Professional Documents
Culture Documents
Green Checks and Balances
Green Checks and Balances
P U B L I C P O L I C Y F O R T H E
committees, and the courts (table 1). This Note reviews the roles of these institutions.
Openness and
Checks Competition Commission Select committees Judicial review consultation
T h e Wo r l d B a n k G r o u p ▪ F i n an c e, P r i v at e Sec t o r, an d In fr as t r u c t u r e N e t wor k
2 Checks and Balances in Utility Regulation—The U.K. Experience
determine whether the license condition in ulator, it will expect to gain little from an appeal
question—such as a condition allowing the com- unless the dispute relates to the data used by the
pany’s price control to lapse or continuing with regulator.
the old control for another period—might be
expected “to operate against the public interest” If the commission does not find that the existing
and, if so, whether amendments to the license situation is against the public interest, the regula-
could prevent this. The commission normally has tor cannot change the company’s license. Thus
six months for its inquiry, although this period the existing control might lapse or continue un-
can be extended. It asks interested parties amended. But if it finds that the condition may be
(including the regulator, the company, and rele- expected to operate against the public interest, it
vant branches of government) for evidence and will propose amendments that could remedy this,
also solicits views more broadly. The group holds
meetings with the most important parties and
may visit some of the company’s facilities. After The commission had to rule on six
considering the evidence, the group produces a
report with factual information on the company price cap disputes between 1992 and
and its industry, the views of the company, the
regulator, and other interested parties, and the 1997: British Gas (twice), Scottish
commission’s conclusions. The report is signed
by the members of the group that produced it. Hydro-Electric, South West Water,
(Dissenting reports are possible but rare, and
there have been none in price control reviews.) Portsmouth Water, and Northern
This report is sent to the regulator and the com-
pany and then published by the regulator (in a Ireland Electricity.
version that omits confidential material but notes
where it has been removed).
and the regulator is allowed to change the
The MMC had to rule on six price cap disputes company’s license, taking account of the com-
between 1992 and 1997: British Gas (twice), mission’s recommendations. The commission
Scottish Hydro-Electric, South West Water, Ports- might recommend a price control nearly identical
mouth Water, and Northern Ireland Electricity. It to the regulator’s initial proposals but also could
also reset the price control for the British recommend higher—or lower—prices (and there
Airports Authority (under the Airports Act of are precedents for both). Whether regulators had
1986 this price control is automatically referred to follow these recommendations exactly was
to the commission rather than being reset by a unclear for several years. But as discussed below,
regulator). These rulings have gradually built up a recent Court of Appeal case has confirmed that
some case law, for while each case is decided the regulator’s discretion is strictly limited. The
individually, the commission has recognized the government has announced that it intends to
value of developing a consistent methodology. introduce legislation to require regulators to seek
Some commission members have served in final endorsement from the commission that any
several price control inquiries, which is also license modifications developed following a ref-
likely to add to consistency. Not wanting com- erence to the commission are necessary to rem-
panies to appeal proposed license amendments, edy or prevent the adverse effects identified by
the regulators have increased the information the commission.2
that they release and now generally argue that
they are following the “commission methodol- The minister retains veto power over the regula-
ogy.” If a company knows that the commission tor. The minister can instruct the regulator not to
is likely to use the same methodology as the reg- make a reference to the commission or not to
4 Checks and Balances in Utility Regulation—The U.K. Experience
make a particular license amendment, but this nesses in hearings lasting an hour or two, gener-
power has never been used. Regulators publish ally spread over several weeks. In an inquiry
their decisions very soon after making them. involving a regulated industry the witnesses might
They may inform the company or the minister of include the chief executives of some of the com-
what they are about to say, but there is little time panies in the industry, consumer representatives,
for lobbying the regulators to change their mind. outside experts, and the regulator. The companies
Thus the minister can act only after a decision is selected should represent a cross-section of the
published, when the political cost of interference industry; thus an inquiry on telecommunications
could be high. might hear from BT (the incumbent), Mercury (its
oldest competitor), a cable company, and a new
Select committees entrant in the business sector. Oral hearings are
almost invariably public, and committee members
The main bodies overseeing the regulators are sometimes try to persuade witnesses to answer a
parliamentary select committees. A select com- question “on the record” when they have already
mittee consists of about ten backbench members given the answer in written evidence but in con-
of Parliament (that is, MPs who are members nei- fidence. Transcripts of the hearings are appended
ther of the government, as ministers or in minor to the committee’s report.
positions, nor of the opposition party’s “shadow
government”). Each committee’s party balance Select committees have no formal powers to
reflects the balance of the House of Commons order a regulator (or a company) to do some-
(so that the governing party has a majority), but thing, but they have a great deal of influence.
the committees usually aim for unanimous Their reports almost always contain recommen-
reports and therefore seek consensus. They gen- dations, and regulators (and government depart-
erally act in a nonpartisan manner. ments) prepare formal responses to those that
affect them. If the regulator rejects a recommen-
There is a committee for each ministry, which dation, he must give reasons for doing so. And
can hold inquiries on any subject falling within if the regulator accepts it, the recommendation
that ministry’s purview. Although the Trade and may provide useful momentum for change.
Industry Select Committee has produced the
most reports on regulation, there was an Energy The courts
Committee until 1992 (when the Department of
Energy was absorbed by the Department of Under English law any branch of the government
Trade and Industry) and the Environment can be subject to a process known as judicial
Committee can hold inquiries on the water review.3 If an individual or company brings a
industry. The committees can invite written and complaint about a government decision (includ-
oral evidence and can require witnesses to ing a decision by a regulator), the courts must
appear before them. Some committee members determine whether proper procedures were fol-
build up great expertise in their subjects, but the lowed in reaching that decision. Judicial review
committees also appoint expert advisers, often does not concern itself with the substance of the
academics, to assist them in inquiries. decision unless it can be shown that the decision
is unreasonable given the procedures that should
When a committee feels that a matter is worth have been followed and the evidence presented.
investigating, the members set terms of reference Thus the court would not attempt to determine,
for themselves and announce the inquiry so that for example, whether the real rate of return to be
interested parties can submit evidence. All the used in the calculations for a price control should
substantive evidence is published in the commit- be 6.5 percent or 7 percent a year. But it might
tee’s reports except that submitted in confidence. determine that 3 percent a year is unreasonable if
The committee takes oral evidence from wit- evidence had been presented that the nearly risk-
The World Bank Group 5
free return on indexed British government secu- mended a cut in British Gas’s transport prices of
rities was 3.5 percent a year and it was willing to 21 percent in real terms, but the gas regulator
hold that no reasonable person would think that imposed a 25 percent cut, to balance higher vol-
a regulated company should earn less than that. umes than had been predicted at the time of the
MMC report. The Northern Ireland Electricity case
Regulators have generally been able to avoid judi- had a different outcome. In 1997 the electricity
cial review by following sensible administrative regulator for Northern Ireland proposed that he
procedures. But they have lost some cases. A would “adjust” the MMC’s recommendations for
housing developer that complained about the fee the company’s revenues, reducing them from
for connecting a new development to an electric- £575 million to £538 million over five years. The
ity company’s system, but paid it anyway, later company took the case to court and lost on a
asked the electricity regulator to determine the fee.
The regulator had believed that he could not inter-
vene after the event, but the court interpreted the The Court of Appeal ruled that the
law differently, and the regulator was required to
determine the fee payable. In a case against the regulator must follow the substantive
water regulator the High Court ruled that a regu-
lator must take action to enforce license conditions proposals in the commission’s report,
unless this is precluded by some other legal duty.
giving what had always been a
The electricity regulator also lost a case about the
price cap for Scottish Power, a vertically inte- presumption the force of a legal
grated company. The regulator had proposed
allowing the company to charge its smaller cus- precedent.
tomers the average cost of electricity in the
wholesale market in England and Wales, and
Scottish Power had accepted this proposal. But rather narrow interpretation of what the MMC had
the other public electricity supplier in Scotland, said. But the Court of Appeal ruled that the regu-
Hydro Electric, appealed to the MMC, which lator must follow the substantive proposals in the
determined that Hydro Electric should be MMC’s report, giving what had always been a pre-
allowed to charge the (higher) purchase price sumption the force of a legal precedent. The gov-
that English companies paid for the power sold ernment now plans legislation to ensure that the
to smaller customers. The regulator argued that commission approves any license amendments
there was no need to make the same concession that follow from its recommendations.
in Scottish Power’s price cap, since the company
had accepted the lower price, but the Court of Openness and consultation
Appeal determined that this was unreasonable.
The regulator and Scottish Power subsequently In the first few years of the United Kingdom’s
agreed on a more generous price cap. new system of regulation regulators seemed to
believe that one good defense against judicial
The most recent case, involving Northern Ireland review was to release very little information
Electricity, is probably the most important one, about their decisions: a decision could not be
because it clarified how much discretion regula- judged unreasonable if nobody knew how it had
tors have on the substance of license amend- been reached. In 1992, for example, BT’s regu-
ments. In an earlier case, involving British Gas, the lator issued a consultation paper revealing that
gas regulator had proposed substantive changes the company’s 1989 price cap had been set in
to the MMC’s recommendations, and these were the expectation that it would produce a 17 per-
accepted by the company. The MMC had recom- cent return on historic cost capital by the end of
6 Checks and Balances in Utility Regulation—The U.K. Experience
the period, but this information had not been Since then, regulators have begun to issue much
made public at the time. In the same year the more information, and to precede their final
electricity regulator announced a new price con- announcements with a series of informative con-
trol for the National Grid Company in a six-page sultation papers. The regulators often use these
statement containing very few numbers. papers to publicize possible price controls and
judge the reaction to them. They also publish
The regulators recognized the disadvantages of information to show that their proposals are
this secrecy, however, when many people came consistent with the Competition Commission’s
to believe that they were not being tough accepted methodology for the calculations
enough on the companies that they regulated. underlying price controls. In the past, regulators
The electricity distribution companies’ profits might have been worried that this information
rose significantly after they were privatized in would give companies an excuse to seek judicial
review, but now that an accepted methodology
exists, following it should provide a sufficient
The regulator had published little defense.
information showing how he had The regulators also have been willing to publish
more data on the companies that might have
reached his conclusions, and there been treated as confidential in the past. The elec-
tricity regulator, for example, has recently pub-
was a widespread perception that he lished the five-year business plans of the regional
electricity companies.4 These contain the infor-
had been far too lenient. mation that he will use (together with indepen-
dent consultants’ reports on the companies’
relative efficiency) to set their price controls for
1990, reflecting cost reductions and price con- the period after April 2000. The water regulator
trols that allowed rising prices. The Trade and now publishes companies’ “July returns” each
Industry Select Committee twice recommended year, which contain detailed cost data for the pre-
that the regulator revise these controls ahead of vious year and operating characteristics such as
schedule, but he argued that such a response to the length of their pipelines. These factors are
unanticipated profits would damage the compa- used to explain the companies’ costs in yardstick
nies’ incentives in future. In October 1993 the regulation, which predicts how far each of the
regulator published a consultation paper on companies in a group could cut its costs based
revised price controls to apply after April 1995 on the performance of the others. The case for
with no information on their likely level. In May keeping these data confidential is much weaker
1994 a letter from the regulator to the companies for these monopolies than for competitive busi-
that was leaked suggested initial price reductions nesses, but their publication shows how far the
of up to 30 percent, and the companies’ share regulators have come.
prices suffered accordingly. When the regulator’s
formal proposals were published in August, the The regulators will be under pressure to keep
average reduction was only 14 percent, and the moving in the direction of openness and trans-
companies’ share prices rose dramatically. The parency. The new Labour government an-
regulator had published little information show- nounced a review of utility regulation, which led
ing how he had reached his conclusions, and to a consultation document, followed by a set of
there was a widespread perception that he had policy proposals. One of these is that regulators
been far too lenient. In the end, the regulator should be given a legal duty to publish their rea-
revised the price control the following year, los- sons for key decisions. Regulators have to pro-
ing a great deal of credibility in the process. duce annual reports, and the government also
The World Bank Group 7
intends to specify the matters that these must People must have confidence in the regulatory
cover. system if it is to survive. That does not imply that
they have to agree with every single decision, but
The government also hopes to promote consis- they must believe that decisions take their inter-
tency among regulators by assigning them a legal ests into account. The best way of achieving
duty to give collective (and open) consideration acceptability is through increased openness and
to matters of common interest, such as best prac- consultation, a strategy that may also improve the
tice for price control reviews, replacing the exist- information available to the regulators—and thus
ing informal collaboration. In addition, because the substance of their decisions.
most of the regulated energy utilities are now
active in both gas and electricity markets, the gov- Also see the author’s “Has Price Cap Regulation of U.K. Utilities
ernment will replace the separate regulators for Been a Success?” (Viewpoint 132, November 1997) and “Utility
the two industries with a single energy regulator. Regulation—A Critical Path for Revising Price Controls” (Viewpoint
133, November 1997).
One person now holds both positions as a tran- 1 Since December 1997, to aid the coal industry, the government has
sitional measure. been using other powers to restrict the construction of new gas-
fired stations; this is intended to be a “temporary” measure.
2 Department of Trade and Industry, A Fair Deal for Consumers—
The greatest change arising from the review, The Response to Consultation (London, 1998), conclusion 7.14. The
however, is that three-member boards will commission’s decisions are already binding for the water industry,
replace some of the individual regulators. The where the legal basis of the price controls is slightly different.
3 Scotland has its own legal system.
government suggests that this will increase 4 These are available from the offer Website: http://www.open.
Viewpoint is an open
accountability, give scope for greater continuity gov.uk/offer/documents/pesbusplans.pdf.
forum intended to
as new regulators are appointed, and spread the encourage
burden of regulation, but it can also be seen in Richard Green, Department of Applied dissemination of and
debate on ideas,
the framework of checks and balances. A system Economics, University of Cambridge, and innovations, and best
of checks and balances is most important if Visiting Fellow, World Bank Institute practices for expanding
power would otherwise be concentrated in the the private sector. The
views published are
hands of an individual. Replacing individual reg- those of the authors and
ulators with boards dilutes the power of any one should not be attributed
person. We will have to wait and see whether to the World Bank or any
of its affiliated organiza-
this leads to less use of the other parts of the sys- tions. Nor do any of the
tem of checks and balances. conclusions represent
official policy of the
World Bank or of its
Conclusions Executive Directors or
the countries they
Judicial review is the only mechanism focused on represent.