Railroads Get No Credit


OUR present railroad crisis is essentially a credit crisis that has been long in the making. During periods of prosperity it has been temporarily obscured, but each recession brings it to the front in a more aggravated form. Credit cannot be narrowly defined as merely the ability to pay fixed charges, nor is it solely a record of investor losses; credit is a measure of the ability to attract new money for the modernization of plant. During the 1920’s, approximately $9,000,000,000 was spent on the improvement of our railroads, and the country is now reaping the benefits. To-day the modernization of plant has slowed down almost to a standstill because the railroads can no longer earn or attract the necessary money.

Paradoxically, this decline in credit has reached a new low at a time when, as a result of the modernization carried on since the war, the efficiency of our railroads is at the highest point in their history. And, since credit is an abstract term, the public has largely remained unaware of, and refused to become alarmed over, a transportation crisis which it could neither feel nor see. People in general are not aware of the deflationary effect upon all industry of the collapse in railroad security prices and the cessation of railroad buying, nor can they appreciate the effect on the industry of a suspension of the more or less continuous improvement programme of the past.

In the last analysis, credit is merely the state of mind of investors — the reflection of confidence in the long-term earning power of capital. It is founded as much upon faith and hope and the vital record of past investment experience as upon current factual analysis. The reason that the railroads can no longer attract money for improvements is because the public no longer regards railroad securities as safe.

The forces which, for the last two decades, have operated to undermine and destroy investor confidence in the railroads have been graphically described by Mr. Leslie Craven in the Atlantic for December 1938. Mr. Craven particularly emphasizes the increasing strength of those pressure groups which have largely succeeded in preventing the attainment of the goal of fair regulation, just not only to the shipper and to the railroad worker, but to the holder of railroad securities as well. Likewise he has called attention to the dangers arising from overregulation and the impairment of the initiative of railroad management in coping with its present pressing problems. He also traces the gradual change in the transportation industry from the status of a railroad monopoly to its present phase of competition by motor truck, airplane, and waterway — for the most part subsidized in one form or another by the government.

The emphasis placed upon present competitive factors, however, tends to divert attention from the fundamental fact that the attrition of railroad earning power began long before the advent of these new competitive forms of transportation. As a matter of fact, it was not until the rate case of 1931 that competitive factors were recognized as important in determining the rate level, whereas the decline of railroad earning power actually set in soon after the passage of the Hepburn Act in 1906, under which the Interstate Commerce Commission was given authority to prescribe maximum rates for the carriers.

I have pointed out that the present credit decline has taken place in spite of outstanding increases in the efficiency of railroad operation. The first seven months of 1938, as compared with 1932, for example, showed an important reduction in earning power notwithstanding the fact that the volume of traffic had increased 20 per cent and the per worker productivity 40 per cent. Exactly the same paradox was pointed out by Commissioner Daniels of the Interstate Commerce Commission as far back as 1914, when, in a dissenting opinion, he showed concern over an increasing maladjustment between railroad revenues and railroad expenses. At that time he pointed out that absolute decreases in earnings had occurred in spite of substantial increases both in efficiency and in volume of traffic.

When the railroads were returned to private ownership following the war, the necessity for controlling the social and political forces that had been undermining railroad credit had become so well recognized that the Transportation Act of 1920 attempted to set up a definite rate-making standard as a means of placing railroad earning power and credit upon a sound basis. But the provisions of the act broke down in practice, and, regrettably, the full import of this breakdown was disguised by the inflationary prosperity and the overconfidence of the period culminating in 1929.

With the advent of the depression, however, credit difficulties of the carriers soon reappeared, and in a more serious form than ever before. Unfortunately the fundamental facts of this problem, so well recognized prior to the war, are now obscured by the general confusion arising from overemphasis of the competition which the railroads are meeting. So bewildered has the public become that in many quarters we hear grave doubts expressed as to whether the railroads are still essential and whether it is possible to charge rates adequate for their support. If these doubts reflected the facts and railroad transportation were no longer essential, the solution would be obvious. The railroads should be turned loose to sink or swim as the case might be. If railroad transportation is so uneconomical that shippers will use it only if the service is supplied below cost, then it would be far better if our freight were carried by a more efficient method of transport. It is not only bad economics but a futile effort to attempt to prolong the life of a dying industry by compelling it to operate at a loss.

It is perhaps a pity that proposals to turn the railroads loose cannot be seriously made, for the unanimous reaction to such proposals would furnish convincing evidence that our largest massproduction industry is still essential. Shippers may argue to-day that the new forms of transportation place a limit on increases in the rate level of the railroads, but these arguments would quickly vanish if they were coupled with the logical conclusion that regulatory protection was therefore no longer necessary. Deep down in their hearts shippers know that, except for regulation, our railroads still have the power to charge them not only enough but more than enough to maintain sound credit conditions.

Owing to the efficiency of our railroads, America has enjoyed probably the lowest transportation costs in the world. The transportation charge averages only about one cent per tonmile, and it is important to point out that the difference between adequate earnings and inadequate earnings depends on a variation of as little as one mill per ton-mile to the shipper. In any mass-production industry, however, costs are directly related to volume, and when any important percentage of traffic is diverted to highways or waterways the unit cost of carrying the remaining traffic is increased, necessitating a higher charge to the public for the traffic that must still be handled by the railroads.

There is and can be no denial that railroad costs are directly related to volume, and yet we find the public accepting the fallacy that reduced railroad volume can be accompanied by a lower rate level. Reduced volume does not make possible lower rates, but on the contrary compels higher rates, and if a certain favored group of shippers is relieved of the obligation of paying its full share of the costs, then other shippers must necessarily make up the balance, assuming, of course, that private ownership and private credit are to continue.


The principles here outlined cannot be denied any more than the law of gravitation can be repealed. The popular refusal to recognize or accept the facts well illustrates the difficulties, in a democracy, of solving the problem of public regulation and private ownership. The more deeply this problem is studied, the clearer becomes the conclusion that a solution lies in the field of social relations rather than in the field of pure economics. For example, at the present time there are many advocates of the St. Lawrence Waterway as a means of reducing transportation costs to the public. Whether the construction of this waterway reduces transportation costs as a whole will depend on whether the savings to the public through the use of the waterway will more than counterbalance the increased railway costs due to a reduced railroad volume. The assumption that diversion of traffic to the waterway will permit railroad rates as a whole to be lowered is of course sheer economic nonsense.

Contradictory policies on the part of the government and its various agencies are largely responsible for the present plight of the railroads. The government is pursuing, on the one hand, methods which actually reduce the total volume of traffic handled by the roads, even to the point of compelling them to establish joint rates with waterways which divert traffic to their competitors. On the other hand, we see the Commission apparently ignoring the need to increase freight rates to meet the conditions which their orders have created. Proposals intended to face as frankly as possible the economic situations created by government policies are branded as unjust and unfair to the public. It is true, of course, that any form of discrimination between groups of shippers is clearly unfair; but the unfairness lies, in the first place, in the forced or induced diversion of traffic to subsidized competitors, because when one favored group of shippers is furnished service below cost, other groups of less fortunate shippers must assume an added burden if earnings as a whole are to remain adequate.

The confusion of thought in regard to these simple economic facts is probably more responsible for the inadequacy of the rate structure than any other single factor. The outcry of injustice from shippers whose traffic is tied to the rails has been a most effective argument against establishing an adequate level of rates, and it is far from a simple matter to demonstrate to the general public that this injustice cannot be made a valid reason for the continuance of inadequate rates if private credit is to survive. There are no physical barriers obstructing a solution of this phase of the railroad problem. The logic is simple and clear. Our failure is due to emotional, social, and political causes, not to material facts. As a nation we are blindly refusing to recognize the inevitable result of our own actions.

It is frequently argued that railroad earning power can be restored by increases in efficiency, thus avoiding the need of increasing the rates of the shippers whose traffic is tied to the rails. This reasoning is theoretically sound, but it should be added that this method of restoring earning power has been tried and has failed because the benefits of improved operation have been consistently dissipated by reductions in rates or increases in the price of everything the railroads pay for — including taxes and labor. The policy of continually postponing the establishment of an adequate rate level in the expectation of future economies has been followed for over thirty years, and it has brought disaster. If railroad credit is to be restored, the era of continual postponements must come to an end.

In Mr. Craven’s article considerable space is devoted to what might be termed the labor-pressure group. It should be pointed out, however, that the problem is not merely one of the absolute level of wages, but the relationship between wages and rates. The railroads are, so to speak, between the upper and nether millstone. Rates that are authorized as reasonable do not permit reëstablishment of credit under the present wage scale, and, conversely, the present wage scale and working conditions do not make possible a restoration of credit if the shippers are to be provided with freight service at present rates. The perplexities of our present dilemma were recognized in the Transportation Act of 1920, where it was provided that both the wage scale and the rate level should have the definite approval of governmental authority. The purpose was to avoid our present difficulty — the squeeze between the upper and nether millstone.

It should be further noted that the impasse in which the railroads now find themselves can by no means be blamed solely on the government, because a study of the history of the Transportation Act of 1920 reveals the fact that the safeguards established with such vision were eliminated with the acquiescence of railroad management. Our lack of success, therefore, in solving our problem of public regulation and private ownership can be attributed as much to the failure of the industry to understand its own problems as to the government’s failure to insist on the retention of provisions in the law which railroad management no longer regarded as necessary.

Another phase of the problem that adds to the confusion of thought at the present time is the proposal for extensive consolidation of railroads. Mr. Craven describes the obstructive forces that prevent the realization of the economies which would result from a broadscale unification of our railroad system. It should be noted, however, that the resistance to a broad plan of consolidation is not confined to management and labor. Where, in certain instances, attempts have been made to effect consolidations consistent with such a general plan, the strongest opposition has arisen in the territory affected by the change. In the case of the Minneapolis & St. Louis, even though the required readjustment appeared to be slight, proposals to absorb this system piecemeal among other systems brought about such a degree of local resistance that the Commission refused its authorization of the plan, notwithstanding the fact that the road had been in receivership for over fifteen years. Although consolidation of railroad facilities and elimination of unnecessary mileage would reduce costs, the prospects of effecting such a programme on a broad scale are far from bright, owing to resistance in the communities directly affected.

Whether the country will ever permit the concentration of traffic on certain lines, with the relegation of other lines to the status of relatively unimportant feeders, is a question that cannot be definitely answered at the present time. But, at least one thing is clear — that consolidation is not a cure-all for the ills of our railroads. This, I believe, holds true regardless of the extent to which the consolidations outlined by Mr. Craven become actualities and regardless of the economies effected. Even if we assume that all the economies outlined by Mr. Craven were actually realized, the savings would be far less than the savings that have been obtained in the past through the modernization of our railroad plant and improved methods of operation. Mr. Craven forecasts a maximum possible saving of $500,000,000 a year, whereas in the year 1937, as compared with 1921, the railroads had effected reductions in operating costs amounting to over $1,500,000,000; and even this accomplishment, three times what Mr. Craven outlines as possible through coördination, has wholly failed to solve the railroad problem. As compared with 1921, railroad earning power not only has failed to improve, but has actually declined.

The reason for this is, of course, that the social and political forces so graphically described by Mr. Craven are the determining factors in railroad earnings, and these forces do not seem to operate with any less vigor to-day than they did in 1921 before these large economies were effected. It therefore seems idle to expect that the relatively small further increase in efficiency obtainable through consolidation, such as the suggested elimination of 75,000 employees, would have any appreciable effect in controlling and limiting the power of the pressure groups that have continued to squeeze the margin of operating profit with undiminished force.


After Mr. Craven has reviewed all the factors which bear upon the present crisis he arrives at the same dilemma reached by many students of the railroad problem — how to reconcile and coördinate the rights and advantages of private ownership with the social interests which regulation by public agencies is intended to foster. For this problem, democratic government has not yet provided a satisfactory formula. Experience has not demonstrated how these complicated rights may be weighed one against the other in the scales of the interest of the public as a whole, nor indeed have limited zones been established wherein each set of rights may have predominance and definite legal protection. Despite fifty years of experiment, this government has not yet learned how to regulate industry without sapping its vitality or threatening its ultimate destruction through financial attrition.

Fortunately we are beginning to see far more clearly to-day this basic conflict between the immutable and unyielding fundamentals of economics and those social and political forces which, in a democracy, respond largely to emotional stimuli. Mr. Craven goes to the heart of the problem when he asks the question: ‘Where shall the great enterprises be poised between moderately regulated private ownership and management, and the point where an increasing public participation culminates in the totality of government ownership and operation?’

If, as generally seems to be agreed, there can be no backward step to any system of laissez faire, then the problem becomes one of finding a satisfactory formula of regulation. With increased supervision over industry by government accepted as sound public policy, the task becomes not merely the providing of efficient administration by regulatory agencies, but, even more, the ensuring of an even and impartial justice to all groups who are parties in interest.

The principle of a properly balanced relationship between the government and our railroads has probably never been more clearly described than by the President in his Salt Lake City address on September 17, 1932, when he said: —

There should be clearer definitions of the objects, powers and duties of the Commission in promoting and safeguarding all the interrelated particular interests comprehended within the public interest. Those who have invested their money or their lives in the service of the railroad; those who are dependent on its service to buy or to sell goods; those who rely upon it for the preservation of communities into which they have built their lives — all have vital interests which must be further safeguarded.

The ideal of successful regulation thus described by the President has received wide public approval. Our failure to solve our railroad credit problem is not because these principles have not been recognized in theory, but because they have been repudiated in practice.

Unless some means of carrying out these principles can be devised so that private ownership in transportation can be reconciled with some constructive form of regulation, there would appear to be no alternative other than to embark upon state capitalism or state socialism on a grand scale. The railroad industry cannot survive under private operation without a more or less continuous inflow of new private capital. Regulation must be fair and just, not on account of an abstract principle, but in order to attract this capital.

We cannot abandon the railroads and leave them to whatever fate has in store, nor can any Chinese Wall be built around their particular problem. If the system of free enterprise under public regulation is to survive, in this country, it is essential that the issue be squarely faced where it is now joined — that is, in the railroad industry.