Regulatory Incentives for Investments in Electricity Networks - CRNI ...

egime are studied in detail, it is hardly possible to estimate the incentives of a particular
regulatory regime for investments (and on other factors).
3.5 Linked versus Unlinked Caps
In practice regulators often name regulatory regimes with quite different properties as “cap
regulation”. For explanatory purposes we divide the cap regimes into two major groups: linked
caps – the allowed revenues for each year of the regulatory period are determined by the
regulator through a projection of costs at the beginning of a regulatory period – and unlinked
caps – the allowed revenues for each year of the regulatory period are determined by the
regulator through an automatic adjustment formula starting from an initial cost level in a prespecified
year.
Linked caps base the revenues of a regulated company during a regulatory period on an ex-ante
assessment of the efficient levels of operating expenditure (Opex) and capital expenditure
(Capex) by the regulator (often referred to as building blocks approach). Under this approach
both types of costs (Opex and Capex) are usually assessed separately. For investments (Capex),
regulators typically set the allowed level on an assessment of the company’s own investment
projections. For operating expenditure cost projections can be based on a benchmarking of the
historical Opex of different network operators with additional adjustments incorporating major
changes of relevant cost drivers. Linked caps appear attractive because they link revenues to the
projected costs. At the same time they allow the consideration of efficiency increases (the
projected costs incorporated in the allowed revenue are checked for efficiency) and the
immediate allocation anticipated efficiency increases to the customers. Where there are strong
investment and maintenance needs in the near future, these types of caps may be suitable as they
enable a specific allowance to be made for the higher investment and maintenance. Linked caps
using a building blocks approach have been traditionally applied in the UK and Australia.
Unlinked caps do not link revenues to costs during the regulatory period and typically do not
require cost projections. Instead they apply a regulatory formula that annually adjusts the
allowed revenue whereas the starting point is based on the company’s actual cost in a prespecified
year. The regulatory formulas may include several components such as efficiency
improvement factors, an inflation index and quantity and quality terms. Unlinked caps have been
applied in Germany, Austria and Norway (before the start of yardstick regulation).
4 Regulatory Treatment of Investments
Investments may be conducted to meet service standards linked to technical and/or regulatory
requirements, for example the obligation to connect or to fulfil specific reliability standards.
Such investments may be related to network extension or to network replacement. 12 Network
extension investments are investments needed to meet the change in load and production patterns
12 Investments may also be driven by economic reasons. For example, a new transmission project can reduce
congestion and enhance market competitiveness by increasing both the total supply that can be delivered to
consumers and the number of suppliers that are available to serve load.
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