Train Wreck

Gregory Bresiger is a senior writer with Financial Planning Magazine.

The power to tax involves the power to destroy,” Supreme Court Chief Justice John Marshall said. So does the power to regulate.

In the decades after World War II, many American railroads fought a losing battle for survival.^[1] Railroad executives had been lulled by strong performances during the war into thinking that good times were back. However, the regulatory and legislative measures were in place in the 1940s and ’50s that would destroy dozens of private lines and result in the bankruptcy of the biggest survivor, Penn Central.

Critical elements in the decline of railroads were regulators’ saddling them with money-losing operations as well as preventing them from pursuing new profitable ventures.^[2] Another important factor was the tax financing of competitors. Those politically adept rivals that persuaded lawmakers to fund them included the aircraft, truck, and auto industries. Labor unions, backed by the government, also insisted on continuing uneconomic practices, such as overstaffed train crews and outdated pay scales. Unions also stopped modernization.^[3] They exerted political power and had a say in whether some railroad consolidations took place, such as the Pennsylvania and the New York Central merger.

Governments in this era were committed to the airplane, the car, and the massive construction of highways—especially the interstate highway system that was sparked in part by national security concerns—and were hostile to railroads. Highways, almost all of them owned by governments, were given many advantages. They had dedicated sources of revenues that kept them modern and well maintained. They were untaxed, while railroads paid crushing taxes.^[4] These costs for the railroads inevitably discouraged service improvements and triggered a vicious circle. When service declined, passengers and freight customers blamed the railroads, not the lawmakers or regulators. When customer numbers declined, service deteriorated further. The process was irreversible as long as the railroad industry was heavily regulated.

The struggling railroad industry was unable to maneuver. In a free market, businesses expand or contract services based on where managers see profitable opportunities. Nimble entrepreneurs move quickly to add or drop operations. In their fight for survival in the 1940s and ’50s, private railroads wanted to fall back on freight service and quickly scuttle many passenger runs because in America freight had traditionally subsidized passenger service. Railroad executives wanted to raise some prices and cut others, trying to find a new formula for success. But they were often blocked by the regulators.

“Railroad management,” writes historian Stephen Salsbury, “found their hands tied.” He notes that most other American businesses in peacetime had the ability to set their own rates and determine “the nature of their service.”^[5] Railroads didn’t have the freedoms of other businesses. If allowed to concentrate on freight service, many roads that died in the postwar era would have had a better chance to survive. Rate deregulation and the freedom to concentrate on more profitable lines were surely the keys for ailing railroads. However, state and federal lawmakers, feeling political pressures, generally blocked these survival efforts. It would take the sudden destruction of some of the biggest lines to awaken lawmakers and regulators to their mistakes, which had been repeated over generations.

The Death of an Industry

By the late 1950s the regulatory and legislative disasters had come to fruition. Congress had pushed ahead with the Federal Highway Act of 1956 and established a highway trust fund. With up to 90 percent of a superhighway financed with federal money, state officials jumped on the bandwagon and happily paid the rest of the bill. Highways elected lots of politicians and also blinded many Americans to the drawbacks of highways, a point detailed by Robert Caro in his masterful biography of Robert Moses, Power Broker, a book about an unelected highway czar with almost unchecked power for 40 years in New York City. By the late 1950s Congress finally noticed what decades of oppressive regulations had accomplished.

There was no doubt that the railroads were in disrepair. “A mighty industry has come upon sick and precarious times,” said Senator George Smathers in congressional hearings in 1957.^[6] The chairman of the New York Central, Robert R. Young, after a concerted but futile effort to turn the railroad around, shot himself.^[7] The chairman of the Pennsylvania Railroad, after detailing the road’s skimpy 1956 profits of only $41 million on close to $1 billion in revenues, said government subsidies might soon be needed and that a government takeover was a possibility.^[8]

The experience of the once mighty Pennsylvania, a railroad that even in the midst of the Great Depression never missed a dividend, was typical of a sick, over-regulated industry, most of whose leaders just wanted to discontinue money-losing lines in favor of operations with the prospect of earnings. Freight service was hurt by rate regulation, but passenger service was a disaster many railroad executives pleaded for permission to discontinue.

According to the Interstate Commerce Commission, American railroads lost huge amounts of money in passenger service every year from 1945 to 1970. The industry-wide deficits reached $500 million to $600 million. Only freight and outside investments delayed the death of some railroads.

Highways, airlines, and even pork-barrel waterway projects were the favorites of federal lawmakers. Railroads were the ugly duckling. For instance, in 1958 some $10.3 billion was spent on the national highway program—expenditures that years later led to complaints that cities were drowning in automobile traffic. By contrast, in the same year, railroads paid $180 million in taxes to all levels of government.^[9]

A takeover of the railroads, especially the unwanted passenger lines, was discussed at the 1957 hearings. In the 1950s and ’60s the problem continued to fester. By the 1970s, the massive train wreck finally happened. Dozens of railroads failed, mostly in the east, where they were more dependent on passenger service. The biggest failure was Penn Central, but others included the Reading; Central of New Jersey, New York, New Haven & Hartford; Erie Lackawanna; Boston & Maine; Lehigh Valley; and the New York, Ontario & Western.

The Promise of Government Railroads

Government railroads had been the dream of American progressives and socialists going back to the early part of the century. Writer Frank Norris had planned a series of novels to depict the predatory nature of railroads but never completed the “Trilogy of Wheat” saga. American socialist parties had consistently advocated nationalization, as did parts of the “progressive” wing of the Republican and Democratic parties. Economic populist William Jennings Bryan advocated government ownership in the 1890s after a visit to Czarist Russia, where the railroads were owned by the state.^[10] During World War I the government took over the railroads and approved huge new costs that were imposed on the owners when the roads were handed back after the war.^[11]

In The Promise of American Life (1909), progressive Herbert Croly opposed outright nationalization of the railroads, but argued for gradual government takeover, with the industry slowly accepting a greater role for government management. Croly expected railroad entrepreneurs to dig their own graves; a variant of Lenin’s prediction that the capitalist would sell the rope to his murderers. “In return, for instance, for the benefit of government credit, granted under properly regulated conditions,” Croly wrote, “the railroads might submit to the operation of some gradual system of appropriation, which would operate only in the course of several generations, and the money for which could be obtained by the taxation of railroad earnings.”^[12]

This was an amazing scenario, given that in 1909 railroads were one of the more profitable parts of the American economy. Still, Croly could figure a way to nationalize them. A system of “gradual” appropriation would come through intense regulation that turned investors, passengers, and business customers away from railroads. Another destructive form of regulation, a set of outdated accounting standards, had been imposed by the ICC. Those standards made it difficult for railroads to correctly price services. “I.C.C. accounting,” complained one railroad executive, “was not only obsolete, but actually impossible to utilize effectively in controlling costs.”^[13]

“Be Careful What You Wish For”

When the “promise” of government railroads was achieved in the early 1970s, with the bankruptcy of the Penn Central and the takeover of service by a government corporation, socialists and other friends of government ownership would find they had achieved a Pyrrhic victory. Although Croly and Bryan, among others, had argued that government would bring coordination and better service to the rails, Americans today, after more than two decades of Amtrak, are not impressed.

Government ownership of railroads did nothing to reverse generations of disgust with passenger railroads. Amtrak, which inherited this shaky edifice of regulated railroads, found it was committed to featherbedding practices and lines that could not be discontinued because of political pressure.^[14] Frequent promises to run the trains on a self-sustaining basis never were kept.

Amtrak subsidies, which tend to benefit the rich because the ridership is overwhelmingly high income, have totaled some $13 billion between 1972 and 1997.^[15] Despite all the marketing efforts and government “investment,” only a tiny minority of Americans use the government railroad. An Amtrak president, Roger Williams, conceded that the road’s pathetic ridership numbers constitute no more “than a drop in the bucket” in the nation’s transportation system.^[16] Government ownership and frequent promotion and marketing of Amtrak had done nothing to persuade people to use trains again.

The problem, in a word, was politics. Unlike their transportation rivals, private railroad executives had never been good political players. For instance, in the 1970s and ’80s, aircraft and automobile lobbyists effectively argued that Lockheed and Chrysler could not be allowed to fail. Government loan guarantees saved those poorly run corporations. In the Penn Central crisis, there were no loan guarantees. With the birth of Amtrak in 1971, the railroads have become a plaything of politicians, with routes shaped to fit the pressures applied by key congressmen.^[17] Red ink exploded.

It was once inconceivable that the government would own and operate America’s railroads; they were at the foundation of industrialization and so profitable they were a big part of the early Dow Jones Industrial Average. The debacle of the railroads is a stark reminder of what happens when government intervenes in the economy. The power to regulate is the power to control. It may not be the quickest method, but it is probably the surest way to socialism and then to ruin.

Notes

1. See Ernest W. Williams, The Regulation of Rail-Motor Rate Competition (New York: McGraw Hill, 1958).
2. The Interstate Commerce Commission, in decisions in the 1930s, ’40s, and ’50s repeatedly prevented railroads from moving into other forms of transport such as air and water. See Donald M. Itzkoff, Off the Track: The Decline of the Intercity Passenger Train in the United States (Westport, Conn.: Greenwood Press, 1985), p. 49.
3. John F. Stover, The Life and the Decline of the American Railroad (New York: Oxford University Press, 1970), p. 217.
4. See Clarence B. Carson, Throttling the Railroads (Irvington-on-Hudson, N.Y.: Foundation for Economic Education, 1971), pp. 90–91.
5. Stephen Salsbury, No Way to Run a Railroad: The Untold Story of the Penn Central Crisis (New York: McGraw Hill, 1982), p. 49.
6. Itzkoff, p. 44.
7. Salsbury, p. 83.
8. Itzkoff, p.45.
9. Robert Sobel, The Fallen Colossus (New York: Weybright and Talley, 1977), p. 222.
10. Charles Morrow Wilson, The Commoner: William Jennings Bryan (Garden City, N.Y.: Doubleday), pp. 289–303.
11. Merle Fainsod, Government and the American Economy (New York: Norton, 1959), pp. 163–64. Also see Walker Hines, The War History of American Railroads (New Haven: Yale University Press, 1928). Hines says private railroads suffered low profits after they were handed back to private control and many managers of private roads “were intensely dissatisfied with the labor situation” (pp. 226–30).
12. Herbert Croly, The Promise of American Life, Arthur Schlesinger Jr., ed. (Cambridge, Mass.: Belknap Press, 1965 [1909]), p. 377.
13. Salsbury, p. 151.
14. Rodger Bradley, Amtrak: The U.S. National Railroad Passenger Corporation (Dorset, Mass.: Blandford Press, 1985), pp. 123–24.
15. Stephen Moore, “Amtrak Subsidies: This Is No Way to Run a Railroad,” “This Just In,” May 22, 1997, Cato Institute Web site, www.cato.org.
16. Itzkoff, p. 3.
17. George W. Hilton, Amtrak (Washington, D.C.: American Enterprise Institute, 1980), especially pp. 19–30.