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WHAT IS THE MATTER WITH
RAILWAY REGULATION?
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SAMUEL O. DUNN
Editor of the Railway Age Gazette
Reprinted from
The North American Review for November, 1915
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WHAT IS THE MATTER WITH RAILWAY
REGULATION ? -
BY SAMUEL O. DUINN
By passing the Hepburn Act in 1906, the National Gov-
ernment began an effective policy of railway regulation.
The main provision of that act authorized the Interstate
Commerce Commission to fix maximum reasonable rates.
This was intended both to abolish unfair discrimination and
to secure the reduction of excessive rates.
The latter purpose, in the opinion of many, was as impor-
tant as the former. The Hepburn Act and also the later
Mann-Elkins Act were framed accordingly. While they em-
powered the commission to reduce rates and suspend ad-
vances, they did not authorize it to advance rates or to inter-
fere with reductions. The Sherman anti-trust law and the
anti-pooling provision of the Interstate Commerce Act, both
intended to prevent the railways from combining to raise
rates, were left in effect; and the Hepburn Act was followed
by a flood of State legislation requiring reductions in rates.
The intention of the public that regulation should get it
lower rates was clear. - r
The new policy did not cause as great reductions as its
advocates hoped nor as its opponents feared. Yet in 1914
and 1915 the Interstate Commerce Commission rendered
decisions which seem to mark a reversal of that policy. In
the “Five per cent case ’’ it authorized the eastern railways
to make general advances in their rates. The western rail-
ways also are asking for advances in interstate rates, some
of which the commission has granted; and all the carriers
are seeking authority to raise their State rates.
The public viewed the policy adopted in 1906 with great
expectations. It was anticipated that it would not interfere
with the right of the railways to earn reasonable profits, but
that it would prevent them from earning excessive profits,
while securing to the public reasonable rates and satisfac-
2.89.706
737 RAILROAD REGULATION
tory service. The railway managers were less optimistic.
There was danger, they thought, in giving authority to con-
trol rates and earnings to public officials, while leaving the
responsibility of furnishing railway service, developing rail-
Way properties, and finding the necessary capital for these
things, to private stockholders and managers.
As regulation has increased, the pessimism of the mana-
gers has grown. The rates of the railways have been re-
duced, they declare, and their expenses and taxes increased,
until their profits are vanishing. New construction has been
almost stopped, improvements have been curtailed, even nec-
essary expenditures for maintenance cannot be made; and
the railway situation has become the chief cause of industrial
depression. -
Most business men, and many economists, believe there is
foundation for these views. There has also been a change of
public sentiment. The public’s faith in regulation has been
shaken. Even its confidence in the Interstate Commerce
Commission was tottering before that body rendered its sup-
plementary decision in the “five per cent case.”
Has there been anything the matter with regulation
which has justified the complaints of railway managers and
financiers, the change in public sentiment, and the action of
the Commission in partially reversing the policy recently
followed? Railway managers contend there has been. Oth-
ers vigorously maintain that there has not been. They de-
nounce the efforts of the railways to get advances in rates;
criticise the decisions of the Commission in the “five per
cent case ’’; and see in the success of the railways in such
proceedings the break-down of regulation. They point out
that in some respects regulation has been beneficial to the
railways. By abolishing rebating and the indiscriminate
giving of free passes it has tended to increase their earnings.
In some years before effective regulation the railways volun-
tarily made lower average freight rates than have been fixed
under regulation. Is regulation to result, it is asked, in rates
tending upward, and in the imposition of heavier burdens on
commerce and the people? If so, the sooner we fly to some
other policy, the better.
While the attitude of the public toward the railways has
changed, it has difficulty in deciding between these conflict-
ing views. Perhaps this difficulty may be reduced if atten-
tion be directed to certain important facts regarding the
THE NORTH AMERICAN REVIEW 738
former trend, and the more recent trend of railway affairs
which students of the subject have hilf recently hegun to per-
ceive, and which have as yet hardly been laid before the pub-
lic. These important facts are, in brief, that our recent
policy of regulation has been based on the experience of the
railways in the period immediately preceding 1906. But the
experience of the railways since then has been very different
from what it was before. This has been only partly due to
regulation; the change has been produced mainly by eco-
nomic forces which would have operated in the absence of
regulation. There has been something wrong with regula-
tion, and this has been that it has been predicated on the
experience of the railways in one period, and applied to
them in another period when the tendencies, conditions and
needs of their business have been greatly altered. We have
been putting new wine into old bottles, with the usual results.
Treatises on political economy teach that the railway
business is one of “increasing returns.” The economists
hedge the theory about with qualifications, such as that the
tendency toward increasing returns may be counteracted by
advances in the unit cost of labor and materials, and so on.
But the theory of the economists has not always been cor-
rectly understood by laymen. What it has meant to most
laymen has been that the investment that must be made, and
the operating expenses that must be incurred, by railways
never increase as fast as the business handled does. There-
fore when the traffic is growing, and freight and passenger
rates are stationary, the percentage of profit earned will
rapidly increase. The experience of the railways before
1906 seemed strikingly to demonstrate this theory; and this
led to some interesting developments.
Before the panic of 1893 there was a rapid expansion of
transportation facilities. In the depression which followed
traffic was light, and rates and net earnings were low. The
roads were built away ahead of their business. Every mile
of line could have handled much more traffic than was avail-
able. Therefore, when along in 1899 and 1900, business of
all kinds began to “boom '' and railway traffic began to
grow rapidly, there was no need for large investments to
handle the additional traffic. There was less competition than
in earlier years, and the tendency of rates was upward. Be-
tween 1898 and 1906 extensive labor-saving improvements
were introduced in railway plants and operating methods;
° e º & C.
Amount of Per cent of
Increase Increase
Amount 1906 1914 1906 1914 .
OVer OVer over over
Item 1898 1906 1914 1898 1906 1898 1906
Passenger-miles per mile of line.... . . . . . . . . . . . . . . 72,462 114,529 144,278 42,067 29,749 58.05 25.98
Average rate per passenger-mile. . . . . . . . . . . . . . . . . . 1.973C 2.003C 1.982C .030 *.021 1.52 *1.05
Ton-miles per mile of line.... . . . . . . . . . . . . . . . . . . . 617,810 982,401 1,176,923 364,591 194,522 59.01 19.80
Average rate per ton-mile.... . . . . . . . . . . . . . . . . . . . .7536 .748c .733C *.005 *.015 +0.66 +2.01
Investment in road and equipment per mile of line. $57,395 §59,624 $71,551 $2,229 $11,927 3.88 20.00
Gross operating revenue per mile operated. . . . . . . . $6,755 $10,460 $12,667 $3,705 $2,207 54.85 21.10
Average annual wage per employee......... . . . . . . $566 $611 $810 $45 $199 7.95 32.57
Operating expenses per mile operated... . . . . . . . . . . $4,430 $6,912 $9,226 $2,482 $2,314 56.03 33.48
Net operating revenue per mile operated..... . . . . . $2,325 $3,548 $3,441 $1,223 *$107 52.60 *3.02
Average taxes per mile operated. . . . . . . . . . . . . . . . . $237 $336 $568 $99 $232 41.77 69.05
Average operating income per mile operated...... . $2,088 $3,212 $2,873 $1,124 *$339 53.83 *10.55
Per cent operating income on property investment. 3.64 5.39 3.99 1.75 *1.40 48.08 *25.97
* *
, a “* 2 C.
TREND OF RAILWAY AFFAIRS IN THE LAST TWO EIGHT-YEAR PERIODS
* Decrease.
§
THE NORTH AMERICAN REVIEW 740
and, as the advances in wages were small, the increases in ex-
penses were nowhere nearly as large as the increases in earn-
ings. The taxing authorities had only begun to discover the
possibilities of railway properties. In short, in the seven or
eight years before 1906 every condition favored an advance
in gross earnings exceeding in proportion the additions to
investment and expenses; and the business was one of strik-
ingly “increasing returns.” Roads which before had barely
earned their interest and dividends now piled up surpluses.
Others which recently had been bankrupt because they could
pay neither interest nor dividends now became able to pay
both. The investors in the stock of such properties as Union
Pacific and Great Northern garnered profits beyond the
dreams of avarice.
Optimism regarding the future of the railways, there-
fore, reigned among investors, speculators and railway of—
ficers. Large and juicy “melons '' were cut. Control of
some railways was bought by other railways, and stocks
readily sold in the market, at prices wholly excessive in pro-
portion to even the favorable net earnings then being made.
These prices were based on the substance of things hoped
for, rather than on the evidence of things seen; for it was
assumed that railway profits would go on increasing indefi-
nitely. The “practical '’ men of the railways and of Wall
Street were more obsessed with the theory of “increasing
returns '’ than the professors ever were.
Meantime, political leaders and the public began to
reason that the railways were public service corporations,
and that the public had special rights in respect to them.
They reasoned with the economists that when railway traffic
increased and railway rates remained stationary, profits
tended to advance; and concluded that when traffic was in-
creasing rates should go down. But rates were tending up-
ward. The conclusion of the public and its leaders was
natural. The public ought to share in the increasing pros-
perity of the railways through reductions in rates and im-
provements in service; and these results should be gained
by regulation. - *
It was this experience and reasoning which produced the
Hepburn Act, started the flood of State legislation, and
passed the Mann-Elkins Act authorizing the Interstate Com-
merce Commission to restrain advances in rates. The public
having gained the same notion as the “malefactors of great
741 RAILROAD REGULATION
wealth '' concerning the economic nature of the railway, it
set to work to checkmate those evildoers and capture most
of the cream of “increasing returns '' for itself. Many pro-
testing voices were raised. But the public remained cheer-
ful. There might be mistakes made; but the railways “could
Stand it ! ”
Looking back now over the years following 1906 much can
be noted which could not be noted before. One of the main
reasons why the railway business had been one of rapidly
‘‘ increasing returns '' was that facilities had been built
ahead of the business. Within a month after the Hepburn
Act went into effect there came a serious ‘‘ car shortage.”
The traffic had caught up with the facilities; henceforth it
would be necessary to make large new investments to handle
additional business. The next year railway employees car-
ried through the first of several successful movements for
general advances in wages. The taxing authorities became
more active, and railway taxes have since increased enor-
mously. Meantime, there was a panic and depression caus-
ing a slowing up of the growth of traffic.
The results of the play of these various forces are shown
by the statistics for the two eight-year periods 1898-1906
and 1906-1914. In the first period railway traffic and gross
earnings per mile of line increased almost 60 per cent, the
average annual railway wage increased only 8 per cent, and
taxes per mile increased 42 per cent. In consequence, while
property investment per mile increased only 4 per cent, net
operating income per mile—what was available to pay a re-
turn on investment—increased 48 per cent. In the second
period, traffic per mile increased only 23 per cent, while the
average annual wage per employee increased 33 per cent and
taxes per mile 69 per cent. In consequence, while property
investment per mile increased 20 per cent, met operating
income per mile decreased 10% per cent.
Almost simultaneously with the adoption of a policy of
regulation predicated on the theory that the railway business
was one of increasing returns, it became one of diminishing
returns.
The policy of regulation followed did not slow up the
growth of traffic. It has not caused all the increase in invest-
ment and advances in wages. It has not directly caused the
increase in taxes. But it has had its effects. Laws and the
orders of commissions, such as those requiring the separa-
THE NORTH AMERICAN REVIEW 742
tion of grade crossings, the installation of block systems, the
use of electric headlights, the reduction of hours of labor and
the employment of extra men in train crews, have contribu-
ted toward the increases in investment and expenses. Other
laws and orders have prevented the advances in rates which
have been needed to offset the increases in fixed charges and
expenses, or have even caused reductions in rates. The appli-
cation of a policy predicated on the theory of increasing re-
turns to economic conditions tending to cause decreasing re-
turns, has aggravated and intensified the tendency toward de-
creasing returns. The great fault of our policy of regulation
has been that instead of working in the same direction as
economic forces, it has antagonized them; and, caught be-
tween, railway profits have suffered severely. In 1898 net
operating income on property investment was 3.64 per cent;
in 1906, 5.39 per cent; in 1913, when total earnings were the
largest in history, 4.87 per cent; and in 1914, less than 4 per
cent.
The effect produced on railway expansion and general
business by the tendency toward declining railway profits
has been very marked. While the percentage of net return
was increasing there was great activity in the construction
of new mileage and the purchase of equipment. Even when
credit was yielding owing to the diminution of net returns
the managements felt that they must go on with the improve-
ments necessary to enable the existing mileage to handle the
traffic offered. Therefore, there has been since 1906 a large
increase in the property investment per mile. But there was
no reason, when railway net returns were declining, for any-
body to build and equip new mileage. Consequently, there
has been a great decline in new construction and in the pur-
chase of equipment. The following table shows the new con-
struction and the purchase of equipment in the five calendar
years ending with 1914 and in the five years ending with
1906:
New Construction and Equipment Orders.
1902–1906 1910–1914 Decrease
New mileage built. . . . . . 25,521 14,787 42 p. c.
Freight cars ordered... 1,092,375 736,075 32 p. c.
Locomotives ordered.... 22,393 15,884 29 p. c.
Passenger cars ordered. 14,673 15,327 4.5 p. c.”
* Increase. *
743 RAILROAD REGULATION
Is this tendency toward diminishing railway profits likely
to continue? There are strong reasons for believing it will
unless radical changes are made in regulation. Among these
reasons are: First, for some years the net earnings shown
have been gained by keeping down maintenance expenses
and letting many properties deteriorate. If this deteriora-
tion is to be stopped, and that which has occurred is to be re-
paired, this must be done by expenditures charged either to
capital account or to operating expenses. In either case there
will be an increase in the demands on earnings. Second, rail-
way employees are still demanding and receiving advances
in wages. Third, the authorities continue to make heavy ad-
vances in railway taxes, whether earnings increase or not.
Fourth, legislatures and commissions continue to impose new
requirements which increase fixed charges and operating ex-
penses. -
Some will declare the foregoing facts show that the sys-
tem of government regulation and private ownership has
failed, and that we must take refuge in government owner-
ship. But suppose we had had government ownership, would
that have prevented the advance in wages, and the need for
large increases in investment, which have changed the rail-
way industry of America from one of increasing to one of
diminishing profits? The tendency toward increasing capi-
tal and operating costs, and toward diminishing returns, has
been widespread on both state and private railways through-
out the world; it has been due elsewhere to causes similar to
those in operation here; and nowhere else have the railway
managements so far offset it by increasingly efficient meth-
ods as in the United States. There is no magic in govern-
ment ownership to prevent economic forces from producing
their appropriate results.
Others may say the facts show that government regula- .
tion is harmful and should be abandoned. But the public
feels, and rightly, that it must be protected by either rail-
road regulation or railroad competition; and if regulation is
now “strangling ” the railways, it cannot be shown that
their cutting of one another’s throats by competition before
regulation was adopted was any better either for them or
for the public. - -
The trouble is not with regulation in itself; and the rem-
edy is not public ownership or a return to unregulated man-
agement or cutthroat competition. The trouble is with the
THE NORTH AMERICAN REVIEW 744
particular policy of regulation that has been followed; and
the remedy is to adopt a policy which will be consistent and
fair; which will be predicated on the experience of the rail-
ways since 1906 as well as before; and which will be adapt-
able to any other tendencies or conditions which may de-
velop. The Interstate Commerce Commission has partially
recognized this by its decisions in the five per cent rate case.
But they apply only to the railways of one section, while
railways all over the country are in need of relief; and regu-
lation requires other changes besides that of a mere substitu-
tion of sporadic advances in rates sought by the railways for
Sporadic reductions in rates sought by travelers and ship-
pers. The following is an incomplete statement of the seri-
ous faults of our present policy, of the means which should
be adopted to correct them, and of the reasons why these
means should be adopted:
(1) Some of the worst shortcomings of the present sys-
tem result from duplication of effort by the State and Fed-
eral Governments. The States regulate rate-making and
operation, and some of them, the issuance of securities.
Many of them fix rates with the avowed purpose of giving
their producers and jobbers advantages in the markets of
their State over the producers and jobbers of other States.
Such regulation hampers and burdens interstate commerce,
and interferes with the regulation of interstate rates by the
Interstate Commerce Commission. It was such an effort by
the Texas commission to give Texas shippers an advantage
in the markets of that State over the shippers of Louisiana
which was condemned by the Interstate Commerce Commis-
sion and the United States Supreme Court in the Shreveport
case; yet the State commissions do not desist from this
practice. z - t
In numerous States two cents a mile was made the maxi-
mum legal passenger fare, and the railways reduced their
interstate fares also to this basis. The Interstate Commerce
Commission indicated in the five per cent case that these
fares were too low, and the railways have therefore raised
many interstate fares; but, as long as the lower State fares
remain, the higher interstate fares will be largely nugatory
and there will be a discrimination against interstate com-
IſlēTCé.
In their regulation of operation the States impose numer-
ous burdens, such as requirements for high power headlights
745 RAILROAD REGULATION &
and extra men in train crews, without any evidence that they
ought to be imposed, and in the face of evidence that they
Ought not to be. The Interstate Commerce Commission by
refraining from imposing similar burdens, and from recom-
mending that Congress do so, tacitly condemns the action of
the States. But it does nothing, and perhaps has no author-
ity to do anything, to prevent such action. In many cases
there is complete duplication of State and interstate regula-
tion. -
These duplications, inconsistencies, conflicts and injus-
tices of regulation, growing out of its exercise by a multi-
plicity of authorities between whom there is a great deal of
petty political rivalry, and no co-ordination or co-operation,
are interfering with the free movement and development of
commerce. They are making rates unfairly discriminatory
and unremunerative, and causing millions of dollars of un-
necessary expense to both the public and the railways. There
should be legislation by Congress empowering the Interstate
Commerce Commission to control all State action which di-
rectly or remotely burdens interstate commerce.
(2) There is an inconsistency in federal regulation itself
which does harm. The Sherman anti-trust law and the anti-
pooling provision of the act to regulate commerce deal with
the railways as if they should actively compete with each
other. All other federal provisions deal with them as if they
should be a regulated monopoly. The main purpose of legis-
lation prohibiting combinations in restraint of trade is to
prevent prices or rates from being made unreasonably high.
Legislation to accomplish this purpose with respect to rail-
way rates has been rendered unnecessary by the provisions
empowering the Interstate Commerce Commission to reduce
unreasonable rates, and to prevent unreasonable advances,
whether made by one road or any number of roads.
But while such legislation as applied to railways is super-
fluous, it is not nugatory. Regulation causes the charges of
competing lines usually to be made the same; but it does not
prevent the law-enforced competition from causing the
granting of many unduly low, and, unfairly discriminatory,
rates to large shippers. Furthermore, as things are, equal-
ity of rates by competing lines is a prolific cause of wastes
and discriminations in service. The railways in every group
vary in their mileages between competitive points, in their
physical characteristics, in the accessibility of their lines to
THE NORTH AMERICAN REVIEW 746
large industries, and in their financial positions. When their
rates are the same the only means they have for attracting
business is service. When they are forbidden by law to make
pooling or other similar arrangements regarding the divi-
Sion of traffic or the rendering of train service there is an
irresistible temptation for each of them to strive to capture
business by increases in, and concessions in respect of, its
Service. This may appear to be a good thing; but it is not.
It is owing to this fury of competition that our passenger
service between large cities all over the country has been so
unwarrantably duplicated. Between all large cities several
railways run numerous trains on the same schedules. As the
trains on the diffierent roads leave and arrive at the same
hours they do not promote the public convenience, since the
traveler can ride on only one train at one time. As many of
the trains are never well loaded the duplication of service
causes enormous waste. The public would be better served,
and the cost of railway operation would be less, if arrange-
ments were made under which through trains would be
spaced to leave and arrive at different hours, and under
which only the shorter and better lines between any pair of
cities would attempt to render fast through service between
them, others confining themselves to good local service.
It is likewise owing to fierce competition that many im-
proper concessions in respect of freight service, such as
those which the Interstate Commerce Commission criticized
in the five per cent case, have been made, with resulting
heavy losses to the railways, and glaring discriminations be-
tween shippers and communities. -
This law-enforced competition should be stopped. We
should recognize fully that the railways should be regulated
monopolies. The Sherman anti-trust law as it applies to
railways and the anti-pooling section of the Interstate Com-
merce Act, should be repealed, and the railways should be
permitted to make such agreements and contracts regarding
rates and service as the Interstate Commerce Commission
may deem not prejudicial to the public interest.
(3) It should be formally recognized as the duty of the
Commission so to deal with rates as to secure to the railways
the opportunity to earn reasonable average profits. It should
also be recognized that what are reasonable profits is not a
question of law, to be settled by the hair-splitting casuistry
of the courts regarding a “fair return,” but a great prob-
747 RAILROAD REGULATION
lem of business and public policy. That the Commission may
solve it in a big way it should be given the same authority
and duty to raise rates and prevent reductions in them, when
the public welfare requires such action, as to reduce them
and prevent advances when such action is needed for the
public protection. The public interest also demands action
which will expedite the hearing and decision of important
rate cases. The present protracted delays cause uncertainty
and hesitation in many lines of business; and nothing is more
killing to business than such delays.
(4) The Commission having been given authority and a
clear mandate to deal with rates as a matter of public policy,
it should also be given broader jurisdiction over railway
construction, maintenance and operation. The Federal Gov-
ernment, and not the States, the Commission, and not Con-
gress, should decide what requirements shall be made re-
garding block signals, headlights, steel cars, hours of Serv-
ice of employees, and the sizes of train crews. In some way
the Commission’s jurisdiction should be extended over the
most important item of railway expenses, the wages of em-
ployees. The authority which controls earnings should also
regulate expenditures to such extent as they are regulated
at all. Otherwise, all its efforts to maintain a healthy mar-
gin between them may be defeated.
(5) The Commission should be given supervision over
the issuance of railway securities. Some of the worst abuses
and evils in the railway business have grown out of the un-
restricted utterance of securities by boards of directors
dominated by men who disregarded equally the rights and
interests of investors and of the public. If regulation is
to permit increases in net earnings the public has a right to
demand that it shall also see that the additional capital
which the improvement in the railways’ credit will enable
them to raise is honestly and efficiently used.
(6) The Interstate Commerce Commission should be re-
organized. As now organized and constituted it cannot per-
form even its present duties satisfactorily. This is not a re-
flection on its members. It is not given to any seven men to
be equal to what they have been trying to do. Various plans
of reorganization have been suggested. One is to enlarge
the Commission’s membership, increase the salaries paid,
and lengthen the tenure of office. Another is to have deputy
commissioners assigned to districts throughout the country.
THE NORTH AMERICAN REVIEW 748
Another is to create subordinate boards to handle various
matters in the first instance, one, rate matters; another, op-
crating matters; allother, ſinancial matters; with a right of
appeal to the Commission itself. Another is to transfer a
part of the Commission’s duties to some other body or de-
partment. Space forbids an attempt to discuss these plans
here, but that something must be done to reorganize the -
Commission, is clear. w
These and perhaps other measures are needed to stop the
needless wastes and unfair discriminations in transporta-
tion, and secure a proper readjustment of rates. They are
needed to turn the railway business from one of diminishing
returns into one of increasing, or at least, stable returns;
and to convert the railway situation from a menace to the
general prosperity into one of its strong and reliable sup-
ports. Are the managers of the railways, the leaders of
public opinion, the members of Congress, the members of
the Interstate Commerce Commission and the public capable
of rising to the emergency and co-operating to a solution of
the problem presented which will enable us to succeed in our
experiment with private ownership and management of rail-
ways, subject to public supervision and control? Or are
those right who predict that the railway managers and own-
ers will be so selfish and unreasonable, or that the public and
public men will be so selfish and unreasonable, or that they
both will be so selfish and unreasonable, that the experiment
will fail, and government ownership will result? He who
essays prophecy on such a subject enters an extra hazard-
ous occupation. But in spite of that the writer ventures to
believe and predict that both the management of our rail-
ways and the regulation of them will undergo great im-
provements; that we will pass safely out of the present pe-
riod, as we did out of the Granger and Populist periods; and
that no person now living will see the day when a large part
of our railway mileage will be owned or operated by the
government. The American public shows a remarkable apti-
tude for doing a wise thing just when the wise men have
abandoned themselves to the belief that it is going to do a
foolish thing.
* * SAMUEL O. DUNN.
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