Question

Ofcom Blows Whistl: It Will No Longer Compete with Royal Mail Whistl, the company which had fulfilled the regulatory role of a competitor to Royal Mail will suspend its operatives in the direct delivery market due to heavy losses. Clearly, the last mile of the postal network is a natural monopoly and having rival postmen tour the same streets makes no economic sense. But Ofcom boss Sharon White has declared it wishes to mimic the effect of the competition that Whistl had posed to Royal Mail. a. How has the withdrawal of Whistl from the direct delivery market enabled Royal Mail to influence the UK direct delivery market? b. Explain why "the last mile of the postal network is a natural monopoly." Why might this justify allowing a regulated monopoly to exist in this market?

Short answer

With Whistl's exit, Royal Mail can control the market. The 'last mile' is a natural monopoly due to cost inefficiencies of having multiple companies. Regulation ensures fair prices and good service.

Step-by-step solution

- Understand the Concept of a Natural Monopoly

A natural monopoly occurs when a single company can provide a product or service at a lower cost than any potential competitor because of economies of scale. In the context of the postal network, the 'last mile' refers to the final delivery segment from a distribution center to the recipient's address.

- Analyze the Impact of Whistl's Withdrawal

With Whistl withdrawing from the direct delivery market, Royal Mail no longer has a competitor for the last-mile delivery. This gives Royal Mail more control over pricing and service standards in the UK direct delivery market as there is no immediate rival.

- Explain Why the Last Mile is a Natural Monopoly

The last-mile delivery network is considered a natural monopoly because duplicating delivery routes for multiple companies would be inefficient and costly. Instead of having multiple postmen from different companies traversing the same streets, it is more cost-effective to have a single delivery service handle all deliveries in a particular area.

- Justify the Existence of a Regulated Monopoly

Allowing a regulated monopoly like Royal Mail to operate in the last-mile delivery market can ensure that costs remain lower and delivery efficiency is maintained. Regulation ensures that despite the lack of competition, the monopoly does not exploit its position by charging excessively high prices or providing poor service, as it is overseen by regulatory bodies like Ofcom.

Key concepts

Economies of Scale

Economies of scale occur when the cost of producing each additional unit decreases as the volume of production increases. This phenomenon is due to factors such as the spreading of fixed costs over more units and operational efficiencies that larger firms can achieve. In the context of natural monopolies like Royal Mail's last-mile delivery, economies of scale play a critical role.
Providing postal services at a larger scale allows Royal Mail to deliver letters and packages at a lower average cost than any new entrant who attempts to set up a parallel delivery network.
By handling a large volume of deliveries, Royal Mail can spread its administrative and infrastructure costs over millions of letters and packages, thus reducing the cost per delivery. This makes it hard for any competitors to match the low costs without matching the same scale of operations.

Last-mile Delivery

Last-mile delivery refers to the final leg of the delivery process when a package or letter is transported from a distribution center to its final destination, the customer's address.
This stage of delivery is often the costliest and most complex aspect of logistics due to the individualized nature of the routes. Each delivery address is different, meaning that logistics providers must travel various distances and navigate through different terrains and traffic conditions for each delivery.
In the context of the postal network, last-mile delivery is a natural monopoly. It would be inefficient to have multiple companies each with their postmen delivering to the same streets, as it would significantly increase operational costs.
For instance, instead of having five postmen from five different companies delivering in the same neighborhood, it is more efficient and economical to have one postman handle all deliveries.
This inefficiency underscores why Royal Mail, covering the entire last-mile network, benefits from economies of scale.

Regulated Monopoly

A regulated monopoly exists when a single company is allowed to operate in a market with substantial oversight from a regulatory body. For natural monopolies like Royal Mail's last-mile delivery service, regulation is essential to prevent abuse of monopoly power.
Without competition, Royal Mail could potentially exploit its position by charging excessive prices or providing sub-par services. Regulatory bodies like Ofcom oversee such monopolies to ensure fair pricing, high service standards, and efficiency.
In regulated monopolies, rules and guidelines are set to protect consumers' interests while allowing the monopoly to operate efficiently. For instance, price caps might be established to prevent exorbitant charges, and service quality standards are monitored to ensure reliable delivery services.
Regulation aims to mimic the outcomes of a competitive market, encouraging the monopoly to operate as if it faced competition, thus safeguarding consumers' interests and ensuring the efficient delivery of services.

Market Competition

Market competition refers to the rivalry among businesses to attract customers, improve their services, and innovate. In markets where competition is present, firms strive to offer better prices, higher quality, and more efficient services.
However, in some sectors like last-mile delivery, market competition can be inefficient and even impractical. Competition might lead to increased costs and resource duplication in these cases without corresponding benefits. This is why Whistl's withdrawal from direct delivery highlights an important aspect of market competition.
While Whistl's competition with Royal Mail was intended to create better services and prices, the high operational costs and inefficiencies led Whistl to incur heavy losses. Consequently, the regulatory body Ofcom stepped in, recognizing that direct competition was not viable.
Instead, the focus shifts to enabling Royal Mail to operate efficiently under regulatory oversight, achieving competitive outcomes such as fair pricing and high service standards without the downsides of direct competition.