Big Business and the Rise of American Statism: The Roots of Regulation

As Gabriel Kolko demonstrates in his masterly The Triumph of Conservatism and in Railroads and Regulation, the dominant trend in the last three decades of the nineteenth century and the first two of the twentieth was not towards increasing centralization, but rather, despite the growing number of mergers and the growth in the overall size of many corporations,

While Kolko does not consider the causes and context of the economic crises which faced businessmen from the 1870s on, we can at least summarize some of the more relevant aspects here. The enormous role played by the state in American history has not yet been fully investigated by anyone. Those focusing on the role of the federal government in regulating the economy often neglect to mention the fact that America’s ostensive federalist system means that the historian concerned with the issue of regulation must look to the various state governments as well. What he will find already has been suggested by a growing number of historians: that nearly every federal program was pioneered by a number of state governments, including subsidies, land grants and regulations of the antitrust variety. Furthermore, often neglected in these accounts is the fact that the real process of centralization of the economy came not during the Progressive Era, but rather (initially) during the Civil War, with its immense alliance between the state and business (at least in the more industrialized North). Indeed, such key figures in the progressive Era as J. P. Morgan got their starts in alliances with the government of the North in the Civil War. The Civil War also saw the greatest inflationary expansion of the monetary supply and greatest land grants to the railroads in American history. These and other related facts mean that an enormous amount of economic malinvestment occurred during and immediately after the Civil War, and the result was that a process of liquidation of malinvestment took place: a depression in the 1870s.

It was this process of inflationary boom caused by the banking and credit system spurred by the government and followed by depressions, that led the businessmen and financial leaders to seek stabilizing elements from the 1870s on. One of the basic results of this process of liquidation, of course, was a growth in competition. The thesis of the Kolko books is that the trend was towards growing competition in the United States before the federal government intervened, and that various big businessmen in different fields found themselves unable to cope with this trend by private, economic means. Facing falling profits and diffusion of economic power, these businessmen then turned to the state to regulate the economy on their behalf. What Kolko and his fellow revisionist James Weinstein (The Corporate Ideal in the Liberal State, 1900-1918) maintain is that business and financial leaders did not merely react to these situations with concrete proposals for regulations, but with the ever more sophisticated development of a comprehensive ideology which embraced both foreign and domestic policy. Weinstein in particular links up the process of businessmen turning to the state for favors in response to problems which they faced and the modern “corporate liberal” system. he maintains that the ideology now dominant in the U.S. had been worked out for the most part by the end of the First World War, not during the New Deal, as is commonly held, and that the “ideal of a liberal corporate social order” was developed consciously and purposefully by those who then, as now, enjoyed supremacy in the United States: “the more sophisticated leaders of America’s largest corporations and financial institutions.” ² In examining this thesis, I shall focus predominantly on the activities of the National Civics Federation (NCF), a group of big businessmen that was the primary ideological force behind many “reforms.”

Since the basic pattern of regulation was first established in the case of the railroads, a glance at this industry will set the basis for an examination of the others.

American industry as a whole was intensely competitive in the period from 1875 on. Many industries, including the railroads, had overexpanded and were facing a squeeze on profits. American history contains the myth that the railroads faced practically no competition at all during this period, that freight rates constantly rose, pinching every last penny out of the shippers, especially the farmers, and bleeding them to death. Historian Kolko shows that:

The two major means used by competitors to cut into each other’s markets were rate wars (price cutting) and rebates; the aim of business leaders was to stop these. Their major, unsuccessful, tool was the “pool” which was continuously broken up by competitive factors. ⁴ The first serious pooling effort in the East, sponsored by the New York Central, had been tried as early as 1874 by Vanderbilt; the pool lasted for six months. In September 1876,a Southwestern Railroad Association was formed by seven major companies in an attempt to voluntarily enforce a pool; it didn’t work and collapsed in early 1878. Soon it became obvious to most industrial leaders that the pooling system was ineffective.

In 1876 the first significant federal regulatory bill was introduced into the House by J. R. Hopkins of Pittsburgh. Drawn up by the attorney for the Philadelphia and Reading Railroad, it died in committee.

By 1879, there was “a general unanimity among pool executives … that without government sanctions, the railroads would never maintain or stabilize rates.” ⁵ By 1880, the railroads were in serious trouble; the main threat was identified as “cutthroat competition.”

Far from pushing the economy toward greater centralization, economic forces indicated that centralization was inefficient and unstable. The push was towards decentralization, and smaller railroads often found themselves much less threatened by economic turns of events than the older, more established and larger business concerns.

Thus the Marxist model finds itself seriously in jeopardy in this instance, for the smaller firms and railroads, throughout the crises of the 1870s and 1880s often were found to be making larger profits on capital invested than the giant businesses. Furthermore, much of the concentration of economic power which was apparent during the 1870s and on, was the result of massive state aid immediately before, during, and after the Civil War, not the result of free market forces. Much of the capital accumulation – particularly in the cases of the railroads and banks – was accomplished by means of government regulation and aid, not by free trade on a free market.

Also, the liberal and conservative models which stress the supposed fact that there was growing centralization in the economy and that competition either lessened or became less intense, are both shaken by historical facts. And we already have seen that it was the railroad leaders, faced with seemingly insurmountable problems, who initiated the drive for federal government regulation of their industry.

Rate wars during 1881 pushed freight rates down 50 percent between July and October alone; between 1882 and 1886, freight rates declined for the nation as a whole by 20 percent. Railroads were increasingly talking about regulation with a certain spark of interest. Chauncey Depew, attorney for the New York Central, had become convinced “of the [regulatory commission’s] necessity … for the protection of both the public and the railroads. ⁶ He soon converted William H. Vanderbilt to his position. ⁷

Agitation for regulation to ease competitive pains increased, and in 1887, the Interstate Commerce Act was passed. According to the Railway Review, an organ of the railroad, it was only a first step.

The Act was not enough, and it did not stop either the rate wars or rebates. So, early in 1889 during a prolonged rate war, J. P. Morgan summoned presidents of major railroads to New York to find ways to maintain rates and enforce the act, but this, too, was a failure. The larger railroads were harmed most by this competition; the smaller railroads were in many cases more prosperous than in the early 1880s. “Morgan weakened rather than strengthened many of his roads … [and on them] services and safety often declined. Many of Morgan’s lines were overexpanded into areas where competition was already too great.” ⁸ Competition again increased. The larger roads then led the fight for further regulation, seeking more power for the Interstate Commerce Commission (ICC).

In 1891, the president of a midwestern railroad advocated that the entire matter of setting rates be turned over to the ICC. An ICC poll taken in 1892 of fifteen railroads showed that fourteen of them favored legalized pooling under Commission control.

Another important businessman, A. A. Walker, who zipped back and forth between business and government agencies, said that “railroad men had had enough of competition. The phrase ‘free competition’ sounds well enough as a universal regulator,” he said, “but it regulates by the knife.” ⁹

In 1906, the Hepburn Act was passed, also with business backing. The railroad magnate Cassatt spoke out as a major proponent of the act and said that he had long endorsed federal rate regulation. Andrew Carnegie, too, popped up to endorse the act. George W. Perkins, an important Morgan associate, wrote his boss that the act “is going to work out for the ultimate and great good of the railroad.” But such controls were not enough for some big businessmen. Thus E. P. Ripley, the president of the Santa Fe, suggested what amounted to a Federal Reserve System for the railroads, cheerfully declaring that such a system “would do away with the enormous wastes of the competitive system, and permit business to follow the line of least resistance” – a chant later taken up by Mussolini.

In any case, we have seen that (a) the trend was not towards centralization at the close of the nineteenth century – rather, the liquidation of previous malinvestment fostered by state action and bank-​led inflation worked against the bigger businesses in favor of the smaller, less overextended businesses; (b) there was, in the case of the railroads anyway, no sharp dichotomy or antagonism between big businessmen and the Progressive Movement’s thrust for regulation; and (c) the purpose of the regulations, as seen by key business leaders, was not to fight the growth of “monopoly” and centralization, but to foster it.

The culmination of this big-​business-​sponsored “reform” of the economic system is actually today’s system. The new system took effect immediately during World War I when railroads gleefully handed over control to the government in exchange for guaranteed rate increases and guaranteed profits, something continued under the Transportation Act of 1920. The consequences, of course, are still making themselves felt, as in 1971, when the Pennsylvania Railroad, having cut itself off from the market and from market calculation nearly entirely, was found to be in a state of economic chaos. It declared bankruptcy and later was rescued, in part, by the state.

Reprinted, with permission, from the February 1971 (pp. 12-18) and March 1971 (pp. 9-12) issues of Reason magazine. Copyright 2004 by Reason Foundation, 3415 S. Sepulveda Blvd., Suite 400, Los Angeles, CA 90034: www​.rea​son​.com.

Originally delivered as a speech before the first convention of the Society for Individual Liberty, University of Pennsylvania, 15-16 November 1969.