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  • ,/ USPS-T-7

    BEFORE THE

    POSTAL RATE COMMISSION WASHINGTON, D.C. 20268-0001

    POSTAL RATE AND FEE CHANGES, 1997 I

    DIRECT TESTIMONY OF

    THOMAS E. THRESS ON BEHALF OF

    UNITED STATES POSTAL SERVICE

    Docket No. R97-1

  • Table of Contents

    AUTOBIOGRAPHICAL SKETCH 1

    _--

    PURPOSE AND SCOPE OF TESTIMONY . 2

    I. Introduction ....................................................... 3 A. General Outline of Testimony ...................................... 3 B. Demand Equation Estimation ...................................... 3 C. Share Equation Estimation ......................................... 4

    II. Demand Equation Estimation 6 A. GeneralOverview .._......._..____......,..,_........, ,..__.___ 6

    1. General Approach to Demand Equation Estimation 6 2. Division of Mail for Estimation Purposes 6 3. Sources of Information used in Modeling Demand Equations 8

    B. First-Class Mail 10 1. GeneralOverview............................................ IO 2. Types of Mail Within First-Class Letters Subclass 10

    a. Breakdown of First-Class Letters Volume from Househlold Diary Study ., . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

    i. Household-to-Household First-Class Letters 11 ii. Household-to-Nonhousehold First-Class Letters 11 iii. Nonhousehold-to-Household First-Class Letters 13 iv. Nonhousehold-to-Nonhousehold First-Class Letters 14

    b. Breakdowns of First-Class Letters Used in This Case 14 3. Choice of Starting Date for First-Class Letters Regression:s 16 4. Modeling Shifts between Single-Piece and Worksharing Letters 18

    a. Shifts Due to Changes in Worksharing Discounts. 19 b. Shifts Due to Changes in the Cost of Worksharing 21

    5. Relationship of First-Class Letters with other Subclasses of Mail 22 a. Cross-Price Relationship with First-Class Cards 22 b. Relationship of First-Class Letters to Standard Mail 22

    i. Crossvolumes......................................... 23 ii. Cross-Price with Standard Bulk Regular 26

    (a)Theory _......__..__......,..,....__..__........... 26 (b) Calculation of Cross-Price Elasticity 26

    6. Single-Piece First-Class Letters 29 7. Workshared First-Class Letters 31 8. TotalCards . . . . ..__....._.,_,,._..._..._..__,..._...__.__... 35

    a. Stamped Cards _..., .__.._..._ ._.....__..__, ._._..._. ____. 36 b. PrivateCards .__........__.._ .._____..._..._........... 36

    i. Analysis of Private Cards Parallel to First-Class Letters 36 ii. Demand Equation for Total Private First-Class Cards 38

  • C. Periodical Mail 44 .-- 1. General Overview ......................................... 2. Regular Rate ............................................ 3. Preferred Periodical Subclasses .............................

    a. Overview. ............................................ b. Within-County ......................................... c. Nonprofit.. ........................................... d. Classroom ............................................

    D. Standard Bulk Mall 1. Advertising Decisions and Their Impact on Mail Volume ...........

    a. How Much Resources to Invest in Advertising ................ b. Which Advertising Media to Use ...........................

    i. Price of Direct Mail Advertising ......................... (a) Delivery Costs ................................ _, .. (b) Technological Costs ............................... (c) Production Costs .................................

    (i) Paper Co ss t .................................. (ii) Printing Co ss t .................................

    ii. Price of Competing Advertising Media c. How to Send Mail-Based Advertising .......................

    2. Final Specifications for Standard Bulk Mail ..................... a. Overview .............................................

    i. Sample Period ...................................... ii. Variables Included by Advertising Decision ................

    (a) Decision 1: Factors Affecting Total Advertising Expenlditures (b) Decision 2: Factors Affecting Choice of Advertising Media (c) Decision 3: Factors Affecting Mail Category Used ........

    b. Standard Regular Mail .................................. c. Standard Enhanced Carrier Route ......................... d. Standard Bulk Nonprofit .................................

    E. Standard Non-Bulk Mail ....................................... 1. General Overview ......................................... 2. Parcel Post ..............................................

    a. General Overview ...................................... b. Competition with United Parcel Service .....................

    i. Price Variables Related to Competition with UPS ........... (a) Traditional UPS Cross-Price Variable .................. (b) UPS’s Residential Surcharge ........................ (c) Change in Relationship of Parcel Post and UPS Rates ....

    ii. Non-Price Variables Related to Competition with UPS ....... c. Demand Equation used for Parcel Post .....................

    3. Non-Parcel Post Standard B Mail ............................. a. Subclasses of Standard B Mail ............................ b. History of Bound Printed Matter and Special Rate Mail ......... c. Standard B Regression Equations .........................

  • /--

    /-

    i. Bound Printed Matter . . ii. Special Rate ........................... iii. Library Rate ............................

    4. Single Piece ................................. F. Other Mail Categories ............................

    1. Mailgrams, Postal Penalty, and Free-for-the-Blind Mail 2. Special Services ..............................

    a. Registry .................................. b. insured .................................. c. Certified .................................. d. Collect-on-Delivery (COD) .................... e. Money Orders .............................

    94 95 96 96

    ‘103 . 103

    104 104 105 105 105 106

    Ill. Econometric Methodology for Modeling Demand Equations ................ 114 A. General Regression Procedure ................................... 114

    1. TheoryofDemand .......................................... 114 2. Factors Affecting Demand .................................... 114

    a. Price .................................................. 114 b. Income ................................................ 117

    i, Distinction Between Current Income and Permanlent Income 117 ii. Calculation of Permanent Income ......................... 120 iii. Income Variables used in Postal Demand Equations .......... 121

    (a) Use of Permanent and Transitory Income ................ 121 (Ib) Use of Personal Consumption Expenditures .............. 122

    3. Treatment of Seasonality ..................................... 123 a. The Postal Calendar ...................................... 124 b. Definition of Seasons for Econometric Purposes ................ 125 c. Use of Seasonal Variables Econometrically .................... 127

    4. Functional Form of the Equation ................................ 128 a. General Specification of Demand Equations .................... 128 b. Data Used in Modeling Demand Equations ..................... 130

    B. Methodology for Solving Equation (111.8) ............................. 133 1. Basic Ordinary Least Squares Model ......................... : .. 133 2. Introduction of Outside Restrictions into OLS Estimation ............. 134 3. Multicollinearity ............................................. 135

    a. Income Coefficients ....................................... 137 b. Shiller Smoothness Priors .................................. 139 c. Slutsky-Schultz Symmetry Condition ......................... 142

    i. Derivation of the Slutsky-Schultz Condition .................. 142 ii. Cross-Price Relationship between First-Class Letters and Cards 145 iii. Cross-Price Relationship between Parcel Post and Priority Mail 146

    4. Autocorrelation ............................................. 146 5. Logistic Market Penetration Variable ............................ 149

    a. Theory ................................................. 149 b. Implementation .......................................... 151

  • C. Regression Model Used ., 153 1. Demand Equation Specification 153 2. Solution of 8 Coefficients 153 3. Example: Periodical Regular Mail 156

    IV. Shares of Mail within Worksharing Categories A. Theory of Consumer Worksharing

    1. Cost-Minimization Problem 2. Making Equation (IV.4) a Tractable Problem 3. Modeling Consumers’ Use of Worksharing Options

    a. General Form of the Problem b. Modeling User-Cost Distributions

    160 160 160 162 163 163 165 165 165 166

    i.

    ii.

    III.

    Shape of User-Cost Distribution (a) Theoretical Appeal of the Normal Distribution . . (b) Empirical Drawbacks to Normal Distribution (c) Solution: Censored Logistic Distribution over a Subset of

    Consumers ____.._.__..,____............_~.. Changes in the User-Cost Distribution over Time (a) Changes in the Type of Distribution (b) Changes in the Standard Deviation of the Distributilon (c) Changes in the Ceiling of the Distribution (d) Changes in the Mean of the User-Cost Distribution Opportunity Costs (a) Average User Costs: u, ............................

    (b) Share of Potential Users of Category i using Category j: .$ 4. Empirical Problem to Be Solved to Model Use of Worksharing ......

    B. Econometric Share Equations