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General Economic Laws Affecting Transportation

Of all the various clubs used by trusts for attacking rivals and
driving them from the field, the first in order is the one which
depends on getting special rates for transportation. Railroads develop
monopolies within their own sphere and also contribute greatly to the
development of monopolies elsewhere. The second fact is the more
important, but both require attention. By reason of its special
connection with producers' monopolies does the function of the common
carrier have much to do in deciding the question whether an economic
revolution is or is not impending. It is safe to say that it is
imminent as a possibility and will become probable if the favoritism
shown by carriers to great shippers is not effectually repressed.

How the Consolidation of Railroads makes the Repression of Favoritism

It is also safe to say that such repression will be easy if
the consolidation of railroads themselves shall actually go to the
utmost possible length. With all lines under one central control and
earnings entirely pooled, there would be no motive for granting
special favors to any shipper except as it might come through a
corrupt relation between the shipper and some officials of the
railroads. To the carrying corporation the giving of a rebate would
merely mean a surrendering of some possible profits. With railroads
consolidated the threat of the great shipper to divert his freight
from one line to another would lose all its effectiveness, and the
interests of the stockholders in the general carrying company would
demand high rates from all. The law forbidding rebates and all other
forms of favoritism would assist the railroad company in carrying out
its own policy, and would be obeyed with the readiness with which an
order to pocket an increased gain is naturally complied with.

A Danger which becomes greater as Discriminations become

This reveals the fact that the consolidation which makes the
suppressing of discriminations easy will make an all-round advance of
rates possible, in so far as merely economic influences are concerned.
Nothing but the power of the state itself can prevent this; and while
the consolidation that would be perfect enough to stop discriminations
has not yet taken place, enough of consolidation has been secured to
cause some advance in the general scale of freight charges and to
threaten much more. It already rests with the government to avert this
second evil. Monopolies extending throughout the field of production
would mean a demand for socialism which could hardly be resisted; and
even a few monopolies in industry assisted by a great one in
transportation would mean much the same thing.

General Economic Principles governing Transportation

With a view
to determining the bearing which transportation has on the problem of
economic freedom, and thus on the prospect of avoiding the alternative
of state socialism, we need to state the essential principles in the
theory of railway transportation.

The fact that makes a vast amount of carrying necessary is that
agriculture is subject to a law of diminishing returns, while
manufacture obeys an opposite law. In tilling the soil labor and
capital yield less and less as more and more of them are used in a
given area; and therefore both of these agents need to extend
themselves widely over the land in order to use it economically. In
the production of staple crops which can be freely carried across sea
and continent, the natural tendency is to scatter a rural population
with some approach to evenness over all the land available for such
crops. Market gardening requires less land per man and the areas
devoted to it are much more densely peopled; but even within this
department of agriculture the law holds true that too much labor and
capital must not be bestowed upon an acre of ground. In a general way
agriculture diffuses population, while manufacturing concentrates it.
This latter work is done most economically in great establishments.

The Law of Diminishing Returns from Land not restricted to that used
in Agriculture

It is commonly said that manufacturing is unlike
agriculture in that it is subject to a law of increasing returns; but
this statement is true only when its terms are carefully interpreted.
The diminishing returns from agriculture and the increasing returns
from manufacturing are not two opposite effects from the same cause.
There is, indeed, a logical anomaly in contrasting them with each
other. In agriculture we get smaller and smaller results per unit of
labor and capital when we overwork a piece of ground of a given size
by putting more and more labor and capital on it. The trouble here is
that land, on the one hand, and labor and capital, on the other, are
not combined in advantageous proportions; and exactly the same effect
is produced by the same cause in manufacturing. One can overtax a mill
site by confining larger and larger amounts of capital within a given
area. If the site is so small that the building has to be carried far
into the air and supplied with walls strong enough to resist the jar
of machinery on many floors, manufacturing becomes a far less
economical operation than it would be if the site were larger and the
mill lower. The gain from centralizing the manufacturing process comes
in part from the increased size of the particular establishments; but
that requires that every part of the plants, land included, should be
increased. As the whole of an establishment becomes larger its product
becomes cheaper; but, in the enlargement, there should be no undue
stinting in the amount of land used. In both agriculture and
manufacturing, then, there is a loss of productive power when areas of
land are disproportionately small, as compared with amounts of labor
and artificial capital; but in the realm of manufacturing large
establishments under single entrepreneurs combining the agents of
production in the right proportion increase the productive power of
men and instruments as they do not in agriculture. Great farms show
no such economy as great mills.

Basis of the Law of Increasing Returns in Manufacturing

would be some increase of returns in manufacturing from making the
establishments large even if the work were done by hand; but by far
the greater part of the advantage is due to machinery. The invention
of the steam engine was the beginning of it, and that of textile
machinery afforded a quick continuation of the revolutionary change.
In nearly all lines of production, outside of agriculture, machinery
is far too elaborate to be used in household industry. One may say
that the transformation of the world into one enormous farm dotted
over with great workshops, with all the social and political changes
which that involves, was brewing in the tea-kettle which the boy Watt
is said to have watched, as the lid was raised by puffs of steam and
the possibility of a steam engine suggested itself. The mechanical
force of steam began at once to centralize manufacturing. That made
increased transporting necessary, and it was not long before the same
element, steam, provided the means of this extensive transportation.
It is necessary, of course, to carry the products of the farm to the
mill, and also to carry manufactured goods back to the farm; and
neither of these things would have been required on any large scale
under a system of household industry. The economy which leads to this
lies altogether in the greater cheapness of the manufacturing. The
difference between the cost of fashioning materials in the home and
that of doing it in the mill is so large that it would have brought
about the building of mills and the creation of manufacturing centers,
with the carrying which it involves, if neither railroads nor
steamboats had come into being. The growth of factory villages had
made some headway at a time when no elaborate machinery existed; but
if that condition had continued, manufacturing centers would have
been smaller, more numerous, and more scattered than they have been.
It is the cheapness of carrying by railroads and steamships which has
made it possible to get the fullest benefit from the so-called law of
increasing returns in manufacturing.

Mining as related to Transportation

Mining is a process which has
to be local, because ores and coal are furnished by nature in a local
way; and one might mention this as a second cause of extensive
transportation. A great part of the carrying so occasioned depends,
indeed, on the growth of the manufacturing centers, since mills and
furnaces need great quantities of fuel. A means of heating private
dwellings, of cooking food, etc., might conceivably be supplied in a
local way, by the growth of forests; but the fuel needed for the
centers of manufacturing and commerce has to come from distant points.
The law of increasing returns in manufacturing, then, and natural
location of mines are the most generic causes of transportation. The
system which has resulted gives to everybody more and better food, as
well as more and better goods of every kind, than he could possibly
have had if the primitive system of local manufacturing had continued.
The cheapness with which form utility is created in the mill and place
utility on the railroad are the two causes which are at work.

The Rivalry between Producers of Form Utility and Producers of Form
and Place Utilities

In the technical language of economics, there
has been a contest in efficiency between that creating of form utility
which is done when goods are made in households or in small villages,
and that joint process of creating form and place utility which
consists in making goods at central points and carrying them to the
widely scattered homes of consumers. The latter process, involving as
it does the necessity of creating two utilities instead of one, is now
by far the cheaper.

The Ultimate Limit of Charges for Transportation

Charges for
transportation have as one extreme limit the difference between the
cost of making goods at one point and the cost of making them at
another. This rule is applicable, of course, only to those numerous
cases in which it is physically possible to create the goods at both
points. If they can be made at point A for ten dollars, by using five
days' labor, and at point B for twenty dollars, by using ten days'
labor, ten dollars would furnish the extreme limit of a possible
charge for carrying them from A to B. In a certain number of cases the
actual charge approximates this extreme limit. With a mill in A,
working with much economy, and a number of household workshops in B
producing with less economy, the product of the large mill may invade
the territory supplied by the little workshops, and the carrier may
receive in return for transportation about as much as the difference
between the two costs of production. With a great mill at A and a
small one at B, the same thing may happen.



Narrower Limits usually Applicable

In by far the larger number of
cases such a difference between costs is more than the carrier can
get. Usually there is some alternative mode of procuring goods at B
which does not involve actually making them on the spot at a serious
disadvantage. It may be possible to convey them to B from a third
locality, C, where they are made in an advantageous way. If this
carrying is done by some process in which competition rules,--if, for
instance, C is not far from B, so that goods can be carried thither by
drays,--the cost of making the goods in C plus the natural or
competitive cost of conveying them to B will together make up the
natural cost of procuring them in this latter locality. The difference
between that and the cost of making them in the great center which we
have called A will constitute the limit of the freight charge from
that city to B; and even though between these two points the carrier
has a monopoly of the traffic, he can get no more.[1]

[1] For a case in which a railroad can get the entire
difference between the cost of goods at the point from which
it carries them and their cost at the place of delivery, but
voluntarily refrains from doing so, see the note at the end
of this chapter.

Other Applications of the Same Rule

This rule applies even where
goods made in C have to be carried great distances, provided the
carrying is done in some competitive way, at a low rate based on cost.
Consumers in B may have the option of bringing the goods by water,
along the coast or across an ocean, at a rate that makes the cost of
procuring them at B not much above the cost of making them at A. If
so, this small difference of costs represents all that any carrier can
get for moving them from A to B, and though this carrying may be done
by a railroad which has a monopoly of its route, its service will
command no higher rate than the one which is thus naturally set for
it. The rate is governed by costs, though not by costs incurred by the
railroad. Whenever competition rules, the returns for any productive
function tend to conform to costs, and we here suppose that it does so
rule (1) in the making of goods at A, and (2) in the procuring of the
goods by some alternative method at B. The difference between these
costs sets the maximum limit of the freight charge between A and B,
and this may exceed the cost of this service and leave a profit for
the carrier who uses this route.

Freight Charges and Value

The return for a productive operation
of any kind whatsoever is directly based on the value which it imparts
to something; and in the case of carrying, the value is measured by
the amount of "place utility" which the carrying creates. This is
merely one application of a universal law. What the goods are worth
where they are consumed, less what they are worth where they are made,
equals what can be had for moving them from the one point to the
other. Freight charges are gauged by the principle of "value of
service," but so also are the charges for making the goods. When
things are produced and used at the same place, the producer's returns
equal the value of his product, and this is fixed by the principle of
final utility. It is, however, a truism of economics that this value
itself tends under competition to conform to the cost of creating it.
In our illustration the manufacturing returns are fixed by the value
of service and also by the cost of service, and so are the returns for
transporting the goods from C to B; but the returns for carrying them
from A to B, where monopoly prevails, are not governed by the cost of
service but by costs elsewhere incurred.

Freight Charges and Cost

The law of costs as well as the law of
value holds good, in general, in connection with transportation.
Competition in this department tends to bring values created to a
certain equality per unit of cost and to reward the labor and capital
which are used in carrying as well as they are rewarded elsewhere, and
not better. If our table of industrial groups were elaborated, there
would be between A and A', as well as between A' and A'', and between
adjacent subgroups throughout the chart, a symbol which should
represent the work done by the carrier; and the fact would appear
that naturally this work is neither favored nor injured in the
apportionment of rewards. Free competition, if it existed in
perfection everywhere, would be a perfectly undiscriminating
distributor of earnings, and would apportion all returns according
to costs.


Variations of Freight Charges from Static Standards

Place values
are not an exception to the general rule of value; and yet freight
charges actually remain at a greater distance from the standards
furnished by the direct costs of carrying than do the returns for
other services from corresponding standards. There is an approach to
monopoly in this department, and, when direct competition exists, it
is a more imperfect process here than it is elsewhere. Moreover, the
costs which here figure as an element in the adjustment of freight
charges are of a peculiar kind, which, although not unknown in other
departments of production, have nowhere else so great influence and
importance. The study of railroads and their charges is baffling, not
because the economic forces do not here work at all, but because here
they encounter a resistance which is exceptionally strong and
persistent. The quasi-monopoly which elsewhere continues only briefly
lasts long in this department of production; but it is subject to the
same principles which everywhere rule.

The Modes of Approaching the Study of Freight Charges

In studying
freight charges we may, if we choose, start with the intricate tariffs
of railroads, as they now stand, and try to find some principle which,
if applied, would bring order out of the mass of capricious and
inconsistent rates. Such a rule will ultimately be needed, but it can
best be obtained by examining at the outset the transportation which
is done by simple means and under active competition. It will be found
(1) that basic principles apply to all transportation whether it be by
railroad or by simpler means; (2) that in the early development of
every system of common carrying the action of these principles is
disturbed; (3) that in the case of the more primitive systems the
disturbances are soon overcome, but that they continue longer and
produce far greater effects in the case of railroads; (4) that one
important influence of this kind tends naturally to disappear, while
another continues and calls for regulation by the state; and (5) that
this regulation needs to be based on natural tendencies and to conform
to the laws which, when competition rules, govern the returns of all
classes of producers.

A Typical Instance of Partial Monopoly in Transportation

We may
now trace the development out of a purely competitive condition of a
simple instance of what is usually termed monopoly, though in a
rigorous use of terms it can hardly be so called. It is a monopoly the
power of which is limited. So long as goods made at A are carried to B
by some primitive method which insures the presence of competing
carriers, the returns for carrying will tend only to cover costs. By
a normal adjustment the price of the goods at A only repays the costs
of making them, and if these and the carrying charge amount to less
than the costs of making the goods at C and transporting them to B,
none of them will come to B in this latter way. Makers at A and
carriers on the route from there to B will possess the market, and the
place value which the goods acquire when taken to B will be fixed
directly by the costs of carrying.

It is when there is no effective competition on the route between A
and B, while there is free competition in making the goods both at A
and at C, and also in carrying them from C to B, that a typical case
of a partial monopoly is presented.




The price of the goods at A is a definite amount fixed by competition
between producers, and the price at B is also a definite amount fixed
by competition between different makers at C and between different
carriers between C and B. The difference between these amounts sets
the limit of the charge for carrying from A to B; but in that
operation there is, for a brief period, no effective competition. For
simplicity let us say that this carrying is at first done by a single
wagon owned by its driver, and that his charge for the service he
renders nearly equals the difference between the cost of making the
goods at A and that of obtaining them at B from some alternative
source. This lone and honest driver is thus illustrating the practice
of the modern railroad, in that he is "charging what the traffic will
bear." The goods he transports have one natural value at A and
another at B. These two values are determined separately and in ways
that are quite independent of the carrier and his policy. When he
begins to do his work, he charges an amount which about equals the
difference between the two values.

The Impossibility of Long-continued Profits in the Case of Primitive

With the growth of traffic direct competition will soon
appear. A second wagon will be put on the route and then more, and the
strife for freight will bring down the charges to the level of cost.
For a brief season a favored drayman was able to get nearly the entire
difference between the value of the goods at the point where they are
made and their value at the point where they are used, as these two
values were determined by independent causes with which he had nothing
to do. Now, he and his rivals can, indeed, get the difference between
the value of the goods at the one point and their value at the other;
but this difference is now directly determined by the carrying charge.
That charge, again, is determined by the cost of rendering the
service. There was a brief interval when the value of the service and
the cost of it were different amounts; but now they coincide. We shall
see that the essential difference between carrying by primitive means
and carrying by railroad is in the fact that in the latter case the
period when value and cost are different is greatly prolonged.

The Appearance of a More Efficient Competitor

With the growth of
traffic a sailing vessel comes into use on a route connecting A with
B, and the cost of thus conveying goods is less than that of conveying
them over the roadway. The charge made by the sailing vessel is lower
than that made by the teamsters, and the goods are thus delivered at B
cheaply enough both to attract to the water route all carrying from A
and to put an end to all carrying from C. The former carriers between
B and C lose their business, and the makers at C lose some part of
theirs, in the same way that any producer loses the traffic when he is
underbid by rivals. The public is the gainer to the extent of the
reduction which takes place in the cost of the goods as delivered to
consumers in the market at B; nevertheless, the situation still
involves a limited monopoly. The sailing vessel now has no effective
rival, and can charge "what the traffic will bear," and that is very
nearly the cost of conveying the goods by wagons. The advent of the
vessel has benefited the public; yet it is regarded as constituting a
new monopoly, and the benefit which the public gets is less than it
will get when a really effective competitor of the sailing craft makes
its appearance.




A - - - - - - - - - - - - - - ->B

A Principle governing Charges by Unequal Competitors

The principle
which, in this instance, governs the freight charges is one which is
active in all departments of production. We have seen that a maker of
goods who has just acquired a monopoly of a superior method may, for a
time, charge what the goods cost as made by inferior processes. If the
manufacturer has some patented machinery which effects a great
economy, he is not at once obliged to govern his prices by what the
goods cost in his own mill, but may charge about what they would cost
if they were made by the inferior machinery which he formerly used.
This is what they still cost in the mills of certain rivals, and it
thus appears that competition of a sort fixes his price for the goods
he creates, but it is the competition of less capable producers and
fails to benefit the public as the rivalry of equals would do. If
there is evil in such a monopoly as this, it is not because the public
is injured by the advent of the cheaper method. The improvement
usually begins to confer benefit on consumers at the moment of its
arrival, through the effort of the efficient producer to secure
traffic. It causes the prices to go down, though the fall is at first
only a slight one, and the consumer's case against the monopoly of
method is on the ground of his failure to receive a further benefit.
He will get that further benefit whenever a producer who can compete
on even terms with the one who now commands the field shall make his

Unequal Competition Typical of Carriers

Our recent illustration
represents a similar condition in carrying. The public gets a slight
gain from the advent of a sailing vessel; but it fails to get the
further benefit that the advent of a second vessel will ultimately
bring. For a time the freight charge stands nearly at what teamsters
have charged. For cheaper rates the public must wait for the advent of
another vessel.

The Cause of the Partial Monopoly in Carrying

There is nothing to
prevent a second schooner from being put on this route, if the returns
to be expected should warrant it. At the outset the new vessel would
get only about a half of the amount of traffic enjoyed by the first,
and the rates would probably be reduced by the competition between the
two. Until the returns of the first vessel become large it has no
rivalry to fear, but it is clear that its monopoly is held by a very
precarious tenure. It is not likely long to enjoy the benefit of any
charges which yield much profit. The growth of traffic will in due
time bring the competing vessel, and the rule of returns that only
cover costs will again assert itself. The owner of the first sailing
craft has been able for a time to charge "the value of the service" he
has rendered, as that value was determined independently of his own
action; but now this value itself depends on his action and that of
rival carriers using the same route, and it adjusts itself at the
level of cost.

The Effect of partly Unused Vessels for Carrying

The case
illustrates another principle which is equally general. The
entrepreneur whose capacity for producing is only partially utilized
may often take some orders at less than it costs to fill them, as cost
is usually understood, and he will still be the gainer. In
manufacturing as well as in carrying there are "fixed charges"; there
are costs which stand at a definite amount which is independent of the
volume of traffic, while other costs increase as the volume grows.
These are the "variable costs," and they have to be further
classified, since some of them do not increase as rapidly as the
business grows, while others increase with the same rapidity as does
the business. The makers of sewing machines, typewriters, reapers, and
mowers, and indeed machinery generally, can usually increase their
product without correspondingly increasing their outlay. They can make
goods and sell them in a foreign market at rates which would injure
and might even ruin them if they were applied to the sales made in
their own country. This fact is most obvious when the manufacturer's
machinery is not all kept running or when it all runs only a part of
the time. Increasing the output is then a particularly cheap
operation. When a carrier's facilities are partially unused--when a
ship carries a cargo in one direction and returns in ballast, or when
it sails on both trips with its hold only half full--it is ready to
carry additional goods at a low rate provided that this policy will
not demoralize its existing business. In our illustration we have
assumed that some merchandise is made at A and consumed at B, but it
may well be that goods of some sort are produced at B and consumed at
A. There may be stone quarries at B and there may be need of stone for
paving or building at A, and the vessel may carry a return cargo of
this kind at any rate which does not greatly exceed the mere cost of
loading and unloading it and be better off for so doing. If the entire
difference between the cost of the stone at B and the cost of
producing it at A from some other source is a very slight one, the
amount of it still represents all that the ship can get for carrying
the stone. The utmost that the traffic will bear is this difference in
costs; and yet the business will be accepted, for the return exceeds
the merely variable costs which it entails. The fixed charges, the
interest on the cost of the vessel, and the outlay for maintaining it
do not need to be paid in any part from the returns of this extra
business. They are already provided for.

If instead of returning from B with a hold quite empty, the vessel
made both voyages with a hold only half full, the result would be
similar. It would then be in a position to make a low bid for further
freight in both directions. If this entails no cutting of the rates
for carrying the original goods, the vessel can take further goods
with advantage at any rate above the merely variable costs.

Production which is Advantageous though it does not repay all

There are two general conditions under which it is
advantageous, both in making goods and in carrying them, to extend
production, though the further returns which are in this way gained do
not cover all costs. First, the producer must have an unused capacity
for making or carrying goods. In such a case it is possible to make or
carry an increment of goods without entailing on himself an
increment of cost that is proportionate to the amount carried. In his
bookkeeping his original business is charged with costs amounting to a
certain sum per unit of goods produced or carried. His further
business is charged with a smaller outlay per unit.

Secondly, it must be possible to demand separate and independent
returns for the different increments of goods, so that cutting the
rate charged for one part of the traffic does not entail cutting the
rate charged for the other. In the case of a manufacturer this is
secured, either by carrying some goods to a remote and entirely
independent market, or by producing some new kind of goods the low
price of which will have no effect on the sales or the prices of the
other kinds. In the case of the carrier it is accomplished in a
variety of similar ways. He can take return cargoes at a low rate. If
he stops at different ports along his route he can charge less for
goods landed at certain ports than for those landed at others. He can
classify his freight and carry some of it at a rate at which he could
not afford to carry the whole. With the growth of traffic, however,
this condition tends to disappear. Its existence requires that the
carrier should have facilities only partially used. As the ship
acquires fuller and fuller cargoes, it ceases to be advantageous to
fill the hold with goods which pay lower rates than others; just as a
mill, which may have run for a time partly on goods that yield a large
return and partly on those which yield a small one, gradually discards
the making of the cheaper goods as the demand for the dearer kind
increases. The vessel which can get full cargoes of profitable
merchandise will cease to devote any space to what is less profitable.
In the end the ship in our illustration will be transporting in both
directions all the first-class freight it can take, and will accept
neither the stone nor the merchandise consigned to ports to which it
can be carried only at the cheap rates.

Result of Effective Competition throughout the Carrier's Route

condition just described--that of full cargoes of profitable
goods--inevitably attracts a rival vessel, and the ordinary effects of
competition then begin to show themselves. The vessels pursue the same
route, cater to the same traffic, and if they try to get business from
each other, bring down their charges. The warfare may even bring them
to reduce the rates to the level at which only variable costs are
covered--a policy that, if persisted in, would bankrupt them both; and
here, as well as in the case of railroads, there is a powerful motive
for combining and ending the war. It usually causes a merely tacit
agreement to "live and let live"--a concurrent refraining from the
fatal extreme of competition. The reductions, as made, have to be
general and to apply to all parts of the traffic, and unless each part
of the freight carried earns a pro rata share of the fixed charges
incurred in the business, the traffic is carried at a loss. On the
supposition which we have made--that the special and comparatively
unprofitable increment of carrying was discontinued as soon as the
first vessel could use its entire cargo space in transporting goods of
a high class--the arrival of the second vessel may cause the less
profitable carrying to be resumed, since there will not be enough of
the better sort to afford two full cargoes. Moreover, a normal kind of
competition will stop short of the warfare which drives both rivals
into bankruptcy, and will leave the rates at a level at which the
receipts of each carrier cover all his outlays.[2]

[2] A full discussion of the limits of freight charges would
take account of the fact that "what the traffic will bear" is
an elastic amount. An infant industry will bear less than a
mature one; and moreover, a rate that it will bear without
being taxed out of existence may be sufficient to stunt its
growth. A railroad may be interested in hastening its growth.
When goods have one cost at A and another at B, a railroad
company may carry them from the one point to the other for
less than the difference between the costs because it wishes
the industry at A to grow and furnish freight. Farmers who
are introducing a new crop in a section of country remote
from a market may be encouraged by a rate for carrying which
leaves them a margin of profit. It is when a branch of
production has more nearly reached its natural dimensions
that the charge for carrying its product tends to approach
its highest limit.

Next: The Foregoing Principles Applied To The Railroad Problem

Previous: Influences Which Pervert The Forces Of Progress

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