Several key actions have been taken to implement the law since it was enacted over 14 months ago. Some of the actions taken to implement the act had a direct impact on the Service’s 2007 financial condition, while others facilitated the transition to a new financial, operating, and regulatory environment. Specific actions in the act that have affected the Service’s 2007 financial condition include: prefunding the Service’s significant unfunded retiree health obligations. While this change results in significant retiree health benefit cost increases for a decade, over the long term this action improves the fairness and balance of the cost burdens for current and future ratepayers. The Service’s 2007 payment of $5.4 billion was the first of 10 annual payments required under this change. expensing almost $3 billion in funds previously set aside in escrow (transferring them to the Treasury) and eliminating future escrow payments, including an estimated $3.3 billion payment that had been scheduled for 2007. transferring the estimated $27 billion funding obligation for selected military service benefits back to the Treasury. eliminating certain annual CSRS pension funding requirements, thereby saving the Service approximately $1.6 billion in 2007. The effects of these changes, however, must be put into context with other actions and events during this time to gain a comprehensive understanding of the Service’s financial and operating condition. For example, Mail volumes and revenues: Total revenues of nearly $75 billion dollars in 2007 represented an increase of 3 percent from 2006. This revenue increase, however, was largely attributable to the January 2006 and May 2007 rate increases—not mail volume increases. In particular, the Service experienced an overall decline in mail volume from 2006 of over 900 million pieces (a 0.4 percent decline), largely due to a decrease of 1.7 billion pieces of First-Class Mail and the smallest increase in Standard Mail volumes since 2001. Operating costs: Total operating expenses of over $80 billion in 2007 represented an increase of nearly 12 percent from 2006. This increase was largely due to a net increase of $6.8 billion in expenses that resulted from requirements of the act described earlier. The Service was also affected by increases in postal wage rates; rising fuel costs (its transportation costs grew by almost 8 percent); and the extension of mail service to an additional 1.8 million delivery points. Productivity and cost control: The Service was able to partially mitigate these cost pressures by improving productivity for an eighth consecutive year. The Service reported a 1.7 percent increase in productivity, which is equivalent to $1.2 billion in cost savings. The Service reduced over 36 million workhours, partly by downsizing its career workforce by over 11,000 employees. Labor agreements: The Service negotiated agreements with 3 of its 4 major unions on wages, many benefits, and conditions of employment in 2007. Debt: The Service’s outstanding debt increased $2.1 billion in 2007, doubling its 2006 debt balance to $4.2 billion. These increases were primarily used to finance year-end worker compensation and retiree health payments. Capital: The Service reported a slight increase in capital cash outlays of $2.6 billion in 2006 to $2.7 billion in 2007. These funds were used for such projects as new facilities, automation equipment, and carrier vehicles. Service performance: According to the Service, it reported record annual on-time performance for First-Class Mail measured by the EXFC system. The Service reported on-time performance for 2007 of 96 percent for its 1- day mail, 93 percent for its 2-day mail, and 90 percent for its 3-day mail. The net income reported for 2007 was a $5.1 billion loss. Removing the financial impact of the new law, the Postal Service’s net income would have been $1.6 billion (which was $100 million less than the $1.7 billion originally budgeted for the year). Because of the new law, however, the Service required an additional $500 million in cash to cover the differences between the net increase in retirement-related expenses of $3.8 billion and the expected $3.3 billion escrow payment that was avoided. Aside from its direct financial impact, the act required other actions to facilitate the transition to a new financial, operating, and regulatory environment. Table 1 summarizes key actions. As indicated in table 1, multiple stakeholders have taken actions to implement the requirements of the act. While each of these actions is important, I would like to highlight the efforts of the Postal Service and other stakeholders in modernizing service standards and of the PRC in transitioning to its new regulatory responsibilities. Service standards: The Service has made important progress in implementing the act’s requirements to establish modern service standards for market-dominant products. The Service’s approach to developing these standards incorporated a high level of collaboration with mailers, consultations with the PRC, and comprehensive review of its network capabilities. A workgroup involving nearly 200 representatives from the Service, mailing organizations and mailers, and other members of the mailing industry was particularly noteworthy for its efforts to identify issues and build consensus in this area. The result was the most sweeping update in delivery performance standards in many years. In particular, standards for Periodicals, Package Services, and Standard Mail that dated back many years were realigned with current postal operations. Regulation: A key tenet of the act was to provide the Postal Service with more flexibility to set prices and introduce new products. The act, however, balanced this flexibility by granting the PRC enhanced regulatory authority to regulate these activities, and to, among other things, regulate rates for market-dominant products and services; monitor financial and service performance; ensure financial transparency and data quality; and act on complaints against the Postal Service. The PRC has made good progress in its transformation, particularly in establishing a new ratemaking system. The PRC issued its first set of rate regulations almost 8 months ahead of the statutory deadline, and the Postal Service recognized this achievement and chose not to file another rate case under the old system. The PRC set up its new organizational structure, including the new PRC Inspector General, as well as revising key rules and regulations to reflect implementation of the act. The PRC has also taken an active role in consulting with the Service on its service standards and performance measures, solicited public comments, and held hearings and meetings to stimulate constructive dialogue among the parties. The financial, operational, human capital, and regulatory challenges facing the Service and other stakeholders as they take actions to continue implementing the act are exacerbated by the current uncertain economic environment. The Service noted in its 2008 budget that it expected a net increase in costs of $1 billion net for 2008 from changes in the law. In addition, a slowing economy has negatively affected the Service’s financial performance in the first quarter of 2008—its mail volumes and revenues were both below planned amounts. The Service was able to mitigate these challenges by managing cost growth while achieving record service delivery performance for the segment of First-Class Mail that is currently measured. To address concerns about its challenged financial outlook, the Service filed a rate increase February 11, 2008, averaging about 2.9 percent for the majority of its products. This increase is scheduled to take effect on May 12, 2008, and is the first of its type under the new law. According to Service officials, this increase is expected to contribute an additional $700 million in revenues for 2008, but will need to be supplemented by accelerated cost reduction strategies to achieve its year-end target of a $600 million net loss. The Service has updated its strategies for addressing challenges under the new law related to generating sufficient revenues, achieving efficiencies through automation, and improving service. In particular, to help address its revenue challenges, the Service has indicated that it plans to fully use its pricing authority under the rate- setting cap to implement smaller, more frequent, predictable rate increases, as well as work with its customers to develop new products and services. It also plans for $2 billion in cost reduction efforts in 2008. Some of the key areas for continued oversight include changes in mail volumes in response to more frequent, predictable rate increases; efforts to control costs by modernizing and optimizing the Postal Service’s infrastructure and workforce; the transition to new automation and mail-tracking systems; the level of transparency in measuring and reporting delivery performance; and the implementation of the new rate-setting processes and regulations. The Service continues to face challenges in generating sufficient revenue as mail volumes are declining and the mail mix is changing. This challenge became more evident after the Service’s revenue and volume results for the first quarter of 2008 were released. Volumes were down 1.7 billion pieces (3 percent) compared with quarter 1 in 2007 (see table 2), with notable declines in the two major mail classes: First-Class Mail and Standard Mail. These results are of particular concern because they occurred during a typically strong volume quarter that includes the holiday mailing season. Key declines during this time took place within the two largest categories, First-Class Mail and Standard Mail. In particular, volumes declined for flat- sized Standard Mail (e.g., catalogs) by 13 percent; for flat-sized First-Class Mail (e.g., large envelopes) by 15 percent; and single-piece First-Class Mail by nearly 7 percent. As a result of the overall declines in mail volume, revenues were $500 million less than planned. The Service attributed these volume declines and revenue shortfalls to multiple factors, including the effects of the May 2007 rate increase; a slowing economy with declines in the financial and housing industries, business and consumer confidence, and rising fuel and paper prices; increasing competition from other advertising media; and the continued diversion of single-piece First-Class Mail to electronic alternatives such as Internet bill payment and direct deposit. The declines in First-Class Mail volume in the first quarter of 2008 parallel the ongoing trends of First-Class Mail in general.