Author’s note:
This series of blogposts will be my paraphrased notes on a lecture given by Murray Rothbard called “The American Economy and the End of Laissez Faire“. This means the post will contain some word for word transcriptions of Rothbard’s words and some editorializing and rephrasing of my own. I will not distinguish between the two.
In response to this very competitive (and perhaps overbuilt) American railroad system, starting in the late 1860s railroads were desperately attempting to start price fixing cartels that would allow them to raise their rates in a competitive environment where prices were seemingly always falling.
While railroads were the first big business they were also the first cartelists. There is a great book on which you can learn more of this topic called Railroads and Regulations by Kolko.
The railroad cartel was headed by J. P. Morgan, who by the early 1870s was now the top railroad investment banker. In trying to form a cartel, Morgan and associates hoped to cut shipments, meet quotas, and raise rates but failed miserably. We will touch more on Morgan’s involvement later.
Internal price cutting and external sources of new competition (such as new rail lines) would always undercut cartel prices. In this sense, the market would always stay one step ahead of Morgan in his attempts to cartelize the industry, organic competition would naturally sever his attempts at capture.
Railroads referred to these cartels as “pools” (in the sense that they pooled their resources). In some cases, one man might own two railroads. The managers (sales and operations) for each railroad were different people/teams. The career of a sales manager was based around how much he could sell, and such incentive would drive sales managers to disobey the orders of the owners and undercut the cartel in order to pick up more business.
So even in cases where an owner of two railroads wished to form a cartel and cut shipments & prices, managers would find ways to undercut this arrangement with discounts and bulk rates. Ego and livelihood were simply too wrapped up in performance for this not to be the case.
The Iowa Pool
One of the most important cartels was called the Iowa Pool, there is a great book on this topic written by Grodinsky called “The Iowa Pool” (Grodinsky was considered one of the top railroad historians of his day).
What the Iowa Pool dealt with was the Omaha/Chicago market specifically (which was an extremely important market), which dealt with goods coming from the eastern Seaboard to the city of Chicago.
There were 3 top railroads competing for the Illinois & Iowa market share.
The 3 routes for the Chicago destination were
1. Chicago and Northwestern Railroad
2. Chicago Rock Island & Pacific Railroad (Rock Island Line)
3. Chicago, Burlington and Quincy Railroad
The Burlington system was owned by a man named James Joy (the railroad king who was bequeathed rights to the Cherokee lands while his brother in law was the US Secretary of the Interior).
He was heavily invested in by the Boston Capitalists, and also controlled several other railroads in the Burlington system.
The Rock Island Railroad & the Chicago Northwestern were both owned by a man named John Tracy.
Tracy and Joy figured a cartel for all 3 routes would be highly desirable, not only could they theoretically raise the rates and capture exorbitant profits with such a cartel, but they could also hurt the Union Pacific transcontinental railroad by making them pay to transfer into the Chicago routes.
The cartel was formed in 1870 and collapsed by 1876. While on paper it seems like an easy endeavor to simply cut shipment rates while raising prices, in reality, there was constant cheating between the 3 railroads. Managers for Tracy would secretly undercut one another. Amongst all of this, all 3 lines were constantly asking for higher rates from Union Pacific for goods inbound and outbound to Chicago.
In addition to all of the internal cheating, eventually Union Pacific decided to crush the Iowa Pool cartel by acquiring a bunch of smaller railroads and devising an alternate route into Chicago from St. Louis. By forming a new Chicago line through the acquisition of older or smaller lines, Union Pacific was successfully able to undercut the Iowa Pool cartel.
This is the free market in action. Even under the most ideal conditions, cartels can never last for very long because competition finds a way.
