An economist and energy regulation

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An economist and energy regulation

• Pippo Ranci
• Professor of economic policy, Università
  Cattolica, Milano
• Director, Florence School of Regulation
• Course on Public Regulation and Competition
• CEDIPRE, Universidade de Coimbra
• 28 October 2005

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An economist and energy regulation

• a few personal notes
• a professor of economic policy
• 1996-2003 chaired the Italian regulatory
  authority for electricity and gas
• a period of intense change in utilities
  liberalisation and privatisation, new regulation
• description of developments, analysis of reasons,
  and a report from experience

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An economist and energy regulation

• Three fundamental changes, three chapters of my
  story
• Incentive-oriented regulation of monopoly
• From monopoly to competition liberalisation and
  the role of the regulator
• A different public administration

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Incentive-oriented regulation of monopoly the
origin

• Historically, public utilities had no incentive
  to be efficient, to increase productivity
• Innovation in the UK, 1983 (the Littlechild
  report on telecoms)
• The recipe for efficiency
• Competition wherever possible
• Incentive oriented regulation of monopoly, where
  inevitable
• Adopted universally in the 1990s

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Incentive-oriented regulation of monopolyprice
caps

• regulation of prices (tariffs)
• A price cap set for a number of years
• Decreasing at a predetermined rate
• If the company reduces costs it makes profits
• If costs stay constant, the company faces losses

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Incentive-oriented regulation of monopolyhow
price caps work
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Incentive-oriented regulation of
monopolyproblems in tariff setting

• Tariff setting requires many hard choices
• Measuring running costs
• Evaluating assets
• Setting a recognised rate of return on assets
• Setting a rate of productivity increase
• Determining the period of regulation

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Incentive-oriented regulation of
monopolyquality regulation

• regulation of quality
• Quality standards (time of connection, change of
  contract, repairs, response to complaints, meter
  reading, frequency of billing, treatment of
  customers)
• The tariff corresponds to a minimum level of
  quality
• Lower quality implies fines or compensation of
  customers

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Incentive-oriented regulation of
monopolyRegulating technical quality of
electricity continuity of service in Italy
(number and duration of interruptions)
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Incentive-oriented regulation of
monopolyconditions for effectiveness

• An incentive-oriented regulation only works if
  the utility is a profit-oriented company
• (this may allow privatisation)
• Usually, profits increase
• and consumers benefit
• If government does not interfere the framework
  must be stable

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From monopoly to competition liberalisation

• The European strategy for energy liberalisation
• Electricity directives 1996, 2003
• Gas directives 1998, 2003
• Separate the networks (unbundling)
• All other activities are free in a single
  European market
• Regulation ensures access to the networks
• Applications differ across Europe

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From monopoly to competition an unbundled
tariff electricity in Italy
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From monopoly to competition market power

• Incumbent energy companies
• have market power
• In a market for a commodity or a manufactured
  product a market share of 50 does not
  necessarily create a competition problem
• In electricity there is no storage if a
  companys plants are necessary at peak time, the
  company can set the price (residual supply
  criterion)

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From monopoly to competition market power in the
UK (from David Newbery, Cambridge University )
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From monopoly to competition market power

• How can we create competition in the electricity
  market?
• Enlarge the market remove barriers, build
  interconnectors
• Impose a slimming of companies
• Italys Enel was forced to sell 30 of its
  generating capacity
• Impose sales of capacity for a few years, on
  fixed price contracts (virtual power plants)

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A different public administrationnew
institutions

• In 1995 a regulatory body existed only in the UK
  and in the Nordic countries
• Today we have 25 energy regulators in the Union,
  linked in an association (CEER) and in a group
  (ERGEG) providing advice to the EC
• Regulators in Eastern Europe, in other continents
• Good practices develop

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A different public administrationnew procedures

• Stakeholders consulted openly and publicly
• Decisions preceded by documents for consultation
• Motivations expressed
• Decisions can be appealed
• The Courts check that decisions are consistent
  with mandate

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A different public administrationa new frame
for policy

• A weakening of politics? No
• As in the historic case of the central bank the
  advantage of tying ones hands
• To avoid temptation of abuse
• To reduce uncertainty (the regulatory risk)
• To maximise the contribution of private decisions
  to public goals

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A different public administrationneeded in the
21st century

• Essential frame for public policy
• A balance of powers and a role for technical
  bodies
• Reliance on markets, corrected for imperfections
• Parliament and government set goals and take
  basic decisions, independent regulators ensure
  the working of the markets