What the Near-Death of the Railroad Industry Can Teach American Business Leaders
Business executives deal with the spiraling cost of complying with government regulation every day. This burden has become so large and pervasive that many have come to accept it as inevitable. Business leaders can't imagine, and certainly don't make plans for, a future in which that burden is lifted. The history of the U.S. railroad industry, however, suggests that fighting to lift the weight of government restrictions is possible — and profitable.
The heavy regulation that besets America's economy is a legacy of the Progressive era, when the view that civic-minded bureaucrats could effectively regulate our economy became dominant. Congress increasingly approached legislation as a way to set aspirational goals, while delegating the detailed edicts of policy to the executive branch. Independent agencies — supposedly immune to political influence — accrued massive powers to design and implement regulations, which have become the most important source of lawmaking in modern times.
Progressives rode the populist wave that arose in response to the emergence of the nation's first large, nationwide firms, in order to push through an array of regulatory initiatives — railroad regulation, then antitrust regulation. Railroads were the first major sector of the economy to experience this new federal intervention. In 1887, Congress enacted the Interstate Commerce Act, which created the Interstate Commerce Commission, with broad support from politicians from both major parties, as well as from a number of railroad industry executives.
However, few understood the complex pricing and operational policies of the emerging industries of the time. And, as Nobel Laureate economist Ronald Coase noted, that which policy makers do not understand will often be attributed to anti-consumer, anti-competitive practices. Pro-regulation railroad executives, having grown weary of "rate war" competition and their inability to sustain private cartels, welcomed and harnessed this ignorance to push for interventions they believed would benefit their firms. But as Henry Varnum Poor, founder of the company that became Standard & Poor's, warned at an 1886 Senate hearing:
Our governments, state and national, have very little genius or faculty for the supervision of railroads. They can provide that reports be made which shall give an adequate idea of the condition of railroad companies and of the manner in which they are conducted; that done, public opinion must do the rest.
The nascent ICC was forced to rely on rail industry leaders, as few at the newly created agency had any expertise in rail transport. This led to what leftist historian Gabriel Kolko and others called "regulatory capture" — the notion that regulations actually benefited the regulated firms, rather than consumers. Legislation in 1910 established the United States Commerce Court to adjudicate ICC disputes. However, the Commerce Court was abolished only three years later, after one of its judges was impeached for accepting bribes from representatives from the railroads and the coal industry.
Following the Commerce Court's dissolution, the ICC took a more aggressive approach to regulating the railroad industry. In addition, Congress significantly expanded the ICC's administrative jurisdiction, with pipelines, telecommunications, motor carriers and domestic waterborne carriers becoming subject to ICC regulation during the early decades of the 20th century.
Rail pricing strategies became rigid over the following decades. The ICC became more interested in setting prices to minimize competition between firms — and between transportation modes — than in policing alleged anti-competitive behavior. As a result, the railroads went on to experience what became known in the industry as a century-long going out of business sale.
By the 1970s, the railroads faced imminent collapse. Much of the Northeast's rail network had been nationalized following the bankruptcies of the Penn Central and six other railroads — a fate that seemed all too likely for the rest of the nation's private rail system. Policy makers saw no other alternative but to grant the industry economic liberalization, driven by an unusual confluence of economic and intellectual forces, including liberalization in other industries.
Economic liberalization efforts were already under way for airlines and trucking. There were even some partial steps to liberalize communications and banking. Future Treasury Secretary John Snow, Civil Aeronautics Board Chairman Alfred Kahn, and others within the bureaucracy sought to liberalize these industries. Yet, it was not until railroad executives lent their support to these efforts that deregulation become a reality.
Those efforts led to Congress' enactment of the Staggers Rail Act of 1980, which largely freed the railroads from ICC oversight and gave them the freedom to introduce flexible rates. The Act helped return America's railroads to profitability by allowing them to gain traffic back from other modes of transportation, such as trucking. Those profits allowed private rail firms to renovate their deteriorated infrastructure. That private network investment has totaled more than half a trillion dollars since 1980.
The railroads' experience provides valuable lessons for those seeking to address the excesses of regulation.
Regulations create costs by denying firms the flexibility to operate in a highly competitive world that demands swift, creative responses to emerging, unforeseen challenges.
Alleged "market failures" tend to be less costly than government failures. Regulations, usually intended to address perceived market failures, all too often fail to live up to their expected gains. Instead, they often increase costs while the benefits rarely materialize.
Businesses, like railroads a century ago, too often take a fatalistic approach to regulation and seek accommodation. For example, they may endorse one national regulator as less burdensome than multiple state regulators, even though competition among the states could result in the less burdensome regulators emerging as dominant.
Fatalism does little to encourage businesses from resisting overregulation. It also doesn't help in making the moral, intellectual, and economic case for competitive free markets. If the pervasive Progressive Zeitgeist is to be resisted, it will take much more than rolling back a few regulations or making them somewhat more favorable to certain firms and sectors. Current policies have resulted in a century of ever more restrictive regulations and an ever-increasing burden on the entrepreneurial sector of the economy.
Business surveys routinely recognize regulations as one of the most serious impediments to innovation and growth. Yet, to date, business leaders have mounted little serious resistance. Instead, they often choose appeasement of their critics, much like the railroads did in the late 19th century and the decades following. While some might gain some short-term benefits from such tweaking, businesses in general find their wealth-creating capabilities limited.
In part, these failures illustrate the tendency of business to go it alone, rarely reaching out to truly pro-market activist and academic allies. Groups favoring an expanded role for government have been more entrepreneurial, creating effective alliances between moral-intellectual and economic forces. For example, trial lawyers and environmentalists work closely to advance their common policy goals, as do unions and consumerist groups. Such "Baptist and Bootlegger" alliances address the reality that policy change in market democracies requires moral and intellectual, as well as political and economic support.
Railroads sought economic liberalization after almost a century of struggling under an ever more restrictive regulatory regime that left them facing ruin. They succeeded in impressive manner — a once-moribund industry recovered rapidly and is now again a vibrant part of the American economy. The rail industry's 11th-hour investment in promoting economic freedom may be one of the most profitable investments of the last few decades. Shouldn't more American businesses explore similar investments in liberalization?