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Perverse incentives in the system

Speakers at the Grain Handling and Transportation Summit discussed 
incentives, regulations and grain transportation system bottlenecks

Perverse incentives” within the transportation system make solutions unlikely under current regulations, a farmer told industry at a recent grain transportation summit.

Currently there’s no one with an interest in collective service issues that affect farmers, Ian McCreary told delegates at Saskatoon’s Grain Handling and Transportation Summit in March. McCreary farms near Bladworth, Sask., and was a farmer-elected director of the Canadian Wheat Board.

“All the regulations in the Canadian Transportation Agency are geared to the shipper,” said McCreary. So although farmers ultimately pay freight bills, they don’t have standing with the agency because they aren’t shippers, he added.

“The current order-in-council is a bit of a draconian instrument. It’s probably better than nothing,” said McCreary. McCreary also listed inadequate capacity, no planning to maximize West Coast movement, and no marketing channel for the balance of grain as issues in the logistics system.

“Don’t toss revenue cap,” panelists say

“I don’t see any benefit in getting rid of (the revenue cap),” Derek Tallon told delegates at the University of Saskatchewan-sponsored summit. Tallon is a grain farmer from Lafleche, Sask., and former chair of the province’s youth advisory committee.

McCreary said the revenue cap is based on the single car rate that was adjusted for productivity. When the rate was set, railways serviced over 1,000 elevators. Now they’re servicing just under 400 elevators. “And all of the cost reductions that happened as a result (of cutting the stops) were captured by the railways.”

Richard Gray, an ag economist with the University of Saskatchewan, also told delegates the revenue cap should stay put. CN gets $6.33 for every tonne of grain they load, plus 2.8 cents per tonne mile that it moves. CP gets $8.10 per tonne, plus 2.8 cents per tonne mile, he said.

The revenue cap is fully indexed for inflation, Gray said. “The railways get well paid for doing what they’re doing.”

But, the revenue cap doesn’t reflect higher winter operation costs in the winter, Gray said.

“And if you think about a company that can choose when to move grain — and they’re a monopoly, they can choose — then, if they’re not regulated, they’re going to want to avoid those winter months,” said Gray. “How do you get them to not want to avoid the winter months? Give them a bigger allowance during those winter months.”

Tallon said incentive-based revenue caps would encourage competition. The metrics would have to be worked out, he said, but would probably include the percentage of orders that they filled, the cars hauled, the tonne kilometres or average distance of haul.

“But at the same time they can’t be penalized for years of poor crop production or years where no one wants to sell grain because prices are low and there aren’t enough orders,” said Tallon.

Solutions

McCreary said there was a need for a middle-man to book rail cars for grain companies, as the Grain Transportation Agency (GTA) once did.

The GTA was initially formed to ensure fair car allotment for grains not shipped through the Canadian Wheat Board. McCreary said that although industry players grumbled about the number of cars they got, the GTA provided transparency and allowed players to get involved in logistics planning.

More transparency in the grain handling process, along with price transparency in the markets, is key to making things work better, McCreary said.

“I would say that information, in and of itself, will be part of the solution, because all of the players will make better decisions with better information,” he added.

Any regulation needs to include solutions for single-point shippers, short lines and small elevators, McCreary added. “Right now we have two railways and if we don’t find a way to solve the problems of single-point exporters, we’re going to have three grain companies. And by and large, they will not be in the same locations, and we’ll have that market-structure issue.”

McCreary added that the goal wouldn’t be to decide which companies succeed but making sure “that their success is dependent on the service they provide to farmers, not whether or not they’re the big bully in the negotiation with the railways.”

Harvey McEwen is a farmer based near Francis, Sask., and former Weyburn Inland Terminal (WIT) director. McEwen told delegates the Weyburn Inland Terminal could load three unit trains a week without breaking a sweat.

But CP told WIT it allocated cars to the terminal based on the other two local companies’ needs because CP didn’t want to tick off other customers, McEwen said. “And as a single point shipper, we were dead in the water,” he said.

McCreary said running rights could potentially increase capacity. He said unidirectional movement, which is when there is one-way movement on each railway for a block of time, would have the same effect as double-tracking and boost capacity.

“I suspect that has to be encouraged by a regulator rather than relying on the market to make that happen,” said McCreary.

Gray said he had no trouble with “joint running rights, multiple running rights, open running rights, separation of track and rail. All those things are practical solutions in terms of economics.”

Tallon said expanded interswitching was a good idea, but pointed out that as the railways compete to fill orders for shippers within the interswitching regions, elevators outside that bubble “could see some severe neglect.”

“At the end of the day, the open running rights would be the goal,” said Tallon.

The industry also needs large car-spotting incentives to reflect actual costs, Tallon said.

Railways offer multi-car incentives to large grain companies when they order 100 or 112 car trains. Charging an arbitrary rate for smaller trains creates “incentives for the grain companies to consolidate way beyond what’s probably socially (or) economically viable,” Tallon said, adding that trucking and road maintenance costs far outweigh savings netted by the railways.

Looking beyond railways

McCreary said the logistics mess “is not a rail-only problem.”

When the federal Liberals killed the GTA in the 1995 budget and told the industry to handle planning and rail car allocation, in 1996-97 “we had the worst transportation wreck in history,” McCreary said. He compared it to 2011 when “we threw the current planning process out the window. And now we had a big wreck.”

“We need to figure out how we can have those planning functions,” McCreary said.

Tallon said he’d like to see grain companies pay storage costs and interest for past-due contracts to incent them to push back railways to deliver cars.

Gray said that if the industry resolves railway issues, West Coast terminal capacity will be the bottleneck. The West Coast hasn’t handled more than 22 million tonnes of grain, Gray said.

“If we’re going to export 36 or 40 million tonnes, we’re not going to move it west at this point,” Gray said.

Grain sourced from any point west of Brandon, Man., is cheaper to rail west, whether it’s bound for Europe or Asia, said Gray. And even grain sourced from Winnipeg is best sent west if it’s destined for Asia.

“If we can’t move it out the West Coast, it’s got to a long way to salt water. And those are costs coming off the cheque going to farmers,” Gray told delegates.

More West Coast ports would add up to more savings, Gray said, estimating $800 million in transportation savings and perhaps $3 billion in basis savings.

Lower basis would boost productivity and economic growth in Western Canada, Gray said. “Without that, farmers are going to actually face high basis whenever they increase production. That’s going to keep prices down and reduce the incentives to actually grow that.”

Gray told delegates that the costs of building new capacity shouldn’t be a deterrent. “The benefits are huge and the costs of not building that capacity are huge as well.”

Given the wide basis being captured by the big grain companies, McCreary questioned whether they will “have an incentive to restructure and rebuild the West Coast capacity.”

McEwen questioned who in the industry would drive the long-term change needed. Academics don’t drive policy, he said, and politicians won’t set the agenda.

“The grain companies aren’t real happy right now,” said McEwen. “But do you hear any of the companies say anything bad? You won’t even hear any of the independents say anything about the rail companies because they can’t afford to.”

About the author

Field Editor

Lisa Guenther

Lisa Guenther is field editor for Grainews based at Livelong, Sask. You can follow her on Twitter @LtoG.

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