Reforming Israel's electricity sector

This paper analyzes the regulatory structure of the electricity sector in Israel, which is currently dominated by the government-owned integrated utility, Israel Electric Corporation (IEC). The current structure of a price cap with a mandatory rate reduction of 2% per year and a target return on equity (ROE) of 6.5% is not sustainable because of IEC's deteriorating financial health, caused by the substantial investments it made to meet the 7.2% per year electricity demand growth in the past decade, which has led to an exceptionally low realized ROE of 3.4% for that period. The investment trend will continue, thanks to the 4-5% per year GDP growth projected for the next 10-20 years. Part of our proposed remedy is performance-based regulation (PBR), implemented via (a) a price cap formula that will restore IEC's financial health and offer IEC downward pricing flexibility, (b) changes in how IEC compensates its workers; and (c) a sliding scale plan that provides incentives for IEC to become more efficient and to share risk with its customers. We augment the PBR proposal by recommending changes in IEC's tariffs and resource procurement procedures that aim to promote the development of a competitive power industry in the next 10-15 years. Copyright © 2002 Elsevier Science Ltd. All rights reserved.