November 22, 2011
Optimal regulation under unknown supply of distributed generation
As distributed generation (DG) continues to expand, larger low-voltage networks will be required in the future. However, regulated distribution network operators (DNOs) need to invest in new infrastructure without knowing a relevant determinant of network costs, the future amount of
DG.
Due to uncertainty, optimal network capacity needs to reflect the expected demand for capacity over all possible DG states. Therefore, not all capacity will be used if a low level of DG occurs. Optimal regulation that is set under asymmetric information about future DG needs to create incentives for the DNO to invest in this 'excess capacity' and also encourage optimal network utilization. In this case, an option menu that includes fixed fees and positive network charges on DG-producers fulfills these requirements and implements the first-best optimum. On the contrary, price-cap and revenue-cap regulation lead to either underinvestment or high information rents to the DNO.
