Transcript Economic Regulation

Regulatory Risk
David Newbery
Eighth ACCC Regulatory Conference
The evolution of regulation
26-27 July 2007
Gold Coast, Queensland
http://www.electricitypolicy.org.uk
Outline
• Why (and where) worry?
• Lessons from elsewhere:
– Successes and failures
• electricity vs rail
– Evolution of British regulation
– Boundary cases
• airports, interconnectors, gas pipelines
– Withdrawing from regulation
• EU Communications Directive
• mobile cal termination
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Why worry?
Perceived risk from
– future access regulation, or
– tightening existing regulation
could
– deter infrastructure investment
– deter innovation
– deter facilities-based competition
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Possible responses
• Regulatory protection could entrench
incumbent lock-in
– remove downside of first-mover advantage
– shift cost to other consumers
• Regulatory protection if utility unbundles
– works well for pipes and wires, not for ICT?
Gas and electricity differ from rail and ICT
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Franchise regulation
• Utility submits investment plan
• Regulator assesses, approves
– possible test of consumer WTP
• Allows WACC on efficient investment cost
– subject to dispute resolution
• Customers have to pay
Risk: deters innovative investments (AT&T
cell phones)
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Liberalised networks
• No franchise: no captive market to recover
unprofitable investments
• Merchant investments:
– able to take risks for rewards
– to challenge sleepy incumbents
Risks: threat of future access regulation,
predatory competition from incumbents =>
under-investment by entrants
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Part IIIA of Trade Practices Act
Access Regime amended 2006
• Provides for regulated access to essential facility
of national importance where necessary to permit
material increase in competition in at least one
other market (whether or not in Australia)
• Earlier concerns
– lacked national interest test (public interest?)
– lacked efficiency test (resolved?)
– earlier vagueness on pricing (resolved?)
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Efficient infrastructure investment
• ‘Easy’: upgrade mature regulated networks
• Hard: major regulated network development
• Problematic: unregulated essential facilities
Problem: asymmetric information + abuse of
market power vs regulatory opportunism
Solution: legal predictability and sanity
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Successes: liberalising access
• US, UK generation investment
– huge boom after liberalisation
• US: 200 GW 1997-2003; from 776 -980 GW ’96-’05
– over-investment, price collapse bankrupted
companies, consumers protected
• US gas network after unbundling
– investment OK, resilient to shocks
• Dot-com boom, ICT investment, 3G auctions
– innovation encouraged, consumers benefit
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Generation in England and Wales
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Failures?
• IPPs in developing countries?
– Enron’s Dabhol: contract terminated, plant shut,
Maharashtra short of 2,100 MW for 6 yrs
• NETA changed the GB wholesale electricity
market?
– prices collapsed, companies bankrupted
– caused by delayed competition?
– Risky to rely on sustained imperfect competition?
• Railtrack: forced into administration?
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Number of privately financed greenfield generation projects
80
70
number closed
60
East Asia & Pacific
50
40
SSA
30
SA
MENA
20
ECA
10
EAP
LAC
0
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
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Real GB electricity prices and costs
35
7000
Price control
Profit maximising
Tacit
Collusion
plant
withdrawal
25
£(2001)/MWh
6000
20
5000
4000
NETA
15
HHI
30
Restraint
3000
Electricity
10
2000
coal cost
gas cost
5
1000
Coal HHI
0
0
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
David Newbery Data from J
Bower and C Humphries
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Railtrack - the counterexample?
• Hatfield crash - 4 dead
 network replacement - massive disruption
• track costs underestimated
• recent price control inadequate
• put into administration by Govt.
– Railtrack boss failed to ask for revenue increase
• Network Rail emerges as a PPP
– or has it been renationalised?
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4,500
13,500
4,000
12,000
3,500
10,500
3,000
2,500
9,000
Privatisation
7,500
2,000
6,000
1,500
4,500
1,000
Investment (LH scale)
500
0
3,000
1,500
0
Source: A Smith
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Total opex + capex
Hatfield crash
19
63
19
65
19
67
19
69
19
71
19
73
19
75
19
77
19
79
19
81
19
19 83
85
/
19 86
87
/
19 88
89
/
19 90
91
/
19 92
93
/
19 94
95
/
19 96
97
/
19 98
99
/
20 00
01
/
20 02
03
/0
4
Investment £ millions (2002/3 prices)
British Rail Investment (constant prices)
Regulatory or political risk?
• Regulator was open to request for increased
revenue to finance higher revealed costs
• Political pressure forced Railtrack CEO to
accept administration
– concerns over corporate manslaughter?
– City timetable too tight for rescue?
• But investment continues apace
– Government finances but cannot control!
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Rail Industry Cash Costs per Train Kilometre
Post-privatisation
25.0
21.7 a
22.5
Hatfield accident
£ Per Train Km, 2001/02 Prices
20.0
19.3
Previous peak = 16.5
17.5
15.0
12.5
Unit cost average
(1963 to 2001/02) = 15.0
10.0
7.5
5.0
2.5
4
/0
2
20
03
01
/0
/0
0
20
99
/9
8
19
19
97
/9
6
95
/9
4
19
19
91
93
/9
2
0
19
89
/9
88
19
7/
6
19
8
/8
83
19
85
19
81
19
79
19
77
19
75
19
73
19
71
19
69
19
7
19
6
19
65
19
63
0.0
(a) Note: preliminary estimates for 2002/03 and 2003/04 are based on rises in Network Rail costs since 2001/02. Other industry costs are assumed
constant in real terms, as data is not yet fully available beyond 2001/02. See Smith (2004), Institute for Transport Studies Working Paper, no. 585;
also forthcoming in the Journal of Transport Economics and Policy.
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Source:Newbery
A Smith
18
RPI-X regulation
• intended to mimic competitive market
• originally designed for BT to provide better
incentives than RoR (Littlechild)
• high powered incentives if price delinked
from future cost
Problems with quality and credibility would it deliver investment?
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British experience
• Gas, electricity, water: early investments
easy to approve
– issue was predicting efficient cost to allow
• Telecoms: easy to finance investments
– hard to determine access price
• Mobile - competitive, initially unregulated
– CPP users agree excessive access charges
• Rail: much investment -hard to judge value
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Evolving regulatory certainty
• Networks subject to RPI-X & quality standards
• Well defined methodology for setting Po, X:
– RAB, WACC, financial adequacy, benchmarking
– works well when investments obviously needed
– problematic for speculative investments
=> remove from cap (but for how long?)
• Regulatory commitment + appeals process
– Control changed by agreement, agreement overruled only if in the public interest
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British Electricity Distribution Investment
2000
1800
£ millions (2003/4 prices)
1600
1400
1200
1000
Company forecast
800
Regulator's allowance
600
Actual investment
400
200
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Source: Green
/5
'04
/4
'03
/3
'02
/2
'01
00
/1
0
99
/0
98
/9
97
/8
96
/7
95
/6
94
/5
93
/4
92
/3
91
/2
90
/1
89
/9
0
0
22
T & D Reliability
Average Transmssion System Availability (%)
DNOs supply interuptions (min/year)
Source: National Grid
Source: OFGEM
Average Security
Average Availability
96.5
260
96
95.5
210
95
94.5
160
94
110
93.5
93
60
92/93 93/94 94/95 95/96 96/97 97/98 98/99 99/00 00/01 01/02 02/03
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1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000
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Airports - not all regulated
• Each airport faces varying competition
• Regulator ill-equipped to forecast demand
• How to set charges and assess efficient plan
when expansion exceeds control period?
–
–
–
–
Pre-funding aligns with scarcity pricing
“constructive engagement” with users
separate price control for each London airport
consider removing price control from Stansted:
competes with unregulated Luton
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User engagement
• for well-informed users encourage private
agreements?
– Can work (e.g. airports)
– Problematic with many users
• and if objectives differ (e.g. low cost airlines vs
incumbent airlines)
– what about refusal to supply?
– Or facilitating tacit collusion?
Competition policy needed to prevent abuse
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Merchant transmission investment
• Hard to get regulators to think cross-border
– US fails to invest in transmission
• Project may be risky
– hard to justify charging other consumers
– risky to investor if high profits clawed back by
regulation, but losses not compensated
=> exempt from regulation for period
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Increasing EU cross-border capacity
• New investment can be exempted from rTPA
– if investment enhances competition
– for maximum of 15 years? (up to NRAs)
– but not exempt from Art 6.3 (must offer), 6.4 (UIOLI)
 UIOLI could reduce profitability of IC
withholding can enhance price differences, profits
 Could aversely affect whether built or what size
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Gas pipelines
• Typically built with long-term ToP contracts
• Investment financed on guaranteed revenues
• Maturity and liberalisation shift balance from
securing investment to efficient use
• evolution via nTPA to rTPA resisted
– US demonstrates gains from unbundling
– EU Energy Sector Inquiry finds refusal to supply
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Transit pipelines deny access
Source: Energy Sector Inquiry 2005/2006 fig 27
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Withdrawing from regulation
• where promoting competition feasible
– regulators like to self-perpetuate
– objective is to replace regulation if possible
• Oftel advocated facilities-based competition
– even if raised costs by 20%
=> local loop unbundling costly, penetration rose
• withdrew from regulating fixed line
• EU moving to competition remedies
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EC Communications Directives
• markets effectively competitive where no
operator has Significant Market Power (SMP)
• NRAs can only impose ex ante regulation if
– market review finds SMP that is likely to persist
• regulation must be
– justified in relation to Directive’s objectives
– appropriate, necessary, proportionate
=> regulation to mimic competition?
– But benefits must exceed regulatory costs
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Mobile call termination
• Initially unregulated:
– dynamic market, MNOs not making profits
– mark-up on termination subsidises handsets
• under Calling Party Pays no competition in
market for termination => SMP => regulate!
=> Lengthy dispute on how to set the mark-up
Receiving Party Pays or bill-and-keep removes
need for regulation
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Conclusions on Regulatory Risk
• Inevitable for essential facilities
• Vexatious claims to bolster dominance or to
seek better negotiating position?
• Objective: restrain abusive market power
and regulatory inefficiency/opportunism
– encourage user agreements, regulatory holidays
– clarity, case law, precedent, guidelines and
benchmarking to reduce opportunism
– trusted dispute resolution procedures
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Regulatory Risk
David Newbery
Eighth ACCC Regulatory Conference
The evolution of regulation
26-27 July 2007
Gold Coast, Queensland
http://www.electricitypolicy.org.uk
Regulating essential facilities
• Cost of regulation: less investment, innovation
• Benefit: efficiency not competition test?
– Competition is a (powerful) means to the end
– increasing competition abroad perverse?
• Ex ante risk should be reflected in ex post
WACC - but hard to estimate
– option value approach proposed for US railroads
• Regulatory holidays support risky stand-alone
investments - but what of increments?
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