A REGULATORY INNOVATION INCENTIVE FOR ALTERNATIVE GRID STRUCTURE DESIGN OPTIONS
Natalie Prüggler, University of Applied Sciences Technikum Wien, +43 1 333 40 77-574, prueggler@technikum-wien.at
Christoph Bremberger, Vienna University of Economics and Business, +43 1 31336- 5899, christoph.bremberger@wu.ac.at
Overview
Grid operators in Europe face striking problems in electricity grids such as necessary restructuring measures due to the increased
distributed deployment of renewable generation [1], which is also one of the major challenges in Austria. On European and
national level grid initiatives, technology platforms as well as other stakeholder organisations are debating how the future grid
structure should be organised to cope with upcoming challenges. The idea of ‘smart grids’ is currently one of the most popular
suggested solutions, although no unique definition of ‘smart grids’ has been agreed upon yet. Nevertheless, there is a common
denominator in the discussions: Innovation and the goal towards a more efficient and ‘greener’ electricity supply system.
The ‘European Regulators Group for Electricity & Gas’ (ERGEG) highlights in its recently published ‘Position Paper on Smart
Grids’ that a major regulatory challenge is to incentivise grid companies to be more innovative [2]. The UK energy regulator
OFGEM (Office of Gas and Electricity Markets) which is among the first movers to apply innovation incentives for grid operators
is currently debating about the new RPI-X@20 approach [3] with increased innovation incentives. In the past years it already has
introduced research & development (R&D) promotion schemes like the innovation funding incentive followed by registered power
zones (see e.g. Evans (2004) and Ault (2008)). Denmark as well has set itself ambitious research targets and also finances research
by grid operators through grid tariffs (see e.g. Energinet.dk (2010); Panzer (2007)). In Austria, funding possibilities within national
R&D as well as demonstration programmes exist, but funding rates (percentages) are limited according to EU legislation [4].
Looking at the general nature of a regulatory price-cap regime, as applied in Austria, incentives for efficient investments as well as
operative efficiency and thus, cost reduction, are given [5]. But the power of the incentive is on the one hand dependent on the
level of accepted costs and grid operators hardly have any chance for compensation of risky investments and operational expenses
for pilot or demonstration projects, especially if these projects fail. On the other hand, if such projects become successful
innovations, it will lead to lower (reported) grid costs in future periods and so, within price-cap regimes regulated grid tariffs and
grid operator’s profit margins may decrease as well, wherefore grid operator’s ambition for innovative steps is hindered, too.
Hence, in the recently published “Roadmap Smart Grids Austria” [6] the members of the National Technology Platform for Smart
Grids Austria demand a stronger innovation incentive for grid operators and ask for a complete acceptance of their R&D
expenditures for innovative grid design options like smart grid concepts. But in ongoing discussions in Austria it is often neglected
that there exists an additional profit possibility for grid operators, namely the so-called “carry-over” mechanism [7]. This
mechanism ensures that 50% of extraordinary cost savings have to be passed on to customers by tariff reductions, but the other half
can be retained by grid operators as additional profit in the applicable regulation period. However, the detailed analysis of the
current regulatory price-cap regime in Austria has not been elaborated during the overall design process of the “Smart Grids
Roadmap Austria”. The purpose of this paper is to answer the question, whether the current regulatory regime in Austria is able to
provide sufficient incentives to grid operators for investments in innovative grid structure options, even if they result in lower
capital expenditures and hence, lower returns on investment.
Methods
Firstly, an overview is given on the currently applied regulation formula and its changes to be adapted by 2011 in Austria.
Furthermore, the decision problem of grid operators, whether it is advantageous to undertake investments in innovative grid
designs (innovative scenario I) to realise cost reductions in later periods or to apply a Business-As-Usual (BAU) investment option,
is discussed.
Like every other profit maximizing firm the grid operator will decide for the investment option, which promises the
highest overall profit. Accordingly, the grid operator will only choose the innovative grid investment option, if:
(1)
𝜋𝐼 > 𝜋𝐵𝐴𝑈
and hence,
8
𝑛
𝑛
∑(𝑇𝑅𝑡,𝐵𝐴𝑈 − 𝑇𝑅𝑡,𝐼 ) ∗ 𝑐𝑜 + ∑(𝐾𝑡,𝐼 ∗ 𝑟𝑡 ) > ∑ 𝐾𝑡,𝐵𝐴𝑈 ∗ 𝑟𝑡
𝑡=1
𝑡=9
𝑡=1
(2)
Where πI is the overall profit over the considered regulatory periods undertaking investments in innovative grid solutions and πBAU
the profits for grid operators showing a Business-As-Usual investment behavior. TRt,BAU and TRt,I are respective total revenues in
the scenarios grid operators are allowed to retain according to the accepted cost levels in year t. Furthermore, the carry-over rate is
denominated by co, the asset base (i.e. the book value of grid assets in year t) is denominated by Kt and rt is the applied interest rate
for the calculation of the return on capital invested (ROI).
Furthermore, the formulation framework and the grid operators’ investment options are tested in a simple numerical example.
Results & Conclusions
EUR
By applying innovations which result in lower grid costs and concurrently in lower capital needs, the return on capital invested (in
absolute values) decreases. In order to compensate those losses to the grid operator they need to be outweighed by an appropriate
incentive mechanism resulting in a compensation for these losses, such as the carry-over mechanism.
Figure 1 shows the resulting different profit developments in the two scenarios. The dashed line is the sum of profits in the
Innovation scenario (I), inclusive the additional profit gained by the carry-over. As can be seen, even though a carry-over of 50%
of the additional cost savings is given, it never reaches the level of the ROI in the BAU scenario. The reason is the lower asset base
(book value) for the calculation of the ROI due to the lower level of new investments in the Innovation scenario compared to the
BAU scenario. And even by coming back to a constant yearly - “near to BAU investment” - behavior after year 8, the allowed
carry-over between year 1 and 8 can never compensate for the loss in ROI.
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Years
Incl. Carry-over profit I
Figure 1:
ROI I
ROI BAU
Comparison of the development of returns on investment (ROI) in the BAU and Innovation Scenario (I). Own calculations.
In the conducted example the carry-over mechanism does not proof to be a sufficient incentive for grid operators to adopt
investments in innovative and cost reducing grid structure options. It is too weak to compensate the grid operator sufficiently for
the losses due to the lower asset base and a lower ROI. Grid operators would not go for the innovative investments option despite
they are fully compensated for the computed losses. Even more, the regulatory authority probably need to allow even some higher
profits, so that there is an incentive to change investment behavior of the grid operator in the first place.
References
[1] Brunner, H., Lugmaier, A., Bletterie, B., Fechner, H., Bründlinger, R. (2010): DG DemoNetz – Konzept. AIT, Vienna.
http://www.energiesystemederzukunft.at/edz_pdf/1012_dg_demonetz_konzept.pdf.
[2] ERGEG (2009): Position Paper on Smart Grids, An ERGEG Public Consultation Paper, Ref: E09-EQS-30-04, available at:
http://www.energy-regulators.eu.
[3] OFGEM (2010): RPI-X@20 review, http://www.ofgem.gov.uk/Networks/rpix20/Pages/RPIX20.aspx last visited 02.05.2010.
[4] Klima- und Energiefonds (2010): Neue Energien 2020, 4. Ausschreibung 2010, Leitfaden für die Projekteinreichung. Available
at: www.klimafonds.gv.at.
[5] Joskow, P. L. (2005): Incentive Regulation in Theory and Practice: Electricity Distribution and Transmission Networks,
prepared for the National Bureau of Economic Research Conference on Economic Regulation, September 9-10, 2005; MIT.
[6] Lugmaier et al. (2010): Roadmap Smart Grids Austria. available at: http://www.smartgrids.at/termine-downloads.
[7] SNT-VO (2010): Systemnutzungstarife-Verordnung 2010, Available at: http://www.e-control.at/portal/page/portal/
medienbibliothek/strom/dokumente/pdfs/SNT-VO-2010_beschlossen-22_12_2009_0.pdf.