Mr. Semmens is an economist for the Arizona Department of Transportation and Is studying for an advanced degree In business administration at Arizona State University.
With increasing frequency, regulatory matters have been entering into discussions of national economic policy, and for good reason. As the nation has become more concerned with inflation and its impact upon economic growth, any option which promises some hope of reducing the cost of providing basic services is a prime candidate for serious consideration.
The potential cost savings that could be achieved through regulatory reform are substantial. All told, current government regulation of business is resulting in an annual burden of $100 billion.1 The great bulk of this cost is caused by inefficiencies imposed by regulatory constraints. These costs are not merely transfer payments. It is not as if the money is being shifted from one pocket to another. Instead these costs are described as deadweight losses.
In transportation the regulatory burden has been estimated at $10 billion or more per year. Typical incidents include truckers’ empty backhauls, circuitous routing, and unnecessary extra freight handling (and sometimes mishandling) due to regulatory policies and procedures. The waste is comprised of unnecessarily burned fuel, needless wear and tear on equipment, and unproductive use of the time consumed by operations personnel. Not included is the additional consumption of management’s time in coping with the complex rules and procedures of the regulatory establishment.
Not surprisingly, the revelation of the enormous potential savings from deregulation has inspired a rising groundswell of opinion in favor of such a move. Among academic economists the consensus is virtually unanimous, and has been for the last decade, that at least some deregulation is necessary. While lawmakers have been somewhat slower to change their minds, recent stirrings in the direction of deregulation have been observed.
In 1976 the Railroad Revitalization and Regulatory Reform Act offered some minor reforms in surface transport regulation. The bill allows some flexibility in rate making over what had been the rule to this point. In November of 1977, H.R. 6010 was passed and signed into law making entry into the air cargo industry virtually unrestricted as well as giving operators wide discretion in setting rates. The recently passed Kennedy-Cannon bill on airline deregulation allows greater price competition, limited automatic entry of new routes by existing carriers, and significantly relaxed entry requirements for new applicants.
Now that airline regulatory reform is accomplished, Congress is expected to take up the issue of motor transport regulation. The trend seems clearly to be toward more deregulation.
The traditional explanation of the motive for government regulation of transportation has been that it is necessary to correct the imperfections of the free market. Theoretically, the regulators would step in to insure that the public would not be victimized by a predatory industry. In practice, regulation has not worked this way. The old myths die hard, though, and regulation as a protector of the consumer is almost an article of faith. Perhaps it is significant that while the rest of society is "enjoying" the "protection" of regulation in motor carriage, a staff task force recommendation to the ICC urged that U.S. government shipments be subject to unrestricted competition among common carriers?
A growing number of economic studies of regulation have come to the conclusion that this system is a burden upon society. The question must persist, then why must regulation continue? Why can’t we do away with it? There is the continuing vitality of the myth of consumer protection. But such a myth does not survive on its own. It must be nurtured and propagated. Who would do such a thing? What would be the motive?
Economist George Stigler has suggested that a good working hypothesis is that regulation is promoted by a relatively small group of beneficiaries whose individual stake in the system is much larger than the individual stakes of the more numerous victims of the system.3 These few beneficiaries are able to collectively induce the government to enforce policies beneficial to themselves. Their individually larger stakes enable them to outbid opponents and to "purchase" a regulatory system from the Government.4
The current state of affairs is economically wasteful. It wastes fuel on needless motion caused by regulatory restrictions. It wastes capital tied up in excess capacity both in private and common carrier equipment. It wastes the irreplaceable time of individuals in unnecessary travel, in the regulatory agency itself, and in the time consumed in learning a complex compilation of do’s and don’t's in the provision of transportation services. Unmeasured social costs of the regulatory scheme include contributions to increased traffic congestion and pollution as well as an indeterminable amount of opportunity cost in other benefits that have been forgone over the years in order to finance the waste inherent in the regulatory process.
Perhaps the most important discovery to be made is that the mere selection of "better" regulators is no way out of the current difficulties. The problems are fundamental and cannot be attributed to incompetent or corrupt regulators. No matter how well qualified or carefully chosen any future regulators might be, no improvement can be expected unless crucial changes in the system are made.
As a minimum of reform, two aspects of the current system must be dealt with. First, the restrictions on entry must be eliminated. Second, the imposition of price controls must be discarded.
Strong, entrenched transportation lobbies have stood in opposition to any reforms which would dilute their monopoly powers. The major arguments used to prevent deregulation include: (1) that transportation is a natural monopoly, with significant economies of scale, and therefore, service can be provided more cheaply and efficiently if needless competition is banned, (2) that the absence of regulation would lead to chaotic conditions, which would lead in turn to monopoly, (3) that existing carriers have already paid substantial sums for operating rights and it would be unfair to deprive them of the expected monopoly profits without compensation, and (4) that the current system is a known condition and that any change could be a change for the worse.
The Natural Monopoly Argument
The contention that transportation is a natural monopoly has no basis in economic fact. Historically speaking, at one time the railroads may have had some monopolistic characteristics, but even then, prior transport modes were still in existence. Aside from this, conditions have changed greatly during the last century. In no way can the railroads be said to monopolize transportation. Quite the contrary, railroads have taken on the aspects of a declining industry. A key component of the changes in transportation has been the construction of a comprehensive network of public highways. There is virtually no place in America that cannot be reached by road. The highway system has, naturally, been a boon to the motor carrier industry.
The critical element of a so-called natural monopoly is ever-increasing economies of scale. This implies large capital investment in fixed assets. There is nothing about the motor carrier industry which is consistent with the requirements of natural monopoly. In fact, economists have found significant diseconomies of scale when annual revenues exceeded $10 million.5 It is apparent, then, that transportation is not a natural monopoly. The argument that it is seems to rely upon conditions more relevant to the nineteenth century. At best, such an approach is outdated.
The Chaos Argument
The argument that the absence of regulation would lead to chaos is closely tied to the historical circumstances preceding motor carrier regulations. During the Great Depression, business conditions were less than ideal. Bankruptcies occurred with unpleasant frequency. A number of government programs designed to reduce competition and promote a sharing of declining business volume were introduced. The National Recovery Administration set up procedures for price fixing in broad categories of industry. This period also saw the rise of the "fair trade" concept, which allowed manufacturers to fix the prices at which their products could be resold. Rigid controls over agriculture were also adopted during this period.
The passing of the period of depression emergency, combined with a greater appreciation of the impacts of this type of price fixing and output control on the availability and price of consumer goods, has seen the elimination or curtailment of such programs (excepting the recent infatuation with wage and price control as an inflation "cure") in virtually every sphere except transportation. Chaos cannot be said to have prevailed in the deregulated spheres. In fact, the quantity and quality of consumer goods have vastly improved in subsequent years.
There is no reason to anticipate that transportation would prove an exception to this experience. Separate from the strident antideregulation propaganda, regulated motor carriers have privately expressed confidence in their ability to thrive even without regulatory protection.
They cite their experience, management expertise, financial strength, and the scope of the service they can offer, as the basis of this confidence.6 We must conclude that the fear of chaos is unsubstantiated and unrealistic as a scenario for a post-deregulation environment.
The Equity Argument
The third major area of argument poses an entirely different problem. The reapers of the monopoly profits may, in many instances, already have sold their special rights. The purchasers may be earning only a normal rate of return after accommodating the capitalized value of the operating right, i.e., future monopoly revenues simply compensate the carrier for the funds expended to obtain the monopoly rights. Deregulation without compensation would constitute a change in the rules—inflicting capital losses on those firms which purchased these operating rights.
While this line of argument has some merit in the question of equity, it is no justification in itself for perpetuation of a system which continues to generate monopoly gains at the expense of consumers. A number of solutions to this dilemma have been suggested. The hard line approach takes the position that no firm is guaranteed against losses from bad investments. The purchase of an operating right would fall into the category of a bad investment. Since management did not correctly anticipate future industry conditions, it must bear the penalty for this lack of foresight, vis-a-vis the evaporation of value of the operating rights.
A second approach has suggested that the government buy all the operating rights from the regulated carriers. Variations of this theme hinge on the valuation of the rights.
A third approach envisions a phased deregulation program. In this way, competition would be gradually increased and the firms would be eased into the new environment. The problem of compensation for operating rights would not be wholly resolved. The costs of regulation would be extended. The major appeal of this proposal is that it is a compromise which attempts to spread the costs of readjustment over time and between producers and consumers.
None of the above solutions is completely satisfactory. Phased deregulation would prove the most costly, with the bill ranging from the current social loss of around $10 billion per year to lesser amounts as the distortions are removed. The longer the transition, the higher the cost. In comparison, outright purchase of the existing operating rights at their current market value could cost over $4 billion.
The Fear of Change Argument
The last objection to deregulation—the fear of change—is no objection at all. The philosophy of "better the evils you know than those you don’t" is contrary to the American spirit of enterprise if it is to be used to block reform of an obviously deficient system. It is true that deregulation would drastically modify the operating environment of regulated transport, but this is the whole point. The general welfare could be improved by changing an operating environment that misallocates resources. Reluctance to make the necessary adjustment is akin to the postponement of surgery to correct a debilitating ailment. The situation can only get worse.
This is not to say that corrective measures would be painless. But the discomfort surely would be milder than proclaimed by proponents of continued regulation. Other jurisdictions have transportation systems with less regulation than ours. In 1954 Australia deregulated its motor carrier industry. Contrary to the prognostications of the pro-regulators, the subsequent turn of events was quite salutary. The resulting competition has not been "destructive." It has not resulted in monopoly. Both truck and rail services have improved. No shortage of capacity has resulted. Shippers have been satisfied and carriers have thrived.7
Our standard of judgment for evaluating the transportation industry must not get hung up on a futile pursuit of perfection. There will always be problems with any system. No approach can cover all contingencies. The important consideration is to find a policy that will lead to the best possible results.
The perceived shortcomings of unregulated transport are less costly than regulation. So, let regulation be evaluated as it has performed, not in some idealistic sense in which it can be used to fix the imperfections of the marketplace at no cost to society.
‘Estimate by Murray Weidenbaum of the Center for the Study of American Business, Washington University, St. Louis, Missouri.
=Improving Motor Carrier Entry Regulation (Washington, D.C.: Interstate Commerce Commission, July 6, 1977).
3George Stigler, The Citizen and the State: Essays on Regulation (Chicago: University of Chicago Press, 1975).
•Sam Peltzman, "Toward a More General Theory of Regulation," Journal of Law and Economics (August, 1976).
5Richard Klein, The Cost Structures of the Regulated Trucking Industry (Washington, D.C.: U.S. Department of Transportation, 1975).
6Evaluation of Potential Changes to Federal Economic Regulations Governing Private Carriage (Washington, D.C.: U.S. Department of Transportation, December 6, 1974).
;James C. Nelson, "The Economic Effects of Transport Deregulation in Australia," Transportation Journal (Winter, 1976), pp. 48-71.