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 Easy. - 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 Fewer. - 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. - There 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.

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.

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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 Carriers. - 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 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 appearance.

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 Costs. - 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. - The 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.