Abstract
The growing attention for the environmental effects of using fossil energy calls for an evaluation of current regulatory regimes of energy networks. In the past, tariff regulation of energy networks was mainly meant to foster competition and to improve efficiency in order to achieve lower prices for energy users. Currently, it is generally believed that regulation also has to facilitate the process of decarbonisation. In order to deal, for instance, with the growing significance of distributed generation, distribution-network operators have to upgrade their networks. The key question now is whether the existing regulatory frameworks should be adapted in order to enable these types of developments. This chapter focuses on yardstick regulation, which is a form of tariff regulation in which the allowed revenues of network operators are based on the average costs of all operators. The chapter concludes that several mechanisms exist by which yardstick regulation fosters efficient investments directed at making the grids smarter. However, such a regulatory framework may also include mechanisms potentially hindering efficient investments. These negative effects of regulation on the development of smart grids occur if the regulated firms operate in different circumstances and when externalities exist. The chapter ends by presenting a number of options to deal with such regulatory shortcomings.
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- 1.
More formally, an energy network is a natural monopoly if the costs are sub additive, which means that the total costs of supplying all services needed in a market by one network are below the total costs of producing these services by more than one network.
- 2.
This reduction in consumption is called the deadweight loss of a monopoly.
- 3.
Note that ‘economic profits’ are the profits on top of the normal profits, while the latter are defined as the reward for the opportunity costs of capital. In tariff regulation, this reward is given by including a compensation for capital costs in the revenue formula. This compensation is based on the WACC (weighted costs of capital), which is weighted sum of the costs of debt and the required return on equity.
- 4.
In economics, ‘rent’ is an alternative term for ‘economic profit’.
- 5.
The maximum level of revenues is translated into tariffs for the different types of services a network supplies. Operators generally may vary with these tariffs but the sum of all tariffs times the expected volumes per type of service is not allowed to exceed the maximum level of revenues.
- 6.
In this case, the share of the regulated firm in the yardstick is zero, implying that the incentive power is 1.
- 7.
Note that if the group consist of just one firm, its market share is 1 and the incentive power is 1 − 1 = 0, which is equal to a cost-plus type of regulation.
- 8.
Network operators provide a number of different services and, hence, they have a number of different outputs. In order to be able to calculate a productivity index, these outputs needs to be standardized. This standardization can be done by using, for instance, realised average tariffs for each output category.
- 9.
The costs in this formula includes both capital costs (capex) and operational costs (opex), implying that the regulatory framework can be characterised as totex-regulation, i.e. the revenues are based on an estimate of the total costs.
- 10.
SAIDI means ‘System Average Interruption Duration Index’ and is calculated as the ratio between the sum of duration of interruptions in power supply for all network users during a year over the total number of network users. Hence, this ratio measures the average duration (in minutes or hours) that network users cannot make use of the power grid in a year.
- 11.
In particular the risk-free interest has declined significantly over the past years. This interest rate is a component of both the cost of debt and the required rate of return on equity.
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Mulder, M. (2016). Economic Regulation of Energy Networks. In: Beaulieu, A., de Wilde, J., Scherpen, J. (eds) Smart Grids from a Global Perspective. Power Systems. Springer, Cham. https://doi.org/10.1007/978-3-319-28077-6_8
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