As indicated above, most regulators use a hybrid scheme to regulate overall prices. The appropriate combination of rate of return tools, price or revenue caps, benchmarking, and length of time between price reviews depends on a country’s goals, institutional strength, level of competition, and economic stability to name a few. In fact, in some instances the regulator gives the operator a menu of options from which the operator can choose its hybrid scheme. These options generally include tradeoffs between price decreases and profits such that if the operator chooses an option that has aggressive price decreases, the operator is allowed to keep all or a significant portion of whatever earnings it receives from the marketplace. Conversely, if the operator chooses an option that has conservative price decreases, then the operator has to give back all or a significant portion of its earnings if they exceed the operator’s cost of capital.
Of the general approaches to regulating overall price levels, rate of return regulation generally provides flexibility in addressing changes in costs and earnings. Price and revenue cap regulation provide the greatest pricing flexibility for the operator. Furthermore, rate of return regulation provides the greatest predictability of earnings, if the regulatory environment is considered to be predictable. Price and revenue regulation provide the greatest predictability for overall price levels.