Frank Rodriguez

Uniform Pricing and Postal Market Liberalization

A widely accepted definition of the universal service obligation (USO) in posts is the provision of a universal postal service at a uniform (that is, geographically averaged) price. Historically, the reserved area has been put in place in individual countries to allow postal administrations to finance this obligation. However, as postal markets move into an increasingly liberalized environment, the question naturally arises as to whether the uniform price would necessarily be a market generated outcome in this new world. Alternatively, would demand and cost conditions make it more likely that market behavior would lead to a more complex pattern of tariffs from postal operators which would lead to differentiation by customer type and geography? This is an issue of fundamental importance to regulators and policy makers for, in general, national governments value highly the maintenance of the uniform tariff while, at the same time, wishing to promote market liberalization.

Alternative approaches to estimating the cost of the USO in posts

Abstract The USO in the postal sector can be defined as the provision of universal postal service at a uniform price and the move towards liberalisation of postal markets has highlighted the issue of measuring the cost of this obligation appropriately. The paper reviews two alternative approaches to estimating the financial cost of the USO — Net Avoided Cost (NAC) and Entry Pricing (EP). It concludes that EP, rather than NAC, is an appropriate measure to use if, as in posts, a market is being liberalised and entry is expected to lead to major structural change. The paper reports empirical estimates for the UK of each of these measures.

Disaggregated Letter Traffic Demand in the UK

All national post offices offer an extensive range of mail products to customers. It is likely that the various demand elasticities of these products differ across services (for example, products grow at different rates in response to economic growth or are more or less responsive to a given price change) and that there is some degree of substitutability between at least some products. It is also the case that the impact on volumes from developments such as electronic substitution and competitive entry may vary across services. Consequently, it is important to have an understanding of the demand for mail products at a disaggregated level. There are various approaches that, in principle, could be adopted to gain such understanding but, where data are available, one which is well suited at a relatively high level of aggregation is econometric modelling using time series data.

Pricing and Welfare Implications of Alternative Approaches to Setting Price Controls in the Postal Sector

Within the postal sector, price controls are being developed and set to limit the scope for a universal service provider (USP) to increase prices and to provide incentives for improvements in cost efficiency (Correia da Silva et al, 2004). The provision of universal postal service, including setting geographically uniform prices within a country or member state, is an overriding requirement for the development of any policy decision in the postal sector, including that of setting of a price control. Further, some countries have moved away from a monopoly provision of postal service to one that is open, to varying degrees, to competition. The optimal structure for price controls within the economics literature is that of a global price cap (GPC) (see (2003) and the references mentioned there), where all goods provided by the regulated firm are included in the computation of the price cap. This familiar result arises under conditions where a regulator is assumed to seek to maximise welfare while a regulated business maximises its profit and leads to optimal prices that are based on a mark-up on marginal costs. While GPC is the optimal structure for a price control also in the presence of competition, regulators have looked at alternative structures and approaches, at least in part as a means of facilitating or promoting competition. For example, some have considered removing services that are deemed to be competitive from the coverage of the control (Dudley et al, 2005).

Welfare and Pricing of Mail in a Communications Market

We build a model where a postal incumbent offering single piece, transactional and advertising mail competes with postal entrants and with a firm offering an alternative medium. We solve for the optimal prices under various competition assumptions. We calibrate the model and provide numerical simulations in order to shed light on the impact of these assumptions on volumes and welfare levels.

Estimating the Cost of the Universal Service Obligation in Postal Service

Universal service in the postal sector entails the provision of an ubiquitous minimum quality of postal services to all (national) customers at an affordable (almost always) uniform set of prices. Most public postal operators (PPOs) are required by government to provide universal service. Since costs are not uniform, meeting this “universal service obligation” (USO) inevitably involves subsidy of higher cost routes. Although external subsidies for public postal operators may yet provide some support for universal service, the granting by government of a “reserved” area represents the main means of funding universal service costs. The exclusive right to provide reserved area services (generally defined by reference to weight and/or price) enables PPOs to fund the costs of universal service through cross-subsidy.

Access Pricing and the Uniform Tariff in the Postal Sector

One approach considered by policy-makers and regulators as part of the process of opening up postal markets has been to encourage access by entrants to the postal facilities of the universal service provider (USP). In considering this way of liberalising the postal market, policy-makers have followed an approach first developed in other network industries such as electricity and telecommunications. In particular, because of the natural monopoly properties of delivery there has been interest in opening access to the delivery function of the USP or “downstream access”.The European Commission reviewed this approach to liberalisation as part of its work leading up to the Postal Directive of 2002 although it favoured primarily the approach adopted in the Directive, namely of liberalisation through the reduction of price and weight limits (CTcon 1998, Official Journal, L 176/21, 2002). One of the central issues on access concerns the price that should be charged by the USP for the use of its facilities. The EU Directive requires that, for such purposes, access prices should be on an avoided cost basis or that “tariffs shall take account of the avoided cost, as compared to the standard service covering the complete range of features offered for the clearance, transport, sorting and delivery of individual postal items.”1 In this it follows quite closely the approach used widely in the postal sector for the pricing of workshare discounts which uses the “efficient component pricing rule” (ECPR) as first developed and applied in the US (Cohen et al, 2002).

Funding the Universal Service Obligation under Liberalisation

In De Donder et al (2001), we constructed a theoretical model whose aim was to understand, qualitatively, how the postal market might develop if it were liberalised and the reserved area reduced significantly. The primary justification for the existence of a postal monopoly is the funding of the universal obligation (USO) and, in nearly all countries, this takes the form of the provision of a universal postal service at a uniform (that is, geographically averaged) price. In our model, the incumbent was faced with a USO of this form and just covered its costs (including the fixed cost associated with the universal provision required by the USO as well as making a ‘normal’ rate of return on assets) before the opening of the market to competition. Through the model we studied, in particular, the consequences for the sustainability of the uniform price of fully liberalising postal markets and found that the operation of the market would lead to heavily differentiated prices and the break down of the uniform tariff. However, that paper did not consider explicitly the issue of the funding of the USO itself.

Access Pricing and Parcels Delivery

The market for the delivery of packages and parcels is a competitive one. Particularly in areas of high population density, fixed costs are low as are the costs of entry and exit from the market. However, a full rural network for parcels delivery, while feasible, may not be cost efficient. In some countries, the rural part of the universal service providers (USP) letter mail network is used to deliver parcels to rural areas, a situation which in effect allows a single network help meet two universal service obligations (USOs). The first of these is the provision of a universal postal (letter mail) service at a uniform (letter) tariff and the second is the provision of a universal postal (parcels) service also at a uniform (parcels) tariff. At the same time, as the postal market is liberalized, other parcels operators who do not need to meet a USO may wish to use the USP’s rural network for delivery of their parcels as well. The focus of our paper is on the access pricing issues raised by this complex interaction of two USOs using a shared rural delivery network together with the potential availability to non-USO parcels operators of the use of the USP’s rural delivery network.1

Optimal Pricing of Mail in the Transactional Market and Welfare for the Wider Communications Market

The traditional bulk mail market can be thought of as serving business communication needs with other businesses and customers, and includes transactional and advertising mail, as distinct from single piece mail. Through transactional mail the sender is able to meet its obligation of providing information to the recipient (examples including banks’ statements and utilities’ invoices). However, transactional mail can also be seen as one of several alternative media for financial institutions to communicate to their customers. Within this wider communications market, the financial institutions can and have started to develop internal profit centers in Europe to charge for their transactional activities. Such centers may form only one part of financial institutions’ overall profits and are investigated alongside the need for the universal service provider to break even and therefore within a wider communications market than just the mails’ market (but not within an even wider context of the financial institutions’ overall profits).