Electric Utility Rate Design Study: the problem of the second best and the efficient pricing of electrical power
Technical Report
·
OSTI ID:5681276
An analysis of the implications of the economic theory of the second best for the pricing of electrical power is presented. Usefulness of adjusting marginal-cost prices of electricity to take into account deviations from marginal costs of prices elsewhere in the economy is evaluated. The theory of the second best, as originally presented, is a proposition about the efficiency of the economy when some products are not priced at marginal costs. In such a case, there may be gains to be made by enacting corresponding deviations of price from marginal cost in other products. This study analyzes the implications of this hypothesis for the pricing of electricity. The study sought to discover whether such adjustments to marginal-cost prices were justified for electricity and, if so, how they would be calculated. Results show that, in order for one to be certain that the calculated second-best adjustments improve efficiency in the economy, prices, marginal costs, and demand functions for all other goods and services must be taken into account. What is more, second-best adjustments cannot be calculated for any particular utility in one regulatory jurisdiction alone. Instead, these adjustments must be calculated for all jurisdictions simultaneously. Without such detailed, fully-coordinated action, it is not possible even to say whether second-best adjustments should increase or decrease marginal-cost prices. Therefore, it would seem that the next best thing is to ignore second-best elements in pricing policy in local regulatory jurisdictions.
- Research Organization:
- Gordian Associates, Inc., New York (USA); Electric Power Research Inst., Palo Alto, CA (USA)
- OSTI ID:
- 5681276
- Report Number(s):
- NP-24261
- Country of Publication:
- United States
- Language:
- English
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