Why do cartels fall apart?

0:00In the late 19th century, what happened was that businesses, many businesses, tried to effect a cartel. It started with J.P. Morgan, who rose to prominence as an investment bank in the 1870s, who started to try to cartelize the railroad. Railroads were then the only really big business. He tried to cartelize the railroad industry. In other words, everybody should get together and restrict shipping or restrict production, which in railroads is shipping, and raise prices. And it was to sign each other quotas and raise freight rates, and everybody would be better off.

0:59Railroad has the incentive to say, these guys are restricting production, rates are up, they're restricting shipping, let me start undercutting them a little bit and I can pick up all that yummy business out there. And they did it secretly. In other words, if you let your competitors know that you've broken a cartel price, then they will follow you and the advantage will be lost. You do it secretly. It's called secret rebates. In the case of railroad, secret price cutting in general in industry. So let's cut the thing in secret, you tell your buyer, look Jim, I'll give you this for 15% less, but don't tell anybody, because that would ruin the whole thing. Okay, great. So each railroad picks up this great advantage, and industry in general has happened a few, 20 years later or so, until of course, inevitably, secrets are out, six months or a year later or whatever, your competitors find out about it, and the whole cartel breaks up in recrimination and hatred,

1:48and they're back down again to a lower rate, and now everybody hates each other.