Fetter The Principles of Economics

regarding this movement given by different authorities, as there is no generally accepted rule by which to determine the selection of the companies to be included in the lists, and as the conditions are changing from day to day. A competent financial authority1 gives the following figures regarding the “industrial” trusts (manufacturing and commercial) and gas trusts, organized in the United States between 1860 and 1899, not including combinations in such businesses as banking, shipping, railroad transportation, etc. The figures refer to the reorganization and consolidation of industries into larger units, some of which have much and others little or no monopoly power.

The number organized and the capital represented by this movement in the last of these decades are eight times as great as in the thirty years preceding. In the last ten years can be traced the influence of general industrial conditions.

(p.317)

The first three years enjoyed great prosperity and the number of combinations were six, thirteen, thirteen. In 1893, the number was less, but the total nominal capital (preferred and common stocks and bonds) was still the greatest it had ever been in any year. Then came the period of depression, 1894–97, when both the numbers and the capital were comparatively small. Then followed the period of the greatest formation of trust companies the world has ever seen

1 Compiled from data given by “The Journal of Commerce and Commercial Bulletin,” reprinted in “The Commercial Year Book,” Vol. V, 1900, pp. 564– 569.

which extended from 1898 to 1901, and ended in 1902.

In a list recently revised by another authority1 it appears that the data for all “industrial trusts” (nearly, but not quite, comparable with the foregoing figures), are in round numbers as follows:

These figures would indicate that the industrial trusts more than doubled within four years, most of the growth being within three years. The same authority, in a more comprehensive list, classifies in six groups all so-called “trusts” of the United States, at the date of January 1, 1904, as follows (the figures just given above are the totals of the first three groups):

(p. 318)

§II. ADVANTAGES OF LARGE PRODUCTION

1.A great technical advantage of large production is the better and fuller use of machinery. A large factory with a large output can keep a special machine adjusted for each pattern and

process, whereas in a small factory much time and energy are wasted in adjusting one machine for various processes. The machinery in a large factory is thus more fully utilized. Compare the machinery used in a large ax-factory with that used in twentyfive small axfactories having the same total output: the one hundred and fifty workmen in twentyfive small factories would use twenty-five shears, one hundred trip-hammers, fifty grindstone-pits, fifty polishingframes, a

1 John Moody, “The Truth About the Trusts,” 1904.

total of two hundred and twentyfive machines; the same one hundred and fifty men in one large factory would require three shears, a saving of twenty-two; twenty trip-hammers, a saving of eighty; thirty-seven grindstone-pits, a saving of thirteen; thirty polishingframes, a saving of twenty; a total of ninety machines, a saving of one hundred and thirtyfive machines. The difference in cost due to machinery is not so great as these figures indicate, as the unused machines last longer; but in the small factory there is more depreciation from rust and decay, and a larger proportionate investment of capital for which interest must be earned. The average amount of stock and materials required in a large factory is not so great in proportion to the output.

2. In a large factory the division of labor may be more complete and effective. The technical economies of the division of labor can be realized in large measure only when a number of men work together. Partly because of the advantages in the use of machinery, but partly from other causes, labor in a large group is proportionately more effective than in a small group, especially in produc ing formvalue. In making plows, nine men working separately will (p. 319) average sixty-six plows each per year, while one hundred and eighty men working together will average one hundred and ten each per year, the output per man being increased sixty-six and two thirds per cent. In a riflefactory with a daily output of fifty, eight men are needed for the same product that can be supplied by three men in a factory with an out put of one thousand daily.

3. In the larger industry the costs of management, supervision, and marketing are relatively less. Division of labor decreases the difficulty of supervision in larger factories, where the processes are divided, systematized, and made a matter of routine. The necessary inspection of the results is more rapid and easy. The advertising of certain kinds of goods involves a large and inevitable outlay, which is relatively less for a larger business, as the greater the output the smaller the burden on each unit of the product. Combination effects a great saving in the number of commercial travelers, a result partly due to the decrease in competition, but partly also to better organization. Each of twenty different factories must send its drummers into every part of the country to seek business. In combination they can divide the territory, visit every merchant and get larger orders at smaller cost. Supplies can be purchased more cheaply in large amounts, and shipments in carload and trainload lots make possible special (sometimes illegal) concessions from railroads and from carriers on waterways.

4. There are some disadvantages in a large industry which put a limit to the growth of a single local establishment. There is practically a limit to the advantages of size in a factory. When each man is working on the smallest possible subdivision of the product, doubling the number of employees will not increase his skill. When the finest machinery can be kept constantly in use, economy in its use has reached the maximum. As large factories tend to create cities around them, land rises in value and higher wages (p. 320) must be paid the workmen. Small factories are constantly seeking out lower rents, taxes, wages, salaries, cheaper local sources of materials, cheap though limited sources of power, and thus they compete successfully in many markets. The point is reached in the growth of establishments where oversight cannot be as perfect and complete; the eye of the master cannot be over all. The market that can be reached by one factory is limited by distance, as the cost of trans portation finally offsets all the other advantages of large industry.

It is evident that most of these reasons apply to a single local factory with far greater force than to a federation of locally scattered plants. It was once believed that the growing disadvantages of large industry would set an early limit to consolidation. While there is a truth in this thought not to be overlooked, the effects must now be recognized to be more distant than was supposed. The limits to the advantages of combination have been removed by the ap-

plication of the federative plan which makes possible under one management the maximum of advantages with the minimum of the disadvantages in large industry. That was the discovery of the early promoters of the trust movement.

§III. CAUSES OF INDUSTRIAL COMBINATIONS

1.Trusts are large combinations of capital with some degree of monopoly power. The original, legal meaning of the term trust does not include the idea of monopoly. The old legal idea of a trust is the confidence imposed in a trustee. The method that was adopted by the early

combinations was the trust method, that is, they made use of this legal device: the stock of the separate companies was put into the hands of a board of trustees to whom was thus given the right to control. As it has been found possible to accomplish the same end without the use of this legal method, the popular meaning of the word trust, as applied to (p. 321) a monopoly, no longer agrees with the legal meaning. The word trust is popularly used of any large industry, though usually there is connected with it the idea of some evil power to raise prices to the consumers. A large number of the corporations called trusts have, however, little monopoly power, and some have none at all. They are simply large establishments.

2. A strong reason for combination of competing plants is found in the legitimate economies of large production. The economies that are possible within a single factory may be still greater in a number of combined or federated industries. The cost of management, amount of stock carried, advertising, cost of selling the product, may all be smaller per unit of product. A large aggregation can control credit better and escape loss from bad debts. By regulating and equalizing the output in the different localities, it can run more nearly full time. Being acquainted with the entire situa tion, it can reduce the friction. A strong combination has advantages in shipment. It can have a clearinghouse for orders and ship from the nearest source of supply. The least efficient factories can be first closed when demand falls off. Factories can be specialized to produce that for which each is best fitted. The magnitude of the industry and its presence in different localities strengthens its influence with the railroads. Its political as well as its economic power is increased.

A recent phase of corporate growth is the “integration of industry,” that is, the grouping under one control of a whole series of industries. One company may carry the iron ore through all the processes from the mine to the finished product. A railroad line across the continent owns its own steamers for shipping goods to Asia or Europe. Large wholesale houses own or control the output of entire factories. The possibilities in this direction have only begun to be realized.

3. The men uniting to form a trust always declare that (p. 322) its formation is the necessary result of excessive competition. The statement is often true in the sense that a hard fight and lower prices have preceded the formation of the trust. But as this excessive competition usually is for the very purpose of forcing the combination, this explanation is a begging of the question. It is fallacious also in that it ignores the marginal principle in the problem of profits. Profits are never homogeneous from factory to factory, and to those that are on the margin competition may appear excessive. It is generally the largest and strongest factories, in the more favored situations, that, in order to get rid of trouble some competitors, force the smaller, weaker, industries to come into the trust. When, therefore, it is said that competition is destructive, it may be a partial truth, but more likely it is a pleasantry reflecting the happy humor of the prosperous promoters of the combination.

4. Another strong motive for the combination is the profit to promoters and organizers. There

are indirect as well as direct gains to the managers of a large business. There is the gain from the production and sale of goods to consumers, and there is the gain from the financial management, from the rise and fall in the value of stock. The promoters of a combination often expect to make from sales to the investing public far more than from sales to the consumer of the product. A season of prosperity and confidence, when trusts and their enormous profits are constantly discussed, has an effect on the public mind like that of the discovery of a new El Dorado, a California, or a Klondike. Then is the time for the wily promoter to offer shares without limit to investors.

These considerations show that the trust is not simple in its cause, nor in its nature. In a sense the most artificial of industrial arrangements, in another sense it is a natural evolution of industry. More and more it is being recognized that though it has in it something of evil, it has as well something of good, and certainly much of the inevitable.

CHAPTER 35

EFFECT OF TRUSTS ON PRICES

§I. HOW TRUSTS MIGHT AFFECT PRICES

1.The economist’s task, strictly confined, is to explain the relation of trusts to prices, not to solve the problem of their political control. The question of trusts is such a large one that its

discussion here must be confined to those aspects having close relation to the central subject of economic study,—the laws of value. These laws were by the older economists thought to be true only within the limits of free competition. Seeing that in various ways this freedom is interfered with not only by caste, custom, organized labor, but by patents, political privileges, and the power of large aggregations of capital (in short by all things that check the flow of ability and of agents from one industry to another), the question occurs: Are the abstract laws of rents, profits, and wages of any significance or of any help in discussing the great practical questions of today? Are not prices determined by the personal whim of industrial despots who can bid defiance to the laws of price? The control of trusts by legislative action is largely a political problem, but it must be guided by a correct economic analysis. Proposed legislative measures often assume or imply that in no way, directly or indirectly, is competition found in the problem. It should be the aim of economic study to make clear the true bearing and force of monopoly power in practical problems of value.

2. The fundamental principles of market value cannot be (p. 324) changed by a trust; a selling monopoly can affect price only as it affects supply or demand. The strongest “trus t” yet seen has not been omnipotent. Many careless expressions on the subject are heard even from ordinarily careful writers and speakers: “The trust can fix its own prices,” “has unlimited control,” “can determine what it will pay and for what it will sell.” This implies that trusts are benevolent, seeing that the prices they charge are usually not far in excess of competitive prices in the past. Such a view overlooks the forces that limit the price a monopoly can charge. The law according to which the va lue of products on the market is determined, is as valid where there is a trust as anywhere else. The marginal utility of goods to the consumer determines the price of any given supply. If the supply remains the same, no trust can make the price go higher. What it gets in exchange are the services or the wealth of the rest of the public. At what rate can it exchange its products for the products of others (including other trusts)? The monopoly usually directs its efforts to affecting the supply, leaving the price to adjust itself. (This is the case of the selling monopoly; the statement must be adjusted where it is a buying monopoly.) It can affect the supply either by lessening its own output or by intimidating and forcing out its competitors. It is true that this logical order is not always the order of events. The trust does not first limit the supply, and then wait for prices to adjust themselves; it first raises its prices, but unless it is prepared to limit the supply in accordance with the new resulting conditions of demand, such action would be vain. The control of the sources of supply is the logical explanation of the higher price, even though the limitation of supply is effected later by successive acts found necessary to maintain the higher price.

Monopoly price is therefore a rational thing, not a mystery entirely out of harmony with the simple law of value laid down for consumption goods. The trust works as the magi- (p. 325) cian does, not as was thought of old, in defiance of natural laws, but in harmony with them and by their aid. The view the public took of the trusts was at first medieval. That should not be the view

to-day.

3. The economies of large production after a successful combination may be divided in varying proportions among monopolists, workmen, and consumers. If the great economies of large production are effected by a new combination which makes no attempt to fix a higher price and limit production, where will the fruits of these economies go? They will go first to the owners of the trust, because, unless inspired by motives of philanthropy, they have no need to lower prices. Though they are in possession of special facilities, they will try to secure as high a price as before. A wider margin permits greater profits on each unit without limiting the output or the sales. They may retain this so long as they do not yield to the temptation to increase the output in proportion to their new facilities.

These economies, may, however, at times inure to the benefit of the workmen in higher wages if they succeed by any means whatever in squeezing the employers at this time of exceptional gains. The suggestion has even come from employers that in order to allay labor troubles there should be a union of capital and labor to squeeze the consumer, by doing away with all competition in fixing prices. This proposition to divide the plunder of monopoly has been viewed approvingly by some leaders of organized labor, but it does not look especially alluring to the general public, to which is assigned the humble part of paying the bill.

Part of the advantages will go to the consumer whenever there is a motive on the part of the large establishment to increase supply in order to get a larger profit or to forestall new competition. As the improvements become matters of public knowledge, most of the new economic methods can and will be adopted by new enterprisers, and other large aggregations of capital will be induced to come in to reap (p. 326) the benefits. The effect, of course, is an increase in supply and a lowering of prices. The fiat of the trust to prices to remain fixed while supply increases is as vain as a mortal’s commands to the waves to be still. The undesigned result of the economies of large production, therefore, where control is not great, is to lower the prices and to diffuse the benefits among the public.

4. If the trust succeeds in raising its prices it gains at the expense of the community. If a producer has some monopoly power, recognizes and uses it, his gain does not correspond with an increase in production. It is taken from those who buy these products, it is deducted from the psychic incomes of other members of society. This raising of prices actually reduces technical production, for the output is limited in order to secure the higher price. The probably less urgent wants of the receivers of monopoly incomes are gratified in place of the probably more urgent wants of the average purchaser. The result is a decreased social income, with an increase of the inequality of distribution. There is an analogy here with the effects of trade-unions. If the tradeunion succeeds in forcing prices higher than the competitive prices, it gains at the expense of the other portion of the community. But while its gains appear to be more largely at the expense of the richer elements of society, the gains of the trust are more likely at the expense of the poorer elements. If the success of organized labor means to some extent a leveling up of income, the success of the trust means a still further inequality. Hence a difference in public sympathy in the two cases.

5. The responsibility for either the rise or the decline of prices cannot always be determined.

Prices are changing constantly under competitive conditions. In this active, moving world, changes of demand, the exhaustion of sources of supply, new processes, expiration of patents, opening up of new lines of transportation, affect prices in a multitude of ways entirely independent of organization. Trust-con- (p. 327) trolled industries are open to all these influences. Economic forces cannot be isolated as can elements in a chemical laboratory, and,

therefore, trusts claim the credit for all the reductions of price that have occurred. By such a calculation the trusts usually make a showing of progress, as, until 1896, for twenty years the tendency of prices in most lines was downward . Always getting the highest price they can under the market conditions, they yet pose as benefactors. They would claim that the economies possible only under trust organization cause even a monopoly price to be less than a competitive price would be. Critics of the trusts, on the other hand, charge them with causing all the increase that occurs, and with checking the decline in prices. The critics compare the percentages of decline in price during the decades before and after the combination was formed, and as it is impossible for a geometric rate of decrease in price, as a result of improvements, to be long maintained, this showing is very unfavorable to the trusts. A method has been found, however, of testing, in the case of a few leading industries, the effects they have had on the price of their portion of the productive process.

§II. HOW TRUSTS HAVE AFFECTED PRICES

1.Examination of the course of prices in the case of some notable trusts shows that, wherever effective, they raise prices above the competitive rate possible to smaller production.

The most instructive study in the subject is that undertaken by J.W. Jenks a number of years ago, and later developed by him when working with the Industrial Commission from 1898 to 1900. Its results are embodied in a series of charts. It appears that the price of refined petroleum in 1871, was twentyfive and seven tenths cents per gallon; in 1880, eight and six tenths cents; in 1887, seven and eight tenths cents; in 1900, seven and eight tenths cents. A. writer in the “North American Review” claims that this (p. 328) decline was due to the economies accomplished by the Stand ard Oil Trust. It will be noticed, however, that prices fell most rapidly (from twentyfive and seven tenths cents to eight and six tenths cents) between 1871 to 1880, a period of intense competition, when the industry was new, and when the independent companies, fighting for their existence, introduced many improvements and began the construction of the pipe-lines that were later secured by the Standard Oil Co. Despite this rapid decline, the smaller companies still could have maintained a profitable business had it not been for the ruinous discrimination of the railroads against them. Be cause of this, the Standard Oil Co., in 1880, obtained almost complete control. The price twenty years later than that date was less than a cent cheaper, in the meantime the price for a time continued to fall. Competition was never quite stilled. The small competitor, wherever he saw a chance, has nibbled off a bit of the tempting profits. The rise from 1898 to 1900 was in accord with that occurring in other lines. A much lower cost of production is now possible to the great monopoly with its larger sales and more economical methods. The by-products, unknown at the beginning of the period, now yield large sums, yet the price remains much the same as a quarter of a century ago. The trust has suc ceeded in retaining a large part of the increasing margin of price over cost.

The influence of the sugar trust may be studied by what is known as the method of differentials. The differential in sugar is the difference between the cost of the raw sugar and the refined granulated sugar. Raw sugar is the main material and the principal fluctuating item of cost beyond the control of the trust. Changes in the differential reflect the changes in profits except as modified by a cheapening of the process. The period from 1880 to 1887 was one of great competition. In 1880, the differential was one and ninety-two hundredths cents on each pound of refined sugar, but it fell steadily till, in 1887, it had reached sixtyfour hun- (p. 329) dredths cents. In the fall of that year the trust was formed; and the next year the differential had

risen to one and twentyfive hundredths cents, in 1889 to one and thirty-two hundredths cents. Tempted by the enormous profits, the rival refineries of Claus Spreckel were started, and with competition the differential fell, in 1890, to seventy hundredths cents. The rival factories were then bought up and under the new combination the differential went sailing up to one and three hundredths in 1892, and to one and fifteen hundredths in 1893. Rival factories again arose and competition grew stronger, reducing the differential to ninetyfour hundredths in 1894. It was in that year that the firm of Arbuckle Brothers and Claus Doscher each opened a great refinery, and in the next year the differential fell to fifty hundredths cents. In 1900, some agreement, the terms of which were unknown to the public, was entered into by the rivals and the differential had risen, in March, 1901, to ninetyfive hundredths cents. In every case the differential fell when competition was effective and went up when monopoly power was regained.

The differential of steelwire nails is the difference between the cost of the steel billets and the price of the wire. Between 1890 and 1895 there was a steady decline in the differential. In 1895 was formed the nail pool, an agreement to share the profits, a form of combination. A rapid advance took place, both in the price and in the differential. In the fall of 1896 the pool was broken and then occurred a fall in prices and in the differential during 1896–97. In January, 1899, the rail trust was formed, controlling sixtyfive to ninety-five per cent. of the output of wire nails, and a rapid advance occurred in the price and also in the differential.

The tin-plate industry practically had its origin in the United States, in 1892, under the McKinley tariff. As competition increased, prices and the differential fluctuated and declined. At the end of 1898 the tin-plate company was (p. 330) formed and prices at once started upward with a rapid increase in the differential. Cause may, in a measure, be mistaken here for effect. In these cases the part of the rise in price due to the rise of materials is not brought about by the trust. The differential represents its part of the productive process and its source of profits. The power to make the differential high is due in part to the general conditions of business in the last three years considered. The profits of all industries in those years increased. While prices may have risen partly because the trust was formed, it may have been possible to form the trust because prices were rising. The general conclusion is that trust prices are always raised when, and to the extent that, control is secured. They are lowered below normal prices when competition becomes troublesome. Fluctuation of prices probably has been more rapid and more spasmodic under trusts than it has been under ordinary competitive conditions.

2. A large degree of monopoly control may lower the incomes of producers of materials, the value of competitive plants, and prices in special local markets. A strong selling monopoly tends to become also a buying monopoly. A great industry using great quantities of materials may either own the sources or purchase from small producers. The steel trust owns mines, and ships and railroads to bring the ore to the furnaces; but the tobacco trust buys from the farmers. If the packing, refining, and marketing of a product is monopolized, the sellers of the raw or partly finished product are subject to one-sided competition. The small producers of tobacco, of crude oil, and of anthracite coal claim that the effect of the trusts is to give them lower prices for their products. Some have been severely punished by the monopolies for refusing to take the first offer made. Monopoly is thus likewise able to purchase competing plants at ridiculously small sums, by first making them valueless through fierce price-cutting, or by threats of it. “Rich” is often a relative term, and it is said that many a small mil- (p. 331) lionaire producer has anxiously waited to see whether the great trust would next turn its attention to him.

3. Competition of less capable producers works in most cases to prevent the great or continued rise of trust prices. Early trusts overestimated their power. The persistence of

competition in industries where the trusts have had great advantages in position and resources has been astonishing. The wall-paper trust, though for many years it kept prices above competitive rates, was repeatedly undermined by competition. The whisky trust, while it frequently raised prices, was as often forced by the growth of small distilleries to lower them below competitive rates. Competition in the oil industry has persisted under the greatest difficulties. The smaller companies have hauled the product by wagon when the trust was moving it by pipe-lines. The continuance of high prices by a trust depends on a high degree of control of supply. A recognition of the limits of their power has led trusts in some cases to a policy of moderate prices, affording a good profit, but not encouraging competition.

The limits of the power of the trust to control prices are strikingly shown by the fact that it cannot even insure low prices if the market conditions do not justify them. The steel trust in 1902–3, declared that it would not advance the price of steel rails above twenty-eight dollars, and this was hailed as a beneficent effect of trust control, which, by equalizing production, could prevent excessive fluctuations of price. But the trust’s declaration was a bit of inexpensive humor on the part of the managers; the trust had nothing to sell at the price quoted, as its entire product had been sold out months in advance. While, therefore, the trust continued calmly to quote steel rails at twenty-eight dollars, competition raised the market price to thirty-three dollars a ton; twenty-eight dollars or more was paid for secondhand rails, and a proportionate price for other iron products. Such exceptional conditions, raising prices to abnormal levels, are (p. 332) followed by a decline disastrous not only to the small producer, but to the trusts as well.

4. The control of the trusts must be sought in the direction of maintaining potential competition through fair and free conditions of industry. Many of the remedies suggested are reactionary and would give up the benefits of large production. Measures must be sought in harmony with the economic principles of price. Since many of the trusts have grown wealthy by specia l shipping privileges from the great quasi-public corporations, the railroads, and by special favors from public or corporation officers, who have been false to their duties, the solution must be a political and moral one; it must be sought in the development of honest citizenship and of a more efficient social regulation of quasi-public industries. The conditions of competition may be made fairer by requiring publicity of accounts, and by making it impossible for great corporations to strangle their local competitors by special and temporary prices. The state here has the same duty to perform that it has to protect the weak man from personal violence at the hands of the strong. This will not prevent competition, but it will determine the ways in which the rivalries of men can be manifested. Any measures for controlling the great combinations must start from a right understanding of the law of value, neither underestimating nor overestimating their economic power. Public sentiment toward the trust question has changed somewhat in recent years, because the nature of trusts and the extent of their power are better understood. There is now less fear of them, and more confidence that they can be tamed and made to serve the welfare of society.