Focus on
Regulatory
Reviews

Oxera helped Ofwat, the regulator of the water sector in England and Wales, to create a solid incentive framework for its new regulatory approach. Ofwat wanted to review the way it regulated water companies.

In particular, it wanted to improve its focus on customers by developing an approach that would incentivise the delivery of customers’ needs.

After looking at the practical implications and likely effectiveness of different approaches, we recommended a flexible framework. One that would allow companies to both propose their own outcome measures and incentive structures (with rewards and penalties depending on the type of outcome), and be assessed across all their measured outcomes.

Ofwat accepted our recommendations, publishing its resultant methodology in ‘Setting price controls for 2015-20-framework and approach’.

When the NZ Commerce Commission determined the allowed rate of return for electricity distribution and transmission businesses, the Major Electricity Users Group appealed. The Commission had included a margin within the rate of return to offset the risk of underinvestment. When the case went to the High Court, the Commission’s approach was rejected and it was required to provide further evidence to justify its actions.

So how should we determine the cost of capital assumption in a regulatory context? Especially where the risk of underinvestment can impose widespread costs on users and society more generally.

We provided an innovative approach, assessing evidence that enabled the regulator to make a more informed judgement about the appropriate margin to offset that risk. Our analysis indicated a range below that previously applied by the Commission, but above that proposed by the Major Electricity Users Group.

When consulting on its response to the High Court challenge, the Commission used our evidence to set a lower margin to offset the risk of underinvestment.