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What does an expanded Panama Canal actually mean for global trade?

What does an expanded Panama Canal actually mean for global trade?

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Every time I think about the Panama Canal, I cannot resist wondering what the international shipping would look like if there was no physical way of sending the ships through the canal so conveniently placed between the large land masses of continental Americas. One hundred years have passed since its opening, and nowadays hardly anybody is giving thought to a quirk of nature and a lot of human ingenuity that allows massive ships to follow narrow slices of water and a conveniently located lake, while ferrying goods between the economies spread around the Atlantic and Pacific oceans.

Equally, not too many people have given much thought to a massive re-engineering project which enlarged the canal locks and enabled even larger ships to cross between two oceans without circumnavigating either of the American continents. But this project, while quite innocent on the surface and unnoticed by the majority of Earth’s population, will have a large impact on the shipping industry and a lot of other industries catering to it. From the shipping economist’s point of view, it is one of the most interesting puzzles in modern times. The decision to enlarge the canal changed the economics for shipping companies and for the owners of the canal, with many, and some unintended, consequences, yet to be felt by both sides.

Seemingly, the canal operator is not affected. Even without changes to pricing for passage, they can simply reap the benefits of more trade moving through. The expansion proceeded on the assumption that the trade flows through the canal will significantly increase with larger vessels loaded with more stuff being able to cross. With a fee of about $75 per container and significant growth in the number of containers shipped across, the canal would be assured of positive jumps in both revenues and profits, no matter how many boxships cross the canal. The same for tonnage quantities carried by crude oil tankers and bulkers. As long as the flow of the goods does not change for the worse, the canal will slowly chug along to repay its massive loans.

So far, so good, as long as the carriers and shippers don’t change their behaviour, and the economies on both sides of the canal keep trading. Except, multiple forces at play could render many assumptions made by the canal invalid.

Everybody knows the state of the major economies and the mediocre rates of growth, so I will focus solely on the moves by carriers that could affect the canal’s economics.

How could carrier behaviour and strategies change the returns on the canal’s investment? It all has to do with the size of the modern vessels. The arms race between the ports on the US East coast led to rapid improvements in port facilities, lift capabilities and, thanks to extensive dredging projects, improved access for much larger vessels. This allows major carriers in possession of those large vessels to optimise flows and sailings from Southeast Asia and the Indian subcontinent via European or African ports. With optimal routings using relays through inexpensive transhipment ports along this route, combined with relatively low cost of fuel, reaching the US East coast without traversing the Panama Canal could be very cost effective.

The other plank in the carriers’ strategy could be equally challenging for the operator of the canal as far as containerised trades are concerned. I am talking about all major carriers in possession of the ultra large container vessels becoming more aggressive in allocating those vessels to the transpacific routes. Exceeding the canal’s capacity of handling 14,000 teu vessels, this strategy would rely on land transfers over the existing land logistics networks linking the US West Coast with inland US cities and major centers on the US East Coast.

One might think that this could easily be solved with transhiping, but you must take into consideration major problems related to solving congestion in West Coast ports. 18,000 teu takes more space at the berth and it takes much longer to discharge the loads. The housekeeping in preparation for loading those containers again on the smaller relay vessel that would carry the loads via the Panama Canal would also consume time. With transit times of the essence, this could create a disincentive for routing the containers via the canal and, instead, favour the land evacuations.

Lastly, the complexity of operating the canal could also influence revenues and profitability. Larger vessels will take more time to maneuver into position to enter the locks and possibly more resources in the form of the tugs. Once formed into a convoy, the large and less maneuverable vessels will need to switch to semi-convoy (separated from the group) transit through the Culebra Cut (or Gaillard Cut, if you prefer).

If the majority of the carriers, as predicted, switch to sending one larger vessel instead of two smaller ones, the semi-convoy approach will have to be used more frequently and consume more time to squeeze through the narrowest part of the canal. Less frequent passages driven by the use of the largest possible vessels could also aggravate imbalances in the number of tugs and pilots available at each end of the canal, thus posing additional problems in effective use of the canal’s resources. This inefficiency will simply translate into higher costs of operations, not all of which can be easily passed on to the fee-paying users.

As you can see, the moves by the canal and the carriers will create an interesting play of pricing and usage strategies which will take some time to settle down, as the owner and the users test different strategies and behaviors. It might also mean that the current business operating model, including pricing, have to change to ensure that the canal’s owners get the same or higher dividend from their investment. In the meantime, let’s admire the feat of modern engineering that made the larger Panama Canal such a great engineering project.

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Kris Kosmala

Kris Kosmala is vice president for Quintiq Asia Pacific. Quintiq is the fastest-growing provider of optimization software solutions for supply chains and logistics.

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