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Oxford Economic Papers Advance Access published online on May 31, 2007
Oxford Economic Papers, doi:10.1093/oep/gpm008
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© Oxford University Press 2007 All rights reserved

Optimal sliding scale regulation: an application to regional electricity distribution in England and Wales

David Hawdon*, Lester C. Hunt*, Paul Levine*, and Neil Rickman{dagger}

*Surrey Energy Economics Centre (SEEC), Department of Economics, University of Surrey, Guildford GU2 7XH
{dagger}Surrey Energy Economics Centre (SEEC), Department of Economics, University of Surrey, Guildford GU2 7XH, and CEPR; e-mail: n.rickman{at}surrey.ac.uk


  Abstract

This paper examines optimal price (i.e. ‘sliding scale’) regulation of a monopoly when productivity and managerial effort are not observed. We show generally how to operationalize this model of incentive regulation and use actual data from electricity distribution in England and Wales to estimate key parameters and make welfare comparisons of sliding scale regulation with a stylized price cap regime and the First-Best (the full information case). Our method enables us to quantify technical uncertainty as faced by the electricity regulator in the 1990s and shows that there are significant welfare gains from a sliding scale relative to the stylized price cap regime.

Key Words: JEL classification: L51


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