interactions between regulatory and antitrust policies in a liberalized postal sector john c. panzar...
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Interactions between Regulatory and Antitrust Policies in a Liberalized Postal Sector
John C. PanzarNorthwestern U. and the U. of Auckland
CCP Conference: Balancing Regulation and Competition University of East Anglia, July 7-8, 2008
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Introduction and summary
• As with telecommunications, the introduction of competition into the postal sector will create problems for both regulatory and competition authorities.
• Areas in which the two policies may be in conflict include:– Downstream Access Policy– Anticompetitive Behavior of State Owned Enterprises– Exclusionary Effects of USO Funding– Two-sided market issues:
• PO Box access
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Components of Postal Value Chain(Scale econ. in collection and delivery)
• Collection– Mail brought to Local PO from
various collection points
• Short haul transport– Mail transported from Local
PO to Mail Processing Center
• Outward Sortation– Mail routed to other MPCs
using sorting machines
• Long haul transport– Mail transported to destination
MPC
• Inward Sortation– Mail directed to destination
Local PO
• Short haul transport– Mail transported to destination
Local PO
• Delivery– Carriers pick up mail for their
routes; sort in route walk order
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Stylized postal network
Local PO
SortingCenter
SortingCenter
Local PO
Carrierroutes
Carrierroutes
OutwardVolumes
OutwardInward
Inward
Long Haul Transport:Air, Rail, Truck
Trucktransport
Trucktransport
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Postal Access Issues
• Is mandated access required for successful liberalization?• Are there “monopoly bottlenecks” and essential facilities in
postal networks?• Pros of mandating access (by analogy to
telecommunications):– Reduce sunk costs of entry– Allow entry at small scale– Improve network efficiency
• Cons– Little sunk costs in postal networks– May undermine Universal Service Obligation
• In any event, how should access be priced?
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Sunk Costs and Essential Facilities
• Relative lack of sunk costs makes it difficult to view postal delivery networks as “essential facilities”– Postal costs over 80% labor costs
– Even if Incumbent’s labor costs may be sunk, entrants’ probably are not
• Competition Authorities unlikely to compel unbundled access, except for– Address system
– Mail forwarding
– PO Boxes
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Regulatory Access Policy
• Regulatory authorities may view compelled access as useful policy tool in order to:– Better exploit economies of scale
– Allow entrants to provide ubiquitous service quickly
• BUT, access pricing may result in exclusion of more efficient upstream competitors– Anticompetitive, even if “refusal to deal” is not?
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Example: shift from “cost plus” to “global price cap” regulation
• Stamp price = p
• Work-sharing discount – Access price: a = p -
• End-to-end demand = D(p)
• Fringe supply = S()
• I’s upstream unit cost = t
• I’s unit delivery cost = c
• I’s fixed costs = F
• Incumbent offers two products:– End-to-end service
– Work-shared mail
• Incumbent regulated to break-even with ECPR pricing of work-sharing– I.e., work-share discount
equal to the incumbent’s unit cost savings
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Example: shift from “cost plus” to “global price cap” regulation
• Freed from “cost plus” regulation, the Incumbent seeks to maximize:
(p,) = (p-t-c)[D(p)-S()] + (p--c)S() – F
subject to: p(D0- S0) + (p-)S0 < p0(D0- S0)+(p0-0)S0
• (Price cap index weights based upon last period quantities)• Assuming the constraint holds with equality, solving yields:
)(
)(with)(
0
0
0
0**
pD
S
D
S
d
dpp
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Shift from “cost plus” and ECPR to “global price cap” regulation: discount decreases
0)(
)()()(],[
yields )( and at Evaluating
)()()()(
)()(
)(
)()()(
]),([
0
000
0*0
0
0
0
0
**
pD
tSpDctp
d
tpd
ptppt
SStpD
SpD
pD
SpDctp
d
dp
pd
pd
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Exclusion of equally efficient competitors
• Thus the shift to global price cap regulation gives the Incumbent the incentive to reduce the work-sharing discount below its unit cost savings.
• The result is the “exclusion of equally efficient competitors” in the fringe.– Note: this may be socially efficient
• Would this be of concern to competition authorities?– Even if they were not concerned about “essential
facilities”?
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“Unfair” Competition by SOEs?
• Likely that most Incumbent Posts will not be privatized during the Liberalization process.
• Are Regulatory and Competition authorities able to adequately police their behavior with respect to competitors?
• Sappington and Sidak analyze revenue maximizing behavior of SOEs:– Regulatory cross-subsidy constraints and Antitrust predatory
pricing rules may not be adequate to prevent predation.
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Revenue max by SOEs leads to pricing below cost in competitive markets
• Incumbent is dominant in market 1 and a price-taking competitor in market 2.– Revenues given by: R1(Q1) + p2Q2
– “Joint and common costs:” K
– Attributable costs of service 1: c1(Q1,K)
– Attributable costs of service 2: c2(Q2,K)
• Example 1: Incumbent assumed to maximize revenues subject to break-even constraint:
L = (1+)[R1(Q1)+p2Q2] - [c1(Q1,K)+c2(Q2,K)-K]
L2 = 0 p2 = mc2/(1+) < mc2
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Inefficient Investment can allow SOE to “pass” the Incremental Cost Test
• Example 2: Suppose the regulator imposes the additional constraint that revenues cover “attributable costs”
L = (1+)[R1(Q1) + p2Q2] - [c1(Q1,K) + c2(Q2,K) - K]
+ [p2Q2 - c2(Q2,K)]
L1 = (1+)MR1- mc1 = 0.
L2 = (1+)p2 - mc2 - [p2 - mc2(Q2,K)] = 0
LK = -[c1K + c2
K - 1] - c2K = 0 K > Kcost efficient
• Incumbent over invests in common costs to satisfy constraint.
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Universal Service: Burdensome Obligation or Unfair Competitive Advantage?
• Incumbent Posts differ on the profitability of Universal Service (at a uniform price).
• Some feel that their ubiquitous coverage is a competitive advantage or necessity
• Others argue that the USO makes them vulnerable to cream-skimming and the “Death Spiral”
• However, Incumbents typically also provide potentially competitive products in High Cost areas, as well as Letters.
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What to do about Economies of Scope?
• If Universal Service is (somehow) subsidized, whoever receives the USO franchise will likely benefit from economies of scope between services.– Is this an “unfair” advantage?
– Is it an “abuse of dominance”?
– Is it inefficient?
• Economies of Scope between USO services and competitive service has the potential to cause conflict between Regulatory and Competition authorities
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An Illustrative USO Example:(1) Initial situation
• High Cost area potentially served by three delivery networks:– Incumbent Post’s network
delivers 1000 Letters and 1000 pieces of X-Mail.
– NewsCo delivers newspapers and “ready to” deliver X-Mail at any price greater than or equal to 4, its AIC of X-Mail
– Competitive Carriers “ready to” deliver X-Mail at any price above their unit costs of 5.
• Before Liberalization:– Post delivers 1000 Letters and
1000 X-Mail pieces at marginal costs of 1 and 2.
– Postal network fixed costs of 6000 for HC area.
– Revenues less upstream costs: Letters = 4; X-Mail = 4.
• Area Postal losses are 1000 = 1000(4-1) Letter contribution+ 1000(4-2) X-Mail contribution- 6000 HC area fixed costs.
• No X-Mail competition
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An Illustrative USO Example:(2) “Free Exit,” no USO
• Letter delivery not provided in HC area– Assume recipients pick up in town, and
• X-Mail market profitably captured by NewsCo– X- Mail price = 5, the unit cost of competitive suppliers.
• (Eg., Assume Incumbents Stand Alone Cost for X-Mail is 6/unit)
– NewsCo earns an incremental profit of 1000 = 1000(5-4) due to economies of scope with its existing network
• Local Residents complain to the Regulatory Body about the loss of “free” delivery.
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An Illustrative USO Example:(3) USO payments fund Letter delivery
• Regulator provides Incumbent a USO payment of at least 1000 to resume Letter delivery.
• Incumbent resumes Letter delivery service and X-Mail delivery, as initially.– If it did not resume X-Mail delivery, the USF payment
would have to be increased by 2000 to replace the X-Mail contribution
• NewsCo loses its X-Mail delivery business (and 1000)
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An Illustrative USO Example:(4) The “Antitrust” Complaint
• NewsCo files a complaint with the Competition Authority.– Against whom?
– On what grounds?
• Nonetheless, several things are clear:– Without the USO payment and Obligation, the Incumbent would
not deliver X-Mail.• NewsCo has been damaged by the Regulator’s USO policy
– Given, that the Incumbent is induced to deliver Letter mail, it is socially efficient that it deliver X-mail as well.
• The Incumbent seems to be guilty of economies of scope!
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An Illustrative USO Example:(5) “Tendering” the USO?
• Give NewsCo a chance to exploit scope economies by tendering the USO.
• Assume NewsCo could also obtain Letter and X-Mail delivery costs of 1 and 3 if it upgraded its delivery network at a cost of 7000– The least it would accept to assume the USO would be:
2000 = 7000 – [1000(4-1) + 1000(5-3)]
• NewsCo would deservedly lose the USO tender• But, suppose the Incumbent’s network costs are 6000
because of economies of scope with neighboring profitable areas; on a Stand Alone basis they would be 8000.
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Two-Sided Market Issues: Can Rowland Hill survive Liberalization?
• Network externalities are readily internalized under regulated monopoly provision.
• Competition brings “two-sided market” anomalies to the fore, as seen in:– Telecommunications interconnection
– Payment systems
• Regulatory and competition authorities have been perplexed by sustained “cross subsidies” and below cost pricing
• Emerging postal example is PO Box Access
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Post Office Boxes
• PO Boxes are facilities rented out to subscribers for the secure reception of mail.– Usually on the premises of the incumbent postal provider.
– Mail Boxes, Etc. is a competitive provider of PO Box services in US.
• The share of PO Box addresses varies greatly by country, but accounts for a significant proportion of both businesses and individuals.
• Delivery entrants in any region find a significant volume of mail addressed to PO Boxes.– Delivering this mail may be their only contact with the incumbent.
– Entrants offer to “do it themselves,” but incumbents reluctant to “let them in.”
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Access to PO Boxes must be mandated
• Even those (like me) skeptical of “essential facilities” arguments in postal networks agree that competitors should be granted to incumbent’s PO Box addresses.
• But, again, how to price to ensure that there is no leveraging of “dominant position” in PO Box market to delivery market.– Incumbent’s advocate ECPR
• retains the incumbent’s full contribution, even though entrant does nearly all of the work!
– Entrants (and Postal Regulators) favor cost-based rates• which can be very low.
– Notice that this comes up in the presence of delivery competition (bypass), so this is actually an interconnection issue.
• suggests “Bill and Keep” as an option
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But, at what rate?
• Natural choices are “cost based” methodologies such as ECPR or Average Incremental Cost.
• But, those approaches treat PO Boxes as a fully integrated part of the incumbent’s network.
• What if we treat PO Boxes and postal service as inter-related, potentially competitive markets?
• 2-sided market effects may make cost based rules inadequate.
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PO Boxes as a 2-Sided Market
• PO Box operator provides services to:– Recipients of mail, who value secure, perhaps anonymous,
delivery
– Postal operators, who are obligated to deliver mail addressed to PO Box subscribers.
• Postal operators “pass through” the demand of senders of mail, who, since Rolland Hill, pay for the volumes sent.
• PO Box operator can charge:– Recipients a monthly fee and/or a per piece charge
– Postal operators an access fee per piece delivered.
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Access pricing in “competitive” PO Box markets
• Competitive PO Box markets would presumably operate similarly to competitive mobile phone markets:– PO Box providers compete for subscribers, attempting to make
money on postal access charges• I.e., by creating “competitive bottlenecks”
– Unlikely to subsidize subscription• Receivers cannot guarantee access revenues
– Reception subsidies likely • Assume that free entry and exit of PO Box providers
ensures zero profit • Following Armstrong and Vickers (2001), assume that this
outcome maximizes receivers’ utility– But, this means the access charge is set at the “monopoly” level!
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What’s the appropriate benchmark for PO Box access policy?
• If benchmark is unconstrained welfare max– “Bill and Keep” looks pretty good
• If benchmark is outcome in competitive, disintegrated PO Box and postal markets– Access price might even exceed ECPR!
• Because of 2-sided market effects, cost based rules don’t seem adequate.
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Conclusions
• Competition and Regulatory authorities will have overlapping responsibilities in liberalized postal markets.
• While “optimal policy is optimal policy,” it does not necessarily result from a “level playing field.”