The Postal Regulatory Commission (PRC) has now concluded the first phase of its statutorily mandated 10-year review of the USPS CPI-cap rate system put in place in 2006 after the passage of the Postal Accountability and Enhancement Act (PAEA). As part of the PAEA, the PRC was required to review the rate system 10 years later to see if was achieving all the objectives outlined in the law, and the PRC has now concluded that review, which it began in December 2016. The PRC found that the system is NOT achieving all the objectives laid out in the PAEA and has proposed significant changes to the rate system.

As I laid out in a previous article on this process, the PAEA includes nine objectives that the rate system should achieve, including maximizing incentives to reduce costs and increase efficiency; creating predictability and stability in rates; maintaining high quality service standards; allowing the USPS pricing flexibility; ensuring the USPS has adequate revenues (including retained earnings) to maintain financial stability; reducing the administrative burden and increasing the transparency of the ratemaking process; enhancing mail security and deterring terrorism; establishing and maintaining a just and reasonable schedule for rates and classifications; and allocating the USPS’ total institutional costs appropriately between market dominant (monopoly) products and competitive products.

In addition, the law lays out 14 “factors” that the PRC should take into account in establishing/revising the rate making system. [All the objectives and factors are laid out in the PAEA, which is available on the PRC’s website.]

PRC Says Current USPS Rate System Not Meeting Objectives in PAEA

In its 293-page Order 4257 outlining its review and findings, the PRC found that the rate system put into effect after the enactment of PAEA in 2006 was “largely successful” in achieving rate adjustments that are stable and predictable in terms of timing and magnitude, and the changes also reduced the administrative burden and increased transparency in the ratemaking system, as well as providing the USPS with pricing flexibility while maintaining “just” prices. The PRC found, however, that the ratemaking system has not increased pricing efficiency.

The PRC also found that the rate system has not maintained the financial health of the USPS as intended by the PAEA. It said that the USPS generally achieved short-term financial stability after enactment of the system, but it has not achieved “medium-term” and “long-term” financial stability. The PRC evaluated the USPS’ medium-term financial stability as whether total revenue was sufficient to cover total costs and evaluated long-term financial stability based on whether the USPS had generated any retained earnings – neither of which have occurred.

The PRC included the USPS’ statutorily mandated pre-payment of retiree health benefits in the USPS’ total costs, which resulted in a cumulative deficit of $59.1 billion between 2006 and 2016 -- $54.8 billion of which are expenses related to the pre-funding requirement.

The PRC next looked at cost reductions and efficiency gains for the USPS during the 10 years and concluded that incentives were not maximized in a way that allowed the USPS to achieve financial stability, specifically that certain mail products/classes failed to cover their “attributable” costs, which negatively impacted the USPS’ financial health.

Lastly, the PRC evaluated the PAEA objectives around the USPS maintaining high quality service standards and found that objective also had not been met because the USPS in the 10 years since PAEA has significantly reduced service standards twice – in 2012 as part of its Network Consolidation and in 2015 through its “Load Leveling” service standards changes. The PRC concluded these changes had a substantial impact on service, including elimination of overnight service for many First-Class Mail pieces.

PRC Proposes Significant Changes to USPS Rate System

So, having performed its review and concluded the rate system enacted with PAEA was not meeting the objectives in the law, the PRC now has laid out a set of proposed changes to the rate system in order to meet those objectives. In its 190-page Order 4258, the PRC proposes significant changes to be enacted in the five years following implementation of the new system, after which time it would again review whether the new system is meeting the objectives of the PAEA. Here are the major areas where the PRC proposes changes:

• CPI Price Cap rate system. The PRC proposes the CPI-price cap system be maintained, to create predictability and stability. But it also proposes providing the USPS “discrete amounts of additional rate authority,” specifically two percent of supplemental rate authority in addition to the CPI price cap, each year for a five-year period. After the five-year period, the supplemental rate authority would terminate, and the PRC will review the USPS’ financial condition.
• Additional Performance-Based Rate Authority for the USPS. The PRC also proposes an additional one percent of “performance-based rate authority” per calendar year, of which 0.75% is based on meeting specific operational efficiency-based requirements laid out in its proposal, and 0.25% is based on maintaining service standards (not service performance, service standards). So this additional one percent would only be available to the USPS contingent on it meeting these measures.
• Additional Price Adjustment for “Underwater” Products. For products not meeting their attributable costs, the PRC proposes that whenever the USPS files a request to adjust prices for any mail class, it will be required to propose to increase the rate for these products within that class by a minimum of two percent above the percentage increase for the mail class.
• On workshare discounts, the PRC found that the USPS over the past 10 years set most workshare discounts substantially above or below 100% passthrough of the avoided costs, which it said is problematic because it does not send efficient price signals to mailers. The PRC proposes establishing “bands” for workshare discount passthroughs of between 85% and 115% passthrough on all mail classes except Periodicals, where the band would be 75% to 125%. All passthroughs that fall outside of the band would be considered noncompliant, but subject to a three-year grace period starting on the effective date of these rules or when a new workshare discount is established. After the grace period, the PRC would require the passthroughs to become compliant.

There is much more detail and a few other proposed changes in the PRC’s proposed rules, and all stakeholders should take the time to read through the document. In terms of pricing changes, the bottom line under the PRC’s proposed changes is that the USPS would have an additional two to three percent price authority each year for the next five years on top of the CPI, and for “underwater” products it would have an additional two to five percent price authority each year for the next five years. Part of the additional price authority would be based on achieving specific performance metrics and not reducing service standards.

A $54.8 Billion Question…

Since $54.8 billion of the $59.1 billion of USPS’ financial deficit identified in the PRC’s review comes from the PAEA requirements for the USPS to pre-fund its retiree health benefits, there is a big question within the industry as to what would happen if all or part of that part of the USPS’ deficit were to be reduced by the passage of new postal reform legislation.

The House Oversight and Government Reform Committee in mid-March passed a bipartisan postal reform bill (HR 756). The legislation still has a long way to go in the House, much less the Senate, and then would need to be passed by the full Congress. But if it were to pass, it would dramatically change the USPS’ financial picture and could negate the need for some of the additional pricing authority being proposed by the PRC.

But it is unknown how the two processes (the legislation and the PRC process) might occur in terms of timing and outcome. If postal reform legislation were passed prior to the conclusion of the PRC phase two proceeding, would the PRC then go back and re-evaluate the USPS’ financial condition and revise its proposed changes? And what if the PRC proceeding were already finished and the changes scheduled to be implemented but then reform legislation passed – would the PRC re-open the proceeding and take into account a revised USPS’ financial picture?

With so much at stake for businesses that need mail to remain an affordable and viable option for their communication and marketing needs, these unknowns are adding to uncertainty.

Now We Embark on Phase Two of the Process

The PRC’s proposed rules are just that at this point – a proposal. The PRC says it welcomes a “robust” comment period with participation from all stakeholders. It has set March 1, 2018 as the deadline for initial comments in the proceeding, and March 31, 2018 as the deadline for reply comments. Then the PRC’s docket will close and it will take an unknown amount of time to make a final determination. According to the language in its proposed rules, the rate system changes would go into effect the first calendar year following the effective date of the new rules.

Reaction to the PRC’s proposed changes was swift following release of its proposal, with the Coalition for a 21^st Century Postal Service (an organization of private sector mailing industry representatives) issuing a press release the same day outlining its concerns that the price increases proposed by the PRC would drive businesses out of the mail, and urging Congress to pass H.R. 756 to provide the USPS with financial relief. The USPS also issued a brief statement the same day the PRC issued its decision, saying that it agreed with the PRC’s conclusion that the current CPI price cap system does not work, but the USPS said it continues to believe any price cap is unnecessary and that it seeks pricing flexibility. It said it was still in the process of analyzing what the PRC has proposed.

Phase 2 of this process – the period for commenting on the PRC’s proposal and/or putting forward a different set of proposed rules – will be a critical proceeding for both the USPS and the industry, as well as other stakeholders. Any and all stakeholders can comment in the proceeding, and should! This is likely to be the most important regulatory activity the mailing industry will see for the foreseeable future!

Kathleen J. Siviter is president of Postal Consulting Services Inc. (PCSi) and has over 30 years’ experience in the postal industry, having worked for the U.S. Postal Service, Association for Postal Commerce (PostCom), the National Association of Presort Mailers (NAPM) and a diverse set of clients with interest in the postal industry. She also serves as the Director, Community & Brand Development, for PostalVision 2020 (www.postalvision2020.com), an initiative designed to engage stakeholders in discussions about the future of the American postal system.