News about subsidies for airlines and the U.S. cotton industry illustrate how addictive unsustainable or indefensible flows of money turn out to be.
Once a company, group or economic sector becomes used to above-market income of some type, stopping the flow is traumatic. This is particularly true when such income is incorporated into the price of some fixed resource.
None of this is new. David Ricardo, the greatest economist of all time in my opinion, spelled out the phenomenon two centuries ago. Even so, the lesson apparently must be learned again by each generation.
The U.S. government subsidizes cotton production to the tune of some $3 billion per year. Virtually all the subsidy flows to fewer than 30,000 cotton farmers. At some $100,000 per producer, cotton is the most heavily subsidized of the major U.S. agricultural commodities.
Brazilian cotton producers filed a complaint with the World Trade Organization arguing that U.S. cotton subsidies violate rules laid out in trade treaties signed by the United States. The Brazilians won two rulings on the case recently, though the appeals process and any eventual U.S. response stretch well into the future.
There are two pieces of airline news. Locally, Northwest Airlines pilots continue to duel with the carrier over what sort of compensation cuts they are willing to absorb. Nationally, a federal panel refused an additional $1.6 billion in loan guarantees to financially strapped United Airlines.
The common thread here is that both the airlines — and by extension the airline pilots — and cotton farmers have become used to streams of income that apparently are unsustainable over the longer term. Ending the flow is financially and politically troublesome in both cases.
Established airlines got quasi-monopolies when the government regulated routes and fares. Increases in costs such as fuel or salaries eventually got passed along to consumers in the form of higher ticket prices. Significantly fewer people flew then than now and those who did were either business and government travelers or higher income people. As economists would say, demand was inelastic. Higher fares did not reduce ticket sales greatly.
In this environment, pilot salaries grew inexorably compared to the levels that would have prevailed in a free-market situation. At the end of World War II, pilots did not earn substantially more than bus drivers or locomotive engineers. Twenty-five years later, many earned two to five times as much.
All this began to collapse when former President Jimmy Carter initiated deregulation of the airline industry by appointing economist Alfred Kahn to head the Civil Aeronautics Board. In the intervening quarter-century, the real cost of air travel has plummeted and the proportion of the population flying has grown tremendously. Many of the once-famous carriers — Pan Am, Braniff, Eastern, TWA — have bitten the dust while Northwest, United, Delta and others struggle financially.
Some analysts predict that eventually all of the “legacy” carriers that existed before 1978 will go under. Corporate names may survive, but all the shareholder equity and employee pension claims will turn to dust.
Cotton farmers have been subsidized since the Franklin Roosevelt administration’s Agricultural Adjustment Act of 1933. The level of subsidy generally has been substantially higher than that for corn or wheat, reflecting undue Southern influence in Congress — through the early 1980s with Democrats and since then with Republicans.
The goal of the act was to improve incomes for small farmers. Cotton subsidies did little to accomplish this. In fact, they contributed to the concentration of cotton production into fewer and fewer hands. As Ricardo would have predicted, most of the subsidies flowed into higher prices for that farmland especially suited for growing cotton. After paying the high prevailing rental or purchase price for good land, a new cotton farmer would enjoy only moderate income even with the subsidy.
Our country should do away with cotton subsidies, not as a favor to producers on other continents, but because they are economically wasteful and unjust. Eventually we will.
Despite the pleas of struggling legacy carriers, we are not going to restore the airline industry to a monopolistic regime that would sustain historic pilot salaries.
Adjustment will come and it will be painful for pilots and for cotton farmers, especially those who purchased land in recent decades. The net effect will be to make our society more efficient and fair.
The whole process would be less traumatic, however, if we had not let cotton subsidies and airline salaries grow to the inordinate levels in the century just ended.
© 2004 Edward Lotterman
Chanarambie Consulting, Inc.