, the low-rated commodities (Kahn, 1971[39]).

US regulation accepts Ramsey pricing and since the 1980 Staggers Act allows railways to negotiate tariffs in confidential contracts, focusing on identifying and rectifying cases in which market power has been abused. The regulatory proceedings impose a substantial effort on the shipper to establish abuse (and on the railroad company to defend its rates). Producing stand-alone cost estimates that stand up to scrutiny at the STB and in a court appeal is expensive, requiring sometimes multimillion dollar consulting contracts (Pittman, 2010[40]). Both the usefulness of the 180% of marginal cost ratio and this application of the stand-alone-cost test have been challenged without economic foundation, including in a review by the Transportation Research Board of the National Academy of Sciences (TRB) (TRB, 2015[41]).

The TRB recommended development of a more reliable screening tool that would compare disputed rates to those charged in similarly situated competitive rail markets, saying this tool would replace current methods that make artificial and arbitrary estimates of the cost of rail shipping. The econometric studies required to benchmark performance against competitive markets would however, also require substantial effort and the recommendations have not been adopted. (Pittman, 2010[42]), (Pittman, 2010[40]) and (Pittman, 2016[43]) has argued that such a comparison would give an incentive for railroads to raise their rates in competitive markets, and has proposed a commodity-specific ceiling on tariffs or margins as a further candidate replacement mechanism (most “captive shippers” in the US ship one of only three commodities: coal, grain, or bulk chemicals.)

The STB continues to investigate potential improvements to address the shortcomings identified by the TRB, see Box ‎3.1. In short, the regulatory regimes currently used are not ideal, but better methods have yet to be developed.

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Box ‎3.1. Short summary of TRB conclusions on modernising US freight rail regulation

Rate relief: more appropriate, reliable, and usable procedures are needed

While the Staggers Rail Act affords shippers the ability to challenge unusually high rates, the committee found that the formula used to identify high rates is unreliable, economically invalid, and expensive to use, thereby systematically denying large numbers of shippers the access to the law’s maximum rate protections. The problem lies with the law’s requirement that regulators estimate the stand-alone cost of transporting rail shipments when most railroad costs are shared by traffic and not traceable to the individual shipments under dispute. When the Staggers Rail Act was passed, all railroad pricing had been regulated, and hence there were no competitively determined rates that could serve as benchmarks for assessing the reasonableness of rates in markets with no effective competition. Three decades later, ample data on market-based rates are available for such purposes.

The study committee recommends that Congress prepare for the repeal of the current formula for screening rates for eligibility for rate relief by directing the U.S. Department of Transportation to develop a more reliable screening tool that compares disputed rates to those charged in competitive rail markets. This tool would replace current methods that make artificial and arbitrary estimates of the cost of rail shipping.

Current adjudication methods can cost millions of dollars for litigation and some have taken years to resolve, deterring shippers with smaller claims from seeking rate relief. Simplified methods that are designed to be economically valid and practical to use have been introduced but rarely utilised. In effect, the system has the effect of safeguarding railroad revenues by making it too costly for most shippers to litigate a case. Shippers are thus denied equal and effective access to the law’s maximum rate protections.

The study committee recommends that STB hearings used to rule on the reasonableness of challenged rates be replaced with arbitration hearings that compel faster, more economical resolutions of rate cases. The committee also recommends that arbitrators be empowered to propose the remedy of reciprocal switching for those rates found to be unreasonable. As noted above, the committee presents a candidate test based on a comparison of the rate paid by the “captive shipper” to rates paid on comparable shipments in more competitive settings; the report includes a paper (Wilson and Wolak, 2016[44]) suggesting how this might be implemented.

Annual revenue adequacy determination serves no constructive purpose

The Staggers Rail Act requires the STB to maintain standards and procedures for making annual determinations of whether the earnings of each of the Class I railroads is sufficient to attract capital. This annual pass/fail appraisal of revenue adequacy has become ritualistic while offering little substantive information for regulators and policy makers in monitoring the industry’s economic and competitive conditions.

The study committee recommends that STB discontinue issuing annual reports on the revenue adequacy of individual railroads and replace them with periodic studies of economic and competitive conditions in the industry.

Since the time that the TRB study was published, the most recent decision by the STB in a rate case (Consumers Energy) indicated a willingness by the Board to consider using the revenue adequacy standard in addition to or in place of the stand-alone-cost test going forward, a change which could add new relevance to the annual reports.

Strategic review of STB data programs with a focus on monitoring service quality

Until the Staggers Rail Act, all railroad traffic was moved in common carriage, and all rates and other terms of service were publicly posted and to a large degree similar. The Act made it possible for railroads to supply service by private contract, but retained the obligation of railroads to respond to requests for common carrier service for some types of traffic. Regulators, however, do not have reliable means to monitor the railroad response. The study argues that usable data on service quality be regularly collected in support of this monitoring function. In particular, shipment-specific data are needed to determine how the service provided in common carriage compares to that provided in contract carriage.

Source: (TRB, 2015[41]), Modernizing Freight Rail Regulation, http://www.trb.org/Publications/Blurbs/172736.aspx. (accessed 1 May 2019); Consumers Energy v. CSX Transport, Surface Transportation Board, Decision, Docket No. NOR 42142, 11 January 2018, https://www.stb.gov/Decisions/readingroom.nsf/UNID/06AECC5B958B8C748525821200795A5A/$file/46230.pdf (accessed 4 June 2019).

Canadian regulation

Canadian regulation has a less clearly defined set of parameters for delimiting the circumstances in which tariffs can be regulated, but the governing concept is roughly the same as in the USA. Under the Canadian National Transportation Policy, competition and market forces, both within and among the various modes of transportation, are the prime agents for ensuring viable and effective transportation services. Regulation is used to achieve economic or social outcomes that cannot be achieved by competition and market forces alone. Policy aims to ensure that intervention does not unduly favour, or reduce the inherent advantages of any particular mode of transportation. Canadian regulatory remedies (inter-switching, final offer arbitration, level of service adjudication and arbitration) are available independently of the financial health of rail carriers and are fundamentally designed to provide shippers with additional leverage in their negotiations with railways or with more competitive rail options.

Canada does not use explicit numerical standards for revenue/cost ratios. It does collect detailed cost and revenue information, but does not make the information available to the public. Data filed with the Minister of Transport are held in confidence since the Canadian rail system is essentially a duopoly; each carrier could estimate the other’s confidential information by simple subtraction from the total. The Canadian Transportation Agency (CTA) does require that the unit costs and costing manuals used in regulatory proceedings be approved by the CTA. Information on individual railways in similar circumstances in the USA is published, however, in the US Statistics of Class 1 Railroads.

The CTA relies much more heavily on alternative dispute resolution mechanisms (facilitation, mediation and arbitration) than the STB. The CTA has a broad range of alternative dispute resolution mechanisms including:

  • Mediation, where an agency mediator helps parties resolve their differences through negotiation (face-to-face or by teleconference). Mediation is offered as an alternative to adjudication on any matter when both parties agree to pursue this approach.

  • Final offer arbitration, where a shipper dissatisfied with the rates offered by a railway can ask that the dispute be arbitrated. Both the railway and the shipper must submit their final proposal along with justifying material. The arbitrator must consider whether the shipper has “an alternative, effective, adequate and competitive means of transporting the goods” as well as any other considerations believed to be relevant. The arbitrator must then choose between the two proposals and does not have to provide reasons for the decision, which is final and binding. This creates strong incentives for both shipper and railroad to make reasonable proposals, as the less reasonable the proposal the less likely to be adopted by the arbitrator.

  • Final offer arbitration for rail level of service takes place where a shipper cannot agree on the terms of a service contract with the railway. The arbitrator is not limited in this instance to selecting either the offer of the railway or the shipper and can set its own conditions.

With the exception of the movement of western Canadian grain to certain destinations, where both Canadian National (CN) and Canadian Pacific (CP) are subject to a maximum revenue entitlement under the law (essentially by fixing an average rate per ton, adjusted by the volume of grain being moved), the CTA has limited power to impose rates.

The Canada Transportation Act offers three provisions to deal with the market power of railways by facilitating competitive access, namely: Regulated Inter-switching and Extended Inter-switching (sections 127-128); Competitive Line Rates (sections 129-136); and, Running Rights (section 138).

  • The inter-switching provision has existed in law since the turn of the last century and is the only competitive access provision with any significant use. Under these provisions, a shipper has the right to require a railway to haul its traffic to a competing railway inter-switching point if the inter-switching point is less than 30 kilometres away (either at origin or destination or both). This movement is subject to rates prescribed by regulation, which must at least cover the variable costs of the movement. Recently, as a result of the bumper crop in Western Canada, this limit has been increased to 160 kilometres in the Prairies, a regime that could disappear two years after the coming into force of this new provision.

  • The competitive line rate (CLR) was established in 1987 to allow a shipper to get two railways to move its traffic at a rate to be specified by the agency over distances greater than the inter-switching limits (CLR cannot be applied for more than 50% of the total distance or 1 200 kilometres, whichever is greater). This provision has had very limited use. The requirement for the competing connecting railway to formally agree to move the traffic of the captive shipper beyond the interchange to which the CLR is to be established is seen as a major roadblock.

  • The running rights provision has been in place since 1967 and can be granted by the agency on a case-by-case basis. Running rights allow a federal railway to operate its trains and crews over the line(s) of another federal railway at a regulated rate, but not to solicit traffic along the rail lines of the host railway. There has, however, never been a successful application granting such rights by the agency. It should be noted that there are many examples of railways successfully negotiating running rights on a voluntary, commercial basis (e.g. the arrangement in the Vancouver area).

In addition, the CTA can establish the conditions, and rates to be paid, by public passenger service providers (via rail, urban transit authorities) for the use of railway facilities.

Interchange traffic

In both the US and Canada, if a railway cannot provide end-to-end service, an interchange of traffic with a railway (or railways) that serves the destination must take place if the shipment is to be made. In many cases, shippers or railroads have required interchanged traffic to be billed separately (so-called “Rule 11” rates) so that no railway has information about what the other is charging. In the event of a protest by a shipper, it would be possible for the STB to find that the total rate or any portion thereof is too high.

In the United States an essential condition of being a common carrier is that the railway must carry all traffic that is on offer on reasonable terms and that the railway must offer a reasonable tariff for doing so. If a railway cannot carry the traffic from origin to destination (estimates of the traffic interchanged among US railways range between 20 and 40%), then it must offer the shipper an opportunity to use a connection to another railway or railways, again on reasonable terms. If there is more than one routing possible, however, the shipper does not have the right to require a preferred route while, at the same time, demanding a lower tariff because this might severely complicate the route planning of all the railways involved. If the tariff offered is reasonable, that is sufficient. There can be limited exceptions to this rule if there are “essential facilities” involved and when the railway denies the use of the facilities or demands a price for use of the essential facilities that is unreasonably high.

In Canada, if the traffic is to move over a continuous route and portions of it are operated by two or more railway companies, the companies shall at the request of the shipper either agree on a joint tariff and the apportionment of the joint tariff, or enter into a confidential contract. If the railways cannot come to an agreement, a shipper may request that the CTA settle the matter. The agency has not had any such request in years, if ever.

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