Postal Regulatory Commission

1. PostalRegulatoryCommission Postal Pricing Regulation in the U.S. October 4, 2011 Charles J. Robinson Assistant Director Office of Accountability and Compliance

2. Introduction • Postal eras • Commission organization • Pricing regulation

3. U.S. Postal Eras • Post Office Department (1775) • Postal Service (1970) • Postal Reorganization Act • Postal Service (2006) Postal Accountability and Enhancement Act

4. Postal Reorganization Act of 1970 • Created U.S. Postal Service – Independent agency of executive branch of government • Breakeven mandate – Postal Service funded by postage not taxes • Created Postal Rate Commission – Oversight of rate setting • Social compact – To bind the nation together through the personal, educational, literary, and business correspondence of the people

5. Postal Accountability and Enhancement Act (PAEA) of 2006 • Flexibility to compete, innovate, and respond to the market • Postal Service allowed to earn and retain profits • Postal products separated into market dominant and competitive products • Greater Postal Service accountability and transparency • Created Postal Regulatory Commission with strengthened regulation and oversight

6. Postal Regulatory Commission • Independent Federal Agency • Regulator of U.S. Postal Service only • Five commissioners appointed by the President and confirmed by the U.S. Senate • Mission: Ensure transparency and accountability of the U.S. Postal Service and foster a vital and efficient universal mail system

7. Postal Regulatory Commission Organization §505 Officer of the Commission representing the general public

8. Postal Regulatory Commission Pricing Regulation Generally • Congress divided postal products into two groups • Market Dominant (monopoly products) • Competitive • Market Dominant products are subject to a price cap that should protect mailers of market dominant products • Competition should protect mailers of competitive products

9. Market Dominant Products (1) Five Classes of Mail • First-Class (letters, bills, statements, personal) • Periodicals (magazines and newspapers) • Standard Mail (advertising and light weight parcels) • Package Services (Single-piece parcel post and bound printed matter) • Special Services (e.g., certified mail, return receipt, money orders, insurance)

10. Market Dominant Products (2) • Each class contains products • First-Class products • Single-piece letters and cards • Presort Letters and cards • Flats • Parcels • International First-Class Mail – Outbound • International First-Class Mail – Inbound

11. Market Dominant Products (3) The Postal Service Can Charge Any Price It Wants Subject to Three Caps • Cap on class prices • Cap on workshare discounts • Cap on rates for preferred mail category (Mostly nonprofit mailers)

12. Market Dominant Products Price Cap Regulation (1) • Annual price changes for each class cannot exceed inflation as measured by the Consumer Price Index (CPI) • Percentage change in rates by product and within product may exceed CPI • For example, the percentage increase for the single-piece letter first-ounce rate could be above the CPI, while the percentage increase for the extra-ounce rate could be less than the CPI • The Commission uses a 12-month simple moving average

13. Market Dominant Products Price Cap Regulation (2)

14. Market Dominant Products Price Cap Regulation (3) • Classification hierarchy • Class • Product • Price Category (Bulk Mail) • Price

15. Market Dominant Products Price Cap Regulation (4) • Congress could have chosen to apply the price cap to • all classes as whole (most flexibility) • The average increase for some classes could exceed the CPI • each class (actual law) • each product • each price category • each price(most restrictive)

16. Market Dominant Products Price Cap Regulation (5) Unused Rate Authority • The Postal Service does not have to use all of the available CPI • It may bank any unused portion and use it later • If it uses any banked amounts in a future case, the amount above the applicable 12-month CPI cannot exceed 2% (CPI + 2%) • If there are multiple years with banked amounts, the Postal Service must use them in the order they were banked • Unused rate authority can be banked for only 5 years

17. Market Dominant Products Price Cap Regulation (6) Unused Rate Authority-Example • Assume Price Cap = 5% • Assume requested price increase = 4.3% • Unused Rate Adjustment Authority (Banked Authority) = • 5% - 4.3% - 0.7%

18. Market Dominant Products Price Cap Regulation (7) Variations on Rate Increase Requests • If the Postal Service requests a price increase less than 12 months since the last CPI increase • It is only entitled to the CPI increase since the last request plus any banked amount it chooses to use • If the Postal Service requests a price increase more than 12 months since the last CPI increase • It is entitled to the most recent 12-month CPI plus any banked amounts • The interim period becomes unused banked amount, but it cannot be used until previous year banked amounts are used

19. Market Dominant Products First CPI Price Change Under the New Law • Filed February 11, 2008 • Scheduled to take effect May 2, 2008 • CPI = 2.9% • Approved all rates, except for one barcode discount that exceeded avoided cost by substantial amount

20. Market Dominant Products Second CPI Price Change Under the New Law • Filed February 10, 2009 • 12 months after last price change was filed • Scheduled to take effect May 11, 2009 • CPI = 3.8% • Approved, except for two rates for mail tracking service found to be discriminatory

21. Market Dominant Products Third CPI Price Change Under the New Law • Filed January 13, 2011 • 23 months after last price change was filed • 11-month interim period • Scheduled to take effect April 17, 2011 • 12-month CPI = 1.741 • Approved • Created negative banked amount (-.577%)

22. Competitive Products (1) • Express Mail (domestic and international) • Priority Mail (domestic and international) • Parcel Select and Parcel Return Service • Negotiated Service Agreements (domestic and International)

23. Competitive Products (2) Three Tests in the Law • Market dominant products, as a whole, must not cross-subsidize competitive products, as a whole • The Commission uses incremental cost • The revenues for each competitive product must cover the corresponding attributable cost • Competitive products must pay a fair share of the institutional cost of the Postal Service • Institutional costs are primarily fixed costs

24. Competitive Products (3) Types of Cost Supporting the Three Tests Attributable Cost • Attributable cost equals volume variable cost plus product specific cost • Volume variable cost = marginal cost x volume • Product specific cost • Does not vary with volume • “But for” the existence of the product, the expense would not be incurred • For example, the advertising expense for Express Mail

25. Competitive Products (3) Types of Cost Supporting the Three Tests Incremental Cost • Incremental cost equals the difference between the total cost of the Postal Service now and the total cost without, for example, First-Class mail • This is equivalent to the total variable cost of a product plus any product specific costs • Note the use of the term variable cost rather than “volume variable cost” • Variable cost includes the cost imposed on the system by each piece of mail not just the last piece • To comply with the law, incremental costs for competitive products as a whole are estimated • Attributable cost plus • Group-specific cost

26. Competitive Products (3) Appropriate Share of Institutional Costs • The Commission determined that the appropriate share is 5.5 percent • Based on history • By law, to be re-evaluated at the end of this calendar year • Retain • Change • Eliminate

27. Contact Information • www.prc.gov • Charles.Robinson@prc.gov