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THEORY OF PRICING
I. INTRODUCTION
1.0 Price denotes the exchange value of a good or service, expressed in terms
of money. Thus, when we say that the price of a pen is Rs. 10, we mean that a
pen could be exchanged for a value of Rs 10. Similarly, the price of taxi service
could be Rs. 7 per kilometer or for that matter the price charged by a porter
could be Rs 5 per kg of weight.
2.0 Whether you produce good or service, you incur expenditure for
producing and selling it in the market. Thus you do need to set price of the
product or service to recover the expenditure. The most common determinants
of price are demand and supply. Let us understand this by means of a simple
example.
2.1 Let us consider the following table:
Please note that as the price increases, demand decreases. At prices when
supply exceeds demand (i.e. at P equal to 4 and 5), suppliers compete
amongst themselves and bring the price to 3 where demand and supply match.
Similarly, at prices when demand exceeds supply (i.e. at P equal to 1 and 2),
buyers compete to force the price to 3. We say, the market clearing price is Rs.
3. Thus, we saw that market price was determined by demand and supply. In
other words, market price is discovered at a point where demand and supply
curves intersect each other. Look at the following graph to understand this
concept with greater clarity:
Price
Supply
Equilibrium
Demand
Quantity
2.2 While the philosophy of price determination as explained above is true,
you should note that determinants of price viz demand and supply, themselves
depend on a number of factors – like consumer’s income, consumer’s taste and
preference, prices of related goods, own price, structure of market etc. The
factors that influence demand and supply thus also influence price. A change
in demand and supply generally brings about change in price.
The following graphs would help you better appreciate the philosophy.
S1
S2
P1
P2
D1
O Q1 Q2
S2
S1
P2
P1
D1
O Q2 Q1
P2
P1 D2
D1
O Q1 Q2
S1
P1
P2
D1
D2
O Q1
2.7 Since the cost of production varies from firm to firm, it is possible for a
firm in the ‘short-run’ to earn above normal profit even in a purely competitive
market. This is possible till the cost of production is less than the revenue
earned by sale of the product. To put it aptly, a firm will produce so long as its
marginal cost (i.e. the cost of producing an additional unit of production) is less
than the marginal revenue (i.e. the revenue generated by sale of each additional
unit of production). The firm maximizes its profit at a price where the marginal
cost equals marginal revenue. It is not possible for the firm to earn profit
beyond this point when marginal cost exceeds the marginal revenue.
2.8 It is important to note, however, that inability on the part of the firm to
earn profits does not necessarily mean that the firm will stop producing. In
fact, the firm can continue to produce in the short-run so long as the marginal
revenue is greater than the average variable cost (- well, total cost is generally
divided into fixed cost i.e. the cost that remains fixed irrespective size of
production, and variable cost i.e. the cost that varies with the size of production.
You will be introduced to this concept of fixed and variable cost in greater detail
at a later chapter). Clearly thus it makes sense for the firm to produce rather
than closing down and losing the fixed cost which is a sunk cost.
2.11 The fact that there is a single seller under pure monopoly does not,
however, mean that it can charge any price. If it raises price too high, the
buyers may not have the capacity to buy its product. The monopolist firm
therefore adjusts its output level for profit maximization although the price at
equilibrium level of output exceeds the average cost.
2.12 Key conditions that give rise to monopolies are economies of scales and
barriers to entry. Electricity generation, gas supply etc. are some examples
representing economies of scale. Left to themselves, they will charge monopoly
prices and restrict output. The absence of any competitive threat will also
probably leave such organizations wasteful, inefficient and sluggish.
2.13 Since all costs can be passed on to the consumers, there will be little
incentive for managers to keep them under control.
Need for regulation under monopoly
2.14 This explains the rationale for a regulator for fixing the natural
monopolist’s price.
2.15 The above discussion can also be illustrated with the help of the
following graphical representation:
Price, cost
per unit
(Rs.)
A Consumer surplus :
monopoly
B
Deadweight loss
Pm Income
Transfer
C D
Pc C
Qm QMC=AC
c
Quantity
Qm Qc D per period
MR
2.16 The two market structures that we discussed above viz., pure
competition and monopoly are two extremes and there are rarely any real life
examples that exactly fit in to such models. In reality we find market
structures that fall in between these two extremes, for example, monopolistic
competition and oligopolistic competition. Monopolistic competition is
characterized by a large number of sellers, a large number of buyers, sufficient
knowledge, differentiated products, free entry and exit, whereas oligopolistic
competition has the features of few sellers, homogeneous products or
differentiated products.. Detailed discussion on price determination under
these markets is beyond the scope of the present course. However,
understanding of the concept of the two extreme markets and their pricing
strategy would help you deduce the pricing methodologies under monopolistic
competition and oligopolistic competition. It will also help better appreciate the
concept and practice of power pricing in India that we would discuss in later
chapters.
III. TYPES OF PRICING
3.1 There are products and services whose demand varies according to time.
There are time periods when demand increases substantially and supply
cannot meet the demand. Often pricing strategies are adopted to flatten this
curve. Peak load pricing is one such strategy. Under this type of pricing, higher
tariff is charged during peak demand and lower tariff is charged during off-
peak period. This often helps shift demand. Reduced tariff for telephone
(STD/ISD) calls during night is an example of such pricing strategy. In
electricity sector also we have examples of Time of Day (TOD) tariff, especially
for HT consumers widely prevalent in many States.
4.0 Bundling
4.1 You must have come across campaigns of the following kind, “Buy one,
get the second at half-price”. A hotel room often comes with complementary
breakfast. These are examples of Bundling. Bundling is the practice of selling
two or more separate products together for a single price i.e. bundling takes
place when goods or services which could be sold separately are sold as a
package. Bundling could be :
5.1 You would have seen buyers paying a fee for the right to purchase their
product and then to pay a regular price per unit of the product. For example,
your cable TV company charges you a base fee for hooking into its system and
then charges you extra for pay by view transmission. Similarly, many local
telephone companies charge a monthly base fee and then charge additional fee
based on messages per unit.
5.2 The fee for privilege of service plus prices for services consumed is called
a two-part tariff. This is a widely used tariff strategy followed in electricity
sector. Tariff has the components of fixed charge and variable charge. We will
discuss this in detail when we discuss the tariff determination under
generation.
IV. REGULATION OF TARIFF – VARIOUS TYPES
6.2.3 The strengths of this form of regulation like its simplicity and
predictability also create its limitations.
c) The process is backward looking. The end user pays the historic
cost and there are no price signals regarding future costs. This is
not conducive to the efficient use of energy.
d) Historic book values may not provide sufficient revenue for future
investments and may result in inadequate investment for future
needs.
e) This is an intrusive form of regulation. It provides little incentive
for the supplier to reduce costs and make efficiency gains. Since
the net return to the utility is fixed any reduction in costs or
increase in revenue are passed through to consumers.
f) Due to its intrusive nature the transaction costs are high. The
period of tariff review tends to be short. The nature of review is
detailed as regulators have to overcome the inherent problem of
information asymmetry between the regulated and the regulator.
6.3.1 Recent trends have been towards more "light handed" regulation i.e. least
interference by the regulators. PBR moves away from the RoR method by
providing incentives for the utility to improve efficiency and reduce costs.
Rather than prescribe a return, the utility is given a set of performance
criteria to follow.
6.3.2 Performance criteria may include both operational and financial criteria.
The return to the utility depends upon performance. Over achievement of
the performance criteria can increase returns for the utility while
underachievement will decrease returns. Performance targets are set
using historic data, trends of system costs and operational
characteristics. The establishment of an extensive data base for
enchmarking performance criteria on the basis of industry best practice
is an essential component for effective regulation under this method.
6.3.3 A form of PBR is in actual use in India, where tariffs are based on
normative parameters. Performance criteria might include such items as,
number of hours of system degradation (down time), losses expressed as
a % of energy produced, expenditure on O&M, number of employees per
1000 consumers, lost time due to accidents, etc.
6.4.1 The hybrid method of PBR combines some of the best features of
ROR and PBR. The hybrid approach combines elements of both the
methods to suit local conditions. For some elements of tariff,
performance bench marking could be applied, whereas with respect to
other elements, the historic cost and rate of return may be applied. This
would be effectively a refinement of the existing norm based ROR system.
6.5.1 This is the least intrusive form of regulation which has been extensively
applied in the UK. It imposes a price cap which, over the tariff period,
can be crossed only to the extent of the retail price inflation (RPI). This
inflation rate is not fully available as an add-on to the price cap for the
utility. It is reduced by a pre-determined efficiency gain (X). The strength
of the scheme derives from the flexibility it affords to the utility to incur
costs and take actions as is commercially feasible so long as the
objectives of good quality supply are met within the capped price. The
problem is how to retain this simplicity in design, while at the same time
ensuring that an appropriate price (sufficient for financial viability
without being generous), is allowed, for generating stations of different
fuel types, ages, technology and siting. In transmission the issue would
be to price transmission of energy irrespective of the age of the line, the
capacity and technology. The ROR type of approach would try and
establish a unique price for these classes of generators.
6.5.2 The RPI minus X approach is more aggregative and prices services rather
than technologies or fuel usage. It leaves these choices to the utility.
Hence, under this system, old stations may lose on operational
parameters but gain on total cost due to depreciated rate bases. For the
application of this method the following critical decisions have to be
taken by the regulator.
(b) Which indices are to be used for inflation? In India, there are the
wholesale price index (WPI), the consumer price indices (CPI) for
agricultural labour, and the CPI for industrial workers. The latter
has historically been higher than the former. Which of these is
appropriate? There is also the problem of continuity and
representativeness of the indices. If the basket of goods, measured
for calculating the index changes, the continuity of application of
the indices is lost. In the light of these factors would it be more
appropriate to use a specially devised inflation formula rather than
an existing index?
(c) Determination of the X factor, the proxy for efficiency
improvements, is similarly complex. Time series data for the actual
costs and efficiencies of a range of stations and transmission lines
would be required to devise the X factor. Decisions would also be
required on the sharing of efficiency gains between the utility and
consumers.
6.7.2 Long run Marginal Cost (LRMC) is the future cost of power which takes
account of additional investments, consequent capacities, and projected
variable costs. Short run Marginal Cost is the variable cost of
incremental production. The data requirements for determination of the
LRMC are the energy production and capital costs of all future plants
included in the long-term expansion plan. To determine the LRMC, the
system expansion plan needs to be defined in terms of investment costs,
variable costs and power and energy production. This is generally carried
out with an investment horizon of 20 to 25 years.
6.7.3 The calculation of long run Marginal Cost Pricing is a necessary tool for
estimating the efficiency of current tariffs. If the current price being paid
to suppliers is lower than the LRMC, then a careful evaluation of the
revenues being earned by them is necessary, to ensure that the utilities
are being left with sufficient investible resources. Conversely, if the
LRMC is less than the current prices paid to suppliers they are probably
being over compensated. Short-run Marginal Cost captures only the
operating cost and ignores fixed cost, which are 'sunk' and cannot be
changed in the short-term. Hence it provides appropriate signals to
system operators for the despatch of energy and to users for the use of
energy. The rational user will always ensure that the incremental value
added or the incremental "utility" of the use of energy is higher than the
short run marginal cost of energy.
6.7.4 While providing a good theoretical basis for the determination of tariffs,
there are a number of disadvantages to the marginal costing approach,
most of the disadvantages relate to the practicality of the method. A
number of assumptions used in the least cost expansion plan may be
controversial and contestable. Some examples are uncertainties inherent
in the energy and demand forecasts, system planning assumptions, unit
costs used to establish the investment plan, size of the system or the
discount rate. Marginal cost based tariff may be difficult to reconcile with
the actual costs encountered in the system. The method uses economic,
rather than financial concepts and so may overstate or understate
financial requirements. In periods of falling capital costs the LRMC will
decrease which may become lower than the costs required to recoup
historic costs. Similarly in periods of escalating costs LRMC will tend to
overstate the price required to recoup historic costs.
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CHAPTER – II
1.1 The legal provisions for the regulation of tariffs of power utilities can be
traced to the Indian Electricity Act 1910 (IE Act). However, in keeping with the
perceptions of the times there was no attempt at being prescriptive by
specifying, either the principles, or the methodology to be followed for tariff
setting, beyond enjoining that tariffs must be non discriminatory and allow a
reasonable return to the licensee.
1.2.3 Section 59 of the E (S) Act provided for the basis of tariff determination of
the SEBs. As originally formulated, it simply enjoined the SEBs to adjust
their charges from time to time so as not to conduct their business at a
loss after accounting for subventions received from government. It also
envisaged that there may be need to meet expenses on operation and
maintenance from capital to be sanctioned by the state government.
1.2.4 Act 23 of 1978 amended Section 59 of the E (S) Act to specify that the
tariff was to be so adjusted so that SEBs earned at least a surplus, after
accounting for all subventions and costs, including tax. The rate at
which such surplus (defined as income less expenditure, including
interest and depreciation) was to be recovered was left to be specified by
the state Government. Act 16 of 1983 further amended the section. SEBs
were required to so adjust tariffs as to earn a surplus (defined as income
less all costs, including interest on debt) of at least 3%. This floor rate for
the generation of a surplus was possibly necessary to safeguard against
the continuing deterioration of the financial conditions of the SEBs.
Surplus was defined as a return on the value of the fixed assets of the
SEBs in service at the beginning of the year. State governments could
also specify a higher rate for the generation of surplus.
1.2.5 Till the establishment of central generating stations under the central
government power companies from the early 1980's, the industry was
dominated by vertically integrated SEBs and private Licensees. SEBs
could purchase electric power from any person under the provisions of
section 43 of the E (S) Act on terms as agreed between the contracting
parties. However no defining principles were available for tariff setting
and tariffs for individual stations were decided on the basis of mutual
consent between the generator and the consuming SEBs. The absence of
mandatory norms for tariff setting are said to have led to delays in
settlement of commercial terms and required extensive negotiation de
novo for every station. This was perceived to be inefficient. Consequently
the Central government constituted a committee under the chairmanship
of Shri K.P.Rao, Member (E&C) CEA to recommend alternative methods
for the determination of generation tariffs of central stations.
1.3.2 Act No 50 of 1991 introduced Section 43A of the E (S) Act, which
specified that in the case of government owned generating companies the
tariff would be decided by the state or central governments whichever
owned the company. Tariff was determined on the basis of operational
norms and PLF as determined by the CEA while the rates for
depreciation and reasonable return were to be notified by the central
government. It was under these provisions that some of the
recommendations of the K. P. Rao Committee were notified by the central
Government and came to be used in tariff determination of central
stations.
1.5.1 Separate provisions for transmission tariff did not explicitly exist in any
of the electricity laws. This is not surprising since separate transmission
did not exist till the establishment of POWERGRID in 1989. In fact,
POWERGRID was treated as a generation company under the definition
provided in the E (S) Act. The assets of POWERGRID, the sole central
government transmission company, were transferred to it from NTPC and
NHPC. Tariffs have been notified by the central government on the basis
of techno economic approvals of investment given by the CEA.
Consequently the notification dated December 17, 1997 was the first
attempt to formalise the methodology of tariff setting. It prescribes a
single part tariff comprising all costs on account of interest on
outstanding loans and working capital, return on equity, depreciation,
O&M expenses as per norms and income tax.
1.6 The cost plus approach has been predominant in tariff setting in India. A
significant departure was seen in 1991 with the part adoption of the
recommendations of the K. P. Rao committee, which introduced the concept of
performance based rate making and bench marking of operational standards.
This approach has helped to induce the regulated entities under this regime to
significantly improve their performance and reduce operational costs. Unlike
the international experience of such schemes, the tariff regime has been very
stable. Some may comment that the tariff regime should have been reviewed
more frequently than was done to ensure that the resultant efficiency gains are
shared with the consumers.
1.6.1 In 1998, prior to the coming into effect of the ERC Act thus five sets of
norms for tariff setting were in force.
There was a fair degree of commonality in all the five sets of norms though they
were not identical.
1.7.1 The ERC Act, 1998 paved way for creation of independent Regulatory
Commissions with powers to fix tariff. Central Electricity Regulatory
Commission (CERC) was created at the Centre and State Electricity
Regulatory Commissions (SERCs) in States and entrusted with powers of
tariff fixation. Unlike the Electricity (Supply) Act, 1948, the 1998 Act did
not specify financial principles for tariff determination. The principles as
enunciated in the 1948 Act continued to remain the guiding factors for
tariff determination for the State Commissions. The Commissions,
however, had the powers to deviate from these principles after recording
the reason in writing.
1.8.1 The Electricity Act, 2003, which has repealed all the three earlier laws
(viz., 1910 Act, 1948 Act, and 1998 Act) marks a departure from the
trend of prescribing the specific method of tariff determination. The
determination of terms and conditions of tariff has been left to the
domain of the Regulatory Commissions. Only guiding principles have
been provided for. Interestingly the guiding principles include
performance-based regulations, the Multi-year tariff principles, marking
a departure from the cost plus approach of tariff fixation. The mandate
for the Regulatory Commissions is to ensure that the tariff progressively
reflects the cost of supply of electricity and also reduces and eliminates
cross-subsidies within the specified period.
1.8.4 The extracts of the relevant provisions of the Act are as under:
(g) that the tariff progressively, reflects the cost of supply of electricity
and also, reduces and eliminates cross-subsidies within the period to
be specified by the Appropriate Commission;
that the tariff progressively, reflects the cost of supply and reduces
and eliminates cross subsidies within a specified period;
There are a couple of important aspects about this provision that need be
explained here. By requiring that the principles and methodologies for
tariff determination specified by the CERC for generating companies and
transmission licensees shall be the guiding factor for the Appropriate
Commission (which also includes State Commissions), this provision
establishes a functional correlation between CERC and SERCs. Another
significant aspect about this provision is that it clearly lays emphasis on
performance based regulation of electricity tariff and encourages multi-
year tariff principles to reduce regulatory uncertainty.
transmission of electricity
wheeling of electricity
retail sale of electricity
In a case where more than one licensee operates in the same area of
supply, the Appropriate Commission may fix only the maximum ceiling of
tariff for retail sale of electricity, for promoting competition among such
distribution licensees. This is thus a case where tariff is not determined
but only maximum ceiling is fixed, within which the distribution
licensees can adjust their tariffs for retail sale of electricity.
This provision stipulates that tariff shall not ordinarily be amended more
frequently than once in a financial year, except in respect of any changes
expressly permitted under the terms of any fuel surcharge formula.
The Commission is also empowered by this provision, to require a
licensee or a generating company to comply with specified procedure for
calculating the expected revenues from the tariff and charges, which he
is permitted to recover. The excess amount recovered, if any by a licensee
or generating company shall be refunded to the person along with
interest equivalent to the bank rate.
(2) Every applicant shall publish the application, in such abridged form and
manner, as may be specified by the Appropriate Commission.
(3) The Appropriate Commission shall, within one hundred and twenty
days from receipt of an application under sub-section (1) and after
considering all suggestions and objections received from the public,-
(a) issue a tariff order accepting the application with such modifications
or such conditions as may be specified in that order;
(b) reject the application for reasons to be recorded in writing if such
application is not in accordance with the provisions of this Act and
the rules and regulations made thereunder or the provisions of any
other law for the time being in force:
(5) Notwithstanding anything contained in Part X, the tariff for any inter-
State supply, transmission or wheeling of electricity, as the case may be,
involving the territories of two States may, upon application made to it by
the parties intending to undertake such supply, transmission or wheeling,
be determined under this section by the State Commission having
jurisdiction in respect of the licensee who intends to distribute electricity
and make payment therefor.
1.8.5.1 Section 3 (1) of the Electricity Act 2003 empowers the Central
Government to formulate the tariff policy. The Act also requires
that the Central Electricity Regulatory Commission (CERC) and
State Electricity Regulatory Commissions (SERCs) shall be guided
by the tariff policy in discharging their functions including framing
the regulations under section 61 of the Act.
1.8.5.2 In exercise of the powers under section 3 of the Act, the Central
Government has issued tariff policy. The important provisions of
the policy are as under:
Even for the Public Sector projects, tariff of all new generation and
transmission projects should be decided on the basis of competitive
bidding after a period of five years or when the Regulatory
Commission is satisfied that the situation is ripe to introduce such
competition.
5.2 The real benefits of competition would be available only with the
emergence of appropriate market conditions. Shortages of power
supply will need to be overcome. Multiple players will enhance the
quality of service through competition. All efforts will need to be
made to bring power industry to this situation as early as possible in
the overall interests of consumers. Transmission and distribution, i.e.
the wires business is internationally recognized as having the
characteristics of a natural monopoly where there are inherent
difficulties in going beyond regulated returns on the basis of scrutiny
of costs.
5.3 Tariff policy lays down following framework for performance based
cost of service regulation in respect of aspects common to generation,
transmission as well as distribution. These shall not apply to
competitively bid projects as referred to in para 6.1 and para 7.1 (6).
Sector specific aspects are dealt with in subsequent sections.
a) Return on Investment
The Central Commission would notify, from time to time, the rate of
return on equity for generation and transmission projects keeping in
view the assessment of overall risk and the prevalent cost of capital
which shall be followed by the SERCs also. The rate of return
notified by CERC for transmission may be adopted by the State
Electricity Regulatory Commissions (SERCs) for distribution with
appropriate modification taking into view the higher risks involved.
For uniform approach in this matter, it would be desirable to arrive at
a consensus through the Forum of Regulators.
While allowing the total capital cost of the project, the Appropriate
Commission would ensure that these are reasonable and to achieve
this objective, requisite benchmarks on capital costs should be
evolved by the Regulatory Commissions.
b) Equity Norms
c) Depreciation
d) Cost of Debt
f) Operating Norms
2) In cases where operations have been much below the norms for many
previous years the initial starting point in determining the revenue
requirement and the improvement trajectories should be recognized at
“relaxed” levels and not the “desired” levels. Suitable benchmarking
studies may be conducted to establish the “desired” performance
standards. Separate studies may be required for each utility to assess
the capital expenditure necessary to meet the minimum service
standards.
5.4 While it is recognized that the State Governments have the right to
impose duties, taxes, cess on sale or consumption of electricity, these
could potentially distort competition and optimal use of resources
especially if such levies are used selectively and on a non- uniform
basis.
5.5 Though, as per the provisions of the Act, the outer limit to introduce
open access in distribution is 27.1.2009, it would be desirable that,
in whichever states the situation so permits, the Regulatory
Commissions introduce such open access earlier than this deadline.
6 GENERATION
(1) A two-part tariff structure should be adopted for all long term
contracts to facilitate Merit Order dispatch. According to National
Electricity Policy, the Availability Based Tariff (ABT) is to be
introduced at State level by April 2006. This framework would be
extended to generating stations (including grid connected captive
plants of capacities as determined by the SERC). The Appropriate
Commission may also introduce differential rates of fixed charges for
peak and off peak hours for better management of load.
(3) In case of coal based generating stations, the cost of project will also
include reasonable cost of setting up coal washeries, coal beneficiation
system and dry ash handling & disposal system.
Such captive plants could inject surplus power into the grid subject to
the same regulation as applicable to generating companies. Firm
supplies may be bought from captive plants by distribution licensees
using the guidelines issued by the Central Government under section
63 of the Act.
The prices should be differentiated for peak and off-peak supply and
the tariff should include variable cost of generation at actual levels
and reasonable compensation for capacity charges.
(3) The Central Commission should lay down guidelines within three
months for pricing non-firm power, especially from non–conventional
sources, to be followed in cases where such procurement is not through
competitive bidding.
7 TRANSMISSION
(2) The National Electricity Policy mandates that the national tariff
framework implemented should be sensitive to distance, direction
and related to quantum of power flow. This would be developed by
CERC taking into consideration the advice of the CEA. Such tariff
mechanism should be implemented by 1st April 2006.
(4) In view of the approach laid down by the NEP, prior agreement with the
beneficiaries would not be a pre-condition for network expansion.
CTU/STU should undertake network expansion after identifying the
requirements in consonance with the National Electricity Plan and in
consultation with stakeholders, and taking up the execution after due
regulatory approvals.
(5) The Central Commission would establish, within a period of one year,
norms for capital and operating costs, operating standards and
performance indicators for transmission lines at different voltage levels.
Appropriate baseline studies may be commissioned to arrive at these
norms.
(7) After the implementation of the proposed framework for the inter-
State transmission ,a similar approach should be implemented by
SERCs in next two years for the intra-State transmission, duly
considering factors like voltage, distance, direction and quantum of
flow.
(2) All available information should be shared with intending users by the
CTU/STU and the load dispatch centers, particularly information on
available transmission capacity and load flow studies.
8.0 DISTRIBUTION
(3) Section 65 of the Act provides that no direction of the State Government
regarding grant of subsidy to consumers in the tariff determined by the
State Commission shall be operative if the payment on account of
subsidy as decided by the State Commission is not made to the utilities
and the tariff fixed by the State Commission shall be applicable from the
date of issue of orders by the Commission in this regard. The State
Commissions should ensure compliance of this provision of law to
ensure financial viability of the utilities. To ensure implementation of
the provision of the law, the State Commission should determine the
tariff initially, without considering the subsidy commitment by the State
Government and subsidised tariff shall be arrived at thereafter
considering the subsidy by the State Government for the respective
categories of consumers.
(5) Pass through of past losses or profits should be allowed to the extent
caused by uncontrollable factors. During the transition period
controllable factors should be to the account of utilities and consumers
in proportions determined under the MYT framework.
(6) The contingency reserves should be drawn upon with prior approval of
the State Commission only in the event of contingency conditions
specified through regulations by the State Commission. The existing
practice of providing for development reserves and tariff and dividend
control reserves should be discontinued.
The State Governments can give subsidy to the extent they consider
appropriate as per the provisions of section 65 of the Act. Direct
subsidy is a better way to support the poorer categories of
consumers than the mechanism of cross-subsidizing the tariff across
the board. Subsidies should to be targeted effectively and in
transparent manner. As a substitute of cross-subsidies, the State
Government has the option of raising resources through mechanism
of electricity duty and giving direct subsidies to only needy
consumers. This is a better way of targetting subsidies effectively.
2. For achieving the objective that the tariff progressively reflects the
cost of supply of electricity, the SERC would notify roadmap within
six months with a target that latest by the end of year 2010-2011
tariffs are within ± 20 % of the average cost of supply. The road map
would also have intermediate milestones, based on the approach of
a gradual reduction in cross subsidy.
For example if the average cost of service is Rs 3 per unit, at the end
of year 2010-2011 the tariff for the cross subsidised categories
excluding those referred to in para 1 above should not be lower than
Rs 2.40 per unit and that for any of the cross-subsidising categories
should not go beyond Rs 3.60 per unit.
3. While fixing tariff for agricultural use, the imperatives of the need of
using ground water resources in a sustainable manner would also
need to be kept in mind in addition to the average cost of supply.
Tariff for agricultural use may be set at different levels for different
parts of a state depending of the condition of the ground water table
to prevent excessive depletion of ground water. Section 62 (3) of the
Act provides that geographical position of any area could be one of
the criteria for tariff differentiation. A higher level of subsidy could be
considered to support poorer farmers of the region where adverse
ground water table condition requires larger quantity of electricity for
irrigation purposes subject to suitable restrictions to ensure
maintenance of ground water levels and sustainable ground water
usage.
1. Two-part tariffs featuring separate fixed and variable charges and Time
differentiated tariff shall be introduced on priority for large consumers
(say, consumers with demand exceeding 1 MW) within one year. This
would also help in flattening the peak and implementing various energy
conservation measures.
2. The National Electricity Policy states that existing PPAs with the
generating companies would need to be suitably assigned to the
successor distribution companies. The State Governments may make
such assignments taking care of different load profiles of the
distribution companies so that retail tariffs are uniform in the State for
different categories of consumers. Thereafter the retail tariffs would
reflect the relative efficiency of distribution companies in procuring
power at competitive costs, controlling theft and reducing other
distribution losses.
Surcharge formula:
S = T – [C (1+ L / 100) + D ]
Where
S is the surcharge
8.5.4 The additional surcharge for obligation to supply as per section 42(4) of
the Act should become applicable only if it is conclusively
demonstrated that the obligation of a licensee, in terms of existing
power purchase commitments, has been and continues to be
stranded, or there is an unavoidable obligation and incidence to bear
fixed costs consequent to such a contract. The fixed costs related to
network assets would be recovered through wheeling charges.
The Act provides that the Appropriate Commission may fix the
trading margin, if considered necessary. Though there is a need to
promote trading in electricity for making the markets competitive, the
Appropriate Commission should monitor the trading transactions
continuously and ensure that the electricity traders do not indulge in
profiteering in situation of power shortages. Fixing of trading margin
should be resorted to for achieving this objective.”