Ukraine War Profiteering and the Shipping Cartel
In tonight's State of the Union, Joe Biden will talk about inflation. One solution he'll propose is going after the ocean shipping cartel. We are, slowly, reorienting how we make and move things.
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In November, with slowing ship traffic potentially eroding revenue for marine infrastructure, the Suez Canal Authority announced it would raise tolls by 6%. The Suez Canal is probably the most important shipping bottleneck in the world, so this change hit ocean carriers, and forced hard choices about whether to sail around South Africa rather than go through the canal. This week, canal authorities let loose again with its pricing power, announcing yet another 5-10% hike. “Global trade just got more expensive,” said Xeneta Chief Analyst Peter Sand, as container ships are already paying $500-600k apiece to get through the canal. Once again, this hike is a result of slowing traffic; the canal will make more money per ship, but fewer ships will be coming through.
The Suez’s toll hike is yet another domino falling from the war in Ukraine, on top of all the other geopolitical problems the conflict introduced. This war has put yet more pressure on the brittle globalized framework we use to make and distribute things. Here, for instance, is the largest shipping firm in the world, Maersk, launching its own private boycott of Russia.
Russia and Ukraine are significant players in shipping and logistics, not massive, but enough to move the needle. Ukraine is the fourth largest exporter of agricultural goods, a major player in wheat, corn, barley, sunflower seeds and sunflower oil. A good chunk of Africa and the Middle East is dependent on Ukrainian grains. Additional sources in Argentina and Brazil are bottlenecked by drought - barges can’t get onto rivers to move their grain. And in the U.S. and Canada, the massive logjams at the ports have made it extremely difficult for exporters to get their grains offshore. So we could have serious problems getting food to where it needs to go, because a conflict in Ukraine has gummed up the works everywhere.
To understand why, it helps to recognize that the pressure on shipping coming out of this war adds to an already bad situation. For a little over a year, supply shortages and price hikes in shipping have been a fact of Western life. What ocean carriers and shippers have been experiencing for the last year is essentially a giant, highly profitable traffic jam, where a small group of carrier alliances running most of our shipping make out fantastically well, and everyone else eats dirt. And it really is a small group of winners; three alliances manage 80% of global container ship capacity and 95% of the pivotal East-West trade lines.
For the past forty years, our shipping system enabled massively cheap transportation of goods, and a deeply interdependent world where shoes are made in Asia and shipped to Boston for almost nothing. But the low cost hid the risk. When there’s an incident in a hyper-efficient supply chain, it’s like a car wreck on a highway. It backs everything else up for miles, and even after the wreck is cleared, it takes time to get the traffic jam moving. The pandemic, with its slamming on the brakes and then rapid restart to record levels of goods trade, was that incident. We’re still backed up from Covid.
And now layer onto that cutting off the Black Sea, and Russia, from finance, shipping, and trade, due to the war between Russia and Ukraine, and the attempt to squeeze Russia out of the global economy. There’s a flow to global trade, an expectation that boxes keep circulating, with little slack. So just the cessation of containers moving through Russia and into ports in the Black Sea means that vessels have to drop their containers at other ports, which means they will be overloaded. Vincent Clerc, head of ocean and logistics services at Maersk told the Wall Street Journal that “All those hubs in Northern Europe are already pretty congested, and every little thing that delays cargo flows will intensify the problem.” Additionally, Russia is a meaningful player in air cargo, which is a more expensive but important mechanism for moving stuff around the world. Pulling Russians out of the global supply of air freight only adds more stress.
In other words, a lot of stuff is really jammed, and that’s going to cause prices of food - and everything else - to spike. Freight rates are skyrocketing from already record levels, with one analyst predicting increases from $10,000 to $30,000 a container. Shortages are going to get worse. To put some numbers on it, economists project that existing shipping prices, not the ones in store due to the Ukraine war, are going to increase consumer prices by 1% this year. That’s about 15-20% of the total increase in inflation coming merely from higher shipping costs. And though nearly everyone loses, there are also winners here. The container shipping industry had $190 billion in profits in 2021, five times its entire profit from 2010-2020. For context, such a profit level is about 50% more than the total amount of duties collected during the entire Trump ‘trade war’ with China.
In case you want more bad news, in June, importers will start to bring in stuff for holiday season, and there’s a potential strike/lockout in West Coast ports.
So what are policymakers going to do about it?
Tonight, Joe Biden will deliver his State of the Union address, and he’ll propose a number of ideas for addressing shortages and price hikes. I’m guessing one overall point he’ll make is that corporate profits are a problem, and may be driving price increases. That said, there’s substantial pushback on that idea from Democratic economists, so I’m not sure how aggressive he’ll be on that point. One thing he will do is talk about consolidation in the ocean shipping industry.
Biden will seek to re-regulate shipping, and to ramp up enforcement of competition law among ocean carriers. To understand the point of these proposed reforms, it helps to learn about how we organized shipping before these consolidated alliances controlled everything, which I’ve written about in previous newsletters.
From 1916-1984, ocean carriers were regulated as public utilities. Steamship lines had an exemption from the antitrust laws and were allowed to form cooperatives, known as ‘conferences,’ where they would jointly set prices and routes. But they had certain obligations when they did so. All prices had to be public, and any exporter or importer could get the same terms as any other “similarly situated” exporter or importer. Further, any ocean carrier could join any conference and offer the same prices, and carriers were not allowed to engage in behavior to undermine competitors, such as offering secret rebates or volume discounts to especially large customers, or retaliating against customers, allotting port slots, or engaging in exclusive agreements to disfavor smaller firms.
This public utility regulation protected smaller ocean carriers and smaller exporters and importers by making sure that the big guys couldn’t discriminate against them, price-gouge, or charge weird fees just because they lacked bargaining power. Having a variety of ocean carriers spread the shipping load among the many ports in the United States, rather than allowing dominant ocean carriers to play ports against one another and concentrate traffic in any one region. It also protected our national security with a domestic fleet, and stabilized prices during booms and busts.
In 1984 and then 1998, Congress, as well as Europeans, moved away from this regulatory model, towards a deregulated system where prices were secret. Shipping lines consolidated, went bankrupt, and pulled capacity offline, with the goal of establishing pricing power in an industry whose dynamics lead to strong booms and busts. Just ten years ago, the top three alliances only ran 30% of capacity, today it’s 80%. Whereas before deregulation, loose cooperatives with many different shipping lines set prices publicly, today a small number of alliances who use ultra-large container ships that can only fit in a small number of ports do so secretly. (Biden, for what it’s worth, voted against this deregulation in 1984.)
The net result of these changes is that we now operate in a just-in-time model of shipping, with little spare capacity and constantly circulating container boxes that must keep moving so they can be filled with product according to rigid schedules, a kind of ballet of global logistics. Covid, and then the crisis in Ukraine, is a problem for shipping because of this deeply fragile system that relies on a small number of deepwater ports, a relatively small number of giant ships, and three major ocean carrier alliances.
The White House has put out that Biden will be announcing several initiatives. The first is that the Department of Justice Antitrust Division is now going to help the Federal Maritime Commission (FMC) enforce the Shipping Act, which is competition law for ships. The Antitrust Division is normally tasked with the Sherman Antitrust Act and the Clayton Act, which prevent anti-competitive actions and mergers by businesses. But ocean carriers have some immunity from antitrust laws because untrammeled competition tends to lead towards industry-wide ruin. Instead, the Shipping Act organizes ocean carriers and terminals, and it has rules for what these common carriers are allowed to do and what is prohibited.
The FMC enforces the Shipping act, but the FMC is a tiny agency, with just 118 employees and less than a $30 million budget. It is so feeble that the Agriculture Department has better information on shipping on its website than the FMC. The FMC does have expertise, but it has very little capacity in litigation or enforcement. Meanwhile, the Antitrust Division is very good at litigation and enforcement, but doesn’t know shipping. So this arrangement makes sense. It creates the ‘Voltron of Maritime Enforcement’, as shipping expert Sal Mercogliano put it.
So we can expect a lot more government scrutiny on the industry, particularly with regards to fees that truckers and customers of carriers have to pay due to the traffic jams they can’t control. Additionally, as Dave Dayen notes, it’s likely that the Department of Justice Antitrust Division is going to use the Shipping Act to go directly at the three cartels that control the industry, and perhaps split them up. The goal in the short-term is likely to get the carriers to think twice before raising prices and fees if they don’t have to, and to treat importers and exporters a bit better in terms of handling cargo. In the medium-term, the goal is probably to bring prices back down to some reasonable level, instead of letting ocean carriers collude to maintain high prices.
It’s not the first time the DOJ Antitrust Division has tried to get involved in shipping. In 2017, the FBI served subpoenas on shipping line top executives at what is known as the “Box Club,” an industry gathering. Presumably this investigation was for price fixing, but the DOJ dropped the investigation a few years later. The likely reason they dropped the case is because the industry has antitrust immunity if they work together to manage shared routes in terms of capacity and service, and DOJ couldn’t get around that immunity. Now, ocean carriers aren’t supposed to coordinate on price, but most people in the industry assume they do.
The second initiative is to encourage Congress to pass legislation re-regulating the shipping industry. He’s already on record in favor of the Ocean Shipping Reform Act of 2021, which would allow the Federal Maritime Commission to prohibit unreasonable business practices, crack down on unfair fees, beef up enforcement tools, and mandate better treatment for exporters. This bill has already passed the House, and it has a good shot of passing the Senate. The thrust is that ocean carriers will now have to be more transparent and reasonable to everyone else in the supply chain, and they won’t be able to waste everyone’s time with unreasonable fees.
In addition, Biden is presumably supporting changes to antitrust immunity for ocean carriers. There’s this bill by Congressman Jim Costa that eliminates the immunity altogether, and this one by Senators Amy Klobuchar and Cory Booker that would retain antitrust immunity for shipping, but would allow the Antitrust Division and private litigants to enforce the Shipping Act. I prefer the Klobuchar/Booker approach. I’m sympathetic to Costa’s basic goal of eliminating antitrust immunity, but shipping is a high capital cost trade, and someone needs to set prices so that there isn’t what is called ‘ruinous competition’ where the entire industry goes bankrupt trying to underprice one another. That was a big problem with shipping deregulation, it pushed the industry into a severe boom-bust cycle, long periods of unprofitable existence and bankruptcies followed by price gouging.
I would prefer a return to the public utility system prior to deregulation, rather than price competition fostered by antitrust enforcement. That said, the boundaries between all of these systems are a bit blurry, and policymakers are converging around the basic principles that common carriers have public obligations and that we shouldn’t put all our eggs in one basket. There’s lots of ways to get to a stable system based on those assumptions.
In other words, the situation is really really bad, but policymakers are starting to get serious about managing our commerce again. And we shouldn’t overlook that just because it’s easy to doomscroll during a war.
Thanks for reading.
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