The memorandum distributed in this proceeding[1] reflects an impressive and careful level of consideration about the topic of performance incentive mechanisms (PIMs). PIMs are an additional feature that may be layered atop either the traditional cycle of rate cases or preferably, a multi-year rate plan or “stay-out” provision that causes utilities to attend to efficiencies in their cost structure.

regulation (PBR) may be understood essentially to have two parts. The first is
rates that do not attempt to minutely “track” costs, instead allowing the
company to share in the benefits of cost reductions as they occur—before they
are re-captured to the benefit of consumers in the next rate-setting. The
second is PIMs, which positively reward a company when certain objectives are achieved.

In the coming decade, PBR will probably become the most important topic in utility regulation. This is because the traditional cost-of-service regulatory model and its implicit capital bias are poorly fitted to the modern challenges of the utility industry.[2] Utilities are a mature sector and they should therefore be more open to innovations, including and perhaps especially those that are non-capital intensive or not related to traditional channels of utility capital investment. To get utilities comfortable with this new reality, they must be incentivized away from a model that inures toward capital bias. This situation necessitates some form of PBR.

Incentivizing Outcomes, Not Actions

As the
Commission’s memorandum and its recent actions relative to PIMs imply, PBR is hard
to do well and it will not—and indeed should not—survive unless its benefits
are tailored to create outcomes at an appropriate level of award. The Rhode
Island Commission has clearly done a great deal of thinking on this subject,
for which it is to be applauded.

We respectfully
suggest that the principle that requires the most development in this
proceeding is Principle #5, as it embodies the important concept that “the
utility should be offered the same incentive for the same benefit.” However,
the question remains as to what specifically should be considered a “benefit.”

example, let us consider that the electrification of transportation may align
with social welfare generally, and the goals of utility regulation
specifically. Is the installation of electric-vehicle charging stations the
benefit we have in mind—or is it the overall number of electric vehicles (EVs) adopted?
If the latter, applying Principle #5 would mean that it would be inappropriate
to simply count the number of charging stations installed and create a PIM on
that basis, as opposed to the EV adoption they had likely induced. Defining the
benefit in an outcome-driven way would suggest that the utility might consider
an alternative means of achieving EV adoption, such as credits or rebates to
customers who use their own capital to buy an EV or install a home- or
office-based charging station. In short, if one were to choose dichotomously
between “charging stations” versus “EVs,” it would be reasonable to pick the
latter because it better conforms to the principle of allowing multiple
pathways to achieve the presumptive ultimate goal. Put another way, one does
not install charging stations for their own sake; one installs them to accommodate
EVs, and that is why the latter and not the former should be measured.

Of course,
even counting the number of EVs is not really the correct measurement. Like
charging stations, EVs are not an end unto themselves. One may presume that
they offer a pathway to “beneficial electrification,” bywords that imply economy
efficiency gains associated with direct consumer savings and the environmental benefits
of displacing internal-combustion-engine vehicles. But can one measure more
generic economic efficiency outcomes, rather than a PIM that is squarely
focused on EVs?

as one directs PIMs toward the benefits at the heart of the matter, they become
more difficult to measure. For example, it is harder to measure the number of
EVs adopted as a consequence of utility-installed charging stations than it is
to measure the number of charging stations installed. And it is harder to
measure the efficiency gains of EV adoption (or another policy) than it is to measure
either EVs adopted or charging stations installed.

we believe that the Commission should condition any PIM on one of two things to
fulfill the intentions of Principle #5. Either PIMs should: 1) amplify the
rate-case cycle’s emphasis on cost reductions (perhaps including  costs imposed by one or two truly significant
externalities) or 2) they should increase access to energy and the reliability
of that access. These two things can be in tension with one another, but
properly designed rates and PIMs should drive a service that is both affordable
and abundant.

As such, we believe that Principle #5 should consciously focus on a “back-to-basics” approach that magnifies the essential public-service outcomes of a utility, while minimizing the capital bias present in modern trends in cost-of-service regulation. We suggest that Principle #5 therefore incorporate guidance that any PIM must incorporate a metric associated with at least one of two things. Specifically, a PIM’s underlying metric should measure cost reductions (by volume of energy distributed and by capacity), which would increase a utility’s incentive to obtain savings over a multi-year period.[3]  Or, alternatively or in addition, a metric should measure and reward for increased system utilization, (possibly measured by average load factor), which is accomplishable either by a system-peak reduction or by increasing throughput at certain times.

to the EV example, charging stations will result in additional capital costs,
but if they are able to make up these costs by spreading them over the system
such that costs-per-unit decline, or if overall capital utilization is
improved, then such a PIM would bind. We believe this is a more technology-neutral,
outcome-based approach that aligns with social welfare generally.

Commission will always be handicapped by information asymmetry. This could lead
it to take a managerial focus (e.g., calling out the “right” number of charging
stations and then counting them as part of a PIM). But it would be better if
the Commission instead specified broad outcomes, rewarding or penalizing the
utility for them, even if it cannot be clearly established whether the results
are directly tied to the utility’s behavior. This is superior to an approach
that tries to closely inspect utility results, which simply guides one back to
the very “Mother May I?” game that a well-designed PBR intends to avoid.



Travis Kavulla

Policy Director

The R
Street Institute

1212 New York Ave. N.W.,

Suite 900

D.C. 20005


[email protected]

Abigail Anthony, “Re: Principles for Performance Incentive Mechanisms,” March
5, 2019.

[2] For a lengthier discussion of R
Street’s views on the incentives facing the U.S. regulated-utility industry,
see: Travis Kavulla, “Monopoly and Regulation in Context,” keynote address to
the 34th Annual Western Energy Conference.

[3] A more ambitious PIM could go outside the fence-line of the utility’s property and relate to the wider energy economy, where consumers trade off energy sources. For example, the Commission could set a PIM that measures the delivered cost of energy consumed at the utility’s EV charging stations, comparing it to the cost to a comparable consumer of an internal-combustion engine. Clearly, the Commission would want to proceed with caution on this, but it coheres to the framework we describe here.

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