Railroads: Rates and Regulations

by William Zebina Ripley

The general acceptance, both in practice and theory, of the principle that distance is a relatively unimportant element in rate making[249] is significant at this time, in connection with the recent amendment of the Act to Regulate Commerce. It is important also because of the marked tendency toward the adoption by various state legislatures of the extreme opposite principle of a rigid distance tariff. The old problem of effecting a compromise between these two extreme theories by some form of long and short haul clause—the original section 4 of the act of 1887 having been emasculated by judicial interpretation—is again brought to the front. For these reasons it may be worth while to consider certain results which inevitably follow the widespread acceptance of this principle of the blanket rate. Its benefits are indeed certain; namely, an enlargement of the field of competition, and an equalization of prices over large areas, and that too at the level of the lowest or most efficient production. But these advantages entail certain consequences—of minor importance, perhaps, but none the less deserving of notice.

The subordination of distance to other factors in rate making is a logical derivation from the theory of joint cost. This theory justifies the classification of freight, namely, a wide range of rates nicely adjusted to what the traffic in each particular commodity will bear, while always allowing each to contribute something toward fixed and joint expenses. In the same way it explains a close correlation of the distance charge to what each commodity will bear. It assumes that any rate, however low, which will yield a surplus over expenses directly incidental to the increment of traffic and which thus contributes something toward indivisible joint costs, serves not only the carrier by increasing his gross revenue, but at the same time lightens the burden of fixed expenses upon the balance of the traffic. This principle of joint cost, so clearly set forth by Professor Taussig,[250] is fundamental and comprehensive. It pervades every detail of rate making. But it rests upon two basic assumptions which, while generally valid, are not universally so. In the first place each increment of traffic must be new business, not tonnage wrested from another carrier and offset by a loss of other business to that competitor. And secondly, each increment of traffic must be economically suitable to the particular carriage in contemplation.

The first of these assumptions fails wherever two carriers mutually invade each other's fields or traffic. Each is accepting business at a virtual loss, all costs including fixed charges on capital being taken into account, in order to secure the increment of business. Each gain is offset by a corresponding loss. It is the familiar case of the rate war. A less familiar aspect of the matter is presented when traffic is disadvantageously carried by two competing roads, each diverting business from its natural course over the other's line. The sum total of traffic is not increased. Each carries only as much as before but transports its quota at an abnormal cost to itself. This may, perhaps, swell gross revenues; but by no process of legerdemain can the two losses in operating cost produce a gain of net revenue to both. And each increase of unnatural tonnage, where offset by a loss of natural business, instead of serving to lighten the fixed charges, becomes a dead weight upon all the remaining traffic. The commonest exemplification of this is found in the circuitous transportation of goods, instances of which will be given later.

The second case in which the principle of joint cost fails to justify charges fixed according to what the traffic will bear may arise in the invasion of two remote markets by one another; or, as it might be more aptly phrased, in the overlapping of two distant markets. A railroad is simultaneously transporting goods of like quality in opposite directions. Chicago is selling standard hardware in New York, while New York is doing the same thing in Chicago. Prices are the same in both markets. Of course if the two grades of hardware are of unequal quality, or if they are like goods produced at different cost, an entirely distinct phase of territorial competition is created. But we are assuming that these are standard goods and that there are no such differences either in quality or efficiency of production. What is the result? Is each increment of business to the railroad a gain to it and to the community? The goods being produced at equal cost in both places, the transportation charge must be deducted from profits. For it is obvious that the selling price cannot be much enhanced. The level of what the traffic will bear is determined not, as usual, by the value of the goods but by other considerations. The traffic will bear relatively little, no matter how high its grade. The result is that the carrier, in order to secure the tonnage, must accept it at a very low rate, despite the length of the haul.

This is the familiar case of the special or commodity rate granted to build up business in a distant market. Special rates confessedly form three-fourths of the tonnage of American railways, as has already been said. The assumption is usually made that such traffic is a gain to the railways, justified on the principle of joint cost as already explained. But does it really hold good in our hypothetical case? There is a gain of traffic in both directions, to be sure. But must it not be accepted at so low a rate that it falls perilously near the actual operating cost? It is possible that even here it may add something to the carriers' revenue, and thereby lighten the joint costs in other directions. But how about the community and the shipping producers? Are any more goods sold? Perhaps the widened market may stimulate competition, unless that is already keen enough among local producers in each district by itself. The net result would seem to be merely that the railroads' gain is the shippers' loss. There is no addition to, but merely an exchange of, place values. Both producers are doing business at an abnormal distance under mutually disadvantageous circumstances. It may be said, perhaps, that the situation will soon correct itself. If the freight rates reduce profits, each group of producers will tend to draw back from the distant field. This undoubtedly happens in many cases. But the influence of the railway is antagonistic to such withdrawal. It is the railway's business to widen, not to restrict, the area of markets. "The more they scatter the better it is for the railroads." "Keep everyone in business everywhere." And if necessary to give a fillip to languishing competition, do so by a concession in rates. Is there not danger that with a host of eager freight solicitors in the field, and equally ambitious traffic managers in command, a good thing may be overdone, to the disadvantage of the railway, the shippers and the consuming public?

An objection to this chain of reasoning arises at this point. Why need the public or other shippers be concerned about the railways' policy in this regard? Is not each railway the best judge for itself of the profitableness of long-distance traffic? Will it not roughly assign limits to its own activities in extending business, refusing to make rates lower than the actual incidental cost of operation? And are not all low long-distance rates, in so far as they contribute something toward joint cost, an aid to the short haul traffic? The answer will in a measure depend upon our choice between two main lines of policy; the one seeking to lower average rates, even at the expense of increasing divergence between the intermediate and the long distance points, the other policy seeking, not so much lower rates as less discriminatory rates between near and distant points. In the constant pressure for reduced rates in order to widen markets it is not unnatural that the intermediate points, less competitive probably, should be made to contribute an undue share to the fixed sum of joint costs. The common complaint today is not of high rates but of relative inequalities as between places. It is a truism to assert that it matters less to a shipping point what rate it pays than that its rate, however high, should be the same for all competing places. This immediately forces us to consider the consumer. What is the effect upon the general level of prices of the American policy of making an extended market the touchstone of success, irrespective of the danger of wastes arising from overlapping markets? That the result may be a general tax upon production is a conclusion with which we shall have later to do. Such a tax, if it exists, would go far to offset the profit which unduly low freight rates in general have produced. In short, the problem is to consider the possible net cost to the American people of our highly involved and most efficient transportation system. Our markets are so wide, and our distances so vast, that the problem is a peculiarly American one.

Having stated the theory of these economic wastes, we may now proceed to consider them as they arise in practice. Concrete illustration of the effect of disregard of distance naturally falls into two distinct groups. Of these the first concerns the circuitous carriage of goods; the second, their transportation for excessive distances. Both alike involve economic wastes, in some degree perhaps inevitable, but none the less deserving of evaluation. And both practices, even if defensible at times, are exposed to constant danger of excess. It will be convenient also to differentiate sharply the all-rail carriage from the combined rail and water transportation. For as between railroads and waterways, the difference in cost of service is so uncertain and fluctuating that comparisons on the basis of mere distance have little value.

Recent instances of wasteful and circuitous all-rail transportation are abundant. A few typical ones will suffice to show how common the evil is. President Ramsay of the Wabash has testified as to the roundabout competition with the Pennsylvania Railroad between Philadelphia and Pittsburg by which sometimes as much as fifty-seven per cent. of traffic between those two points may be diverted from the direct route. "They haul freight 700 miles around sometimes to meet a point in competition 200 miles away."[251] Chicago and New Orleans are 912 miles apart, and about equally distant—2,500 miles—from San Francisco. The traffic manager of the Illinois Central states that that company "engages in San Francisco business directly via New Orleans from the Chicago territory, and there is a large amount of that business, and we engage in it right along."[252] Wool from Idaho and Wyoming may move west 800 miles, to San Francisco; and thence via New Orleans over the Southern Pacific route to Boston.[253] This case, therefore, represents a superfluous lateral haul of nearly a thousand miles between two points 2,500 miles apart. The Canadian Pacific used to take business for San Francisco, all rail, from points as far south as Tennessee and Arkansas, diverting it from the direct way via Kansas City.[254]

Goods moving in the opposite direction from San Francisco have been hauled to Omaha by way of Winnipeg, journeying around three sides of a rectangle by so doing, in order to save five or six cents per hundred pounds.[255] Between New York and New Orleans nearly one hundred all-rail lines may compete for business. The direct route being 1,340 miles, goods may be carried 2,051 miles via Buffalo, New Haven (Indiana), St. Louis and Texarkana.[256] A generation ago conditions were even worse, the various distances by competitive routes between St. Louis and Atlanta ranging from 526 to 1,855 miles.[257] New York business for the West was often carried by boat to the mouth of the Connecticut river, and thence by rail over the Central Vermont to a connection with the Grand Trunk for Chicago. To be moved at the outset due north 200 miles from New York on a journey to a point—Montgomery, Alabama—south of southwest seems wasteful; yet the New York Central is in the field for that business.[258] The map herewith, prepared in connection with the Alabama Midland case, shows the number of lines participating in freight carriage between New York and the little town of Troy, Alabama. It is nearly as uneconomical as in the old days when freight was carried from Cincinnati to Atlanta via the Chesapeake and Ohio, thence down by rail to Augusta and back to destination.[259] It was common for freight from Pittsburg to go by boat down to Cincinnati, only to return by rail via Pittsburg to New York at a lower rate than on a direct shipment.[260] Even right in the heart of eastern trunk line territory, such things occur in recent times. The Cincinnati, Hamilton and Dayton prior to its consolidation with the Pere Marquette divided its eastbound tonnage from the rich territory about Cincinnati among the trunk lines naturally tributary. But no sooner was it consolidated with the Michigan road than its eastbound freight was diverted to the north—first hauled to Toledo, Detroit and even up to Port Huron, thence moving east and around Lake Erie to Buffalo.[261] In the Chicago field similar practices occur. Formerly the Northwestern road was charged with making shipments from Chicago to Sioux City via St. Paul. This required a carriage of 670 miles between points only 536 miles apart; and the complaint arose that the roundabout rate was cheaper than the rate by the direct routes. I am privately informed that the Wisconsin Central at present makes rates between these same points in conjunction with the Great Northern, the excess distance over the direct route being 283 miles. Complaints before the Elkins Committee[262] are not widely different in character. Thus it appears that traffic is hauled from Chicago to Des Moines by way of Fort Dodge at lower rates than it is carried direct by the Rock Island road, despite the fact that Fort Dodge is eighty miles north and a little west of Des Moines. The Illinois Central, having no line to Des Moines, pro-rates with the Minneapolis and St. Louis, the two forming two sides of a triangular haul. An interesting suggestion of the volume of this indirect routing is afforded by the statistics of merchandise shipped between American points which passes through Canada in bond.[263] The evidence of economic waste is conclusive.