Funding the cost of universal service in a liberalized postal sector

Abstract

Under monopoly, the USO and its financing mechanism ought to be designed in such way that efficiency losses are as small as possible. Though by no means trivial, this problem is rather standard and resembles in many respects a traditional Ramsey pricing problem. In the presence of competition, on the other hand, additional distortions may arise. The design of the USO and of its financing mechanism may now affect the viability of existing operators as well as the entry process into the industry. To take full advantage of efficiency gains from potential or actual competition, it then becomes important to design the USO and its financing mechanism in a “competitively neutral” way. This is a very complex problem, as it implies that the regulatory policy must strike the right balance between two potentially conflicting objectives. On the one hand, competitive neutrality requires that no “excessive” protection ought to be granted to the USO operator, for this might interfere with the entry process (and jeopardize the viability of potentially more efficient entrants). On the other hand, if the USO is not compensated in an appropriate way, its viability may be threatened by possibly less efficient entrants (who may find a niche in the market because of phenomena like “cream skimming”). This imposes a threat to both the USO itself, and to the efficiency of the competitive process in the industry. The financing mechanism is the crucial ingredient for the reconciliation of these potentially conflicting objectives. The choice of the appropriate financing mechanism involves various trade-offs which we propose to study in this paper. When the market is fully liberalized (no reserved area), there are essentially two ways to finance the compensation to be paid to the USP. The first one is a subsidy, financed from the general budget. This is probably the most efficient solution, for it implies that the tax base is as large as possible. The efficiency cost of that transfer is then essentially equal to the overall cost of public funds in the economy. This direct transfer has also the virtue of transparency: voters and taxpayers see exactly how much the provision of USO costs and where the money comes from. More or less hidden cross-subsidies are replaced by an explicit transfer. However, this solution is often not feasible in reality (because the general budgetary situation). The alternative to this transfer is to create a universal service fund, financed through implicit or explicit taxes on the operators or products that are not subject to a USO. The proceeds of this fund are then used to finance a transfer to (partially) compensate the universal service operator for its obligations. Compared to the government transfer, this solution implies that the tax base is reduced to the specific sector. There are several alternative ways to levy the contributions to the universal service fund: