Irregular incentives
Public utility regulation lacks a formal proxy for the economic profits that can be earned in an effectively competitive market if a firm is efficient or innovative. After all, public utility regulation operated on cost-plus basis. If a utility is efficient or innovative and lowers its costs, its typical reward is to have its rates reduced. This is a perverse incentive to motivate a utility to produce at the most efficient level. In addition, since regulation operates on this cost-plus basis, a utility can increase its net income, all other things being equal, by overinvesting in (or [open quotes]gold-plating[close quotes]) its system, another perverse incentive. Recognizing these flaws of regulation, academicians, utility executives, regulators, and legislators have tried over the last several years to implement incentive regulation plans that correct such perverse incentives. However, under many of the earnings-sharing or price-regulation incentive plans, the rewards for efficient production are not tied directly to measures under a company's control. In fact, such plans could prove highly detrimental to ratepayers and competitors of the regulated company and its affiliates. An incentive regulation plan that ties an appropriate reward for efficient production to specific efficiency gains is a better proxy of an effectively competitive environment. What's more, it is superior to an incentive plan that rewards circumstances beyond the company's control or self-serving manipulation. This is particularly true if no earnings cap is associated with the reward for efficiency. Rewards for efficient production should be tied to specific actions. A suitable incentive plan does not preclude appropriately derived flexible prices for certain products or services where warranted.
- OSTI ID:
- 6263285
- Journal Information:
- Public Utilities Fortnightly; (United States), Journal Name: Public Utilities Fortnightly; (United States) Vol. 131:12; ISSN PUFNAV; ISSN 0033-3808
- Country of Publication:
- United States
- Language:
- English
Similar Records
Moving toward more ratemaking incentives
[open quotes]Incentives[close quotes] for purchased power: Compensation for risk or reward for inefficiency