Monday, March 20, 2017

The Rise and Fall of Rockefeller

A little over a century ago, the United States found themselves in the grip of a vicious monopoly that not only controlled the petroleum market and held its consumers hostage, but also endangered the very foundation of American democracy. Peter B. Doran, Vice President for Research at the Center for European Policy Analysis and host of the podcast History of Oil, sets out to present to the general public how the “anaconda” of the Standard Oil monopoly was finally defeated in Breaking Rockefeller: The Incredible Story of the Ambitious Rivals Who Toppled an Oil Empire.
The story of John D. Rockefeller and the Standard Oil trust is one of the most controversial in business history.
The story of John D. Rockefeller and the Standard Oil trust is one of the most controversial in business history. Not only is it regularly used as the classic case for free markets inevitably leading to abusive and hostage-taking monopolies, but it also serves as one of the prime examples justifying the need for government regulation of competition and the adoption of the Sherman Antitrust Act (never mind the fact that the Sherman Act was adopted in 1890, but applied to Standard Oil only 20 years later).

Rockefeller’s story made the subject of many books and articles, starting with emotional, misleading muckraker publications, all the way through dry business studies and some more approachable biographies. Mr. Doran’s work finds itself on the more welcoming side of these works, and is a fresh addition to the rich literature on the subject. Moreover, his book takes a wider look at the Standard Oil’s business career, putting it in an international context. Regrettably, as far as the Standard Oil company is concerned, this look is sometimes much too wide, relying mainly on Ron Chernow’s previous biography of Rockefeller (Titan: The Life of John D. Rockefeller, Sr.) and neglecting other valuable economic and historical studies on the subject.
Seeking Balance
Published in 1998, Ron Chernow’s Titan was the first full-length biography of John D. Rockefeller since the one published by Allan Nevins almost half a century before. It also came at an opportune time as public debate again settled on the problem of monopolies and the need for government intervention to protect the “freedom” of our markets. This time, it was Microsoft’s turn to be subjected to State antitrust scrutiny, and Bill Gates was at the time commonly compared to Rockefeller (although, beyond superficial similarities in their positions, anyone familiar with their biographies would have steered clear of such comparisons).
Chernow’s biography of Rockefeller attempted to tell a balanced and fair history of this titan of industry, and, for the most part, it succeeded. While the progressive muckrakers Henry Demarest Lloyd and Ida Tarbell excoriated the “robber baron” for monopolizing the oil industry and abusing its consumers, biographers such as Allan Nevins depicted Rockefeller in an admiring and heroic light, overcompensating in an effort to set the historical record straight. Chernow tried to maintain a composed approach and presented his subject as both wrong-doer and benefactor, giving credit to Tarbell where it was due, but speedily repudiating certain falsehoods.
Although Chernow had access to mostly the same research material as Nevins, his work still presents new or previously unused details of Rockefeller’s life; additionally, fresh material relating to personal and familial matters was made available to the author, and he made good use of it in presenting a mostly impartial picture.
Unfortunately, rather than giving a proper vindication of Rockefeller’s business practices, Chernow balanced the businessman’s ruthlessness with his lifelong philanthropy, highlighting the way in which his strong Baptist beliefs shaped his vision of himself as an entrepreneur favored by God’s blessing as well as a humanitarian patron charged with improving the state of the world. Despite convincingly attributing Standard Oil’s growth to many of its innovative entrepreneurial accomplishments, Chernow fell short of addressing the economic case behind the company’s business practices and is visibly troubled by the railroad rebates or the “predatory pricing” on which Tarbell based her attacks.
The Standard Oil's "Predatory" Pricing
Following in Nevins’s footsteps, Chernow acknowledged a certain commercial reasoning behind railroad rebates and even the fact that the Standard Oil combination was more like a federation of independently managed (and sometimes uncoordinated) companies rather than a single unit under Rockefeller’s despotic rule. He even mentioned the fact that the Standard Oil’s pricing policies were not uniformly “predatory” (although he didn’t expand on how a dynamic pricing strategy in the face of different sellers is essentially competitive rather than monopolistic), but never saw beyond the antitrust rhetoric which claims that the Standard Oil gained and maintained its monopoly position by undercutting its competitors and subsequently buying them out.
When the Standard Oil reduced its prices, it did so below the costs of competing enterprises rather than below its own production costs.
As Nevins himself showed earlier, when the Standard Oil reduced its prices, it did so below the costs of competing enterprises rather than below its own production costs. And, indeed, Standard Oil did not have a uniform pricing policy, which would have been both commercially unsound and ridiculous – how could anyone expect a company to lower prices equally in all markets, when they had different configurations? Instead, it “discriminated” in establishing prices that responded to different markets’ elasticities with a view to maximizing profits. What is noteworthy about the investigation into Standard Oil’s predatory pricing is that it sorely lacks any study of the actual prices, but relies heavily on quotes from various people complaining about the great trust’s prices. This is a particularly important point that was put forth by John McGee in his valuable study Predatory Price Cutting: The Standard Oil (N. J.) Case. McGee’s conclusion after exhaustive investigation was that “Standard Oil did not use predatory price discrimination to drive out competing refiners, nor did its pricing practice have that effect.” Moreover, he presented a compelling series of arguments (which he later refined in a subsequent paper) on why the tactic of predatory pricing is unfeasible and even foolish in any attempt to monopolize any market.
In short, and for illustration purposes only, the arguments are that: market unpredictability and indeterminate term of such a war makes it much too high a gamble (this would be especially inconsistent with Rockefeller’s general commercial philosophy); since relative to its size a larger firm would lose money much faster selling at a loss than a smaller one, competitors may temporarily close down (or in the case of the oil refining business, as indeed everyone pointed out, simply reinvest in building another concern, which is what some of Rockefeller’s bought-out competitors actually did in order to get another round at selling at a profit); and that contrary to the espoused scenario in Rockefeller’s case, a price war in one market would quickly invite competition in other “monopoly price” markets and soon the war would have to be waged in numerous contested markets. Also worth mentioning is the fact that the predatory pricing setup presupposes the existence of a “war chest” of accumulated funds that the predator rests on. While this is certainly an advantage against smaller sellers, and although Rockefeller did guard his economies with a vengeance, this premise does not stand in any hypothetical predatory pricing war against larger European concerns (such as those presented in Doran’s book, aligned with Rothschild business interests).
Chernow did not bring to light these earlier contributions and maintained, in the face of rich scholarly evidence to the contrary, that the Standard Oil was a monopoly, when in fact it simply was not by any understanding of the term (single seller, lack of competitors, restricting production and imposing “monopoly prices,” et cetera). Moreover, Chernow merely glossed over the court case in which the Standard Oil dissolution was ordered – closer scrutiny would have shown that, for all the talk about a so-called “rule of reason” approach to determining whether a corporation violated the Sherman Act, the Supreme Court never analyzed Standard Oil’s business conduct from an economic point of view. It simply concluded that by amassing vast amounts of property through merger, the Standard destroyed the potentiality of competition that would have otherwise existed. In other words, the size of the company itself, and the fact that it resulted from a combination, was enough to find a violation of the antitrust act, regardless of any economic and commercial justifications of its practices or of its actual non-monopolistic conduct and performance.
It is most unfortunate that Chernow did not broach these subjects in his biography of Rockefeller. Although they are most delicate and difficult to approach, nonetheless they are essential in order to properly understand the development of Standard Oil as a monopoly. This author was content with just highlighting that Rockefeller, although engaging in wrong and misguided business practices, did so with a belief that he was doing the right thing. Had Chernow taken his valuable study a bit further, perhaps Rockefeller’s public image could have finally been vindicated to a better extent and those following in this author’s footsteps would have had better ground to stand on when presenting their own work. This is the case of Peter B. Doran, who relies heavily on Chernow’s biography, as well as on Daniel Yergin’s acclaimed history of the oil industry (The Prize: The Epic Quest for Oil, Money, and Power).
The Standard Oil As Monopoly
As the subtitle of Peter B. Doran’s new book suggests, the prose is fast-paced, populated with remarkable characters and woven around a series of spectacular events. Although this makes his book a captivating read, every chapter’s outcome hanging on a momentous decision to be made or fortuitous event to take place in the next one, behind all the display the book sadly lacks substance. This is especially disappointing since other works on the subject of the Standard Oil Company rarely go into detail on the foreign competition it faced when, long before being dissolved by the government, the monopolist’s market share had started to decline in the face of changing market conditions and ever-growing competition.
The Standard Oil did not eliminate competition – it eliminated unprofitable competitors.
Despite Rockefeller’s looming shadow throughout the book, the author dedicates only one short chapter to the ascent of the Standard Oil from a single refinery to the world’s largest petroleum monopoly. This story is familiar and paints a confusing picture: Rockefeller rightfully saw the booming oil market, with its minimal investment and fat profit margin, as a wasteful and inefficient affair to which he could bring order. His preferred means of doing this was by entrepreneurial activities, innovating technologically and commercially – yet in this author’s superficial description, Chernow’s broad narrative is boiled down to just the predatory pricing, railroad kickbacks, and elimination of unprofitable competitors (which Doran equates with eliminating competition). Doran does not address the rich literature contradicting this traditional account and does not even do justice to his source material, which hardly offers a basis for presenting Rockefeller as the “malefactor of great wealth” that Doran makes him out to be. Moreover, betraying a misunderstanding of the profit and loss functions in a market economy, he finds it startling that by creating the world’s most profitable petroleum company, Rockefeller also “eliminated nearly all forms of competition” (p. 11). However, it was not forms of competition which were eliminated, since before the Standard Oil such competitive behaviors were few in the booming market. Indeed, as the author points out, one didn’t need to be competitive in order to turn a high profit with minimal investment in the early days. It was competitors themselves who were “eliminated” – a most inadequate word when one takes into account the fact that most of them continued their entrepreneurial activities as board members of the Standard Oil.
Shell Company and Royal Dutch Petroleum Company
The rest of the book presents the development of Marcus Samuel’s Shell Company and Henri Deterding’s Royal Dutch Petroleum Company, the two rivals that would join forces in 1907 to challenge the Standard Oil. Curiously, on their way to becoming worthy opponents of the Standard Oil, the commercial activities of these two rivals were not so different from Rockefeller’s, but Doran fails to indict them the way he does the American “oil baron.”
For example, while competing with Shell, Deterding “started a savage price war” with the ultimate purpose of subduing his rival before “dividing the Asian market between Royal Dutch and Shell” (p. 128). Much like Rockefeller, Deterding “harbored the dream of consolidating all the oil producers in the Indies into a single, coordinated body.” He employed the services of deal-maker and middleman Fred “Shady” Lane to broker an agreement with Shell and align their interests into a cooperative cartel-like scheme. While Doran acknowledges the similarity to Rockefeller’s vision of market “harmony,” he somehow justifies Deterding’s arrangement as merely a defensive strategy against the presumed predatory pricing from Standard Oil (p. 156).
Initially, a deal was made in which Shell and Royal Dutch remained independent but pooled their resources. However, a merger was eventually found to be the best solution. Together with the House of Rothschild, which held an interest in the venture, and under the guidance of Shady Lane, an “absolute amalgamation of the businesses” was agreed to (p. 163). By the time the merger was executed five years later, in 1907, the alliance felt more like a takeover, with Marcus Samuel left embittered and defeated after an ultimatum from Deterding (p. 206-208). Staying on as a board member of the Royal Dutch/Shell, Marcus Samuel would retire from his own family business the following year. He continued his pursuit of public life and aristocratic titles and finally became First Viscount Bearsted after a successful lobbying campaign to convert British warships to liquid fuel.
It thus seems like both Rockefeller and his challenger employed the same business tactics, from price cutting to mergers. The double standard of judgment appears to be related to the mere size of the American “monopoly,” even though by the time Royal Dutch/Shell started to undercut in the American market between the years 1910-1914, Standard Oil had dwindled in market share and was in the process of being dissolved by order of the Supreme Court.
The End of the Standard Oil
The “breaking” of the Standard Oil was a one-two punch: commercial competition coupled with firm antitrust action. This is where Doran’s work is at its weakest. His description of the Sherman Act’s passing as a “powerful countercharge to Rockefeller’s war on competition” is woefully inaccurate: not only was Sherman’s bill not intended to empower the “U.S. government to dismantle monopolies piece by piece” (p. 186) as it managed to do a full two decades later, but during the legislative process and political machinations in Congress, the antitrust bill had become a lightning rod against popular discontent with the Republican Party’s support of high tariffs.
The Sherman Act was promoted as a political compromise with no intended legal effect.
The Sherman Act was promoted as a political compromise with no intended legal effect; a mere “restatement” of the common law that made it appear like the Republicans were doing something against the trusts their own tariff policies were protecting. It wasn’t a countercharge to anything but popular pressure, let alone powerful in any way. The support the federal government continued to give antitrust enforcement in the following two decades speaks volumes of its intent – only when it became politically motivating did actual trust-busting begin. This is all the more offensive as Sherman is on record warning of the dangers that tariff protectionism gave birth to as early as 1883. He knew the anti-competitive effects of import taxes perfectly well, as well as how they bolstered domestic monopolies. Indeed, in 1888 he had envisaged antitrust measures as tariff reform since it was very clear to him that Congress had no constitutional power to attack the trusts “unless it is derived from the power of levying taxes.”
Even though the Antitrust Act carries his name, Sherman had very little to do with the law’s final form and believed it would be without consequence, as indeed it was for the following years. Even in Sherman’s memoirs, totaling over 1,000 pages, he gave little attention to the antitrust law (a few pages reproducing a Senate speech and the Act’s provisions) and extensive considerations to the tariff system.
Senator George Edmunds of the Judiciary Committee that rewrote the antitrust law went on to claim in front of the Supreme Court that common law construction was essential to the meaning of the Sherman Act, i.e. it was a declaratory act – otherwise, it would be unconstitutional.
Much like his presentation of Rockefeller’s commercial career, Doran’s considerations on the Antitrust Act come across as superficial and uninformed. This is sadly nothing new in popular literature on the subject; in spite of a wealth of literature on the subjects, the legitimacy of antitrust and the malicious commercial behavior of the Standard Oil are usually assumed away. Nevertheless, one would expect better from a scholar whose main area of study is the history of oil.
Unfortunately, the author fares no better in his approach to the economics behind the Standard Oil’s activities and antitrust policies. Surprisingly, the book accounts for how Rockefeller “monopolized” the oil industry, and afterward goes to great lengths to show how this encouraged entrepreneurial responses and invited strong outside competition. The need for antitrust action as part of the “one-two” punch against the monopoly is never convincingly explained. Ironically, since the Supreme Court’s order was to break the monopoly into pieces, owing to their well-capitalized and strong balance sheets, the value of the individual companies’ shares on the New York Stock Exchange quickly rose.
Doran laments the fact that after the breakup these new companies were slow to compete with each other – why would they?
Doran laments the fact that after the breakup these new companies were slow to compete with each other – why would they? But the claim that “real competition took time” is curious to say the least (p. 240). In light of the experience of the oil industry throughout the 20th century – the partnership established between businesses and government during the First World War, the attempted postwar “industry cooperation,” the “conservation movement” aimed at restricting supply, the rise of heavy regulation and intervention of state and federal authorities to control the markets, and the subsequent development of the industry – Doran begs the question as to what “real competition” means and when exactly it existed. Additionally, the benefit that consumers got from the Standard Oil’s dissolution is not presented. Did supply grow? Did prices fall? Was the use of tax money in antitrust action worth it? Again, these details are assumed away. On the other hand, so are the ones on which Doran bases his vilification of Rockefeller: although the author never misses a chance to remind readers of the entrepreneur’s “exploitation of consumers” and how he “held his consumers hostage with smooth efficiency,” just as in the famous Supreme Court decision, little discussion of what such exploitation actually entailed is made (p. 241). Contrary to antitrust lore on monopoly evils, during the Standard Oil’s “domination” of the petroleum business, prices had fallen while production and quality of product had risen.
Of course, Doran brings forward the accusation of predatory pricing, in the wording made famous by Ida Tarbell: “cut to kill.” Needless to say, the legitimacy and efficacy of this concept are not discussed. Nor is its actual implementation by Standard Oil proven; indeed, the source the author cites in favor of this specifically mentions that employment by Standard of this business tactic “is impossible to prove or disprove.”
The basic idea behind predatory pricing is that Rockefeller would cut prices in any market where it met competitors, i.e. it sold its product at prices lower than those practiced by other producers. In order to argue that this could constitute predatory or even anti-competitive behavior, the author presents Rockefeller’s “devious twist” to this scheme: he would raise prices in other markets to recoup lost revenue in the market where he waged a price war.
Doran concludes “consumers suffered” because they were “the hostages to [Rockefeller’s] monopoly,” but nowhere does he indicate which consumers in what markets were subjected to higher prices as a result of price cutting elsewhere – as opposed to any other possible causes (say, different price elasticities). It is also curious that Doran claims that “in a typical price war, Rockefeller and his rivals should have felt equal financial pain” when in fact Standard Oil would strain to meet growing demand for its much cheaper product, more so than a much smaller competitor (pp. 49-50).
Exacerbating the Problem
All of this aside, the book ends on a confusing note. Tracing a parallel between the Standard Oil and Gazprom on the one hand, and Rockefeller’s foreign rivals and newly risen American fracking entrepreneurs on the other, the author argues that a new double-pronged attack needs to be made against the Russian oil monopoly through EU antitrust action and American alternative oil supply. And in order for such American suppliers to be able to thrive and enter the global market, legislative reform must be enacted with respect to the Jones Act, a protectionist regulation under the guise of a “buy American” law which stifles competition and growth. The author rightly presents the harmful effects government regulations of this kind have on competition, but argues that because of strong lobbying interests and a basic knowledge gap about the law itself, the much-needed reform will not take place without popular pressure to Congress.
Even in the face of a "gigantic anaconda strangling the oil market," competition managed to thrive.
Doran’s work proves itself to be strongly unbalanced and one-sided. He does not even attempt to address the scholarly criticism that has been presented against the problems raised throughout the book. Instead, he takes the cautious and easy route of sticking to the generally accepted view, no matter how erroneous it is. The book’s exciting prose makes it a page-turner for anyone interested oil or business history in general. Additionally, Doran does bring forward an important contribution to the Standard Oil monopoly discussion: even in the face of a “gigantic anaconda strangling the oil market” and which ruthlessly eliminated its enemies, competition did manage to thrive and entrepreneurs did rise up to challenge the monopoly successfully. Regrettably, this is not the way in which Doran puts forth this conclusion, but even framing it in a flawed narrative brings it to attention for further development. Although passing remarks are often made in the literature with respect to alternative oil sellers (independents numbered in the dozens and even hundreds, alongside foreign giants), rarely is this kind of attention given to them – perhaps because such chronicles must be centered around captivating figures such as Rockefeller, and, in the present case, Marcus Samuel and Henri Deterding.  
Nonetheless, reflecting on Doran’s concluding statements one is compelled to remark that Breaking Rockefeller does nothing to close the basic knowledge gap regarding the Standard Oil, the Sherman Antitrust Act, or the understanding of the competitive market process – on the contrary, it all but widens it.

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