Predictability and strategic behavior under frontier regulation

Efficiency; Electricity distribution; Mergers; Regulation; Cost functions; Public policy; Policy implications; Regulatory authorities; Strategic Behavior; Strategic objectives; Yardstick regulations; Electric utilities; Norway

Abstract :

[en] Frontier-based yardsticks, as applied in European energy network regulation, are not immune to strategic behavior. Under yardstick regulation, the regulator gauges the operator against a cost target set by the other firms in the sector. Many regulators have implemented frontier-based yardsticks where the cost function is defined by the most efficient firms (peers). This paper demonstrates that when it is possible to predict peers in advance, firms can manipulate the frontier to their advantage. We single out horizontal mergers as a plausible means to achieve such strategic objectives and develop a measure to identify strategic mergers ex ante. Using data from the electricity distribution sector in Norway that is subject to stable frontier-based regulation allows us to identify firm behavior that is consistent with our predictions. The paper contributes to the modern yardstick literature as existing evidence of strategic behavior in related regulatory settings is either based on anonymized questionnaire responses from regulatory authorities or relies on simulations using unidentified firms that are not actually exposed to such benchmarking in practice. The paper concludes by discussing policy implications. © 2019

Disciplines :

Microeconomics

Author, co-author :

Agrell, P. J.; Université catholique de Louvain, Louvain School of Management and CORE, Voie du Roman Pays 34, Louvain-la-Neuve, 1348, Belgium

Teusch, Jonas Michael ; Université de Liège - ULiège

Language :

English

Title :

Predictability and strategic behavior under frontier regulation

Publication date :

2020

Journal title :

Energy Policy

ISSN :

0301-4215

eISSN :

1873-6777

Publisher :

Elsevier, London, United Kingdom

Volume :

137

Issue :

February

Pages :

111140

Peer reviewed :

Peer Reviewed verified by ORBi

Available on ORBi :

since 02 July 2021

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