Regulation No. 226: Perestroika for Russian Energy Investment
February 1, 2003
By Patrick B. Seferovich
The Federal Energy Commission of Russia is set to restructure the country's energy rules and make opportunities for investment attractive.
Potential investors in Russian energy will be particularly interested in Regulation 226, "On Price Formation Regarding Electric and Heat Energy." Enacted on April 2, 2002, this regulation, if implemented as fully presented, provides an attractive basis for the balance of interests between investors and consumers of Russian electricity called for by Federal Energy Commission of Russia (FEC) Chairman Georgy Kutovoi.
Regulation 226 incorporates many practices found in the United States and England. For example, while basing regulation on "cost-of-service" methods, it also provides the FEC with the flexibility to introduce advanced practices of performance-based regulation (PBR) or incentive regulation (IR) by permitting the FEC to apply indexing or automatic adjustment mechanisms to rates. These PBR and IR provisions, if applied appropriately, should provide ample incentive for efficiency and investment under the contemplated future industry structure of competitive electric supply and regulated transmission and delivery.
The new rule provides that the same methodology adopted by the FEC be used by Russia's Regional Energy Commissions (REC) in their establishment of retail rates.
The basic regulation specifies that the components of a cost-of-service methodology that recognizes the need to provide for the recovery of reasonable expenses, including a fair return to investors. Potential investors will be pleased to learn that language in a number of places in the regulation discusses the requirement that the regulator recognize the need for the Russian electric industry to "attract funds."
The Federal Energy Commission: A Primer on Russia's Regulator
Electricity prices for energy traded in Russia are subject by the FEC to regulation at the federal level for the wholesale capacity market (FOREM). However, the government of the Russian Federation itself retains the final approval for rate increases. The FEC also regulates tariffs for electric transmission service. Retail electric and heat tariffs are set by the REC.
The FEC was created as a single tariff agency by Presidential Decree No. 1091 on Sept. 4, 2001. It is located in Moscow and consists of a chairman, appointed for a four-year term by the president of the Russian Federation, and six commissioners appointed to four-year terms by the government. The FEC has a staff of approximately 160 people and is financed by the federal budget. The agency is "pseudo-judicial," with decisions made in open meetings. Chairman Kutovoi describes the role of the FEC as that of "achieving a balance of interests, in other words 'the golden mean,' betweens the demands of natural monopolists and consumers."
The FEC has responsibilities to regulate:
- Electric and thermal energy transport;
- Electric energy (capacity) tariffs for FOREM;
- Operating funds for the Unified Energy System, FOREM, and nuclear plants;
- Uniform systems of accounting and reporting;
- Dispute resolution authority between the REC, customers, and suppliers; and
- Financial oversight of selected electric utilities.
The FEC also can propose amendments to existing federal laws with respect to the regulation of monopolies. Similar to the U.S. Federal Energy Regulatory Commission, the FEC also has jurisdiction over oil, petroleum products, and natural gas pipeline transportation.
Mr. Seferovich is a former attorney with the Federal Energy Regulatory Commission and currently is counsel to Chadbourne & Parke LLP's energy practice in Russia and the CIS. Contact him at PSeferovich@Chadbuorne.com.
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