Fixing the Postal Service

It is clear now that there will be legislation within the next year that will change the business model within which the Postal Service now operates. The fact that new legislation is needed so soon after the Postal Accountability and Enhancement Act (PAEA) was enacted raises questions two critical questions.

1. Did the act cause the crisis that is now focusing policy-maker's attention on the new legislation?
2. Does the current crisis change the political environment sufficiently to allow policymakers to choose options that stakeholders were then unwilling to accept?

What is driving the crisis now is a combination of the economic downturn and the requirement that the Postal Service must pre-fund its post retirement benefit. While electronic diversion creates a challenge for the Postal Service, diversion did not generate the precipitous decline in volume over the past two fiscal years.

Impact of the Economic Downturn

The economic downturn for the Postal Service began when the vertical markets (e.g. industries like automotive, financial, housing, retail, etc.) began experiencing significant declines in business in 2008 and cut all forms of advertising. Advertising mail is both more economically sensitive than the rest of the Postal Service's products and its price sensitivity rises and falls depending upon the business cycle. As the economy worsened after the Lehman bankruptcy, so did the decline in advertising and the volume of mail delivered, with a particular focus on the mail deliveries to households. The economic decline exposed four key flaws in the current business model

First, the current business model does not allow the Postal Service to react to changes to business conditions in as timely fashion as it must. Both the producers of mail and the Postal Service's competitors reacted significantly faster to the decline in volume and most were able to survive the downturn in shape to compete when the economic cycle turns upwards.

Second, the decline in business exposed why the pricing models and historical price relationships may no longer make sense. The economic decline exposed the fact that all mail has a return on investment for the sender. Mail business can thrive when the return is sufficiently positive and both prices and costs must reflect the challenge of ensuring that the Postal Service's customer's can generate a positive return in all business conditions.

Third, the business model created by the PAEA underestimated the capital needs of the Postal Service to deal with both modernization, structural changes, and the cost of adjusting plant and equipment to deal with changes in business conditions and market opportunities.

Fourth, the business model created by the PAEA limits the Postal Service in a way that made it increasingly dependent on the success or failure of one product, advertising mail, and one part of the conception to delivery process, the last mile. While mail advertising, appears to have survived the downturn in better shape than broadcast advertising, not all delivery services are as bi-polar. The focus on the last mile may have prevented the Postal Service from fully participating in the vertical production consolidation that is occurring in the mail industry.

Impact of Pre-funding Post Retirement Benefits

The presentations that Postmaster General Potter made this week provided the clearest picture as to the impact that pre-funding has had on the Postal Service. Since 2007, the Postal Service has made payments to OPM of $18.3 billion. Some of the payments was funded from borrowing from the Treasury with the rest coming from cash generated by the sale of products and services. As the Postal Service's primary creditor, to whom the Postal Service must pay its obligations for debt, retiree benefit obligations, and workers compensation obligations, the Federal Government is not made any better (except possibly in an artificial budget score-keeping sense) if the Postal Service must borrow from the Treasury to pay the Office of Personnel Management for retiree benefits. The amount the Postal Service owes the Treasury does not change, only the account that the money has to paid to changes.

Based on what the Senate and the House of Representatives are now discussing, and the Postal Service's projections of its borrowing needs to cover operating losses, the Postal Service now owes the Federal Government around $65 billion dollars. In requiring the Postal Service to pay its retiree benefits in the manner it did, the PAEA in effect required the Postal Service to speed up payments on obligations to its creditor. This is the equivalent to a creditor requiring faster repayments from a debtor, that the creditor was worried may not be around long enough to pay off all of its debt so it requests a faster payment schedule. Just as a creditor may not worry whether the faster payment schedule would force the debtor out of business, neither did the PAEA take into account whether the Postal Service could take the necessary actions to generate the cash necessary to speed repayment of its obligations. So the Postal Service is now faced with the equivalent of bankruptcy, insufficient assets to pay off its obligations, and insufficient cash flows to make the required payment schedules.

While there is no disagreement that the Postal Service has obligations for retiree benefits, debt and workers compensation claims, the Federal Government has limited options to ensure that the obligations are paid right now. Liquidation of the Postal Service, which would be available in bankruptcy is not an option and would unlikely provide sufficient cash to cover all of the obligations. Liquidation is also not an obligation also because of the Federal Government's constitutional responsibility to provide a postal service and the untenable impact that shutting down the Postal Service would have on the American economy.

In essence, the Federal Government, as a creditor, as little choice but to renegotiate the payment schedules on the Postal Service's obligations, while at the same time it must develop a business model and business plan that will allow the Postal Service to generate the cash flow that will pay some if not all of its obligations. In many ways it is in the same position as creditors of railroads were when nearly all of the railroads in the Northeast went into bankruptcy over three decades ago. The public interest required that the railroad continue to operate as long as a viable business model could be derived that will allow the creditors to be paid.

Of the two most attention-getting proposals that the Postal Service has presented to cut costs, only the elimination of one day of delivery could have a substantial impact on the Postal Service's ability to remain a competitive enterprise and generate the cash necessary to pay off its obligations to the Federal Government. As the Postal Service's creditor, Congress has to think long and hard whether the short term savings is worth the risk that future loss of business would weaken the Postal Service's ability to pay its obligations to the Treasury. If it believes that the risk is too great than it must provide sufficient funds to continue the service. At the same time, it may need to give the Postal Service the opportunity and funds to streamline its operations in ways not apparent to customers. Otherwise the potential for the turnaround necessary to pay off the Treasury cannot occur.

The proposals on the table appear to reflect the Congress's understanding that it is a creditor and the Postal Service is a debtor. The changes in payment schedules and increases in loan limits provide for a short-term fix until a more viable business model and comprehensive business plan is set for the Postal Service. Time is short but for those that know the mail business and the people at the Postal Service the potential for a successful solution exists.