1. Price regulation Basic Issues Workshop on Postal Communication Systems - Armenia 46798

2. Price Regulation – Basic Tasks NRA shall establish a price regulation regime that –Removes and prevents excessive pricing within the US-segment (C2C-letter segment) –Provides incentives to improve efficiency –Ensures that the charged prices are cost-oriented –Allows incumbent to react to competitive challenges within the business segments (B2B- and B2C-letter segment) –Prevents distortion to competition by discriminatory and discounting pricing policies (rebate scheme/ zonal pricing) –Removes inappropriate cross-subsidies in non-regulated areas with advantages stemming from the monoplized (legal or actual) areas

3. 3 price-regulation Procedure of the price approval cost orientation  impacts on competition/ consumers methods of price-regulation Ex-ante-regulation Ex-post regulation

4. Regulatory Regime Factors to be considered –Level of competition Fully competitive Markets = ex post Non-Competitive Markets = ex ante –Scope of US Large scope = ex ante (price cap) Limited scope = ex ante (single piece) –Quality and Availability of volume, cost and revenue data submitted by the USP Yes = ex post procedures No = ex ante procedures –National legal framework Can the regulator directly apply EC and national competition legislation/ Law –Yes = ex post – No = ex ante

5. Tarification – Basic Tasks Factors to be considered (2) –Ownership structure Price cap with I-X approach gives incentive to improve efficiency –The benefits may be restricted for Government owned operators –Degree of wholesale separation If there is effective separation of downstream delivery operations, upstream products are more contestable –Ex ante price control for wholesale products –Ex post for retail products (e.g. pre-sorted bulk mail)

6. Tarification – Basic Tasks

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8. 8 Ex-ante-regulation Procedure of the price approval cost orientation  impacts on competition methods of ex-ante-regulation Single price regulation (individual authorisation process) Price-cap-regulation

9. Tarification – Basic Tasks Examples for choice of pricing system –A I-X price cap would be most appropriate when: prices within the letter segment are already fully compliant with the principle of cost orientation, the scope of universal service includes services to business customers for which there is significant competition, possibility to forecast the cost development for the next 3-4 years

10. Tarification – Basic Tasks Examples for choice of pricing system (cont.) –An appropriately designed ex ante single price approval model should be given priority if: actually charged prices are not cost oriented, the scope of universal service is restricted to single piece mail (C2C-letter segment) for which there is little or no significant competition, uncertainty or in relation to the cost trends in future

11. Roadmap and steps of procedure: –stage 1: benchmark procedure - key elements conception Publication and commentation of key elements Public oral hearing/ consultation process Finalization of decision in relation to the fixed benchmarks –stage 2: application and approval of the price scheme Price-Cap-Procedure

12. 12 price-cap-procedure Stage 1 Stage 2 4 3 2 1 Composition of basket Determination of the basic price level Determination of the benchmarks Price-approval-procedure

13. 13 conceptual framework Composition of the baskets Determination of the initial price level for services grouped in same basket Specification of benchmarks 1.The rate of price increases in the economy overall (RPI-index) 2.The expected rate of growth in productivity of the regulated company (X-factor) 3.Constraints suited and required to guarantee compliance with requirements of the Postal Act (no abusive surcharges and discounts, no discrimination)

14. 14 Postal services that need rate approval (Point 1) PS 1PS 2PS 3PS i...... Expected level of competition (intensity of competition) Expected level of competition (intensity of competition) basket 1basket 2basket 3basket n......... PS.. Composition of baskets

15. 15 X-Factor 1.When setting benchmarks the initial price to the efficiently incurred costs of providing services must be taken into account 2.The efficiently incurred costs are derived from the concept of long running incremental costs (LRIC) considering the generally recognized business management principles and decisions 3.Exceeding expenses deriving from the obligation to provide postal services nationwide and the costs of staff pensions for those employees as result of legal succession to the Deutsche Bundespost 4.The expected productivity growth rate can be computed based on the concept of total factor productivity.

16. status quo Actually cost based Price-regulation implies price cuts as a result of efficient based price limitation –Reference toward quality standard by PUDLV (minimum standard) –Incentive for the incumbent to increase process quality (automation), but no incentive to improve product- and service- quality Efficient based regulation induces cost-cuts while reducing quality- level Investments and costs for quality measurements cannot appropriately be reimbursed 16

17. procedure Design of price-cap-procedure involving quality aspects  Extension of X-factor by Q-element  Definition of quality parameters and valuation Delivery time, Delivery frequency (5 or 6 days per week), Degree of territorial or regional coverage  Definition of weighting coefficient  Bonus-/ malus-system  Determination of the data-base  Examination of compliance with the price-cap regulations 17

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19. Ex post regulation  European competition and regulatory rules with regard to pricing strategies  Illustration and discussion of different rebates scheme and their compliance with EU competition and sector-specific rules  Recommendation with regard to discounting consistent with EU-legal framework

20. Ex post regulation Status Quo –After full liberalization USP retains its dominant position –As a result it`s commercial behaviour is subject to competition law as well as sector specific rules Reactions of USP –market-oriented pricing policies mostly in the areas of business mail –Typical tool employed by the USP is the widespread use of rebates

21. Ex post regulation  Motivation for USP  Use of rebates might be the natural way for ex- monopolist to defend its market share  Consequences:  In this regard the USP is subject to the same legal restrictions applied to every dominant provider  Certain protective measures are necessary in order to allow the new market entrants to establish a position in the newly opened market

22. Legal Framework Abuse of a dominant position Discrimination Discriminatory pricing does not automatically constitute an abuse of dominant position under general competition rules Foreclosure or exclusion of competition There must be the additional aspect of foreclosure or exclusion of competition in order to qualify this behaviour as an abuse in the meaning of Article 102 TFEU Prohibition of competition is also addressed in Article 12 of the Third Directive Third Directive contains further constraints for USP These constraints affect the incumbent`s choice of pricing strategies

23. Postal Directive and third party access Article 12: (…) - Whenever universal service providers apply special tariffs, for example for services for business, bulk mailers or consolidators of mail from different customers, they shall apply the principles of transparency and non-discrimination with regard both to the tariffs and to the associated conditions................

24. Types of rebates relevant in postal sector Quantity rebates Fidelity rebates Worksharing rebates Zonal pricing

25. Quantity rebates A discount granted when customer achieves a certain (minimum) volume Price scheme reflects economies of scale arising from large quantities Price-Scheme is offered in network- industries by two-part tariffs –Flat component (independent of volume) –Variable component

26. Economic effects Volume reflect economies of scale Higher purchased volumes induces an improved workload/ network utilization and lower resulting production costs As long as the discounts correspond to the scale effect in the same way there are no negative effects on competition.

27. Fidelity rebates This type typically focuses on the customers´ entire demand of a product or service and not on a predefined volume Customers only receive rebate only if they cover their total (or high share) need with the seller This has an anticompetitive and discriminatory effect –as the rebate ties the customer to the granting company –As customers with different turnovers get the same rebate even though their different volumes cause different economies of scale.

28. Economic effect Such rebates are targeted “predatory and exclusionary pricing” –By offering below-prices for units above threshold – focus on “contestable” part of demand of big customers –Targeted foreclosure of the “contestable” part of the market for entrants –Recoupment story necessary

29. Worksharing rebates Work-sharing discounts set equal to (unit) avoided costs of the USP Worksharing minimizes the end-to-end costs in the postal sector between USP and upstream competitive providers Postal operator typically offer a work- sharing discount based (among other things) on where a mailer injects his volume into the mail stream

30. Structure of Postal Network The Value Chain Clearance Transport outward sorting Transportinward sorting Transport and Fine-Sorting Delivery Letter Boxes or Post Offices Sorting Center BZE Consolidation Points Sorting Center BZA Addressee Delivery Base BZA: Letter Mail Center for outbound mail BZE: Letter Mail Center for inbound mail

31. The quantity scale for bigger sized and higher weighted letter post items were decreased at the beginning of year 2008. Provision of partial services: Rebate structure before 01.01.2008 BZA: Rebate: Amount of postal items: 3 %minimum of 5.000 to 10.000 6 % 10.001 to 15.000 10% 15.001 to 20.000 14 % 20.001 to 25.000 18 % more than 25.000 BZE: 21 % minimum of 500 from 01.01.2008 until 31.06.2010 BZA: Rebate: Amount of postal items: 8% minimum of 5.000 to 10.000 11% 10.001 to 15.000 15% 15.001 to 20.000 19 % 20.001 to 25.000 23 % more than 25.000 BZE: 26 % minimum of 250 On 1st July 2010 the rebates again were increased about 12 %.

32. Zonal pricing Characterized as a price reduction based on – alleged or real – cost advantages such as higher density in metropolitan areas. Form of price discrimination It may be abusive, but justified depending on effect and goal of pricing strategy

33. Assessment on zonal pricing Fundamental principles: –Positive effect of using cost-based prices –Potential discrimination among customers –Potential impact on the total costs of the universal service if zonal price is not cost neutral from perspective of competition geographic price differentiation remains problematic as it leads to discrimination among customers of the same dominant undertaking ENTEGA –Justification: geographic differentiation is limited to the deployment of new markets as in the ENTEGA case –Price discrimination is subject to stricter control in a near- monopoly market