The bankrupt Milwaukee Road's court-appointed trustee recommended yesterday that the midwestern railroad be slashed to about one-quarter its current size early next month, putting about 5,000 employes out of work and ending the line's service to five states.

Trustee Stanley E.G. Hillman told a federal judge in Chicago that available cash to run the Milwaukee will be exhausted within weeks and that "without a radical change in circumstances, the railroad cannot continue to operate."

In a separate development, Consolidated Rail Corp. reported a major reduction in frist-quarter losses and substantially improved revenues. Conrail, based in Philadelphia, is subsidized by the federal government in an attempt to restore profitable railroad service in the northeastern states.

In the January-March quarter, Conrail lost $128 million compared with a loss in the 1978 period of $216 million, as revenues rose to $910 million from $759 million for the nation's largest transporter of freight.

Like the Penn Central and other predecessors of Conrail, the Milwaukee Road went into bankruptcy largely because of competition from truckers to an overbuilt railroad system.

Noting this yesterday in comments about the Milwaukee Road's latest plight, Secretary of Transportation Brock Adams said it "is the inevitable result of a railroad industry left with too much track and too little traffic."

Adams-who also used the occasion to seek support for the Carter administration's plan to deregulate railroads over a five-year period-said railroad presidents "must take the breakup of a far-flung system as a challenge. . .the private sector has to pick up the essential pieces of the Milwaukee system and make it work." Otherwise, Capitol Hill will make decisions for the rail industry, he warned.

The Milwaukee's formal name is the Chicago, Milwaukee, St. Paul & Pacific Railroad. But under the new plan by trustee Gibbons, the "Pacific" would have to be deleted from the name. He proposed that:

The railroad concetrate its resources on about 2,400 miles of its 9,800-mile system. Unless a "drain" caused by operating other routes can be ended and unless the Milwaukee can borrow $15 million, "the railroad must stop."

U.S. District Court Judge Thomas McMillen approve an embargo-effective May 9-on all freight services not included in the 2,400 miles that "stand some chance of becoming a self-supporting system."

Hillman's plan, based on a study by Booz, Allen & Hamilton, management consultants, would reduce the Milwaukee to a Midwest line and abandon service to the West Coast, where transcontinental service competes with the Union Pacific and Burlington Northern. Routes in North and South Dakota, Montana, Idaho and Washington state would be dropped, as would most service in Iowa.

Milwaukee's major remaining assets would be routes from Louisville through Chicago to St. Paul and a Kansas City line. If the Milwaukee ends service to the Upper Plains states, the Interstate Commerce Commission could order other lines to serve some customers left without rail connection.