The Principles of Economics, with Applications to Practical Problems

by Frank A. Fetter

THE PUBLIC NATURE OF RAILROADS

§ I. PUBLIC PRIVILEGES OF RAILROAD CORPORATIONS

Public nature of railroad franchises

1. Railroads enjoy peculiar public privileges through their charters, franchises, and the right of eminent domain. Railroads in our country are owned by private corporations and are managed by private citizens, not, as in some countries, by public officials. They have been built under the motive of private enterprise, in the interest of the investor, not as a charity or as a public benefaction. Railroad-building appears thus at first glance to be a case of free competition where public interests are served in the following of private interests. But, looked at more closely, it may be seen to be in many ways different from the ordinary competitive business. Competition would make the building of railroads a matter of bargain with proprietors along the line, and an obdurate farmer could compel a long detour or could block the whole undertaking. But the public says: a public enterprise is of more importance than the interests of a single farmer. By charter or by franchise the railroad is granted the power of eminent domain, whereby the property of private citizens may be taken from them at an appraised valuation. The manufacturer, enjoying no such privilege, can only by ordinary purchase obtain a site urgently needed for his business. Why may the railway exercise the sovereign power of government and invade other private property rights? Because the railway is peculiarly "affected with a public interest." The primary object is not to favor the railroads, but to benefit the community. These charters and franchises are granted sparingly in most European countries. In this country they have been granted recklessly, often in general laws, by states keen in their rivalry for railroad extension. When thus great public privileges had been granted without reserve to private corporations, it was realized, too late in many cases, that a mistake had been made and that an impossible situation had been created.

State and National aid to American railroads

2. In America and in many other countries, large grants of lands and money have been made to railroads on the ground of their peculiar public nature. Railroads were granted not only peculiar powers and privileges, but also material aid. The railroad enterprise was uncertain, the possibilities of its growth could not be foreseen, and private capital would not invest without great inducements. In European countries where capitalists were less enterprising or venturesome than in America, railroad extension was very slow except where the state in some manner extended its aid to the enterprise. The American states abandoned the principle of non-interference most recklessly, and vied with each other in giving lands, money, and privileges, in loaning bonds, in subscribing for stock, and in releasing from taxation. These protective measures fostering a special enterprise were expected by increasing wealth to diffuse a greater welfare throughout the community. Many of the states were forced to the point of bankruptcy by their reckless generosity, and some of them repudiated the debts thus incurred. The national government then took up the same policy and granted lands to the states to be used for this purpose. The first example of this was the grant to the Illinois Central road, in 1850, of a great strip of land through the state from north to south. Grants were made in fourteen states, covering tens of millions of acres of land. Then the national government, between 1863 and 1869, aided the building of the Pacific railroads by granting outright twenty square miles of land for every mile of track and by loaning the credit of the government to the extent of fifty million dollars—a debt settled by compromise only after thirty years.

Railroad grants by localities

Counties, townships, cities, and villages along the line of projected roads then entered into keen competition to secure them. Bonds, bonuses, tax-exemptions, and many special privileges were granted. To obtain this new Aladdin's lamp, this great wealth-bringer, localities mortgaged their prosperity for years to come. The promoters bargained skilfully for these grants, playing off town against town, cultivating the speculative spirit, punishing the obdurate. Not the civil engineer, but the financial engineer platted the devious lines of many a railroad on the level prairies of America. The effects of these grants were in many cases disastrous, and since 1870 they have been forbidden in a number of states by legislation and by state constitutions. But before this era of generosity ended, probably the railroads had received more public aid than has ever been given to any other form of industry in private hands.

Investors' view of railroads' obligations

3. The railroads are now generally held to have peculiar public duties corresponding to their privileges. Do all these grants in the past make the railroads other than mere private enterprises? One answer, that of those financially interested in the railroads, is No. They say that the bargain was a fair one, and is now closed. The public gave because it expected benefit; the corporation fulfilled its agreement by building the road. The terms of the charter, as granted, determine the rights of the public; but no new terms can now be read into it, even though the public now sees the question in a new light. Similar grants, though not so large, have been made to other industries. Bounties have been given to sugar-factories; tariffs have favored iron-forges and woolen-mills; factories have been given, by competing cities, land and exemption from taxation; yet no attempt is made on that account to control these businesses in a peculiar way and to treat them as public enterprises. So, it is said, the railroad is still merely a private business.

Social view of railroads' obligations

But the social answer is stronger than this. As to the precedent of tariff- and bounty-favored enterprises, most careful students would admit a close analogy in the two cases, but would maintain that the tariff policy also has been carried to an unjustifiable extreme, and that it could not be used to vindicate a still greater assault on public rights. But, further, privileges of railroads are greater in amount and more important in character than those granted to any ordinary private enterprise. The legislatures recognize constantly the peculiar public functions of the railroads. In other private enterprises, investors take all the risk; legislatures and courts recognize the duty of guarding, where possible, the investment of capital in railroads. Laws have been passed in several states to protect the railroads against ticket-scalping. Whenever the question comes before them, the courts maintain the right of the railroads to earn a fair dividend. Private enterprise has been invited to undertake a public work, yet public interests are paramount.

Need of harmonizing public and private interests

If an extremely abstract view is taken there is danger of losing sight of the real problem, which is that of harmonizing these two interests in thought and in public policy. Yet the extreme advocates of the private control of railroads have resented indignantly any public interference with railroad rates and with railroad management as an infringement of individual liberty. At the time of the passage of the Interstate Commerce Act this position was inconsistently taken by those in whose interests free competition had been violently set aside at the very outset of railroad construction, and for whom government interference had made possible great fortunes. The railroads cannot change from a public to a private character just as it suits their convenience. They cannot be allowed to play Dr. Jekyll and Mr. Hyde; smooth and affable in the character of public agents when public advantages are to be gained, and then as private enterprises ugly and scowling, flouting the public interests, charging all the traffic will bear, and resisting all reasonable regulation and conditions. Though railroads are private enterprises as regards the character of the investment, they are public enterprises as to their privileges, functions, and obligations.

§ II. POLITICAL AND ECONOMIC POWER OF RAILROAD MANAGERS

Railroad rates like taxes

1. In various ways railroad managers exercise great political influence and power. Some writers maintain that the power to make rates on railroads is a power of taxation. They point out that if rates are not subject to fixed rules imposed by the state, the private managers of railroads wield the power of the lawmaker. By changing the rates on foreign exports or imports, the railroads frequently have made or nullified a protective tariff and have defeated the intention of the legislature. High rates on state-owned roads have openly been used in lieu of protective duties. These facts go to show that a change of railroad rates between two places within the country is similar in effect to the imposing or repeal of tariff duties between them.

Political influence of railroads

The wealth and industrial importance of the railroads give them widespread political power in other ways. It is commonly charged in some states that the legislature and the courts are "owned" by the railroads. The railroads, in part because they are the victims at times of attempts at blackmail by dishonest public officials, are compelled in self-defense to maintain a lobby. The railroad lobby, defensive and offensive, is in many states the all-powerful "third house." Railroads even have their agents in the primaries, they enter political conventions, they dictate nominations from the lowest office up to that of governor, and they elect judges and legislators. The extent to which this is done differs according as the railroads have large or small interests within the state. How is this great political problem to be met except by an appreciation of its importance and by a growth of public integrity?

The complex obligations of railroad directors

2. The economic power of the higher railroad officials enables them to exercise certain functions of an important public nature. When the railroad was a young industry, its essentially public nature was not recognized. It was at first thought to be simply an iron-track turnpike to which the old English law of common carriers would apply. As this and similar notions proved illusory, the railroad manager became invested with complex and often conflicting duties to the stockholders and to the public. He wore his conscience-burden lightly, and frequently made little attempt to meet the one and no attempt whatever to meet the other obligation. The new field offered for speculation gave opportunities for great private fortunes. There were no precedents, no ripened public opinion, no established code of ethics, to govern. It was a betrayal of the interests of the stockholders when directors formed "construction companies" and granted contracts to themselves at outrageously high prices. It was an injury not only to shippers, but also to the stockholders, when special rates were granted to friends and to industries in which the directors were interested.

Unclear convictions as to the railroads' public nature

It is believed that a better code of business morality has developed, and that the officers' relation of trusteeship toward the shareholders is now more often recognized. But practical ethics need to be developed much farther than this. A railroad manager is engaged by the stockholders, is responsible to them, and looks to them for his promotion. Hence their interests are uppermost whenever the welfare of the public is not in harmony with the earning of liberal dividends. The manager feels bound to defend the principle of "charging what the traffic will bear" in the case of each individual, locality, and kind of goods. If this ruins some men and enriches others, if it destroys the prosperity of cities to increase the earnings of the road, at all events he feels he has done his full duty. Railroad directors do not yet recognize, and possibly never will, that their office is more than a private trusteeship, that it is a public trust.

Progress of railroad consolidation

3. The progress of consolidation among railroads is putting into fewer hands greater financial and economic power. The early railroads, many of which were built in sections of a few miles in length, have been slowly welded into continuous trunk lines with many branches. The New York Central between Albany and Buffalo was a consolidation, by Commodore Vanderbilt, of sixteen short lines. The Pennsylvania system was formed link by link from scores of small roads. The growth of consolidation recently has been more rapid than ever before. Sixty per cent. of the mileage of the United States is under the control of five interests; seventy-five per cent. is controlled by a group of men that can sit about one table. The country is being divided territorially into great railroad domains, within each of which one financial interest is dominant. Great financial alliances and "community of interests" still further unify the policy of the leading roads.

Economic results of consolidation

Toward this result strong economic forces are working. Consolidation has many technical advantages: it saves time, reduces the unit cost of administration and of handling goods, gives better use of the rolling stock and of the terminal facilities of the railroads, and insures continuous train service. It has the advantages of other large production and the possible economies of the trusts. Most important, however, from the point of view of the railroads, is the prevention of competition and the making possible of higher rates and larger dividends. The statement that competition is not an effective regulator of railroads often is misunderstood to mean that it in no way acts on rates. It is true that competition between roads does not prevent discrimination and excessive charges between stations on one line only; but competition usually has acted powerfully at well-recognized "competing points." The larger the area controlled by one management, the fewer are the competing points; the larger, therefore, is the power over the rate and the more completely the monopoly principle applies. It is a grim jest to say that consolidation does not change the railroad situation as regards the question of rates.

§ III. COMMISSIONS TO CONTROL RAILROADS

Railroad evils and the old legal remedies

1. Most of the states have undertaken, through commissions, to regulate the railroads in the public interest. When it became evident that public and private interests in the railroads were so divergent, it still was not easy to determine how the public was to be safeguarded. At first, some general conditions such as maximum rates were inserted in the laws and charters; but these were not adaptable to changing conditions and, for lack of administrative agents, could not be enforced. The early efforts at state ownership were, as was noted above, futile and disastrous, the remedy of state ownership, as then applied, being worse than the disease. The old law of common carriers gave to individual shippers an uncertain redress in the courts for unreasonable rates; but the remedy was costly because the aggrieved shipper had to employ counsel, to gather evidence, and to risk the penalty of failure; it was slow, for while delay was death to the shipper's business, cases hung for months or years in the courts; it was ineffectual, for even when the case was won, the shipper was not repaid for all his losses, and the same discrimination could be immediately repeated against him and other shippers.

Object and working of the state commissions

Attempting to remedy these evils, thirty-one of the states have appointed commissions and, as the most important states are included, this mode of regulation applies probably to four fifths of all traffic beginning and ending in a single state. These commissions differ in power, but in general they attempt to prevent excessive discrimination in rates and to check all railroad practices injurious to the public welfare. The commission principle, strongly opposed at first by the railroads, has been upheld by the courts and is now an established public policy. The state commissions, however, have fallen far short of a solution of the problem. Though they have done much to make the accounts of the railroads intelligible, something to make the rates reasonable and subject to rule, and much to educate public sentiment, on the whole their results have been disappointing. It has been difficult to get commissioners at once strong, able, and honest; the public does not yet know its own mind well enough to support the commissions properly; and—more fatal weakness still—the courts early decided that state commissions could regulate only the traffic originating and ending within the state, and this left untouched the much greater volume and more important class of interstate traffic.

Passage of the Interstate Commerce Act

2. The Interstate Commerce Commission is an agency by which it was hoped to secure a uniform national public control of railroads. Public hostility to private railroad management was greatest in the regions where the most rapid building of roads occurred from 1866 to 1873. One center of grievances was in "the granger states" of Illinois, Wisconsin, Kansas, Nebraska, Iowa, and Minnesota; another center was in the oil regions of Ohio and Pennsylvania. The Eastern states were not without their troubles, for the report of the Hepburn Committee of the New York legislature in 1879 shows that discrimination between shippers prevailed to an almost incredible degree in every portion of New York state. When the courts, in 1886, decided that the greater portion of the railroad rates could not be treated by state commissions, national control was loudly demanded. Scores of bills were presented to Congress between 1870 and 1886, and, despite the bitter opposition of the railroads, the Interstate Commerce Act was passed in 1887.

Its provisions

The act laid down some general rules: that rates should be just and reasonable; that railroads should not pool, or agree to divide, their earnings to avoid competition; that they should, unless expressly excused, fix rates in accordance with the long- and short-haul principle (to charge no more for a shorter distance than for a longer one on the same line and in the same direction, the shorter being included within the longer). The act provided for a commission of five men, to be appointed by the President, which might require uniform accounts from the railroads, and which should enforce the provisions of the act.

Results of the act

3. The object of the Interstate Commerce Act has been but imperfectly attained. This brief proposition sums up the story of years of efforts and defeated hopes. The powers of the commission have proved inadequate to attain the main purposes of the act—the prevention of discrimination and the securing of steady and equitable rates to all shippers. By the decisions of the federal courts, the commission's power has been reduced far below the intentions of the Congress that passed the law. The railroads have in many cases refused to obey the orders of the commission and have succeeded in maintaining their refusal. Admirable results have been secured in the way of uniform accounting, uniformity of rates has been somewhat furthered at times, and the public has been in many cases enlightened. But the greatest evils remain. Railroads still give secret rates in great numbers; many competent witnesses before the Industrial Commission in 1900 and 1901 testified that discrimination had never been worse. From time to time the recognition of the injury to dividends wrought by discriminating rates prompts some railroad to offer its coöperation to the commission, and this inspires new hopes of an effective administration of the act. The pressure of competition, however, soon forces the penitent road back into its old ways. On one thing the railroads and the commission are agreed: that pooling should be permitted, though the commission wishes to have this under strict supervision. To this point the public has not yet advanced.

The railroad problem unsolved

Despite the general acceptance now of the principle that the railroads should be controlled in the public interest, despite the barren legal triumph of the commission principle, it is evident that the railroad is not yet under social control. The future must determine whether the solution is to be found in effective public regulation or in public ownership.

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