Time to pay up for the USO

The Universal Service Obligation (USO) has been the subject of a number of articles and discussions within the pages of Mail & Express Review. Elmar Toime has extensive experience of the practical issues surrounding the USO in both New Zealand and Europe. He makes his contribution to this ongoing debate.
The emperor has no clothes

The term Universal Service Obligation is often used as shorthand for “life’s tough when you are a postal operator”. After all, collecting and delivering letters to every corner of the country nearly every day of the week, for a single uniform price, needs a lot organisation and effort. And if you add other challenges such as maintaining an often unprofitable post office network, prices strictly controlled by regulators, constraints on business expansion, and government reluctance to allow productivity initiatives that might result in short term conflict, you can see why postal people spend so much time talking about the USO.

I think it is time to put a value and a cost against the USO. Let me begin with a story based on a well known folk tale.

The emperor (the government) happily strides down the high street, receiving the cheers of the citizens who are supposedly admiring his wonderful clothes (the USO). He imagines how amazing he must look: after all he has been talking about the grand tradition of the USO for many years. The problem is that he has not been paying his tailors (the post) and these new clothes have not arrived (no, they were not lost in the post!). His officials (the regulators) want to keep him happy rather than well informed, and so they send him out naked. What a mess it is going to be when he discovers the truth.

This rather convoluted analogy emphasises one thing: the USO, however it is to be defined, is a public policy choice and it costs money. It can be paid for by the users or it can be paid for by citizens generally and the decision should be made in an open, informed and rational manner.

The value of the USO to the post

Let us look at the advantages the USO brings to the national postal operator. By having this universal presence the post has earned a measure of trust and competence, reflected in its brand strength. The post can use this to expand into new business areas such as secure digital mail services: “Post is the brand you can trust”.

Another marketing advantage for the post is that of customer inertia. People know the deal they get when they use the post and it is hard for a new competitor to counter that. Market research has shown repeatedly that a competitor has significantly to undercut postal prices to get customers to switch. Sure, large mailers value every fraction of a cent reduction in price, but there is a fair degree of price inelasticity for everyone else, and that is what we mean when we say the post has market power.

Another great advantage for the post is its investment in the infrastructure of its sorting centres, post offices, delivery and transport networks. This gives huge economies of scale. It also allows the post to expand horizontally into related business areas. How should we cost the extra effort needed for a postie to deliver a parcel given he or she is already going to be walking past the address? There are other benefits of being the incumbent. Stamps and collectables can be priced as luxury goods, with higher margins; participating in the international mail network generally provides mail volumes without too much selling effort; and so on.

The cost of the USO

Despite all these undoubted advantages, the USO is also costly. Is the cost worth it and, if it is, how should it be paid for?

The invention of the ‘modern’ postal service, a universal service paid for by the sender at a single price, was a huge step forward that helped all forms of commercial interaction between businesses and citizens. It was partly paid by the sender and partly but indirectly paid for by the receiver in the form of subsidies to the postal government department. As modern management practices, technologies and productivity tools started to be applied, volume growth delivered economies of scale and eventually profitability. These developments also highlighted how costs fall in providing a national service. More recently, regulated prices and improved costing data have led to better understanding of the varied dynamics of delivery in different geographies. There is now better information to help understand the value of the USO and the cost of providing it.

Today, however, declining mail volumes and widespread access to high speed broadband seems to have changed the dynamic. As mail volumes fall and communication options increase, the USO might not have as great an economic value as it once had.

How do we prove that? It is not much use asking households, the receivers of mail. Customer opinion in such matters of public services is not going to call for reduction in services. The initiative for change has to rest with those who set public policy, government and its advisors.

The sequence of things should go like this. Is the postal incumbent coping with its task of providing universal service, measured by adequate profits? If not, this exposes a sequence of potential causes. First, perhaps the operator has not been efficient enough; management has not been up to the task. Secondly, if it is not a management problem, is it one of governance? Is the board or government inhibiting the efficiency responses that management wishes to introduce? This is a far more subtle but universally pervasive problem. Government does not want any ‘trouble’, so it quietly demands of the post not to make any decisions that will cause public or employee unrest. Thirdly and finally, perhaps it has to be concluded that the USO is in fact a burden and it cannot continue to be cross-subsidised from inside the postal operation. When we reach this point, the policy solution is to pay for it. That is not as easy as it sounds, of course.

Paying for the USO

Three ways of paying for the USO are being used. The usual method is via higher postage prices that cross-subsidise the more costly services (usually rural or low density delivery areas) from the cheaper ones. This is hard to do in a competitive letters market because it opens the way for cream-skimming, leaving the more expensive services with the post. This gives rise to the second method of paying for the USO, by levying all those who wish to enter the market. Where this is policy, for example in Japan or Finland, it has prevented competition, and that means we do not know how efficient the incumbent operator actually is. Finally, the USO could be paid for through direct subsidies from government budgets to the supplier of the service. This is not common, probably because of the difficulty of netting the costs against the advantages of the USO, but a current example would be the state aid received by Royal Mail for its post office network.

Finding a mechanism that accepts that the USO is a public policy position and therefore should be paid for in some explicit way brings another advantage. It allows an economic value to be placed on it. For example, if a six day delivery is to be maintained at a certain cost, that cost can now be compared against the value of a school or hospital.

While a post makes money, there is no incentive to look too hard. But now, with the pressures of ongoing volume decline through mail substitution, it is time to re-examine postal economics, the value of the USO, and whether fewer obligations at less cost would be a better outcome. Otherwise, I would not want to be the emperor walking down the high street, having everyone admire what a great outfit I’ve got!

Elmar Toime, Director, E Toime Consulting Ltd.

Comments to Elmar Toime at [email protected]

This article was published in the June issue of Mail & Express Review. To subscribe to the magazine, click here.