Economic Regulation - IATA

REGULATORY TIME-CONSISTENCY
Regulation is time-dependent. The regulatory decisions
that are appropriate for one time period may not
necessarily be the best decisions for another. From
experience, there does not appear to be any particular
optimal length for a regulatory control period (especially
as investment requirements were not as high as they
currently are), though a period of between three and
five years has typically been chosen. As such, regulatory
decisions that affect both short and long term timescales
are typically reviewed every three to five years.
The time-specific nature of regulation raises three key
risks that need to be addressed:
Inflexibility against major shocks within
a regulatory period.
A regulated company does face the risk of external
shocks impacting on its ability to meet its regulatory
targets. In many cases, this is part of the risk-sharing
burden and should not lead to any regulatory change.
However, in extreme cases (such as for NATS in the
UK post-9/11 or as proposed for Dublin Airport due
to a significant change in investment plans) an interim
review may be required. However, tight restrictions are
required to ensure such reviews are for extreme cases
only. For example, the August 2006 UK airport security
scare was an external shock but one that could have
been addressed through better contingency planning. It
should not be used as an excuse to defer or even remove
existing regulatory targets and service quality standards.
Regulatory inconsistency for long-term
infrastructure investments.
Major investment decisions need to be based on a
long-term strategic plan that involves the input of all
stakeholders, including airports, users and governments.
However, regulation can have an impact on the timing
and cost of this investment. Airports and ANSPs often
argue that the long-term nature of major infrastructure
investments is inconsistent with remuneration set by the
regulator across a series of shorter regulatory periods.
Therefore, they argue, investment is discouraged if
they do not have the certainty that the regulator will
provide consistent returns over a longer time-scale.
However, regulatory consistency does not and should not
mean that investment should have risk-free, guaranteed
returns into the future. A consistent and credible
regulatory framework can provide a strong foundation
for investment (as seen by the potentially higher credit
ratings within a strong regulatory regime). In addition,
chapter 8 discusses other measures, such as a split cost
of capital, which can be used to provide greater incentives
for long-term investment.
Regulator capture by the regulated companies.
The last couple of years of a regulatory period can
sometimes be characterised by regulated companies
focusing their attention on the regulator rather than on
their airline customers. Each stakeholder is involved in
a regulatory game, providing proposals and evidence to
the regulator to secure a more favourable outcome. In
this game, the detailed information that the regulated
company has on its costs and investment plans is not
always revealed. The problem of asymmetrical information
needs to be minimised, otherwise a regulator may base its
decision on outturn expenditure levels (i.e. be ‘captured’
by the company’s view) rather than provide incentives
for more efficient expenditure levels to be reached. To
minimise this problem, clear objectives of statutory duties
must be established for the regulator at the outset. It
also requires enforcement powers for the regulator to
ensure that the regulated company shares its data, but
also potentially an incentive structure for the regulated
company to enter into more transparent negotiations
with the regulator and with airline users 9 .
As such, the regulatory framework requires flexibility in
its operational procedures to adapt to different objectives
and to address the risks associated with relatively short
regulatory time periods. It should also recognise the
trade-off between the scope of regulation and the
administrative burden. A flexible and effective framework
makes regulatory decisions where necessary but also
acts as an independent mediator where interests are
best served through fair and transparent negotiations
between users and airports and ANSPs.
9
For example, the UK electricity regulator (Ofgem) offered the regulated electricity distribution companies a choice of different regulatory
schemes offering different rewards. The choices are based on different outcomes of actual versus forecast expenditure – giving higher rewards
for companies that have been honest and transparent about their expenditure plans.