Finessing the unintended outcomes of price-cap adjustments: an electric utility multi-product perspective

Performance-based regulation for electric utilities is now a foreseeable-fu ture reality in the United States, and in many cases some form of a price c ap is likely to be its modus operandi. Viewing electricity in a multi-produ ct context, a utility that is constrained by a price cap will likely see ei ther its exogenous sales mix change over time within any customer class or different rates of sales growth among its customer classes. In either event , the unintended and adverse effect may be a change in the utility's averag e rate level that results in a price-cap violation. Starting from a base-ye ar average rate and moving on to the future, the traditional (RPI-X) price- cap percentage adjustment provides the utility with a new and violation-pro ne price cap. We show that the addition of a specific monetary value to tha t percentage adjustment will negate any possibility of an unintended price- cap violation, and thus help the utility stay financially sound. We also sh ow how to compute that value from data that are readily available to the ut ility. We do this in the spirit of helping regulators worldwide to restruct ure energy markets along competitive lines so as to enhance consumer welfar e. In a wider context, this price-cap formulation is potentially applicable to price-cap regulation in other types of industries that have a multi-pro duct and/or a multiple customer-class context. (C) 2001 Elsevier Science Lt d. All rights reserved.