Recent Developments in Postal Liberalization and Regulation

John C. Panzar

U of Auckland and Northwestern U

ESAM 2007, Brisbane

Introduction

Postal Liberalization: The “Final Frontier”? Postal Service one of the last infrastructure industries to

experience “Liberalization For example, the last two years have seen:

Japanese Postal Privatization Act European Commission Proposed Directive for “full market

opening” by 2009 In US passage of Postal A and Enhancement Act reforming

postal regulation. What is the state of competition and regulation in this industry?

Summary

Postal Service as a Network, Infrastructure Industry What is Postal Liberalization and/or Reform? Economic and Policy Issues Research Resources Concluding Remarks

Historical Background

Postal service dates back thousands of years; e.g., Persian Empire

Rowland Hill created the modern postal industry with British “penny post” in 1840 Sender pays Uniform nationwide rates

Royal Mail example spread around the world International Postal Union organized to facilitate

international mail movements

Postal Service as a Network, Infrastructure Industry Like Railroads, Telecom and Electric Power, Postal Services

are provided over a network. Network structure gives rise to:

Economies of scale Economies of scope Geographic cost of service heterogeneity

However, unlike other infrastructure industries, Postal Service involves little in the way of sunk costs Over 80% of costs are labor costs

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

Stylized postal network

Local PO

SortingCenter

SortingCenter

Local PO

Carrierroutes

Carrierroutes

OutwardVolumes

OutwardInward

Inward

Long Haul Transport:Air, Rail, Truck

Trucktransport

Trucktransport

Universal Service standards

As in other infrastructure networks, geographically remote areas typically cost more to serve.

Gives rise to issues of uniformity of service quality: Number of collection and delivery points Frequency of delivery Delivery standards Etc.

Universal Service standards vary widely from country to country.

From Ministry to Market: Aspects of Postal Reform/Liberalization: Until recently, Posts were part of government Ministries

Often combined with Telecom The process of Postal Reform involves four distinct steps:

“Commercialization:” creation of a state owned corporate entity

Independent Regulatory supervision Market Liberalization Privatization

First step of Postal Reform tends to be Corporatization Creation of a state owned enterprise: e.g., United States Postal

Service in 1970. Instead of a government department or ministry

Corporatization serves to: Reduce political interference Facilitate budgetary accountability Increase transparency

Second step, creating an independent postal sector regulator. Postal sector regulation introduced to

Ensure the fairness and quality of Universal Service Prevent “unfair competition” against private companies

Postal regulator (e.g., US Postal Rate Commission; PostComm) has responsibility for Rates Quality and performance standards Cross-subsidy analysis

“Indepedence” required: “Each Member State shall designate one or more

national regulatory authorities for the postal sector that are legally separate from and operationally independent of the postal operators.”

Market Liberalization

Introduction of competition into postal markets takes two primary forms: End-to-end, delivery competition

New Zealand Sweden UK

Upstream, “work-sharing” competition US UK

In terms of competitor share of value added, the US is the most “open” postal market despite Draconian delivery restrictions.

Examples of end-to-end and work-sharing competition

Local PO

SortingCenter

SortingCenter

Local PO

Carrierroutes

Carrierroutes

OutwardVolumes

OutwardInward

Inward

Long Haul Transport:Air, Rail, Truck

Trucktransport

Trucktransport

Privatization

Privatization tends to be the final step in the liberalization process.

Despite economic incentive arguments, this step has yet to win wide political acceptance. No “path toward privatization” in recent US reform.

Among EU member posts, only Deutsche Post (Germany) and TNT (Holland) have a majority of shares in private hands Denmark and Malta have begun privatization

Many posts (e.g., Australia and NZ) seem to operate very efficiently as state-owned enterprises.

Table of Postal Reform Progress

Corportization Sector Regulator

Delivery Competition

Privatization

US√ √

Canada√

UK√ √ √

Aus.√ ACCC

NZ√ √

Japan? ?

EU mandates√ √ 2009 optional

Opportunities for Economic Research in Competitive Postal Markets Policy Issues:

Access pricing Competitors must be provided access to

incumbent’s upstream networks Universal Service

Incumbent usually required to maintain a uniform stamp price, despite

Privatization Incentives Political Economy

Theoretical Issue Two-sided postal markets

Toward an Economic Analysis of Postal Privatization Policy Why has privatization played such a minor role in postal

liberalization? E.g., relative to telecommunications.

If the “incentive theory” of privatization cannot provide an adequate “differential diagnosis”

Perhaps an explicit political economy analysis is necessary Obviously, “it’s political.” But, why is the political outcomes

so different?

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?

How should access be priced?

Cost-based, but “Top Down” or “Bottom Up”? E.g., EU (2002) Directive states

“…(special) tariffs shall take account of the avoided costs as compared to the standard service covering the complete range of features...”

“…any such tariffs shall be available to private customers who post under similar conditions…”

US experience with work-sharing rates based upon ECPR Work-sharing discounts based on avoided costs of

USPS (Set in absence of bypass competition.)

UK cost-based, zoned delivery access rates Economic theory, based upon Ramsey-Boiteaux principles, usually

comes out in between.

Postal Universal Service issues are inseparable from Access Pricing policy

Universal Service raise somewhat different issues than those familiar from telecommunications. Geographical uniform pricing Lack of infrastructure to finance

In the postal case, it is even more important to address Universal Service and Access Pricing issues together.

Again, the policy issues (and appropriate economic models) differ from country to country.

I will try to give a perspective in terms of the recent Proposed Directive of the European Commission

EC Proposed Directive

“Full Market Opening” by 2009 Eliminates all Reserved Services

Maintains Minimum Universal Service Standards on Member States E.g., 5 Deliveries per week Permits Uniform Pricing of Single Piece Mail

Allows for Alternative USO Funding Mechanisms: State Aid Public Procurement Compensation Funds, etc.

Implications of Directive for Postal Sector Regulators Determine whether or not USO Funding is Necessary Select Alternative Funding Mechanism

Designate Universal Service Provider (USP) Ensure USO Funding is “Competitively Neutral” Ensure compatibility between USO mechanism and

Access Pricing regime

Experience of USO Funding under “full market opening” is limited

Small, “Open” Markets Sweden New Zealand

Combining Competition with Downstream Access in a large postal market UK 2006

Small Totally Open Markets

Sweden and New Zealand have been fully open for many years: No apparent need for explicit USO funding Entrants have acquired only small market

shares Use of Downstream Access relatively limited:

terms negotiated on a “commercial basis” With governmental oversight

UK 2006

Similarities between recently opened UK market and Sweden and New Zealand: Small entrant market share No formal USO support mechanism in place

Major Difference: More extensive use of Downstream Access

and Regulatory involvement in access rates

Is the provision of Universal Service a “Burden”? Sweden Post long maintained that Universal Service is a

competitive advantage, not a “burden” PostComm concluded that Royal Mail did not need to be

compensated for its USO: “… Royal Mail’s capability to deliver to every address in the UK

is a commercial advantage and not a burden.” Royal Mail does not share this view, arguing that there are

substantial costs involved in meeting its USO. Will Liberalization always lead to Universal Service being provided

without the need for any external funding mechanism?

Reasons not to extrapolate the experience to date Small market shares so far achieved by

competitors USP’s retains ability to cross-subsidize

Limited use of Downstream Access by competitors

Neither of these situations are likely to persist in larger postal markets.

Expect Regulators to encourage Downstream Access Attractive access prices can rapidly increase competitor market

shares, demonstrating the efficacy of liberalization “For licensed operators, access can provide a launch pad to build

up their contacts with customers, as well as the volumes necessary to consider developing an end-to-end (collection through to delivery) network. For mail users, the benefit is a greater choice of operators - and therefore more choice of products and services.” (PostComm web site)

But, this erodes the “commercial advantage” aspect of ubiquitous service All firms will have it, USP will bear the costs

Sooner or later, the USO will be a burden to the USP Postal Regulators will have to:

Measure the “cost/burden” of the USO select a funding mechanism other than internal cross-

subsidization All such mechanisms are difficult to administer in a way that

preserves competitive neutrality Postal Regulation will become like Telecom Regulation: a

bonanza for lawyers and consultants.

Two-sided Postal Markets?

Even postal economists have caught on to two-sided market analysis. Result of competition; as with telecom, regulated

monopoly postal markets can be readily analyzed without 2-sided theory.

Postal markets clearly have 2 sides: mailers and recipients both use the “postal platform.”

But, it is unclear whether the basic postal interaction satisfies the Rochet-Tirole test: i.e., does aggregate demand depend upon how the fees are split. Important issue if industry departs from Rowland Hill’s

“sender pays” principle. However, there is one important postal market that is

clearly two-sided: the market for PO Boxes.

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.”

Access to PO Boxes

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

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 m and/or a per piece charge r Postal operators an access fee a per piece delivered.

Heterogeneous mail recipients

Mail recipients are indexed by two parameters (s,t) distributed according to joint density f(s,t).

t[0,T] reflects preference for PO Box subscription. s[0,1] indexes the amount mail he receives. The mail volume sent to recipient of type s, v(p,s), also depends upon

the price paid by mailers: Mailers may pay different prices depending upon whether mail is

addressed to PO Boxes (pB) or street addresses (pS). Simplify analysis by assuming mailers have equal demand elasticities

for each type of recipient: v(p,s) = sv(p). Recipient net utility:

For PO Box subscribers UB = t + (-r)sv(pB) – m For non subscribers U0 = Ssv(pS)

What’s the appropriate benchmark for PO Box access policy?

If benchmark is unconstrained welfare max “Bill and Keep” looks pretty good, especially if 0.

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.

Additional models to explore: Integrated dominate firm with postal service

competitive fringe PO Box duopolists facing competitive postal sector Integrated duopoly

Research Resources

Postal Economics has become an active area of academic research over the past 15 years.

Research conferences include: Annual Postal and Delivery Economics Conference

organized by the Center for Research in Regulated Industries (CRRI) of Rutgers University.

Biannual IDEI/La Poster Conferences on Competition and Universal Service in the Postal Sector.

Research Resources - continued

Until recently, there have only been relatively few papers published on postal topics in economic journals.

Most of the previous academic literature can be found in: Journal of Regulatory Economics CRRI Conference Volumes (edited by Michael Crew

and Paul Kleindorfer). 2007 “Postal Issue” of the Review of Network

Economics IDEI working papers

The premier source for empirical work Invaluable web resource: the website of James I.

Campbell.

“Conclusions”

Postal Economics has emerged as an exciting subfield of Regulatory Economics Important policy problems Interesting theoretical issues

I encourage you to consider “entering” this “market.”