Roland Andersson
4.4 Electricity Tariffs in Sweden — a reply
The sections above were published as an article in Energy Economics, April 1984. It was criticized by Hjalmarsson and Veiderpass in a com-ment in Energy Economics, January 1986.
In this section some points dealt with by Hjalmarsson and Veiderpass in their comments on my article are clarified; see also Energy Economics, January 1986.
4.4.1 Past and present tariffs
First Hjalmarsson and Veiderpass pointed out that electricity tariffs in Sweden have been changed to a large extent. I agree. In the conclusion of my article, I pointed out that 'there are several indications that the structure of Swedish electricity tariffs will be revised and improved in
the near future...' (p. 128). Since then the new tariff introduced by Sydkraft has been followed by similar tariffs from other members of the Swedish Power Plant Association. If a careful evaluation of Swedish electricity tariff policy was made today, it would probably be consider-ably more positive than the assessment in my article. This would be the case especially for Sydkraft and those companies which have adopted similar tariffs, but much less so for the tariff policy conducted by the Swedish State Power Board. However, this does not mean that every-thing has become perfect. As will be clear from below, there are still several aspects of current tariff policy which should be taken into account in a tariff revision.
4.4.2 The price-leading role of the Swedish State Power Board Hjalmarsson and Veiderpass emphasize the price leadership of the state-owned public utility, the Swedish State Power Board. But, as has been indicated above, Sydkraft, the largest utility, seems to have played the leading role in introducing a new tariff policy. Thus, in their new tariff, Sydkraft has not only divided the year into smaller tariff periods, but has also differentiated the energy price between weekdays (Monday to Friday, 06.00-22.00) and other times. This latter differentiation is not incorporated into the new tariff of the Swedish State Power Board.
Further, the emphasis on the fixed 6 h demand charge is now much less pronounced in Sydkraft's tariff (See below). So, the Swedish State Power Board cannot be regarded as the leading utility in introducing more efficiency-oriented tariffs.
4.4.3 Tariff level
Hjalmarsson and Veiderpass agree that the principle of LRMC pricing was maintained for several years in Sweden. But they point out that as soon as the rate level derived from this came into conflict with another goal, it was either changed or abandoned. According to Hjalmarsson and Veiderpass this principle was already permanently discarded in the early 1980s. In this case Hjalmarsson is, of course, well informed, since he was a member of the Board of Swedish State Power Board.
However, there is no doubt that the official doctrine was that the tariff level should be based on LRMC, defined as the average cost of a marginal power station; see Helzén , 'Pris på energi', and Proposition 1982 . But they are correct in stating that deviations from this principle have occurred. In my article I also show that I am aware of this fact. For instance, I do mention that the price level in 1978 was adjusted downwards by 15 % through a reduction in the energy price, as compared with a tariff level motivated by the LRMC principle. Also, an earlier decrease in the tariff level was motivated by a decrease in the real
discount rate from 10 % to 4 %, but this was done by maintaining the LRMC doctrine.
4.4.4 Definition of the budget constraint
Hjalmarsson and Veiderpass also point out that the price level of electricity 'is to a large degree determined by the rate of return required by the government as well as by the Swedish State Power Board's depreciation principles'. This, according to Hjalmarsson and Veiderpass is 'a well defined target for budgeting, since it can be expressed in a specific sum of money for each year'. It is true that the budget constraint is formally well defined in this way. But, I strongly question whether it is a well functioning target. If a year is particularly wet, ceteris paribus, a financial surplus will occur, as compared with a dry year in a hydro-based system such as the Swedish one. The Swedish State Power Board has to find artificial means of transferring money from wet years to dry years in order to fulfill the given budget constraint per year. I therefore claim that a budget constraint redefined for a period of several years would be better than the present budget-constraint per year.
4.4.5 High-voltage tariff structure
In my article, I recommended that the fixed peak-load charge should be replaced by a more highly varied energy price. This demand charge is levied on the actual maximum average rate of demand over any 6 h period throughout part of the winter season. Hjalmarsson and Veider-pass want to defend this tariff element and claim that'neither theoretical nor empirical results supporting (my) conclusions are presented'. In my article I recognize that the peak-load charge does have a positive control effect; this indirect charge price will dampen the maximum load. But it will also provide incentives for high consumption during other peak-load periods as compared with a more differentiated energy price, which, theoretically, is preferable. Of course, it is important to determine the pricing intervals so that needle peaks are avoided; this is a practical problem in both alternatives. It might be worthwhile mentioning that nowadays, contrary to the Swedish State Power Board, Sydkraft places less emphasis on this tariff element.
4.4.6 Low-voltage tariff structure
Hjalmarsson and Veiderpass agree totally with my suggestion that the energy price should vary seasonally and by time-of-day as regards the low-voltage level. They point out that such rates have been introduced on an optional basis at an introductory stage. But it is inefficient to offer an optional peak-load pricing alternative in addition to existing unit price. This is because all the customers whose consumption occurs mostly during the peaks in the system will choose the unit price tariff.
Thus, the last alternative should disappear. Sydkraft has therefore
decided to offer only the peak-load pricing alternative from the beginning of 1985 for deliveries over 10 000 kWh/year, contrary to the Swedish State Power Board.
4.4.7 Stable tariffs or stable principles?
Boiteux' classical recommendation of LRMC as a basis for the tariff level was motivated by his strong emphasis on the value of maintaining a stable tariff; see Chapter 2. His approach influenced the Swedish State Power Board to keep the electricity tariff 'as stable and uniform as possible' for several years. Now, Hjalmarsson and Veiderpass claim thct I have misunderstood the concept of stability. They themselves interpret this concept to mean that the basic tariff principles should be stable over several years.
I am quite puzzled by this criticism. To the best of my knowledge, I have not claimed anything else!. But, stable tariff principles, e.g., that the energy price should be set at the short-run marginal cost, do not imply stable prices. As pricing decisions always deal with the future, this principle means that foreseeable variations in the short-run marginal cost, for instance between years, should be reflected in a varying energy price between years in the tariff (see below).
4.4.8 Tariffs and uncertainty
Hjalmarsson and Veiderpass dislike my suggestion that electricity prices should vary in order to take into account the abundance of cheap electricity during a wet year and restrict consumption during a dry year.
They seem to mean that the set of markets now available in the Swedish system works sufficiently well in these respects. They appear to believe I am suggesting that energy charges should fluctuate more or less randomly. However, this impression is completely wrong. It is quite possible to announce a variation in energy prices in the way suggested, some months befoie the change actually Lakes place. A stable tariff principle in this context means that it is announced that such flexible tariffs will be used in the foreseeable future. Under such conditions it will be rational for different firms to invest in order for them to profit from the flexible tariffs. Hjalmarsson and Veiderpass have misunderstood this suggestion when they believe that energy charges should fluctuate more or less randomly. Also, they do not see the benefits of such a pricing scheme; that existing electricity capacity will be used more efficiently and the reserve capacity required will be smaller in the future than under the current pricing scheme.
Of course the optional contracts introduced for interruptible power are a splendid price experiment and in line with my suggestions. But, if the still more flexible rates suggested should come into operation, there
would be more incentive to use alternative energy sources. Besides, it can be questioned whether the five-year contracts used by Sydkraft are preferable, considering the uncertainty costs that must be paid by the rest of the customers.
4.4.9 Instantaneous pricing or interval pricing?
For some reason, Hjalmarsson and Veiderpass want to turn me into a naive advocate of instantaneous pricing, whereby the price of electricity is continuously adjusted according to variations in SRMCs. However, I hardly take a stand without reservations for instantaneous pricing in my article. I try to discuss differences between such a pricing scheme and interval pricing.
My suggestion in this context is that 'the coordinated Nordic market for high-voltage electricity could be extended so that, in addition to the power producers, it could also serve other customers of high-voltage electricity'. Furthermore, I do not exclude the possibility that some consumers of low-voltage electricity might be interested in such a pricing scheme.
However, I do not advocate that all electricity should be supplied under such conditions. To make my view explicitly clear; the main tariff used by the bulk of consumers of both high- and low-voltage electricity should quote an energy price equal to the forecasted short-run marginal cost in the coming year. In this way, the informative aspect of energy prices will not be lost, but rather strengthened, as compared to the present situa-tion. And it is difficult to see how the uncertainty inherent in such a scheme would be more severe than the risk of being cut off from supply at short notice, as in the tariff for interruptible deliveries.
Hjalmarsson and Veiderpass are quite eager to give a good impression of the current organization of the electricity market. They conclude their comment by claiming that the present organization 'with the major share of electricity supplied at a fixed price and with the markets for interrupt-ible and temporary power as a buffer stock... is a more efficient market organization than a market where all electricity is supplied at an uncertain price'. But who would claim anything else? I certainly would not!.
4.4.10 Summary
My reply has led to the following main points:
• If a careful re-evaluation of Swedish electricity tariff policy were made today, 1 believe that it would be considerably more positive
than the one expressed in my article, due to the substantial improve-ments which have taken place during recent years.
• However, several aspects of an even better tariff policy remain to be considered, such as; transforming the budget constraint from a per year definition to a requirement defined for a longer period; replac-ing the peak-load charge by a more highly differentiated energy price; making the peak-load pricing alternative compulsory in the low-voltage tariff over a certain consumption level; and varying prices to cover the abundance of cheap electricity during a wet as compared to the situation during a dry year.
The Swedish State Power Board could well play a more active role in these respects and thereby become an outstanding price leader.
4.5 Conclusions
Our critical analysis of electricity tariffs in Sweden has led to the following main conclusions:
• The coordinated prices used by the power producers in the Nordic countries for purchases and sales on the international spot market constitute an almost ideal application of the theory of public utility pricing.
• The same cannot be said about the official electricity tariffs. The value of maintaining stable tariffs over long periods of time, using a tariff level which corresponds to a somewhat ambiguously defined LRMC, seems to be exaggerated. Instead, the tariff should be more closely adjusted to short-run variations in supply and demand. In addition, forecasts of long-run tariff development should be carried out and passed on to consumers.
• The fixed peak-load charge should be replaced by a more highly varied energy price.
• The low-voltage tariff should be varied over time in relation to comparatively large changes in variable costs, particularly among different seasons and on a daytime/nighttime basis. A numerical estimate presented in the Appendix indicates that such a tariff reform would involve significant savings for the country as a whole.
However, there are several indications that the structure of Swedish electricity tariffs will be revised and improved in the near future.