Stranded costs in the electricity sector

This paper discusses the stranded cost concept. Stranded costs have to do with the transition from a regulated to a more competitive market. The aim of the paper is threefold. First, the paper discusses the place of the stranded cost concept in the variety of costs concepts encountered in the economic literature. In order to come to a proper description of stranded costs, we first define a new concept, i.e. strandable costs. These are the fixed or sunk costs to be paid by the incumbents that have been imposed by the regulator. Strandable costs become stranded when they cannot be recovered through the market after the introduction of competition. Second, we argue on the basis of a simple graphical analysis that from the point of view of economic efficiency, there is no need to allow for stranded cost recovery. Third, this view is illustrated with some numerical simulations, based on the Belgian electricity sector. These simulations suggest that, according to the assumptions and to the definition of stranded costs in our model, there will be no stranded costs for the Belgian electricity producers. A fortiori , the conclusion is that there is no need to allow for stranded cost recovery. However, the simulations go one step further and assume that for one reason or another strandable cost recovery is allowed through a tax on electricity transmission.