A recovering economy and Unpredictable energy prices mean shippers won't be able to escape tight capacity and rising transportation costs.
Ask shippers what they think about freight rates these days, and they're likely to say they feel as if they're being sucked into a vortex of higher prices, with no way to escape. A confluence of events—labor shortages, regulatory costs, record-high fuel prices, and rising demand that's outstripping capacity—have all come together to create a rate maelstrom in 2005.
It's no wonder shippers are feeling trapped. Those conditions have pushed up carriers' costs, forcing them to raise their rates. And there's no relief in sight. "We have a recovering economy with demand coming up, and we're out of capacity in every mode across the board," says Lee A. Clair, a partner in Norbridge Inc., a management consulting firm based in Concord, Mass. "There is no way to avoid cost pass-throughs."
Modest GDP Growth
Shippers can take small comfort from the fact that they and their carriers are victims of broader economic conditions. Demand for transportation services is being fueled by overall growth in the U.S. economy. Although 2004's Gross Domestic Product (GDP) had not been finalized at press time, most economists pegged last year's GDP growth at 4 to 4.5 percent—and they don't anticipate the economy will match that growth rate in 2005. (See Figure 1.)
Changes in federal policies make last year's growth rate unsustainable, suggests economist Aaron Smith of consulting firm Economy.com in West Chester, Pa. "We had tax cuts and refinancing to support the economy in 2004. Now it's on job and income growth to prop up spending," he says. "We're looking for 3.3-percent growth in GDP [in 2005]."
Economist Kenneth Kremar believes rising fuel prices will hold GDP growth down to 3 to 3.5 percent this year. "The consumer had been spending quite aggressively, but you're starting to see a negative impact from the fuel situation," says Kremar, a principal at Global Insight, an economic forecasting firm in Waltham, Mass.
Oil prices, in fact, have been so volatile that they could well determine the direction of the nation's economy as well as that of freight rates. The price of crude has hovered at around $50 a barrel for most of the fall as emerging nations like China have competed with industrial economies for the world's petroleum output. Kremar expects oil prices will decline this year, but not by much. "At the end of 2005, oil will be in the high 30s or 40s (dollars per barrel)," he predicts. "The risk is that it will be higher rather than lower."
Fueling the Pain
Rising fuel prices have affected shippers across all modes, but truckload shippers have experienced some of the sharpest increases. (See Figure 2.) That's because many shippers have signed transportation contracts that allow their truckload carriers to pass on higher fuel costs in the form of fuel surcharges. Wayne Yee, president of Spectrum Transportation Consultants in Fall River, Mass., notes that fuel represented 24 percent of his clients' truckload costs on some lanes in 2004. Mike Regan, chief executive officer of Tranzact Technologies, a transportation software firm in Elmhurst, Ill., says he's seen surcharges of 16 cents per mile in some cases. With surcharges climbing, shippers should count on paying more to move their goods over the highways even if diesel prices hold at about $2 a gallon.
Fuel surcharges aren't the only factor pushing up truckload rates, though. Industry observers warn that base rates for those shipments will also rise as the enduring driver shortage continues to diminish truck fleet capacity. Regan, for one, says he expects truckload rates (excluding surcharges) to rise between 5 and 7 percent in 2005.
Others foresee somewhat smaller increases. Mason Kauffman, founder of Accuship, a transportation software firm in Germantown, Tenn., believes truckload rates (excluding surcharges) will increase by about 5 percent. Transportation analyst Gregory Burns, vice president of research at JPMorgan Securities Inc. in New York City, expects overall truckload rates (including fuel surcharges) will climb by 4 to 6 percent. "If fuel stays where it is, the rates need to go up 4 to 6 percent because the industry is still having trouble finding drivers," Burns says.
Less-than-truckload shippers can look forward to somewhat smaller rate hikes. Burns forecasts LTL pricing will rise between 2 and 4 percent. Kauffman, on the other hand, expects those rates to increase by 5 percent, and Regan anticipates a jump of 4 to 6 percent. LTL rate increases should be somewhat lower than truckload rate hikes, though, because there's more capacity available in the less-than-truckload arena. "It all really comes down to capacity, with the LTL guys still having more equipment, the ability to balance loads, and a faster turnaround on their equipment," explains Kauffman.
Expect Express Hikes
As 2004 drew to a close, parcel shippers were notified about rate hikes for this year. UPS was the first major express carrier to declare its plans. Big Brown announced that prices for its domestic ground and international services would climb by 2.9 percent on average. But rate hikes for UPS Hundredweight Service—a multiple-box pickup service that competes with LTL carriers—were even steeper, averaging 5.9 percent.
UPS did give shippers a small break by capping its fuel surcharge for domestic and international air services at 9.5 percent. That charge is indexed to the average price of a gallon of kerosene-type jet fuel. However, the company said it would reinstate a fuel surcharge of 2 percent on its UPS Ground and UPS Hundredweight service, as well as on its Standard To Canada product, based on the U.S. Energy Department's average on-highway diesel prices. The carrier also announced increases ranging from 10 to 35 cents per package for some rural and residential deliveries.
Doug Caldwell, a vice president at consultants AFMS Logistics Management Group in Hermoso Beach, Calif., says ground shippers can expect a nearly 5-percent increase—the 2.9- percent base hike plus the 2-percent fuel surcharge. That won't hit shippers paying discounted rates as hard as those who pay standard tariffs. "If you have a 20-percent discount, you will pay the fuel surcharge on the discounted price," he says. (For a look at what "average" hikes actually mean, see "Bohman on Pricing" on Page 24.)
FedEx Corp. was the next to announce that it would boost rates. Prices for FedEx Ground and FedEx Home Delivery services will rise by 2.9 percent on average. In addition, FedEx Ground will introduce an indexed fuel surcharge. FedEx Express domestic and international air service prices will jump by 4.6 percent. But the Memphis, Tenn.-based integrated carrier said that it would lower its fuel surcharge for express shipments by 2 percent, resulting in a net average price increase of 2.6 percent.
Surcharges for a number of special services will rise on a per-package basis. So-called "delivery area surcharges," assessed against shipments destined for rural and other areas that have lower population densities, will rise by 25 cents per package. The surcharge for residential delivery goes up by 25 cents for FedEx Express and by 10 cents for FedEx Home Delivery.
The third major player in the express package market, DHL Express, announced its 2005 rate hikes just before Christmas. DHL said rates for its domestic air-express and international express shipments would increase by an average of 3.4 percent. Like its competitors, DHL lowered its fuel surcharges. The carrier reduced those fees by 0.5 percent for its domestic air-express and international express products, resulting in a net price adjustment of 2.9 percent.
Rates for DHL Ground Service, meanwhile, are set to rise by an average of 2.9 percent, while rates for its expedited business-to-residence service, DHL@Home, will increase an average of 3.7 percent. The fuel surcharge for DHL Ground and DHL@Home initially was set at 2 percent and will be indexed to the Department of Energy's average on-highway diesel fuel price. In addition, DHL tacked on a 25 cent per-package increase to its surcharge for residential delivery.
As for domestic air cargo, Brian Clancy, a principal of MergeGlobal Inc., the Arlington, Va.-based market analysis firm, says he expects rates will be restrained as air carriers face continued competition from expedited truckers. Both are competing for depressed overnight-shipment traffic, which has never fully recovered from its sharp drop in 2001.
The behavior of international air rates will depend on where the U.S. economy is headed. "If the economy hums along and we see a moderate expansion, and consumers haven't maxed out their credit cards, it will drive up imports," Clancy says. More imports added to a considerable existing volume would keep inbound flights full and push rates higher.
The declining value of the U.S. dollar, meanwhile, is expected to spur the growth of air exports and firm up rates. The big movers in air exports are high-end industrial products, such as medical equipment, and perishables from the West Coast. Traffic volumes for the latter heavily depend on European and Japanese consumer spending. Both of those commodities stand to benefit from the decline in the value of the U.S. dollar relative to foreign currencies, Clancy says.
Ocean Imbalance
The nation's persistent trade imbalance, with import volumes greatly exceeding those of exports, continues to affect liner capacity and hence both inbound and outbound rates. As has been the case for the last few years, ocean importers will see higher rates while exporters enjoy bargain prices.
The good news for importers is that rate hikes won't be as steep as they were last year. Shippers that move containerized freight from the Fast East to the United States face 6-percent to 7-percent increases this year, says John Fossey, director of the container shipping team at Drewry Shipping Consultants in London. Fossey notes that those projected rate hikes are significantly smaller than the 10-percent increases most importers in that trade lane witnessed in 2004.
Importers can expect on average to pay between $1,850 and $1,900 to move a twenty-foot equivalent unit (TEU) to the United States. Rates in the reverse direction will remain low—between $800 and $850 per TEU for exports from the United States to Asia. "Because of the surplus capacity, it's difficult for lines to achieve any freight rate increases on export cargo leaving the United States," Fossey says.
Rate hikes for other trade lanes are likely to be even lower. Fossey looks for increases of 3 to 4 percent on shipments coming out of Latin America, while slowing trade volumes will keep rates for inbound shipments from Europe fairly flat.
Rail Restraints
The steady flood of imports, along with the continuing diversion of highway freight to the rails, continues to impact railroad capacity. In the past year, railroads hired more crews and upgraded track and terminal infrastructure as they struggled to meet a surge in demand for intermodal and boxcar traffic.
Although railroads took steps to solve their congestion problems, they'll still suffer this year from tight capacity—and that, of course, spells higher rates. "It will vary by railroad and lane, but rates will be up substantially this year," predicts Farrukh Bezar, who heads the freight practice at consultants Booz Allen Hamilton in McLean, Va.
Accuship's Kauffman forecasts that western rail carriers will jack up rates by 6 percent while their Eastern brethren will boost pricing by 5 percent. Burns, on the other hand, foresees rail rates overall rising by 3 or 4 percent. The JPMorgan analyst adds that if shippers want more capacity, they'll have to pay higher rates to support the railroads' ability to invest in personnel and infrastructure.
Going Up
Given all those factors, it appears beyond doubt that shippers will be paying more to move freight in all modes this year. Unfortunately, it also looks like rates will rise even faster than the general rate of inflation. (See Figure 3.)
Only another recession might prevent that from happening. Says Clair: "Rates are going to go up for the next year several years unless the economy falls flat on its face."
