Abstract
This paper examines the incentives embedded in different regulatory regimes for investment by utilities in energy efficiency programs that aim to reduce network losses. In our model, a monopolist chooses whether to undertake an investment in energy efficiency, which is not observable by the regulator. We show that, in equilibrium, the monopolist chooses to exert positive effort more often under price cap regulation than under no regulation or mandated target regulation and that she exerts no effort under rate of return regulation. This result contrasts with an extensive literature that focuses on end-user energy conservation and shows that price caps are ineffective for achieving energy efficiency as utilities have an incentive to maximize sales volume. Thus, policies that are designed to promote demand-side energy conservation may diminish the utilities’ incentives to pursue supply-side energy efficiency through minimizing network losses.
Highlights
= 0, from which we identify three possible solutions:
It follows that the optimal price cap is
It follows that Whpc∗ > Wlpc∗ > Wlmt∗ > Wl∗
Summary
The associated Lagrangian function for price cap regulation is given by: Lpc B School of Economics, The University of Queensland, Brisbane, Australia. Professor Flavio Menezes, School of Economics, The University of Queensland, Brisbane, QLD, 4072, Australia. It follows that the optimal price cap is
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