Download as PDF, PPTX
Uploaded byLeonardo ENERGY
Principles of Price Regulation
The document introduces the principles of price regulation in electricity, emphasizing the necessity of regulation in natural monopolies like electricity networks where competition is unfeasible. It outlines key regulatory objectives, including consumer protection and financial viability, as well as different areas, scopes, types, and institutional frameworks of regulation. Additionally, it discusses the regulatory environment in the EU, highlighting the evolution of legislation aimed at fostering competitive electricity markets.
More Related Content
Similar to Principles of Price Regulation
Principles of Price Regulation
- 1. Introduction to NetworkRegulation Module 1: Principles of Price Regulation Dr. Konstantin Petrov, DNV KEMA 28 October 2013
- 2. Agenda 1. Introduction toElectricity Regulation 2. Areas of Regulation 3. Scope of Regulation 4. Type of Regulation 5. Regulatory Institutions 6. Regulation in the EU Introduction to Network Regulation 14 October 2013
- 3. Introduction to ElectricityRegulation Why regulate? Competition provides the best service to customers in terms of price and quality of service. But competition is not feasible in all segments of the power sector. In areas where competition does not work (e.g. natural monopoly such as electricity networks) or is legally excluded (exclusive rights given by the law), regulation is needed. The major regulatory objectives are to: - protect consumer interests and eliminate monopoly inefficiency ensure financial viability of industry participants (efficient cost coverage) ensure equal conditions and non-discrimination of all sector participants improve conditions for competition where possible Regulation is defined as a state intervention that is applied to various company specific (e.g. prices, revenues, quality of supply) or integral parameters (e.g. market entry / market design). Introduction to Network Regulation 28 October 2013 3
- 4. Introduction to ElectricityRegulation Characteristics of Electricity (Networks) Load flow from generator to consumer uncontrollable and unpredictable Economies of Scale and Scope Investments are capital intensive Characteristics of Electricity (Networks) Sunk costs Transmission network capacity should be able to accommodate peak load Introduction to Network Regulation 28 October 2013 4 Network capacity depends on the location of generation and load within the network Production needs to equal demand plus reserve margin at every point of time
- 5. Introduction to ElectricityRegulation Balancing Interests Regulation must balance obligations to both customers and regulated companies and also the costs and benefits of the regulatory system itself. Customer and Company Interests Costs and Benefit of Regulatory System Price reductions Fair return Distortions to industry structure Prevention of monopoly abuse Protection against monopoly abuse Profit opportunities Costs of operating regulation Efficiency savings and lower costs Introduction to Network Regulation 28 October 2013 5
- 6. Introduction to ElectricityRegulation Choice of Regulatory Regime The choice of an adequate regulatory regime requires a definition of the area, scope and type of regulation, as well as the establishment or assignment of an institution responsible for regulatory issues. Areas of Regulation Scope of Regulation What should be regulated? Type of Regulation How should be regulated? Regulatory Institutions Choice of Regulatory Regime Where should be regulated? Who regulates? Introduction to Network Regulation 28 October 2013 6
- 7. Agenda 1. Introduction toElectricity Regulation 2. Areas of Regulation 3. Scope of Regulation 4. Type of Regulation 5. Regulatory Institutions 6. Regulation in the EU Introduction to Network Regulation 28 October 2013 7
- 8. Areas of Regulation– Which areas should be regulated? Regulated and Competitive Elements Power Generation Power Transmission Power Distribution Retail Supply System Dispatch Services subject to regulatory control Competitive services Potentially competitive services Ancillary Services Wholesale Supply Metering and Billing Introduction to Network Regulation 28 October 2013 8
- 9. Areas of Regulation– Which areas should be regulated? Regulation should focus on the network segment Traditionally, all business areas in network industries (such as the electricity sector) had naturally been regarded as monopolies not subject to competition. However, only the network business is characterised by large sunk costs and economies of scale and scope, which generate stable market power for incumbent network owners. Other business areas of the sector (such as production, wholesale and retail) can be provided in a competitive process. A fair and non-discriminatory regulation framework for the transmission and distribution networks has important implications for supporting wholesale competition (electricity generation) and retail competition (end-user supply) Introduction to Network Regulation 28 October 2013 9
- 10. Agenda 1. Introduction toElectricity Regulation 2. Areas of Regulation 3. Scope of Regulation 4. Type of Regulation 5. Regulatory Institutions 6. Regulation in the EU Introduction to Network Regulation 28 October 2013 10
- 11. Scope of Regulation– What should be regulated? Regulatory Controls Regulatory Controls Price Control Revenue / tariff setting Efficiency incentives Investment sufficiency Innovation Quality of Supply Commercial quality Continuity of supply (reliability) Technical quality Market Functioning Market design / market rules System / network Other Unbundling Security of supply Innovation rules Market monitoring Market integration Regulation should ensure: functional market design, reasonable prices and reasonable quality of supply for regulated services. Introduction to Network Regulation 28 October 2013 11
- 12. Scope of Regulation– What should be regulated? Elements of Price Control Setting Revenue Requirements – Setting an allowance for operation and maintenance cost – Setting capital cost allowance (including provisions for asset valuation and depreciation methods, regulatory asset base, cost of capital) Price / Revenue Adjustments – Setting a price control formula – Application of adjustment factors: productivity increases, price and volume adjustment – Defining length of price control period Efficiency Assessment – Assessment of inefficiency of regulated service providers (Benchmarking) – Techniques: non-parametric models (Data Envelopment Analysis), parametric models (Corrected Ordinary Least Square, Stochastic Frontier Analysis), engineering models Tariff Design – Tariff structures: e.g. use of network charges / connection charges, demand charges / energy charges / standing charges – Cost allocation: differentiation for voltage level, location, time of use, energy use / peak demand Introduction to Network Regulation 28 October 2013 12
- 13. Scope of Regulation– What should be regulated? Elements of Quality of Supply Continuity of Supply – Reliability of electricity supply – Performance indicators (number and frequency of interruptions) Technical Quality – Physical properties of electricity – Performance indicators (voltage variation, dips, flickers) Commercial Quality – Customer service quality – Performance indicators (complaints from consumers, response time to consumer complaints, appointments with consumers) Introduction to Network Regulation 28 October 2013 13
- 14. Agenda 1. Introduction toElectricity Regulation 2. Areas of Regulation 3. Scope of Regulation 4. Type of Regulation 5. Regulatory Institutions 6. Regulation in the EU Introduction to Network Regulation 28 October 2013 14
- 15. Type of Regulation– How should be regulated? Forms of Regulatory Price Control Regulatory price controls Cost-based Regulation Incentive Regulation Sliding Scale Regulation Rate-of-return Profit Sharing Cap Regulation Revenue Sharing Revenue Cap Price Cap Yardstick Theory vs. practice: - Differences between regimes in practice less strong. - Depending on the details of the regulatory regime, differences might only exist in the name of the regime. - Hybrid forms (combinations of regimes) frequently applied in practice. - Almost all regimes require a calculation of the company’s cost and price levels. Introduction to Network Regulation 28 October 2013 15
- 16. Type of Regulation– How should be regulated? Cost-based Regulation – Rate of Return Principle: Prices / revenues based on operating costs plus “fair” rate of return on capital (cost recovery principle) Rate-of-Return regulation Return on Capital Application: - Frequent (yearly) regulatory reviews - Price setting theoretically by the companies, but in practice regulator often determines prices directly - Traditional form of regulation (USA) Operating cost + Depreciation Price Primary Objective: limit profits, prevent companies from pricing above costs Determined by regulator Incentives for Efficiency Increase Influenced by company Practicability and Information Requirement Regulatory Capture / Gaming time Potential for Over-/Underinvestment Regulatory Risk Introduction to Network Regulation 28 October 2013 16 weak medium – high high / low overinvestment low
- 17. Type of Regulation– How should be regulated? Incentive Regulation – Cap Regulation Principle: Establishes upper limit on prices or revenue Cap regulation Application: Current revenue level Current revenue + Inflation - Longer regulatory lag and regulatory period (3-5 years) Current revenue + Inflation – productivity growth - Requires explicitly productivity increase via the price Actual Cost formulas (X factor) Efficiency gains - Allows retention of efficiency gains; should address Base level for next quality of supply regulatory Set by regulator Major Forms: period - linked caps (based on projection of capex and opex) - unlinked caps (formula for adjustment of initial cost base rather than projection) Influenced by company Incentives for Efficiency Increase Influenced by company Practicability and Information Requirement Regulatory Capture / Gaming time Potential for Over-/Underinvestment Regulatory Risk Introduction to Network Regulation 28 October 2013 17 medium – strong low - medium low / high underinvestment medium
- 18. Type of Regulation– How should be regulated? Incentive Regulation – Sliding Scale and Yardstick Sliding Scale Yardstick Principle: Regulator sets target level of revenues the company is permitted to keep; sharing scheme for profits and losses Principle: Prices or revenues linked to the costs of a peer group of companies Application: - Companies not allowed to charge higher prices than the mean of the costs of peer group - Few cases of practical application (Norway, the Netherlands) - Decouples allowed revenue from actual costs Application: - Often together with cap regulation - Sharing is usually done by adjusting the allowed revenue for the next regulatory period Main Objective: “fair” sharing of profits and risks between company and customer Incentives for Efficiency Increase medium Incentives for Efficiency Increase Practicability and Information Requirement medium Practicability and Information Requirement Regulatory Capture / Gaming medium Regulatory Capture / Gaming Potential for Over-/Underinvestment not clear Potential for Over-/Underinvestment Regulatory Risk not clear Regulatory Risk Introduction to Network Regulation 28 October 2013 18 strong medium - high low underinvestment medium
- 19. Type of Regulation– How should be regulated? Incentive Regulation – Linked and Unlinked Approaches Depending on the degree of coupling between costs and revenues the models using incentive regulation can be divided into two major groups. Linked caps (building blocks): UK, Australia, Central and Eastern Europe (Slovenia, Macedonia, Romania etc.) - Allowed revenues based on explicit cost projections for the upcoming regulatory period - Focus on operating cost efficiency and separate checks of capex plans - Often supported by supplementary schemes: efficiency carry over, sliding scale Unlinked (decoupled) caps (often yardstick): Germany, Norway, the Netherlands, Austria - Allowed revenues based on regulatory formula (no explicit cost projections) - Hindsight efficiency analysis using benchmarking on total costs including capital costs - Often supported by supplementary schemes: quantity terms (pre-specified cost drivers) incorporated in price control formulas, explicit investment allowances and caps on inefficiency / floors on efficiency Introduction to Network Regulation 28 October 2013 19
- 20. Agenda 1. Introduction toElectricity Regulation 2. Areas of Regulation 3. Scope of Regulation 4. Type of Regulation 5. Regulatory Institutions 6. Regulation in the EU Introduction to Network Regulation 28 October 2013 20
- 21. Regulatory Institutions –Who regulates? Roles in the Regulatory Process Primary and Secondary Legislation Regulatory Determinations Licenses (e.g. generation) Rules (e.g. market rules) Consultation and Position Papers Introduction to Network Regulation 28 October 2013 21
- 22. Regulatory Institutions –Who regulates? Role of the Regulator Key tasks of the regulator: - Transparent, consistent, predictable regulatory decisions (crucial for regulatory credibility) - Consultation with stakeholders and communication with interested public - Collection and conversion of data into regulatory decisions - Identification of possible problems and solutions Key prerequisites: - Clear transparent rules and procedures for the regulator in the legislation - Legal basis for regulatory independence (in terms of appointment, decision making and funding) from government and regulated firms In order to ensure a transparent, consistent and predictable regulatory framework without lobbying or governmental interventions, the law must define rules and rights of the regulator and empower him. Introduction to Network Regulation 28 October 2013 22
- 23. Agenda 1. Introduction toElectricity Regulation 2. Areas of Regulation 3. Scope of Regulation 4. Type of Regulation 5. Institutional Questions 6. Regulation in the EU Introduction to Network Regulation 28 October 2013 23
- 24. Regulation in theEU Status Quo of the European Electricity Industry Since 1996 the European Union has been promoting the establishment of functional competitive electricity markets. EU policy objectives: competitive markets, secure supply and clean environment Competitive wholesale and retail electricity supply Generator Supplier Customer Strict unbundling requirements Regulated network infrastructure, nondiscriminatory network access Generator Wholesale market Generator System operation Supplier Customer Market integration policy National RES support schemes and European ETS Supplier Transmission Retail market Customer Independent national regulators Regional coordination policy and institutional framework (framework guidelines and codes) Distribution Introduction to Network Regulation 28 October 2013 24
- 25. Regulation in theEU Timeline of the EU Electricity Legislation 2nd Internal Market Directive 2003 Concept of an Internal Market for Energy › Directives 2003/54/EC (Electricity) and Directive 2003/55/EC (Gas) › Complete market opening (full retail competition – 100% until July 2007) › Regulated network access (only) › Legal, functional and informational unbundling › Creation of independent regulatory agencies › EU Commission working paper › Aim: Creation of a single European energy market: – Cross-border transmission and trading – Liberalisation – Removal of distortions of competition 1988 1996 1998 2003 1st Internal Market Directive 1996/1998 2009 3rd Internal Market Directive 2009 › Directive 96/92/EC (Electricity) and Directive 98/30/EC (Gas) › Negotiated or regulated third party access (to networks) › Accounting unbundling › Market opening – retail competition (first steps – 25% until 1999) › Directive 2009/72/EC (Electricity) and Directive 2009/73/EC (Gas) › Switching of supplier within 3 weeks › Roll-out of Smart Metering until 2020 for 80% of household customers › Tightening of unbundling Introduction to Network Regulation 28 October 2013 25
- 26. Regulation in theEU Regulatory Price Control in the EU Revenue cap is the currently the most used price control method; selected countries using revenue cap: Austria, Denmark, Germany, Great Britain, Ireland, Spain and Sweden Only a few countries use yardstick regulation: The Netherlands, Norway Although the general method applied is similar, regulatory regimes may be highly different due to the concrete features and specification of details The design of regulatory models have been driven by several factors such as national and regional energy policy, investment requirements, need for efficiency increase incentives, price levels in the country, political and social factors and many more. Also, regulatory regimes in different countries exhibit different degree of maturity: - UK: 20 years history of price control, cap regulation, regulatory periods of 5 years Norway: regulation since 1997, moved from cap to yardstick regulation in 2007 Netherlands: revenue caps 2001 to 2006, moved to yardstick regulation in 2007 Germany: started applying revenue caps in 2009 Austria: since 2006, revenue caps for electricity distribution and rate-of-return for electricity transmission Several countries in Central and Eastern Europe: moved to cap regulation in the last few years Introduction to Network Regulation 28 October 2013 26
- 27. End of Session1. Dr. Konstantin Petrov Service Line Leader Markets & Regulation / Business Line Director Gas Consulting Services DNV KEMA Energy & Sustainability KEMA Consulting GmbH Kurt-Schumacher-Str. 8 53113 Bonn Tel: +49 228 44690 56 Fax: +49 228 4469099 Mobile: +49 173 515 1946 E-mail: [email protected] Introduction to Network Regulation 28 October 2013 27
- 28. www.dnvkema.com Introduction to NetworkRegulation 28 October 2013 28