A New Route for Mass Transit

Chicago entrepreneurs are showing that mass transit doesn't have to be a government monopoly.

A painful half-century of bankruptcies in the transit industry has led to a widespread belief in America that mass transit is operated most effectively as a regulated government monopoly. The private sector is commonly believed to be unwilling or unable to play a constructive role in urban mass transit.

This belief is reflected in the complex web of transit regulations that are rigorously enforced by local and state regulatory agencies. Existing regulations severely limit the opportunities for new operators to enter the industry, because potential transit operators must comply with expensive and politicized regulatory procedures. Most states also require potential operators to obtain a "certificate of public necessity"; to do so, they must demonstrate to the regulators the need for their proposed service. Since existing transit operators can challenge the demonstration of need, such procedures are biased strongly in favor of government or government-backed monopolies in urban transit. The bottom line is that entrepreneurship in the industry has been greatly discouraged.

The desirability of such extensive regulation was rarely questioned throughout the 1960s and '70s because of the dismal financial condition of America's few privately operated transit companies. Most companies during this time were suffering from decades of neglect and rising operating expenses and were eager to streamline their operations by abandoning unprofitable services. But for this they needed an okay from the regulatory agencies. Some transit providers had fallen victim to steady migration of workers and businesses to the suburbs and had become hopelessly dependent on government subsidies. Not since the "Roaring '20s" had America's transit industry earned sufficient profit to attract the interest of private investors.

These escalating problems help foster the belief that the private sector has little future in America's transit industry. The public, it has long been thought, can be adequately served only via government transit monopolies.

The prophecy that the future of the country's urban transit systems lay exclusively in the public sector was fulfilled in the early '70s. America's last private transit operators came under government control. With the public takeover of the historically profitable Chicago & Northwestern commuter rail service—America's last major private transit operator—in 1974, the era of free-market transit services in America quietly came to a close.

A series of events in the industry, however, has led many analysts to question this well-accepted approach to transit and to reconsider the virtues of an open, deregulated market. Despite regulatory barriers, privately operated commuter bus services have emerged in Los Angeles, New York, Oklahoma City, Washington, and Chicago and have sparked a growing optimism that private firms can play an important and far-reaching role in urban transit. Many scholars, backed by some convincing evidence, believe that the private sector can help reverse the skyrocketing deficits, falling productivity, and dwindling ridership of America's deteriorating transit systems.

The potential of private transit services is illustrated dramatically in Chicago. Taking advantage of a regulatory loophole, a multitude of bus charter operators have in the last three years initiated a transit service between the city's Loop district and the suburbs. These private operators, known as "subscription buses," now handle more than 5,000 passengers a day. Many utilize low-cost school buses made available by declining student populations. Typically, the buses make three or four stops in each suburban community and drop off commuters downtown near the train station.

The rapid expansion of Chicago's private transit services occurred following a 1981 fare hike of nearly 100 percent on the Regional Transportation Authority's (RTA) public rail services. The fare increase was necessary from the agency's perspective—it was covering less than 50 percent of its operating costs through farebox revenue. But few anticipated the unprecedented sequence of events that was to follow. Within weeks, a fleet of over 100 buses was providing service to dozens of suburbs south and west of the city. The ridership shift to private operators was so dramatic that the public monopoly tried to lure passengers back by rescinding part of the fare increase.

In only three months, Chicago's private buses emerged as the largest private transit operation in America. From some suburbs, the private buses have become so popular that commuters can choose from over a dozen bus schedules and routes to meet their needs.

The new operators provide an excellent example of the potential for increased efficiency in America's transit industry. The operators aggressively solicit use of the buses by chartered groups during off-peak periods, between the morning and evening "commuter crunch," thus improving equipment utilization. The charters also keep overhead to a minimum by forgoing the luxury of downtown terminal facilities. To protect themselves from erratic fluctuations in ridership that can reduce efficiency, passengers are required to subscribe to the service on a monthly basis. In return, the passenger is given a reserved seat and, in some cases, onboard beverages and a newspaper. He is also given an opportunity to participate in bus routing and scheduling decisions at monthly organizational meetings.

Operators of these private subscription buses are able to provide service for as little as 4.3 cents per passenger mile, compared to 11.6 cents in cost for RTA rail services. The buses provide an inexpensive transit alternative comparable to the new "no-frills" services of the deregulated airline industry. Because some Chicago commuters have switched to the low-cost services from automobiles, the buses have also served to reduce road congestion.

These cost advantages have led to accusations from public officials that the private operators "skim the cream" by offering service only during rush hour. Others argue that the services are "unfair" because they employ low-wage labor on split shifts, a practice vigorously opposed by most labor unions. Some still argue that the buses are a fad fueled by consumer outrage over public-transit fare increases—even though the private buses have been in operation for nearly three years.

Nearly all publicly operated rail transit services in Chicago have suffered from the growing consumer preference for private bus services. The transit mode that was hardest-hit—experiencing nearly 70 percent of total ridership losses—has been the Illinois Central Line running south of the city. Despite its advantages in terms of speed and on-board amenities, almost 4,000 daily riders have shifted to the more-flexible, less-expensive bus services. For many commuters, the increased travel time on the bus is offset by the more-convenient neighborhood pick-up and drop-off locations provided and the friendly atmosphere on board. A large number of commuters claim that "they would never go back to the train."

Chicago's innovative new entrepreneurs have captured the attention of a group of transportation economists who contend that transit deregulation, like airline, railroad, and trucking deregulation, would enable the industry to more effectively serve the consumer. The unique sequence of events in Chicago has provided an excellent opportunity to study the potential benefits of a competitive transit environment.

At the core of the monopoly-versus-competition issue for transit lies a simple economic question: How will competition from private operators affect the operating efficiency of an urban transit system? Many analysts argue that transit, particularly rail transit, is a "natural monopoly" and is most efficiently operated when sheltered from competition, as are many water and electric utilities. A 5 percent drop in ridership due to competition, they argue, will increase the per mile cost of handling the remaining 95 percent. So competition is considered wasteful or destructive.

With the help of Joseph L. Schofer of Northwestern University's Transportation Center, I undertook a comprehensive study of the implications of private firms competing with public operators in providing urban transit service. The study, presented before the Transportation Research Board in Washington, D.C., utilizes Interstate Commerce Commission (ICC) cost data and a reputable cost-allocation technique to estimate the likely effects of Chicago's private firms competing with the city's subsidized RTA rail services. It is one of the first studies to check out whether data support the widely held belief that more competition will reduce transit operating efficiency and therefore boost taxpayer-financed deficits. The report concentrates on the city's densely populated Illinois Central transit corridor, where private buses have captured a market share of over 35 percent in many suburbs.

As part of the analysis, 75 cost categories for the public transit operator (RTA) were quantified. A mathematical model was used to estimate the economic consequences of service cutbacks by the public operator as private operators assumed a larger share of the market. This required an investigation of the operator's labor agreements and capital structure, as well as extensive use of present-value analysis to account for costly time lags in realizing the resulting savings.

Factors such as severance pay to furloughed employees (six full years' worth for most unionized employees), capital replacement policies, and right-of-way maintenance expenses were analyzed to estimate the long-term changes in the operator's cost structure as it scaled down its operation. An effort was made to include only cost reductions that would be realistically attainable by the public operators. Consequently, most of the estimates were deliberately conservative.

It was found that the public operator could reduce costs by over $89,000 per year for every transit car taken out of service. And for every train-mile of service eliminated, the operator would save $21 a year.

But how much service could a public operator realistically eliminate in response to the expanding fleet of privately operated buses? A ridership survey was taken for both private bus and RTA public rail services in the corridor. This helped in estimating the number of commuter trains the RTA could eliminate each rush hour and the number of transit cars it could permanently take out of active service, along with other operational changes. It was found that 3 full-length trains could be curtailed each rush hour and 18 double-decked transit cars taken out of service on the Illinois Central Line alone. "Car-miles" of train service, a variable closely correlated with total labor costs, could be reduced by over 300,000 per year.

The analysis consistently demonstrated that a shift in market share could significantly improve the operating efficiency of transit in the corridor (measured in cost per seat mile). If the government operator eliminated excess capacity in response to its competitors' service (as a private business unquestionably would), the average cost of transit service in the corridor would drop by more than 5 percent. This increase in operating efficiency would translate into a cost reduction of over $1.5 million per year. This figure could be expected to grow as more passengers left the RTA system in favor of less-expensive private subscription buses.

It might be objected that public rail services are of "superior quality" to the private bus services, making intermodal comparisons misleading. So a quality variable was factored into the analysis. Any quality differences, however, were found to be without much significance. Even under the most lopsided "quality" scenarios (weighed greatly in favor of the public transit monopoly), overall efficiency was found to be greatest in an environment of competition from private operators.

Skeptics of the new private transit industry often claim that competition will lead to staggering deficits for public transit systems. Protective labor agreements and irreversible capital expenditures, they argue, will greatly diminish the savings to the taxpayer from service cutbacks. But the evidence in Chicago suggests that this need not be so. If the recommended service cutbacks are made, long-run deficits can actually be reduced as private transit services expand.

The heavy concentration of ridership during morning and evening rush hours requires the public operator to employ large quantities of labor and capital that are idle during the rest of the day. But private services operating during the peak travel periods reduce the "peaking" of demand for public rail services. They thus create an opportunity to substantially reduce RTA labor and equipment costs. Many RTA train crews that have traditionally been scheduled to make only a few trips each day because of the heavy peaking of ridership during rush hour can be rescheduled in a more-productive way.

Whether or not the RTA acts to increase efficiency and cut costs by eliminating excess capacity is another matter. So far it has not, although it should be noted that some of these effects have been achieved indirectly: with the economic recovery, transit ridership is up, but the RTA has not added new capacity. Meanwhile, the state of Illinois is moving to cut back on its operating subsidies to the RTA. Given the findings noted above, it should do so fearlessly.

These findings lend support to the argument that the public is best served by permitting a healthy degree of competition in the marketplace. In addition, they suggest that the "natural monopoly" argument, despite its widespread appeal to transit planners, is based on assumptions that do not stand up to quantitative analysis.

Transit deregulation would also create a powerful incentive for public transit operators to contain costs, a task with which Chicago's public operators have been notoriously unsuccessful. Because private bus services represent a permanent and realistic substitute for public rail services, the study found that labor negotiators are now in a comparably stronger bargaining position to attain much-needed labor reform. With an increase in competition, they are better able to negotiate revisions in the carrier's many antiquated work rules, eliminate "featherbedding," and make the necessary provisions in labor agreements to allow for splitting shifts. Evidently, increased competition in the transit industry would benefit the taxpayer in much the same way as increased competition in the airline and railroad industries has benefited the consumer.

The Chicago experience, of course, is only one example of the much-overlooked potential of the private sector. But it is a case that free-market advocates can use to demonstrate that consumers are better served in a competitive environment. The public would be better served by freeing the emerging private transit industry from the complex "common carrier" regulation that is greatly discouraging its growth.

The tough standards set by the Reagan administration for federal funding in the operation or construction of urban transit systems is leading to an increased interest in privately financed transit alternatives. Several states, including Arizona and Florida, have already taken action to dismantle their transit-entry regulations.

The deregulation issue is also beginning to receive attention in more densely populated, urbanized states, where transit entrepreneurship and innovation are more urgently needed. There is a growing understanding that flexible and responsive private transit services are an attractive alternative to capital-intensive and subsidy-dependent rail systems, such as those currently being constructed in Miami, Atlanta, and Baltimore and pushed by transit planners in Los Angeles and Denver.

Many public officials with a vested interest in today's government monopolies will continue to oppose the deregulation of the transit industry, just as they opposed deregulation of other sectors of the transportation industry. It is now clear that many of their most cherished arguments against a competitive marketplace are either vastly overstated or unsupported by the evidence. The Chicago experience reveals that there are strong economic reasons for deregulating the transit industry—even when the taxpayers have been made to invest heavily in a rail transit system of its own.

Joseph Schwieterman studied economics at Northwestern University. He works as a market analyst for a major airline.