Institutional Design

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Proper institutional design1 is important for providing confidence to investors and customers that the regulatory process is credible, legitimate, and predictable. Regulation is credible if stakeholders can trust that commitments will be kept. Legitimacy means that the regulator is not captured by the operator or other special interests. Regulation is predictable if regulatory decisions are consistent over time so that stakeholders are able to anticipate how the regulator will resolve issues. Three main elements of institutional design are (1) the regulatory mechanism, (2) the existence of an independent, economically autonomous, well-funded and technically qualified regulatory agency, and (3) accountability mechanisms2 to prevent favoritisms.

In general the regulatory institution is considered independent if it operates under the law and has arms-length relationships with private interests, arms-length relationships with political branches of government, and organizational autonomy, including economic autonomy. Regulatory agencies are held accountable by having transparency in agency processes and through appeal processes. Commissioners or directors serve in effectively non-political positions.

The two main issues in defining a transparent regulatory process are the institutions to which the regulator is accountable and the set of mechanisms through which accountability takes place. Relevant institutions are the executive and legislative branches of government, a supra regulatory agency, the judges, and qualified consumers associations. Mechanisms for ensuring accountability include allowing stakeholders to appeal agency decisions to the courts, a detailed specification of the tasks to be performed by the regulator, clear rules and deadlines, transparency of the regulatory decisions (publication and reasonable explanation of decisions, existence of consultative bodies), an open regulatory process, existence of feedback procedures, the supervision of regulator actions by auditors and watchdogs, mechanisms of removal when moral incapacity or misconduct is proved, scrutiny of budget, and commissioners or directors serving fixed terms, being subject to restrictions on corruption and conflicts of interest, and being appointed by the government. Transparency promotes intellectual rigor, well-reasoned decision making, and coherent policy, and satisfies parties’ right to know the reasoning process.

The three main issues in defining a utility regulator’s role are the sector(s) covered, the regulator’s role in relation to policymakers,3 and the regulator’s role in relation to other regulatory entities such as the competition agency.4 Regulatory agencies can be industry-specific, sector wide or multi-sector depending on the size of the industries, scarcity of human resources, political risks, imperfection of decision making process., coordination capacities and the relevance of industry boundary problems. Regional regulatory agencies exist in some countries where legal traditions or a desire to be close to local conditions makes regional bodies desirable. Regulatory agencies are administrative regulatory bodies that act on behalf of the government to remedy market failure. Typical regulatory duties include monitoring network and service availability, standard setting, regulating prices and service quality, supervising and enforcing operator commitments, handling complaints, providing policy advice, monitoring competition, and settling disputes. Regulators may also monitor the financial performance of the sector, conduct auctions and grant concessions, and have some normative functions directly related to issues like safety standards and regulatory procedures. A clear determination of responsibilities and procedures is relevant to successfully perform these tasks. Monitoring of access and competition is a key responsibility of regulatory agencies. This work is often performed in coordination with the country’s competition authority.5 Sometimes regulators are called upon to work with environmental protection agencies.

Some agencies are structured with a board of directors appointed by the executive branch of government, while others are managed by an executive director. Sometimes the legislative branch participates by confirming the proposed directors or even appointing them. For an optimal institutional design directors should be highly qualified and independent of regulated firms, consumers, other stakeholders, and the political powers. Specific expertise is required to deal with diverse and highly specialized issues, so staffing should be based on a strict recruitment process and include an optimal mix of skills, appropriate training programs aimed at strengthening regulatory capabilities. Wide access to quality outsourcing, a sustainable salary structure, and independent financial sources are also important. To balance economic autonomy a close scrutiny by auditors and legislators is required.

Footnotes

  1. See Institutional Design.
  2. See Financial Analysis for information about regulators sharing information with the public, which helps with accountability.
  3. This includes the regulator’s authority to enforce her decisions.
  4. Ethics of the first chapter also covers the role of the regulator.
  5. Approaches to Competition notes the utility regulator’s relationship with the competition regulator.