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sary limitation of the rule. If the income of the company from the rates is so great as to give an unreasonably great profit to the company upon all its operations, it will be inferred that the rates, though prima facie reasonable, must be too high. Thus in the Niagara Gorge case fifteen per cent was not an unduly high rate of profit for so hazardous an investment but one hundred per cent would doubtless have proved that the individual rate was too high, even though it was reduced neither by competition nor by the limit of desire of the traveler. So in the Kansas City stock yards case, while eighteen and onehalf cents seemed in itself reasonably cheap for the care and feeding of an animal, and was so where the net profit was less than five per cent, the finding might have been different if the seemingly reasonable individual rates had in the aggregate brought in a net profit of fifty per cent.

Topic D. Economic Principles Affecting Rate Making § 1220. Law of decreasing costs.

Economists in dealing with the problem of rate making in public service have been prone to consider chiefly what policies it should behoove the managers of a business to follow in order to get their due return from it most advantageously. It has been pointed out, for example, in all discussions of the railroad problem by economists that the fixed expenses, which constitute so considerable a proportion of the disbursements by a railroad, are to a very large extent independent of the amount of its traffic carried. It follows that additional business will always be done at a decreasing relative cost. The net income rises as the business expands, and the law of increasing returns is again demonstrated. This may be shown in a simple formula if it be assumed only one-half of the expenditures of a railroad varies with the traffic. "If it costs x to deal with 1,000,000 units of traffic, 5,000,000

units will cost not 5x, but 1-2x+(1-2 x×5)=3 x." 1 How far it is possible to justify by this economic law the making of differences in freight rates in consistency with existing legal restrictions is another matter.2

§ 1221. Exceptions to law of decreasing cost.

3

While it is fortunately true in most public business that an increase in custom means a decrease in the average cost, it is by no means universally true. In the telephone service, for example, we have the phenomenon of increasing cost with increasing business. This the United States Supreme Court pointed out in a recent opinion 3 in which the whole situation was examined. To the argument that with the lower rates which had been ordered by the State commission there might be an increased business, the court sagely answered that this would make the plight of the complaining telephone company all the worse. "We say this because the evidence shows that in the case of telephone companies the general result of a reduction of rates in some other kinds of business does not always follow, namely that there would be an increased demand, which could be supplied at a proportionately less

1 Noyes: American Railroad Rates, p. 19, citing Acworth: Elements of Railway Economics, 50.

2 This law, greater returns usually resulting from an increased business as the result of decreasing cost on the additional transactions, is at the bottom of the present doctrine of the Federal courts that they will not stay the enforcement of the new scale of rates imposed by governmental bodies if they feel that there is high probability that there will be increased business at the lowered rates which will make them profitable. See: In re Arkansas R. R.

Rates, 163 Fed. 141 (1908); Central of Ga. Ry. v. McLendon, 157 Fed. 961 (1907); Seaboard A. L. Ry. Co. v. Railroad Comm., 155 Fed. 793 (1907); Willcox v. Consolidated Gas Co., 212 U. S. 19, 53 L. ed. 382, 29 Sup. Ct. 192 (1909). But see Chicago & N. W. Ry. Co. v. Dey, 35 Fed. 883 (1888); St. Louis & S. F. Ry. Co. v. Hadley, 168 Fed. 317 (1909).

3 Louisiana R. R. Comm. V. Cumberland Tel. Co., 212 U. S. 414, 53 L. ed. 577, 29 Sup. Ct. 357 (1909).

cost than the original business. Such, it is admitted, would be the case generally in regard to water companies, gas companies, railroad companies, and perhaps some others, where the rate is a reasonable one. For example, it is said that it would cost no more, or certainly scarcely an appreciable amount more, to haul a train of two cars both filled than it would to haul the same train with both cars half filled, and if the reduction in rates should result in filling the cars where previously they had not been half filled, there might be an increased carriage at a cost very little more than before, and probably an increased profit. So, in the case of a water company, the reduced rate might result in furnishing more water to consumers already existing, and the increased cost of furnishing the same would be infinitesimal, where there was a supply sufficiently large to fill the demand. So, also, in furnishing gas at reduced rates, the reduction in the rate would very probably result in increased consumption, not only in increased demands from more consumers, but also an increased consumption by consumers already existing, and the increased cost of furnishing the gas would be nothing like in proportion to the increase in consumption. In these cases increased profits might be the result of decreased rates. But with telephone companies, as shown by the testimony of the president of the complainant, the reduction in toll rates does not bring an increased demand, ecxept upon the condition of corresponding increase in expenses."

§ 1222. Competition as a factor.

Much of the disproportion between individual rates existing is explained by the presence or absence of competition.1 Indeed this competition is put forward as a

1 That competition may justify grossly disproportionate rates be

tween localities is well established by the Federal decisions. See

justification for making disproportionate rates, upon the ground that the increased business obtained by cutting rates to meet competition reacts favorably upon the whole business by decreasing costs. And it must be admitted that this law of increasing returns may be considered in making rates. If traffic may be acquired by a specially low rate which would otherwise be lost, to acquire the traffic would benefit rather than burden other traffic of a different kind, since if under the law of increasing returns it is remunerative, the profit thus earned will tend to diminish the rates charged on the remaining traffic. On this ground competition may be considered as a factor in fixing rates. If a carrier is carrying goods from two stations, at one of which there is competition, the rate at the station where the competition exists may fairly be reduced, so far as is absolutely necessary to secure the traffic, provided the reduced rate remains a remunerative one under the law of increasing returns. If the rate were not reduced, ex hypothesi, the traffic would be lost, and the profit realized upon it must be exacted from the noncompetitive traffic; if on the other hand the rates were reduced equally all over the road, the carrier could not earn a fair return from his whole schedule, since we are assuming that the necessary competitive rate is so low as

Cincinnati, N. O. & T. P. Ry. Co. v. Interstate Comm. Comm., 162 U. S. 184, 40 L. ed. 935, 16 Sup. Ct. 700 (1896); Texas & P. Ry. Co. v. Interstate Comm. Comm., 162 U. S. 197, 40 L. ed. 940, 16 Sup. Ct. 666 (1896); Interstate Comm. Comm. v. Alabama Mid. Ry., 168 U. S. 144, 42 L. ed. 414, 18 Sup. Ct. 45 (1897); Louisville & N. Ry. Co. v. Behlmer, 175 U. S. 648, 44 L. ed. 309, 20 Sup. Ct. 209 (1898); East Tenn., V. & G. Ry. v. Interstate Comm. Comm., 181 U. S. 1, 45 L. ed. 719, 21

Sup. Ct. 516 (1901); Interstate Comm. Comm. v. Clyde S. S. Co., 181 U. S. 29, 45 L. ed. 729, 21 Sup. Ct. 512 (1901). In addition to the above cases, while in various stages below, see: Missouri Pac. Ry. v. Texas & P. Ry. Co., 31 Fed. 862 (1887); Ex parte Koehler, 31 Fed. 315 (1887); Interstate Comm. Comm. v. Atchison, T. & S. F. Ry., 50 Fed. 295 (1892); Interstate Comm. Comm. v. Southern Ry. Co., 105 Fed. 703 (1900).

to be profitable only as a result of the law of increasing return. The same result will follow if the competition affects a particular kind of business as electric power, but not another class as electric illumination. It is urged strongly to-day that such reductions are fair, even to the patron who does not get the benefit of the competition, as a factor in reducing his rate.1

§ 1223. Policy for permitting competitive rates.

The policy of this matter seems to be to permit the making of rates to meet competition, even if proportionately they seem preferential, in order that competition may be possible, which it could not be without this permission. This is very acutely said by Lord Herschell in Phipps v. London & North Western Railway Company: 2 "Suppose that to insist on absolutely equal rates would practically exclude one of the two railways from the traffic, it is obvious that those members of the public who are in the neighborhood where they can have the benefit of this competition would be prejudiced by any such proceedings. And further, inasmuch as competition undoubtedly tends to diminution of charge, and the charge of carriage is one which ultimately falls upon the consumer, it is obvious that the public have an interest in the proceedings under this act of Parliament not being so used as to destroy a traffic which can never be secured, but by some such reduction of charge, and the destruction of which would be prejudicial to the public by tending to increase prices." It must be admitted that this line of argument has to a considerable extent prevailed. And without going into the many problems as to local discrimination, the result largely of statutory provisions

1 But see Louisville & N. Ry. Co. v. Commonwealth, 21 Ky.

L. Rep. 232, 51 S. W. 164, 1012 (1899).

22 Q. B. 229 (1892).

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