The Post Office cost structure is pretty much all fixed. Buildings, labor, trucks with steering wheels on the wrong side, fuel, and maintaining bulletin boards with many of my friends and family members pictures on them costs the same thing whether they bring me 1 piece of mail, or 20. In fact, the cost doesn’t change on a day when they bring me nothing at all.
When someone says the cost of a first class letter is X, while the cost of a piece of junk mail is Y, the only way they could have arrived at those numbers is to have made a bunch of allocations. The actual cost of delivering a letter is pretty close to $NADA. The cost of opening up all of those post office doors and firing up all those trucks, however, is astronomical. They get to the cost of each type of item by going through some undoubtedly very clever arithmetic that ends up telling them x.xxx% of funny truck expense is assigned to letters and y.yyy% is assigned to magazines. Just because someone conjured up a slick equation, and has some pretzel logic to justify the math doesn’t make it so, however. The cost of the truck does not in any way shape or form depend on what sort of stuff it is being used to deliver on any given day. It is simply the cost of the truck and trying to make it into the cost of anything else leads nowhere other than to bad decision making.
So here we have Senator John McCain introducing the Postal Reform Act of 2011, stating, “Additionally, there are certain types of mail upon which the Postal Service routinely loses money. This bill would require that the vendors responsible for this mail be responsible for covering their costs. In Fiscal Year 2010, the Postal Service lost nearly $1.7 billion on these type of ‘underwater’ postal products that failed to cover their costs. For example, the Periodicals class of mail, which includes newspapers and magazines, has not covered its costs for 14 consecutive years, generating total losses of $4.3 billion over that period.”
The reason the post office lost $8.4 billion last year is not because their prices were too low on some products. It is because they have a huge installed capacity (and the associated fixed costs) that was grossly under-utilized. The solution is greater volume. No matter what the price charged for the volume, since the direct cost is zip, any revenue they get for the additional volume will help to cover the fixed costs. That being the case, the key to increasing volumes is not to raise prices – it is to lower them. That is Price Volume/ Price Elasticity / Economics 101 / Basic common sense.
Periodicals did not, with all due respect to the senator, lose money. Their direct cost is nothing. What he is saying is that they were priced at something less than enough to cover the allocation, in light of the actual volume. The Senator should stick to what we pay him for – that is to look damn good for a man of his age, shake hands, kiss babies, and make pointless speeches in the well of the Senate – and leave things like pricing and strategic marketing to people who know what they are doing. If the Senator wants to help, he should start by abolishing PUBLIC LAW 109–435—DEC. 20, 2006, which says the Post Office is “To allocate the total institutional costs of the Postal Service appropriately.”
The idea that some products are profitable and others are not is a foible limited not to the Post Office. A whole lot of businesses unhampered by federal law make the same foolish mistake. Allocating costs leads to silly conclusions like believing delivering magazines is unprofitable, which leads to price increases, which leads to lower volumes, which leads to allocating the same fixed costs over smaller volumes, which leads to cost increases, which leads to further price increases … you get the picture.
Cost allocating is sending the Post Office down the drain – and a whole lot of our money with it.
Pricing has nothing to do with cost. It is set by the market as a function of the value created relative to the value proposition of the competition. It is destructive thinking to believe that COST + PROFIT = PRICE. Toyota told us a long time ago that PRICE – PROFIT = COST. There is a huge difference. So long as the government institutionalizes the wrong formula, the Post Office is doomed. Private enterprise, however, has no such excuse.