You've heard talk lately about the convergence of electricity and natural gas. That idea has grown as commodity markets have matured for gas and emerged for bulk power.
A century ago, Congress conveyed valuable public property to certain entrepreneurs to serve the public interest. In exchange, these entrepreneurs agreed to carry the nation's principal means of communication at fair cost and, of course, serve the national defense.
In 1850, with a commitment to move the mail at fixed rates and freely transport federal troops hither and yon, a swath of public land was granted to the Illinois Central to connect Chicago with Mobile. As with a modern-day scrap over a sports franchise, Chicago went "mano y mano" with St. Louis, while Mobile took on New Orleans as a seaport. Mississippi River traffic, principally steamboats, encountered its first technological competitor.
Railroads were already some 30 years in development. With fewer rivers up-country, a shift to rail-based transportation proved essential to further westward expansion. By 1870, this rail policy helped win the war against slavery, established the supremacy of federal authority, and pumped 131 million federal acres into private hands. Another 27 million Texas acres reserved from federal trusteeship also entered private ownership on similar terms.
Rail Franchises: Priming the Pump
Such grand government giveaways exemplify the "prime the pump" theory of innovation: Use public assets to induce private investment to serve the public interest. A natural corollary is that free markets have short planning horizons, and cannot properly value opportunity. The argument that scale and scope make railroads "natural" monopolies added a dash of legitimacy.
But perhaps private markets did properly value early rail investment. Manifest Destiny aside, why should private capital chase some crazy railroad investment in direct competition to established water-borne traffic between St. Louis and New Orleans? Mississippi river traffic was quite cost-competitive in 1850 (em 40 cents per ton-mile. By comparison, railroad tariffs back East were almost 5 times higher (em $1.90 per ton-mile. [Local exchange carriers (LECs) might compare the cost ratio of wireline and cellular services.]
The actual value of the federal land grant was a small portion of total railroad capital (em 5 percent of total investment from 1850 to 1880. Still, the scale, risk, large fixed costs, and network market structure literally screamed "natural monopoly" (em code word for "franchise." Facing this new franchise were the steamboats, and in 1850 they were a great success story. Steamboat productivity tripled from 1820 to 1850. They owned the market. Illinois Central was going after one tough competitor.
But as more railroads were constructed after 1850, steamboats reached limits of capacity, and productivity growth hit a plateau. Rail absorbed much of the excess demand. Railroad's total factor productivity picked up where steamboats left off (em doubling from 1850 to 1890. Total rail mileage (capacity) grew 15-fold over that same period.
Rail's sustained productivity growth and capital displacement offers a model for effective penetration strategy by a technological innovator (em and a warning to any market defender constrained by capacity limits and aging technology. Rail productivity growth averaged 2.6 percent per year between 1840 and 1910, approximately half from technological innovation alone. For example, steel rails increased useful track life eight times, slashing maintenance cost while boosting