An Introduction to Financial and Economic Modeling for Utility Regulators

27 Pages Posted: 20 Apr 2016

See all articles by Antonio Estache

Antonio Estache

Université Libre de Bruxelles (ULB) - European Center for Advanced Research in Economics and Statistics (ECARES)

Martin A. Rodriguez Pardina

MacroConsulting S.A.

German Sember

World Bank

José María Rodríguez

Universidad Nacional de Córdoba y Macroenergía S.A.

Date Written: March 2003

Abstract

The most effective regulators in developing countries are following remarkably similar approaches. The main common element across "best practice" countries is the use of relatively simple quantitative models of operators' behavior and constraints to measure the impact of regulatory decisions on some key financial and economic indicators of concern to the operators, the users, and the government. The authors provide an introduction to the design and use of these models. They draw on lessons from international experience in industrial and developing countries in ordinary or extraordinary revisions and in the context of contract renegotiations.

Simplifying somewhat, these models force regulators to recognize that, in the long run, private operators need to at least cover their opportunity cost of capital, including the various types of risks specific to the country, the sector, or the projects with which they are involved. Because these variables change over time, scheduled revisions are needed to allow for adjustments in the key determinants of the rate of return of the operator. These revisions are a recognition of the fact that all these determinants - tariffs, subsidies, quality, investments, and other service obligations - are interrelated and jointly determine the rate of return. At every revision, the rules of the game for the regulator are exactly the same: to figure out the changes in the cost of capital and to adjust the variables driving the rate of return to ensure that it continues to be consistent with the cost of capital. If they can draw on reasonable data, these models do everything any financial model would do for the day-to-day management of a company but take a longer term view and include an explicit identification of the key regulatory instruments. They can monitor the consistency between cash flow generated by the business on the one hand and debt service and operational expense needs on the other to address the main concerns of the operators. They can also account for a large number of key policy factors including access and affordability concerns for various types of consumers. They generally account for the sensitivity of operators and users to various regulatory design options.

This paper - a joint product of the Finance and Private Sector Development Division, World Bank Institute, and the Office of the Vice President, Private Sector Development and Infrastructure Vice Presidency - is part of a larger effort in the Bank to increase understanding of infrastructure regulation.

Suggested Citation

Estache, Antonio and Rodriguez Pardina, Martin A. and Sember, German and Rodríguez, José María, An Introduction to Financial and Economic Modeling for Utility Regulators (March 2003). World Bank Policy Research Working Paper No. 3001. Available at SSRN: https://ssrn.com/abstract=636363

Antonio Estache (Contact Author)

Université Libre de Bruxelles (ULB) - European Center for Advanced Research in Economics and Statistics (ECARES) ( email )

Ave. Franklin D Roosevelt, 50 - C.P. 114
Brussels, B-1050
Belgium
32 (0)2 6503838 (Phone)

Martin A. Rodriguez Pardina

MacroConsulting S.A. ( email )

Lavalle 190
Piso 5° Oficina i
Buenos Aires, C1047AAD
Argentina

German Sember

World Bank

1818 H Street, N.W.
Washington, DC 20433
United States

José María Rodríguez

Universidad Nacional de Córdoba y Macroenergía S.A.

Av. Haya de la Tore s/n
Pabellon Argentina
Cordoba, Córdoba 5000
Argentina

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