Vertical integration and its implications to port expansion

ABSTRACT

Over the years many shipping lines have established terminal operation companies, with some set up as independent firms. However, port authorities and local governments have not always welcomed external investment and control with open arms. The economic implications and each stakeholder’s best strategies remain unclear. This study develops an analytical model in order to study the effects of vertical integration, with a focus on shipping lines’ investment in ports’ capacity. Modelling results suggest that vertical integration between terminal operator and a shipping line leads to higher port capacity, port charge, market output and consumer surplus. It also reduces delay costs. All these results suggest that vertical integration can be an important source of synergy for the maritime industry. Although vertical integration increases the participating carrier’s output at the expenses of non-integrating rival shipping firms, our numerical analysis suggests that the overall social welfare is likely to increase. Preliminary empirical tests confirm that vertically integrated ports handle more traffic volumes and are associated with better infrastructure and equipment. Therefore, port authorities and government regulators should carefully review the market competition status as well as port expansion plans.

KEYWORDS:

• Port and shipping lines
• capacity investment
• vertical integration

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

1. Although Xiao, Fu., and Zhang. (2016) concluded that vertical integration can lead to increased airport capacity. Their model considered possible savings in capital costs due to airport revenue bonds and thus may not be directly applicable to the maritime sector.

2. In practice, due to economies of scale effects, the delay cost per container should decrease with ship size. For mathematical tractability, and because ship size is not explicitly modelled, a simple specification is used.

3. Different assumptions have been used in the transport literature which is not always consistent. For example, although welfare maximization has been routinely used in models developed for (public) airports (Zhang and Zhang 2003, 2006, 2010; Fu and Zhang 2010; Xiao, Fu, and Zhang 2013; Xiao et al. 2017; Yang and Fu 2015), no census has been reached in the maritime industry with respect to the most appropriate objective function for port authorities. This has led to some inconsistency since in a few US cities, the port authorities control and manage both airports and ports in their region (e.g. the Port Authority of New York and New Jersey, Massachusetts Port Authority, Port of Oakland, Port of Seattle).

Additional information

Funding

This work was supported by the National Natural Science Foundation of China (Grant number 71402095, 71671110, 71728002.)