Negotiated settlements with a cost of service backstop: The consequences for depreciation

The movement from traditional regulatory hearings to negotiated settlements represents both a departure from cost of service regulation and a relaxation of regulatory oversight. Under negotiation parties are able to renegotiate inclusions in their cost of service while simultaneously creating a profit margin for the regulated firm where none existed under the cost of service outcome of a traditional hearing. This paper constructs a model to illustrate the existence of positive gains to pipeline and shipper from the re-allocation of expenses through time in the regulated pipeline services market in Canada. Behaviour consistent with the model is observable in anecdotal and econometric evidence gathered from the library of the National Energy Board of Canada, responsible for pipeline toll regulation in Canada. Empirical investigation by Littlechild (2009a) into settlement procedures in the Florida electricity market reveals similar findings; however, this analysis represents the first attempt to model the behaviour formally. The econometric analysis uses new data collected and compiled specifically for this exercise.