pricing behaviour of postal operators and its effect on ... · pdf fileinterim results...

European Commission, DGMARKT

26 June 2012

Pricing behaviour of postal operators and its effect on postal markets

Pricing behaviour of postal operators

and its effect on postal markets

Agenda

2

● The process

o Content of the study

o Activities

● Interim results – Drivers behind pricing strategies

o A general pricing model

o Supply side drivers

o Demand side drivers

o Assessing welfare effect of pricing strategies

o Regulatory drivers

● The next steps

o Work ahead



Content of the study

3

The process

Regulation



Activities

4

The process

Activity 1: Main

developments in pricing and

regulation

Activity 2:Analysis of

developments

Activity 3:

Conclusions

and

recommen-

dations



Activities – Main developments in pricing and regulation

5

● January – May: Data collection

o Pricing

o Regulation

o Competition cases

● Workshops held with selected stakeholders in Copenhagen

o 27 January with NRAs and NCAs

o 2 February with incumbents

o 3 February with new operators

● In addition, interaction with

o FEDMA

o PostEurop

o Consumer Focus

The process




6

Most important concerns related to pricing

● Outcome of stakeholder workshops:

The process

Source: Stakeholder workshops

Incumbents

- Price caps and

controls

- Regulatory

uncertainty

Challengers

- Lack of

transparency

- Selective pricing

- Leverage effects

NRAs/NCAs

- Information

asymmetries

- Unclear

definitions

(e.g. cost-

orientation)




Questionnaire receipts, 13th June

Source: CE

● End of March: Questionnaires sent out

o NRAs: prices, volumes, regulation and

competition cases

o NPOs: prices and volumes

o NCAs: competition cases

● By early June, we received the following

replies

o 26 NRAs

o 21 USPs

o 22 NCAs

●Thank you for your replies!

The process

NRA NPO NCA

1Austria x

2Belgium x x x

3Bulgaria x

4Cyprus x x

5Czech Republic x x

6Denmark x x

7Estonia x x

8Finland X x x

9France X x x

10Germany X x x

11Greece x

12Hungary x x x

13Ireland x x x

14Italy x x

15Latvia x x

16Lithuania x x x

17Luxembourg x x

18Malta x x

19Netherlands x x x

20Poland x x x

21Portugal x x x

22Romania x x x

23Slovakia x x x

24Slovenia x

25Spain x x expected

26Sweden x x

27United Kingdom x x x

28Iceland

29Liechtenstein

30Norway x x x

31Switzerland x x x

7



Activities

8

The process

Activity 1: Main


regulation


developments

Activity 3:

Conclusions

and

recommen-

dations

Based on the information

collected, we have started to

analyse the developments.

Next: Some interim results



Activities

9

The process

Observed development in

pricing and regulation

Analysis of price drivers

and effects on markets

and consumers

We start here



Agenda

10

● The process


o Activities





o Assessing welfare effects of pricing strategies


● The next steps

o Work ahead



A general pricing model

11

● Prices set to maximize profits

o Two counteractive effects of price changes

o Operator increases prices as long as A>B

o Result 1: Prices to some extent cost-driven (high MC � high price)

o Result 2: Prices to large extent demand-driven (low elasticity � high price)

Interim results – Drivers of pricing strategies

P

Q

MC

Q1Q2

P2

P1

Increased profit

Reduced

demandB

A

Cost savings




12

● Marginal cost and elasticity affected by drivers on the supply and

demand side of postal operations

● Additional price drivers: regulation and strategic goals

o Regulation may reduce pricing flexibility

o Long term strategies may result in short term losses with both positive and

negative welfare effects

● Our aim

o Test theoretical model against actual pricing behaviour

o Assess welfare effects of the applied pricing strategies

● 3 core questions

o Are pricing decisions driven by elasticities problematic?

o Are long term strategies affecting pricing decisions problematic?

o How should regulators cope with emerging problems?




Regulatory drivers

(limiting the pricing flexibility of operators)

o Price regulation

o VAT regulation

o Access regulation


13


Supply side drivers

(affecting marginal costs)

o The role of volume developments

o Cost structure of operators

o Operations and logistics

o Quality and frequency of delivery

o Geography

o Product features

Demand side drivers

(affecting elasticity of demand)

o Product value

o Technological development

o Competition

o Substitutability/complementarity of

products

o Traditions/public image of postal

operators

o Transparency and cost allocation requirements

o USO scope



Regulatory drivers


o Price regulation

o VAT regulation

o Access regulation


14


Supply side drivers






o Geography

o Product features

Demand side drivers


o Product value


o Competition


products


operators


o USO scope



Supply side drivers - Introduction

15

● Supply side drivers affect marginal costs

● Our expectation

o Everything else equal, the model predicts…

… Low marginal cost � low price

… High marginal cost � high price


P

Q

MC

Q1Q2

P2

P1

B

A

MC



Supply side drivers – The role of volume developments

16

● General trend: Falling mail volumes

● Expected effect

o Falling mail volumes � higher MC � higher price

o Size of effect depend on how operators cope with higher MC

● Two ways of coping with higher MC

o Price increases

o Cost savings (cost structure, operations and logistics)




Supply side drivers – Price increases and cost savings

17

Price development in MS with higher/lower volume declines

Price increases

o Higher MC transferred to end customers in terms of higher prices

o Allow operators to keep profits, but might not be viable due to substitution


Note: Single piece letters 20g

Source: Eurostat, incumbent questionnaire

0,7

0,9

1,1

1,3

1,5

1,7

2004 2006 2008 2010 2012

2004=1

0,7

0,9

1,1

1,3

1,5

1,7

2004 2006 2008 2010 2012

2004=1High volume decline, <-10% Low volume decline, >-10%




18

● Cost savings

o Increased efficiency and adaption of capacity to demand changes

o Allow operators to avoid price hikes due to higher MC

o E.g. introduction of more flexible working arrangements, new sorting equipment,

work-sharing, volume gathering strategies

● Example: Volume gathering strategies

o Higher volume per visit � lower cost per item

o E.g. introduction of new (non-time critical) products and new delivery models

o Closely connected to demand side consumer preferences

● Cases

o Netherlands: “Basic Mail”

o Denmark: “XY delivery model”





Price differences D+1 vs. D+3, 2012

Note: PostNL: Bulk mail mixed 50g min 250 items; Post Denmark: mail 50g up to

25000 items per 3 months

Source: PostNL (2012), Post Denmark (2012)


0

20

40

60

80

100

D+1 D+3 D+1 D+3

PostNL Post Denmark

Euro cent

● Need for price incentives and flexible regulation?

o Price difference between alternative products (e.g. D+1 and D+3)

o Does price regulation make volume gathering strategies difficult?

19




Price development, Denmark 2001-2011

Source: Incumbent questionnaire


● Introduction of XY delivery in Denmark in 2008

o Increased price differences between D+1 and D+3 letters

o Increased incentive for substitution to D+3

3

4

5

6

7

8

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

DKK

Denmark D+1 Denmark D+3

20



Regulatory drivers


o Price regulation

o VAT regulation

o Access regulation


21


Supply side drivers






o Geography

o Product features

Demand side drivers


o Product value


o Competition


products


operators


o USO scope



Demand side drivers - Introduction

22

● Demand side drivers affect elasticity of demand

● Our expectation: Price discrimination

o Price differences not corresponding to differences in underlying costs

o Everything else equal, the model predicts…

… High elasticity (frequent users with substitution possibilities) � low price

… Low elasticity (infrequent users without alternatives) � high price


P

Q

MC

Q1Q2

P2

P1

High elasticity:Small price hike

generate large

volume loss

Low elasticity:Same price hike

generate larger

increase in profit

� incentives to

raise prices



Demand side drivers – Technological development

23

● Expected effect on pricing

o E-substitution � higher market elasticity of demand (more substitution

possibilities) � lower price

o Also effect on MC on supply side

● Earlier studies (Robinson (2007), Veruete-McKay et al (2010) etc.)

o Highest degree of e-substitution for B2C direct marketing and C2C letters

o Generally: Limited e-substitution for B2C transactional mail

● Our expectation

o Price of DM < price of transactional mail

● Our findings

o DM priced lower than bulk mail

o Prices for DM grow more slowly than prices for bulk mail




0,6

0,7

0,8

0,9

1

1,1

1,2

2004 2006 2008 2010 2012

Demand side drivers – Technological development

24

Price development 2004-12

Source: Responses to questionnaire from NRAs and incumbents


Bulk mail

Direct mail



Demand side drivers - Competition

25

● Expected effect on pricing

o Competition �higher firm elasticity of demand (some mailers can

switch) � lower price

o No improvement for captive users (e.g. individual C2X senders)

● Earlier studies (e.g. Crew and Kleindorfer 2011)

o Competition driving factor behind postal operators’ pricing strategies

o No competition: no strategic customer orientation in pricing

o Competition: price discrimination, market analysis, application of price

models

● Our expectation

o Competition promotes lower prices





26

● Our findings

o Actual competition � lower prices

o Sweden: Prices of large consignments of pre-sorted mail dropped by 40%

during the first 8 years with competition. At the same time, the price of smaller

consignments of unsorted mail increased by 92%. No sign of predation

o However, competition do not always promote lower prices


4,80

2,60 2,90

5,00

8,00

9,60

0

2

4

6

8

10

1991 2001 2009

kr/st

Large consignments, pre-sorted

Small consignments, unsorted



Demand side drivers – Competition

27

● Two types of competition: upstream vs. E2E

● Lower prices in the long run

…if customers served by the most efficient operator

● Higher prices in the long run

… if inefficient operators are kept in the market

… if efficient operators squeezed out from the market

● Problems

o Margin squeeze, loyalty rebates and discriminatory

pricing (e.g. anti-competitive zonal pricing)

● To prevent higher prices in the long run

o Check for cost-orientation at different dimensions

Upstream competition

End-to-end competition


sorting

delivery

delivery

sorting

margin

squeeze

loyalty rebates

discriminatory

pricing

II

E

I I E



Assessing welfare effects of pricing strategies

28

● Until now: Focus on supply and demand side drivers

o Pricing decisions affected by MC and elasticities

o In addition: Long term strategies

● Next: The role of regulation

o Need for intervention if existing drivers create unfavourable

outcomes

● Framework for analysis

o Welfare economics





29

● Existence of supply side drivers � cost-driven price changes

● Generally considered OK

● Volume gathering strategies may increase total welfare, if…

… creating a wider selection of accessible products for consumers

… increasing total volume and higher economies of scale

● However, total welfare may decrease, if …

… pricing is part of an anti-competitive strategy (e.g. selective rebates, predatory

pricing, zone pricing, or leverage effects)

… regulation prevents postal operators from introducing new products

o Concerns raised by incumbents and alternative postal operators





30

● Existence of demand side drivers � lack of cost orientation

o Optimal pricing strategy does not fully reflect differences in underlying costs (MC)

o Result: Might lead to price discrimination between high and low elasticity senders

● Differing opinions on whether this is OK or not

o Both from legal and economic point of view

● Again, effect on welfare is ambiguous




PS=7

● Price discrimination may increase total

welfare if…

… increasing the accessibility to products for users

with lower willingness to pay


31


Example:

Total market size: 2 units

2 consumer types: L and H

Willingness to pay: 5 vs. 10

Constant MC: 3

Uniform price

Price discrimination

Price 10 5 and 10

Users served H only L and H

Producer surplus 7 9

Consumer surplus 0 0

Total welfare 7 9

3

Q

P

2

10

1

5

DWL=2




Welfare maximizing vs. profit maximizing pricing

Source: Copenhagen Economics

Welfare maximisation(Ramsey pricing)

Profitmaximization

Price discrimination Yes Yes

Higher price for captive users

Yes Yes

Lower price for price-sensitive users

Yes Yes

Positive profits No Yes


● Difference: Distribution and level of welfare

o Ramsey pricing (welfare maximisation): Profit zero after fixed costs are

covered.

o Monopolist: Maximization of profits without constraints.

● Higher prices than Ramsey prices

32




33

● Price discrimination may decrease total welfare if …

● Implication: Need to assess the severity of welfare reductions


Risk of unreasonably high profits

- Decreases with competition

- Decreases with falling mail volumes

Risk of efficiency impediments


- Decreases if one single network (if

competition in some segments)

Risk of affordability problems


- Decreases with the share of postal

products in household budget

Risk of anti-competitive strategies

- Has to be controlled by regulation

(competition law/sector regulation)

Risk of anti-competitive strategies

- Has to be controlled by regulation

(competition law/sector regulation)




Common price-related abuses in the postal sector

Source: NCA questionnaires

Type of abuseNo. of cases

examined

Excessive Pricing 9

Discriminatory Pricing (incl. Rebates) 16

Predatory Pricing 5

Margin Squeeze 1

Loyalty Rebates 10

Tying 3

Customer-sharing Agreements 2

Other 5


34




Common market segments in postal sector cases

Source: NCA questionnaires

Market segmentNo. of cases

examined

Unaddressed Mail 9

Parcels 3

Mail Preparation 7

Press Distribution 6

Postal Money Orders 1

Addressed Direct Mail 5

Other 4


35



Demand side drivers – Trends in NCA decision making

36

● Principles of the 2009 Guidance Paper v. CJEU Case Law on

Abuse of Dominant Position

o Further research: What practice do the NCAs follow?

● Cooperation with National Regulatory Authorities v.

Inconsistencies in Decisions taken by NRAs and NCAs

● Diverging Conclusions for Similar Factual Situations: the

Example of Mail Handlers Rebates




Regulatory drivers


o Price regulation

o VAT regulation

o Access regulation


37


Supply side drivers






o Geography

o Product features

Demand side drivers



o Competition


products


operators


o USO scope



Regulatory drivers - Introduction

38

● Until now: Pricing strategies generate both welfare enhancing

and welfare reducing effects

● Way of coping with negative effects: Regulation

o Competition law

o Sector specific regulation

● Focus today: Cost orientation


Welfare enhancing effects

- Wider product selection

- Lower prices

- Higher economies of scale

Welfare reducing effects

- Unreasonably high profits

- Lower X-efficiency

- Affordability problems

- Anti-competitive effects



Regulatory drivers – Cost orientation

39

● Cost-orientation to prevent anti-competitive

foreclosure

o E.g. margin squeeze, loyalty rebates and anti-

competitive zone pricing

o Emphasized by NRAs/NCAs in stakeholder workshops

● Relevant dimension depend on specific

situation

o Upstream competition: Cost-orientated pricing of

preparatory vs. last mile activities

o End-to-end competition: Cost-oriented pricing of

geographical areas

Upstream competition

End-to-end competition


sorting

delivery

II

E

delivery

sorting

I I E

ProductA

Product B

Product C

Urbanarea

Ruralarea

Collection

Sorting

Transport

Sorting

Delivery

ProductA

Product B

Product C

Urbanarea

Ruralarea

Collection

Sorting

Transport

Sorting

Delivery




40

How is "cost-orientation" measured?

Note: In Cyprus, the NRA has only recently received cost

data for the first time and the approach is

undecided at the moment

Source: NRA questionnaire

● Our findings: Two problems with cost-

orientation

● Problem 1: Measurement level

o Often product-focus, not activity or geography

o Measurement at different levels of aggregation

● Consequence

o Hard (impossible) to verify if individual prices

are cost-oriented when cost orientation

applies on a basket of services

o Impossible to prevent margin squeeze, loyalty

rebates and anti-competitive zone prices if

cost-orientation apply at product level


Answer No. Countries

Individual price point

6 EL, ES, IE, LT, LV, SE

Individual service 12CZ, EL, FI, FR, LT, LU, MT, PL, PT, RO, SI, SK

Basket of services

9AT, CZ, DE, EE, FR, HU, IT, NL, NO

Non - application 2 CH, CY

No answer 5 BG, DK, IS, LI, UK




41

Specific criteria defined?

Source: NRA questionnaire

● Problem 2: Lack of definition

o Often no national criteria interpreting the

meaning of “cost orientation” from the

Directive

o Moreover, defined criteria differ between

countries

● Consequence

o Regulatory uncertainty

o A cost-oriented price in one country may not

be considered cost-oriented in another

● In addition: Compliance costs

o Requirement to submit regulatory accounts,

not used by postal operators for internal

purposes


Answer No. Countries

No specific criteria defined

18AT, BE, CH, EE, EL, ES, FR, HU, IT, LT, LU, LV, MT, PL, PT, SE, SI, SK

Specific criteria are present

7 CZ, DE, FI, IE, NL, NO, RO

No answer 6 BG, CY, DK, IS, LI, UK

31



Agenda

42

● The process


o Activities





o Assessing welfare effects of pricing strategies


● The next steps

o Work ahead



Work ahead

43

The next steps

Activity 1: Main


regulation


developments

Activity 3:

Conclusions

and

recommen-

dations



Work ahead

44

The next steps

Jun Jul Aug Sep Oct Nov

Activity 1. Identify development

Task 1A: Main developments in pricing

Task 1B: Main developments in the market

Task 1C: Main developments in regulation

Copenhagen workshops

Activity 2. Impact assessment

Task 2A: Impacts on postal operators

Task 2B: impacts on postal markets

Activity 3. Conclude and recommend

Task 3A: Areas of concern

Task 3B: Best practice regulation

Task 3C: Proposal for actions

Brussels workshops

Draft final Final

32



45

Thank you!

Henrik Ballebye Okholm: [email protected]

Marcin Winiarczyk: [email protected]

Anna Möller: [email protected]

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