PUAD 607 – Final Paper April 26, 2016AU ID 1855383 20

Introduction

This paper will analyze the market failure of the passenger rail market, which

occurred between 1920-1970, and the government response that created Amtrak.

This paper aims to determine whether or not Amtrak’s creation was an adequate

policy response to the collapse of passenger rail market in the United States. This

paper will analyze Amtrak’s benefits to the public and alternatives in the passenger

rail market.

Short history of passenger rail

Train travel was very common in the United States in the 19th and early 20th

centuries. As the country expanded west, railroad companies laid thousands of miles

of track and provided freight and passenger service to every city and territory in the

country. During this time, the railroads were some of the most powerful

corporations in America. By the 1920s, there were over 20,000 passenger trains in

service, connecting every city to an efficient, national rail transportation network.1

Passenger rail was so popular that it influenced the country’s culture, inspiring

books about train robbers, Broadway musicals, and movies like Union Pacific,

Strangers on a Plane, and North by Northwest.

Rail faces overwhelming competition

Beginning in 1908, the Ford Motor Company began producing the Model T,

America’s first affordable automobile for the middle class. The model T was the start

of an automobile revolution that drew a devastating blow to passenger rail in the

1 Nice, David. “Amtrak: The History and Politics of a national railroad.” 2

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United States. Rail’s decline was slow but steady: ridership declined by 80%

between 1920 and 1970,2 while car travel rose significantly. Policy decisions by the

federal and state governments hastened passenger rail’s decline in light of

consumers’ preference for cars.

Facing stiff competition, railways began losing money in their passenger

businesses. Many carriers, such as the Pennsylvania Railway and New York Central,

wanted to drop their passenger service entirely. The government made this difficult

for the railroads: The Interstate Commerce Commission (ICC) imposed strict

regulations on the railways that made adapting to the new marketplace difficult.

Carriers reacted by not encouraging consumers to use their passenger service

altogether. Most railway executives wanted to shift their business from passengers

to freight, which still remained profitable.

The creation of the Interstate Highway System in 1956 made car travel even

more appealing to consumers. Federal and state government helped subsidize car

travel by building massive car infrastructure projects all over the country. The

railroads were also heavily taxed: The federal government maintained a 15% tax on

passenger rail until 1962, and many local municipalities maintained high property

taxes on railroads in their jurisdictions.

The suburbanization of the American cities also contributed to passenger

rail’s decline. Most city governments never invested in rail transportation, making it

impossible for consumers to ride public transportation to stations that provided

passenger rail service. Only three cities—New York, Boston and Chicago—built and

2 Nice, “Amtrak: The history and politics of a national railroad.” 2

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maintained light rail during this period. Suburban America seemed to prefer the

freedom of car travel, and the government invested accordingly.

Lastly, the introduction of jet airline travel caused many consumers to

choose flying over taking the train for long distance travel. In 1958, Boeing 707s

entered the market, dramatically shortening travel time for long trips. The

government invested in airlines by building hundreds of new airports throughout

the country. Driving and flying were now the “cool” things to do in American culture

—a new era in transportation had emerged.

By late 1960s, the end of passenger rail was nearly complete. Facing severe

financial difficulties, the country’s two largest carriers—Pennsylvania Railroad and

New York Central— merged to form Penn Central in 1968. In June of 1970, Penn

Central filed for bankruptcy. The collapse of Penn Central was the largest corporate

bankruptcy in American history at the time.3

1970: Market failure

The 1970 bankruptcy of Penn Central, then the last remaining passenger

service, signaled the total failure of the market in the United States. Railroads

executives complained to the government that passenger rail was facing extinction.

Rail industry groups and unions became intensely paranoid about the possibility of

lost jobs, pensions, and commerce related to the failure of the industry. The collapse

of Penn Central and the subsequent political pressure from rail stakeholders that

followed initiated a policy response from the government. By 1970, the Nixon

3 Wikipedia, “Penn Central Transportation Company.”

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administration was faced with several policy proposals from the railroads, lobbyists,

and Congress to address the market failure.

Policy proposals and response

Representatives from Penn Central and its subsidiaries lobbied Congress for

direct subsidizes to assist their operating budget, which faced severe shortfalls due

to a drop in consumer demand for passenger service. The Association of American

Railroads called for public subsidies and for a publically owned pool of passenger

rail equipment.4 Some stakeholders lobbied congress to loosen ICC regulations on

the railroads in an attempt to restart the market.

The Nixon administration didn’t want to directly subsidize the private

railways, nor commit to a long-term financial agreement with the railroad industry.

Nixon officials didn’t want to be held responsible for the total collapse of the

passenger rail market either.

Their solution was the creation of Railpax, later renamed Amtrak. Nixon

considered the creation of a public-private passenger rail corporation to be a more

efficient and cheaper alternative than a direct-subsidy program to Penn Central,

which would commit the government to years of funding and oversight. Nixon also

believed that Amtrak would become profitable and off government support within a

few years of operation. Less than a year after the bill was signed into law, Amtrak

began its service in 1971.

Initial problems

4 Nice, “Amtrak: The history and politics of a national railroad.” 8

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From the beginning, Amtrak faced several operational and financial

problems. The conditions of its trains were very poor: Amtrak inherited trains from

Penn Central, which did not properly maintain their trains in the last 25 years of

operation. As David Nice writes:

“When Amtrak began operations, its average car and locomotive were more than twenty years old, and many were not in very good condition. The climate control systems of many cars had changed little since the days of steam locomotives. Quite a number of cars had features unique to individual railroads and consequently were not readily interchangeable. Amtrak inherited thirteen different manual reservation systems, and arrangement that made booking trips difficult.”5

Amtrak faced initial financial difficulties as well, and sought additional

money from the federal government after only six months of operation.6 The

government’s initial investment of $66 million dollars in Amtrak was not nearly

sufficient to cover its costs, considering that Penn Central lost nearly $450 million

while in its last year in business in 1970.7 Government mandates for Amtrak also

poised a problem. The carrier was mandated to provide nationwide service, forcing

Amtrak to establish routes in states where there was little consumer demand.

Analysis: Policy response and government failure

Was the creation of Amtrak an adequate policy response to the market

failure of passenger rail? The question will consider two factors: First, does Amtrak

provide enough public benefits to justify its cost? Second, what are the alternatives

to Amtrak in the passenger rail market?

5 Nice, “Amtrak: the history and politics of a national railroad.” 106 Ibid, 107 Ibid, 10

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Is Amtrak worth the cost?

Since its inception in 1970, Amtrak has provided several positive

externalities that have benefited the public in a variety of ways. These positive

externalities are addressed below.

Energy independence and environmental savings

Amtrak’s passenger service contributes to U.S. energy independence by

running trains powered by electricity, coal, or diesel locomotion. Amtrak’s energy

uses are considered highly efficient (when a train is full) compared to car and air

travel, which use the majority of petroleum consumed in the U.S. In 2015, 24% of

the petroleum consumed in the country comes from foreign sources.8

Amtrak helps reduce the country’s dependence on petroleum for

transportation, especially in high volume areas like the Northeast Corridor (NEC)

and other major metropolitan areas. As rail corridors become more electrified, net

energy cost savings will increase. In 2013, Amtrak reported 1.1 million metric tons

of CO2 emissions (GHG)9. Total GHG emissions from transportation in the United

States in 2013 totaled 1.7 billion metric tons of CO2. As a percentage, Amtrak

produces less than 1% of total carbon emissions from transportation industry in

2013.10

While real, the environmental savings that occur when consumers choose to

take the train over flying or driving are hard to measure. Cost-savings should be

viewed in the context of total U.S. energy consumption in transportation, which has

8 EIA, http://www.eia.gov/tools/faqs/faq.cfm?id=32&t=69 Amtrak, “2013 Sustainability report.” 18. 10 EPA, “Sources of Greenhouse Gas Emissions.”

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diversified its sources of energy in the last 15 years. Hybrid and electric cars are

becoming more popular among drivers. Local markets have invested in solar and

wind energy, especially on the west coast. Amtrak’s contributions to energy

independence and environmental savings might lessen as the energy market

continues to diversify and invest in green technology.

Transportation efficiency

Amtrak’s most measureable externality is its contribution to transportation

network efficiency in the U.S. Every passenger that rides Amtrak is one less person

that chooses to drive, fly, or ride on a bus. These contributions are not felt

nationwide, however. Certain areas of the country, specifically the northeast

corridor (NEC), the west coast, the Keystone corridor, central California, and upstate

New York, benefit the most from Amtrak service with regards to efficiency.11

In areas of high population density, accessibility to local public transit, and

lots of traffic, Amtrak’s passenger service is a substitute good for driving, flying, or

taking the bus. Research by David Nice indicates that Amtrak produces

contributions in efficiency in these areas, where ridership is most in demand.

Efficiency gains are most concentrated in the NEC, where car traffic between the

major east coast cities is the heaviest in the country.

Additionally, Amtrak provides efficiency gains to the national airway system

by diverting consumers away from east coast airports like Philadelphia

International, Newark International, and LaGuardia. A large percentage of airline

delays and cancellations across the country can be traced back to air traffic

11 Amtrak, “2014 Annual Report.” 20

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congestion, bad weather, and poor service at these three airports. Less flights out of

these three airports results in less problems for the entire airway system, benefiting

consumers nationwide as a result.

National Security

Amtrak provides positive externalities to the national security infrastructure

of the United States by providing transportation alternatives to car or air travel. In

cases of national emergency such as an invasion or total war, the military will need

ways to move men and supplies around the country. Amtrak’s service provides this

capability as an alternative to moving personnel and equipment by plane or truck.

Transportation grids are common targets in war: If a foreign army attacks the

homeland, our highways, interstates, and airports would be prime targets. A

functioning rail network gives our military an alternative to moving personnel and

equipment on a highway system that would be a natural target for an invading force.

Amtrak could also serve the civilian population as well in this scenario, as

gas consumption would be rationed and air travel restricted to military purposes,

forcing civilians to take the train. This occurred in the United States during WWII,

when the government rationed civilian access to gasoline for the war effort.

Economic benefits

Amtrak provides benefits to local economies, especially in the NEC. The NEC

is home to 17% of the nation’s population and produces 20% of the U.S. gross

domestic product.12 The Northeast Corridor Commission states that the region

12 NEC: Infrastructure and operations advisory commission, “The Northeast corridor and the American Economy.” I

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contributes $50 billion annually to the national economy.13 There are close to 7

million jobs located within 5 miles of the NEC’s Amtrak stations.14 As of 2014,

40,000 passengers chose to ride Amtrak in the NEC.15 If citizens were unable to get

to work for one day in the NEC, the country could face up to $100 million in

congestion costs and lost productivity16

Federal expenditures on Amtrak spur direct and indirect investment in R&D

for train technology and services as well. Most recently, 70 of Amtrak’s newest

electric trains where constructed by the Siemens Corporation at their plan in

Sacramento, CA. Amtrak contracts with more than 60 part-suppliers in over 20

states.17 Amtrak is also a significant source of jobs throughout the country,

employing approximately 20,000 people in 2014.18

Subsidies in context

Many critics argue that Amtrak’s current subsidies don’t justify its benefits to

the public. Amtrak’s subsidies are usually compared to highway and car travel

subsidies. Critics argue that subsidies for car-travel and vehicle infrastructure

provide more benefit for a lower cost. In 2014, Amtrak received $1.5 billion in

federal subsidies.19 That same year, the federal government spent $84.99 billion on

13 NEC: Infrastructure and operations advisory commission, “The Northeast corridor and the American Economy.” I 14 Ibid, 915 NEC impact, Amtrak Blog http://blog.amtrak.com/2014/04/necimpact/16 Ibid17 Amtrak, “2014 Annual Report.” 918 Ibid, 2119 CBO, “Options for Eliminating the deficit: 2014 to 2013.”

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transportation in general20: All told, Amtrak receives 1.7% of the total federal

budget for transportation.

Indirect subsidies aren’t traditionally accounted for when comparing rail to

car subsidization. Such indirect costs for cars include funds for dealing with

pollution, parking, crash damage, congestion, lost tax revenue, land use, noise, and

transportation diversity.

The government, individual consumers, and entire sectors of the economy

absorb these indirect costs of car travel. Our healthcare system incurs tremendous

costs due to car-related injuries and fatalities. Indirect subsidies and costs related to

car travel need to be accounted for when considering the total costs of

transportation subsidies. Research reveals that cars receive comparable subsidies to

Amtrak when you account for indirect costs of car travel: accounting for these costs,

Amtrak and car travel share equal levels of subsidies, around 44 cents per passenger

mile.21

Is Amtrak a government failure?

To answer this question, we must define government failure and understand

its characteristics. Gruber defines government failure as “the inability or

unwillingness of the government to act primarily in the interest of its citizens.”22

Government failure occurs when government entities serve themselves over

the public. Government failure can take the form of corruption or “levianthan

bureaucracy”, or whenever public money is used to maximize private over public

20 National Priorities, 2014 Federal Budget. 21 The Economist, “Amtrak’s true costs.” 22 Gruber, “Public Finance and Public Policy, 4th ed.” 251

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welfare. With this definition in mind, does Amtrak maximize social welfare, or does

it exist to serve itself? Evidence suggests that Amtrak does provide positive

externalities (summarized above) to certain areas of the country. Public benefits are

most concentrated in these areas, but less prevalent in the rest of the country.

Social-maximizing benefits seem to be concentrated the most in the areas where

Amtrak services are most popular and in demand.

In this regard, Amtrak shouldn’t be considered a government failure. Aside

from mediocre reliability and the occasional accident, Amtrak has avoided abject

government failure behavior, such as corruption, rent seeking, “leviathan

bureaucracy”, or other scandals that might suggest otherwise. Most criticism of

Amtrak involves accusations of poor reliability, service, speed, and accessibility, not

corruption or rent-seeking behavior.

Alternatives

Questions of efficiency—specifically whether the private sector can do it

better—remain today. Critics of Amtrak suggest that privatization could solve many

of its efficiency problems, yet they fail to consider the downsides to privatization.

Privatization would cause tickets prices to rise because prices would reflect the true

cost of train travel, which includes hidden costs for infrastructure improvements,

safety, etc. The government’s monopoly on passenger rail gives it significant

supply-side power. This power enables Amtrak to sell their tickets cheaper than a

private firm could, thus maximizing consumer welfare in the process.

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This phenomenon occurred in Great Britain in the 1990s. Privatization of

their railroads in 1995 resulted in higher fares and greater costs23, suggesting that

when competition is introduced, suppliers have to shift the heavy costs of track

maintenance, infrastructure investments, and safety programs on to the consumer.

The benefits for national defense are also lost if Amtrak were to be

privatized: In the instance of total war, the government could easily use Amtrak

trains for war-related purposes, ferrying troops and equipment without making

them vulnerable targets on our highway system. If the rail system was turned over

to private companies, the government would have to rent them from the owners, a

situation could be costly and potentially problematic.

Privatization isn’t realistic considering current market trends in 2016, which

aren’t much different from 1970. Cars and air travel still dominate in the market.

Green technology has made driving and flying less harmful to the environment. Most

American cities are still sprawling and not connected by public transit, making train

travel inconvenient for most consumers. Cheap petroleum makes individual travel

by car or air more affordable to consumers than train travel: Taking the train is

more expensive and longer in duration than flying except for only a few routes in

the country, such as DC to NY, NY to Boston, Chicago to Milwaukee, LA to San Diego,

and Portland to Vancouver.24 Outside of these routes, train travel is more costly and

longer in duration than flying.

23 Preston and Robins. “Evaluating the long term impact of transport policy: The case of passenger rail privitisation.” 17. 24 The Points Guys, “Train or plane? U.S. routes where Amtrak beats flying.”

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Under these economic conditions, private firms would struggle to make

money in the passenger rail business. Railroads are a capital intensive: Firms must

spend millions of dollars before providing service. Few, if any, private firms would

want to take this risk. Until market forces change in favor of trains over cars and

planes, government provision of passenger rail is the most assured way to provide

the positive externalities of passenger rail—which are well documented—to the

American public.

Recommendations

Amtrak faces the problem of chronic unprofitability. Its congressional

mandate requires the corporation to provide nationwide service in order to receive

funding, which it depends on considerably in order to operate. Federal funding is

contingent on this mandate: If Amtrak only served a few states, then supporters

could not justify its expense to the congressmen that saw no service in their

jurisdictions.

If Amtrak were privatized, the corporation would have to cut every

unprofitable route except only the few that are in demand. Yet if privatization

occurred, the difficulty of maintaining consistent profit would be immense. So

immense, that private passenger rail service could not be assured to consumers,

even in high volume corridors like the NEC. While Amtrak faces the same efficiency

problems like any publicly funded institution, the benefit of maintaining its service

via the government outweighs any potential benefits associated with privatization.

As such, the carrier should be maintained and improved, especially in areas where

its positive externalities are concentrated the most.

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Work cited

American Progress, “Understanding Amtrak and the importance of passenger rail in the United States.” June 2014. Accessed April 2016. https://www.americanprogress.org/issues/economy/report/2015/06/04/114298/understanding-amtrak-and-the-importance-of-passenger-rail-in-the-united-states/

Amtrak Corporation, “Amtrak Annual Report: Fiscal Year 2014.” https://www.amtrak.com/ccurl/873/115/Amtrak-Annual-Report-2014.pdf

Amtrak Corporation, “2013 Amtrak sustainability report.” https://www.amtrak.com/ccurl/338/353/2013-Amtrak-Sustainability-Report.pdf.

Accessed April 2016.

Congressional Budget Office, “The Past and Future of U.S. Passenger Rail Service.” September 2003. https://www.cbo.gov/sites/default/files/108th-congress-2003-2004/reports/09-26-passengerrail.pdf

Wikipedia Foundation, “Penn Central Transportation Company.” https://en.wikipedia.org/wiki/Penn_Central_Transportation_Company

Nice, David. “Amtrak: The history and political of a national railroad.” Lynee Rienner Publishers. 1998.

Preston, John and Dawn Robins. “Evaluating the long term impact of transport policy: the case of passenger rail privitisation.” The journal of Research in Transportation Economics. June 2012. Accessed April 2016.

U.S. Energy Information Administration. “ How much oil consumed by the United States comes from foreign sources.” http://www.eia.gov/tools/faqs/faq.cfm?id=32&t=6. Accessed April 2016.

National Priorities Project. “Federal Spending: Where does the money go: Federal Budget 101.” https://www.nationalpriorities.org/budget-basics/federal-budget-101/spending/. Accessed April 2016.

The Economist, “Amtrak’s true cost.” http://www.economist.com/blogs/gulliver/2011/11/road-v-rail. Accessed April 2016.

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The Points Guy, “Train or plane? US routes where train beats flying.” http://thepointsguy.com/2014/09/train-or-plane-u-s-routes-where-amtrak-beats-flying/. Accessed April 2016.

Vranich, Josepth. “End of the line: The failure of Amtrak reform and the future of America’s passenger trains.” AEI Press. 2004

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