National Approaches to Electrification – Price/Tariff Regulation
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Price/Tariff Regulation: The basis on which the price of electricity (or of standalone systems) are regulated
Uniform
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Definition |
A regime under which all providers within a given category are required to sell electricity (or standalone systems) at the same price or tariff (or set of prices/tariffs). A uniform price/tariff arrangement may:
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Interactions with other NAE Categories
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Technology
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It is usual for grid systems to use a uniform price/tariff structure, relying on the cross-subsidies inherent in a single unitary system with a single owner to balance differences in cost of provision in different areas. However, even in a grid context a uniform price/tariff structure can dis-incentivize the electricity provider from extending access to more remote, low demand areas, where the cost of provision is higher and they may be unable to recover costs or will have to raise prices for all customers. If a uniform tariff is imposed on grid-connected mini-grids, distribution systems or isolated mini-grids, which are separately owned, it will be necessary to establish a system of subsidies or cross-subsidies between providers. Without this, providers in areas where costs are lower may make excess profits while in areas where costs are higher providers become insolvent or users remain unserved. For this reason, individual price/tariff regulation is often applied to larger mini-grids, though for small mini-grids the costs may out-balance the benefits of individual price/tariff regulation, and a uniform tariff may be applied. For standalone systems, prices are frequently unregulated. If prices are regulated, it’s more likely to be on a uniform than an individual basis, since standalone system businesses are not usually tied to a location and so differences in costs are likely to be linked to their technology offer, efficiency of operation, or financing structure rather than any fundamental factors outside the business's control. (Within any uniform price regulation of standalone systems it will be necessary to consider how to incentivize system providers to move into more remote areas where distribution costs are higher). The issues inherent in a uniform price/tariff regulatory structure will be all the greater if it is extended across more than one technology, for instance, if isolated mini-grids or standalone systems are expected to supply electricity at the same prices as the grid system. | |
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Delivery Model
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A uniform regulated price/tariff structure is consistent with a public delivery model, with cross-subsidy between publically-owned entities and subsidy from wider public resources being relatively straightforward. Combining uniform prices/tariffs with a private delivery model is problematic, since this model precludes public financial support, leaving cross-subsidies between providers as the only option for balancing differences in costs. The need for subsidy to support a uniform price/tariff structure is thus likely to result in a public-private partnership model rather than pure private sector delivery. | |
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Legual Basis
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Uniform prices or tariffs may be established through either concessions or a licensing system. In principle uniform prices/tariffs may be set through general legislation without licensing electricity providers. Enforcement will then rely on prosecution of any providers who exceed set prices or tariffs. | |
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Finance
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A uniform price/tariff regime will give private financiers clarity. Whether this attracts finance will depend critically on whether the prices or tariffs set enable them to make adequate return on investment. Given variations in costs of provision it is likely to attract investment into easier to access areas and lower cost electricity technologies, and potentially enable businesses providing these to make high profits, while excluding from electricity access those living in smaller communities in more remote areas. In addition private financiers may see uniform prices/tariffs as arbitrary, inflexible and non-cost reflective, thus presenting a risk to future revenues and so discourage investment. Grants and subsidies may, of course, be used to attract private finance in the context of a uniform price or tariff system, as may tax exemptions or guarantees. However if they, too, are set on a uniform basis, while they may extend the group of users to whom electricity can be economically provided, they are also likely to create additional excess profits for those elements of electricity provision which could anyway have been delivered economically, while leaving others outside this envelope. If grants or subsidies are structured to reflect costs of provision, they may counterbalance the rigidity of uniform prices/tariffs, by transferring cost –reflectivity from tariffs to grants/subsidies. Cross-subsidies are also used to transfer income from those providers who face lower delivery cost to those with higher costs. Establishment of uniform prices or tariffs will obviously directly affect finance derived from users through these charges and the need for users to be able to access finance, or pay-as-you-go arrangement to cover any up-front element of these costs. | |
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Non-Financial Interventions
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Establishing (or amending or removing) a uniform price/tariff regime will require regulatory reform and capacity building or technical assistance may be required if the key actors lack the capacity to undertake this reform. Direct provision by implementing authorities is an alternative route to achieving uniform prices/tariffs. Other non-financial interventions, such as policy and target setting, establishment of quality and technical standards, awareness raising and demand promotion amongst users and service providers, provision of market information and training (capacity building) for businesses and workers, may be beneficial but are not specifically related to a uniform price/tariff structure. National energy planning will be key to establishing the optimum mix of technologies to meet electrification needs across the country, regardless of the form of price/tariff regulation employed. |
Advantages and Disadvantages
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The main advantage of a uniform price or tariff arrangement is that of equity – allowing all users to access electricity at the same cost, preventing those in remote, low demand areas from being penalised by having to pay more for electricity and so enabling them to use it to improve their livelihoods and compete on a more level playing field. It thereby avoids “tariff envy” and smooths the transition from one form of electricity access to another for the user. The comparative simplicity of uniform prices/tariffs may also seem attractive, avoiding the need for appropriate prices/tariffs to be calculated and agreed for each scheme or business. This is a particularly relevant consideration for small-scale technologies (standalone systems and very small mini-grids), where the burden and cost of setting individual prices/tariffs will be disproportionately high and the differentials between costs of provision relatively low. The main disadvantage is that, in the absence of cost-reflective subsidies, grants or cross-subsidies, they will inevitably benefit those providers operating in areas where costs of provision are lower, while effectively excluding provision to higher cost areas (or causing those operating in these areas to become insolvent). This issue is greatly exacerbated if uniform prices/tariffs are extended across multiple technologies, typically by requiring grid-parity tariffs from other forms of electricity provision (which are, almost axiomatically, used in areas where grid extension is uneconomic at these price levels). Subsidies, grants or cross-subsidies can be used to overcome this disadvantage while retaining equity for users, though these will inevitably either limit extension of provision to that which can be sustained from public funding or cause prices for other users (the customers of the providers from whom cross-subsidies are drawn) to rise. The sustainability of these arrangements must be seriously considered. |
Further Information and Guidance
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Relevant Case Studies
Individual
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Definition |
A regime under which the price or tariff at which each provider can sell electricity (or standalone systems) is separately agreed with the regulator. An individual price/tariff arrangement may:
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Interactions with other NAE Categories
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Technology
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It is in principle possible to set individual prices/tariffs for different areas within a grid system. This could have the advantage of incentivizing the grid company to extend into more remote areas where costs are higher, but is often politically unacceptable and a uniform price/tariff structure is therefore most often used. Grid connected mini-grids and distribution systems rely on the sale of electricity to the grid, and import of electricity from the grid and its sale to users, as well as sale of own-generated electricity to users. Clarity on how each of these tariffs is set and regulated is vital. Tariffs for import of electricity from and export to the grid will usually be on a uniform price/tariff basis. Tariffs for users of grid- connected mini-grids as well as isolated mini-grids are usually set individually for each mini-grid or distribution area (or mini-grid company) to reflect their specific costs and any subsidies or grants they may have received. For larger, particularly grid-connected, systems, these factors may be overcome by political considerations and attempts to achieve equal treatment of users considerations (but cost-reflective grants or subsidies, or cross-subsidies, will then be needed to maintain economic sustainability). At the other end of the scale, it may be concluded that the costs and bureaucracy of agreeing individual tariff levels for single small mini-grids may be unjustified. It is most usual to leave tariffs for mini-grids below a certain size unregulated (on the basis that they do not create an effective monopoly and so purchase decisions can be left to users), through use of a uniform price/tariff is also an option. Prices for standalone systems are also generally unregulated, though where public funding is used to support provision of standalone systems, it may (as with the NAE Case Study of the Bangladesh IDCOL programme) be regarded as appropriate to regulate prices. If the move towards pay-as-you-go, with users paying for electricity as they do from grid or mini-grids, while suppliers retain ownership of the capital equipment, continues or accelerates, regulation of electricity prices may become more relevant. If they are regulated it’s more likely to be on a uniform than an individual basis (since standalone system businesses are not usually tied to a location and so differences in costs are likely to be linked to their technology offer, efficiency of operation, or financing structure rather than any fundamental factors outside the businesses control). | |
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Delivery Model |
An individual regulated price/tariff structure may be used with a public delivery model where multiple public entities are involved in electricity provision. It is in the context of a private or a public-private delivery model, particularly, that individual regulated prices or tariffs are most likely to be needed, since this offers the private sector element both clarity and the opportunity to recover costs. | |
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Legual Basis |
Individual prices or tariffs may be established through either concessions or a licensing system. Without some form of licensing it is impractical to regulate individual prices or tariffs. | |
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Finance
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An individually regulated price/tariff regime will give those considering investing long term private capital confidence, reducing risk while protecting users. Whether this attracts finance will depend critically on whether the prices/tariffs set enable them to make adequate return on investment. A clear and transparent framework which allows potential investors to understand how prices/tariffs will be set and estimate levels likely to be acceptable to regulators will be key. (For smaller-scale, shorter-term investments, individual price/ tariff regulation may be regarded as a burden rather a protection). Any framework must factor in grants or subsidies received by the electricity business, so that their effect is to reduce prices/tariffs and make electricity more affordable to users. This also serves to ensure proper use of public funding and so where grants and subsidies are made available, prices/tariffs are more likely to be regulated. (Any cross-subsidies should also be incorporated into price/tariff calculations, but these are unlikely to be used alongside individually regulated tariffs). Tax exemptions and guarantees, will be reflected through their impacts on equipment, finance and other costs. The levels at which prices/tariffs are set will obviously directly affect finance derived from users through these charges and the need for users to be able to access finance, or pay-as-you-go arrangement to cover any up-front element. | |
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Non-Financial Interventions
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Establishing individual price/tariff regulation will require regulatory reform and capacity building or technical assistance may be needed if the key actors lack the capacity to undertake this reform. Other non-financial interventions, such as policy and target setting, establishment of quality and technical standards, awareness raising and demand promotion amongst users and service providers, provision of market information and training (capacity building) for businesses and workers, may be beneficial but are not specifically related to a uniform price/tariff structure. National energy planning will be key to establishing the optimum mix of technologies to meet electrification needs across the country and should feed in to design of the price/tariff regulation system. |
Advantages and Disadvantages
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The main advantage of an individual price/tariff regulation system is that it can reflect genuine underlying differences in the costs of provision under different circumstances and so enable economically sustainable electricity provision and attract private finance and businesses, while also protecting users from over-charging, particularly in a monopoly or quasi-monopoly situation, and ensuring that public financial support is properly used and benefits users by increasing affordability (rather than boosting private profits beyond those needed to attract capital). One disadvantage is that, if not well designed and rigorously applied by an expert and knowledgeable regulator, it may fail to incentivize energy businesses to work efficiently and control costs. Another is that, calculation and agreement of prices or tariffs for multiple providers on an individual basis is costly and resource intensive. This may be ameliorated by establishing a standard framework for price/tariff calculation, but some cost will remain. When deciding on an individual price/tariff calculation arrangement, consideration should therefore be given to materiality and the balance of costs and benefits. A greater issue is that, relative to a uniform price/tariff system, it discriminates between users, allowing those who can be supplied with electricity at lower cost (particularly in urban areas and within reach of the grid system) to access electricity at a lower price and to benefit from the cross-subsidies inherent in a grid system, while requiring those in more remote areas to pay the full cost of their access. While grants and subsidies may partially off-set these differences they are unlikely to eliminate them entirely. Not only is this inequitable, but it constrains those receiving more expensive forms of electricity from using it economically, improving their livelihoods and increasing demand to levels at which electricity would become cheaper. It thus acts as a constraint on economic development in higher cost areas and holds people back from moving up the energy access ladder. As a result an individual price/tariff regulatory system may lead to “tariff envy”, as those who initially welcomed modern electricity as providing them with better energy at lower cost than traditional sources, see neighbouring communities receiving it at still lower cost – and hence to political pressures to move away from individual towards uniform prices/tariffs. Thought should therefore be given when setting up an individual price/tariff regulation system to the future, how the system may need to be amended as the national electricity access context changes, and how this can be achieved on a basis which maintains both users acceptability and investor confidence. |
Further Information and Guidance
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Relevant Case Studies
Unregulated
For more information on this topic please see the 'Unregulated' Sub-Section on the NAE Legal Basis Page.
References
Authors
Authors: Mary Willcox, Dean Cooper
Acknowledgements
The Review was prepared by Mary Willcox and Dean Cooper of Practical Action Consulting working with Hadley Taylor, Silvia Cabriolu-Poddu and Christina Stuart of the EU Energy Initiative Partnership Dialogue Facility (EUEIPDF) and Michael Koeberlein and Caspar Priesemann of the Energising Development Programme (EnDev). It is based on a literature review, stakeholder consultations. The categorization framework in the review tool is based on the EUEI/PDF / Practical Action publication "Building Energy Access Markets - A Value Chain Analysis of Key Energy Market Systems".
A wider range of stakeholders were consulted during its preparation and we would particularly like to thank the following for their valuable contributions and insights: - Jeff Felten, AfDB - Marcus Wiemann and other members, ARE - Guilherme Collares Pereira, EdP - David Otieno Ochieng, EUEI-PDF - Silvia Luisa Escudero Santos Ascarza, EUEI-PDF - Nico Peterschmidt, Inensus - John Tkacik, REEEP - Khorommbi Bongwe, South Africa: Department of Energy - Rashid Ali Abdallah, African Union Commission - Nicola Bugatti, ECREEE - Getahun Moges Kifle, Ethiopian Energy Authority - Mario Merchan Andres, EUEI-PDF - Tatjana Walter-Breidenstein, EUEI-PDF - Rebecca Symington, Mlinda Foundation - Marcel Raats, RVO.NL - Nico Tyabji, Sunfunder -
Any feedback would be very welcome. If you have any comments or enquires please contact: mary.willcox@practicalaction.org.uk, benjamin.attigah@euei-pdf.org, or caspar.priesemann@giz.de.
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