Electricity tariff regulations: some simple facts
The state electricity regulatory commissions (SERCs) are moving towards a multi-year tariff (MYT) regulation. However, this adoption is slow and tardy. MYT falls under what is known as incentive regulation and the current approach adopted is the Cost of Service (CoS) or the Rate of Return Regulation (RoR) regulation. Why is incentive regulation more preferable to the CoS regulation?Problems with CoS Regulations:
- Imperfect outcomes due to information asymmetries
- Creates tendency for cost padding, over capitalization and inadequate incentives for efficiency gains
- Requires excessive Supervision by the Regulator
- Stifles utility innovation by providing a risk with no conditional reward
- Utility managers more responsive to regulators than to customers or financial incentives
- Cost of Service regulation may have some justification in initial years to establish credible baselines and prudent operating practices in the face of information gaps and grave inefficiencies
- Must, however, pave the way for more light handed, multi-year incentives / performance based approaches.
Why Incentive Regulations?
- Discontent with RoR form of regulation ;Incentive Regulation was introduced
- Designed to improve firms’ incentives for cost reduction by separating regulated-price setting from measurement of firms’ actual costs incurred
- New approaches ensure that service providers are meeting cost efficiencies, revenue enhancements, technical, commercial and operational efficiencies
These approaches involve
- •Fair, pre-announced, multi-year time paths for tariffs/revenues
- •Implicit/explicit targets for efficiency gains
- •Incentives for exceeding improvement targets and implicit penalty for falling short
- •Avoidance of intrusive year to year reviews
- •Cap the price that can be charged or Revenue that can be earned and create incentives for productivity increases or reduction of per unit cost
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Tags: electricity