Gandy dancer comes from a part of American railroad terminology. Along with the engineer, lengthman, trackman (US), pointsman, signalman, station manager, and, porter; there were the gandy dancers. They were the laborers in a railroad section gang. The evidence for such a personage is sketchy at best and the word-detective.com explains:
    Some authorities trace it to a certain Gandy Manufacturing Company of Chicago, which supposedly made tools used by track workers. According to this theory, the "Gandy" tool used to tamp down gravel in the track bed was a rod about five feet long with a projecting bar near the bottom, like on a stilt. Using the tool required placing one foot on the bar and hopping around in the track bed, a routine known, logically, as "gandy dancing."
However, he goes on to tell that no such manufacturer has ever been found to exist in any Chicago business directory during that period. Since then it has come to identify in more general terms as a designation for an itinerant laborer. Most dictionaries list its origins as unknown. One web site that hosts information about the Gandy Dancer Trail in Wisconsin says frequently the crews used vocal and mechanical cadences to synchronize the swinging of hand tools or the movement of their feet. So perhaps the name Gandy dancer originates from the rhythms of work used by the past crews who constructed the railroads.

Alabama Arts tells an interesting story about African American men teamed in groups of 8 to 14 whose responsibility it was to lay or care for the tracks of the southern railroads. Called Gandy dancers they developed a rich work song tradition composed of:

    .....songs and chants to help accomplish specific tasks and to send coded messages to each other so as not to be understood by the foreman and others. Different songs and tempos were for different jobs-lancing calls to coordinate the dragging of 39-foot rails; slower "dogging" calls to direct the picking up and manipulating of the steel rails; more rhythmic songs for spiking the rails, tamping the bed of gravel beneath them, or lining the rails with long iron crowbars. The lead singer, or caller, would chant to his crew, for example, to realign a rail to a certain position. His purpose was to uplift his crew, both physically and emotionally, while seeing to the coordination of the work at hand.
The most efficient callers were comparable to the powerfulness of a preacher who could inspire a congregation. Each caller created his own particular signature and style by using tonal boundaries and melodic style typical of the blues.

Railroad.net recounts a similar story from Texas. Because teamwork was needed to lift and move heavy sections of track or rail many groups of men developed calls and hollers. All would move together in unison at a particular point of the call and the movements required to move together resembled dancing movements. Like sea shanties it was the rhythm of the song that was importdatnt to the execution of the task at hand. It would stand to reason that the most coordinated job was rail alignment. Tracks would shift slightly after a certain amount of traffic. If not aligned, derailment, and disaster might happen. Aligning track was an onerous and difficult task because of the great weight of the track and timing needed to move it. Here is an example of a Gandy dancer call I discover on-line and found interesting:

Not My Job

I'm not allowed to run the train
The whistle I can't blow
I'm not allowed to say how fast
The railroad train can go
I'm not allowed to shoot off steam
Nor can I clang the bell
But let the Damned train jump the track
And see who catches hell.

-The Gandy Dancer's Verse

The phrase first appeared as a term around 1918. Since then it has had various slang meanings, including a petty crook or tramp, an Italian, a jitterbug, or a womanizer or active socialite. Many wonderful railroad terms were not so fortunate. H.L. Mencken noted that the now extinct fireman on steam locomotives was called an "ash cat," a "bake head" and a "diamond cracker," among other names. Though we still have a few metaphors that use railroad workers' jargon making the leap into todays' usage such as : "jump the track" and "asleep at the switch" for example. It has been used as a reference to railroad slang in a book called Railroad Avenue by Freeman H Hubbard, published in 1945. Others have suggested that gandy may be a corrupted form of gander, from the nodding heads of the workers using the tool, implying that the tool was actually named after the gandy dancer who used it. But this is no more than guesswork as they say, but still an interesting phrase with a very rich and colorful history behind it.

Sources:

Alabama Arts:
http://arts.state.al.us/news/index-news.html

Gandy Dancer's Verse:
www.fls.org.jm/users/fls/mail/gdance.html

Railroad.net:
http://www.railroad.net/speeder/gandydancer.html

word-detective:
http://www.word-detective.com/

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