Module 15: Regulating the PPP

15.4. Background to the process of creating a new regulatory body

While rushing to get the PPP arrangements up and running, it might not be feasible to expect the regulator to mobilise within two months without leaving pro-poor issues behind.

The PPP contract becomes effective typically about two months after conclusion of negotiations and award and signature of the contract(s) with the private sector provider. This is effectively the date that the operating contract commences. The regulator is required to be up and running by this time. The time lag between completing negotiations and commencing operations is needed to legally establish and enable any joint ventures, to register the operating companies and to put in place the financial infrastructure for operations.

Preparation and mobilisation of the private operator’s staff and other technical resources also takes place at the same time. Similar preparation will take place in the public utility and in the government office responsible for supervision (i.e. the regulator). Depending upon the scope and scale of the PPP operation, it is debatable whether two months is adequate.
By commencement, the regulator must:

◊ be constitutionally established;

◊ be legally enabled;

◊ be adequately staffed; and

◊ have sufficient capacity to supervise the contract effectively.

The PPP arrangements require that most of the public utility’s functions (operations, maintenance and customer management), staff and statutory obligations associated with delivering services become the responsibility of the private operator. Both transition and ongoing operations are necessarily complex.

Equally, creating and resourcing the contract supervisor (regulator) is similarly demanding – particularly at inception. As a result, regulatory and institutional arrangements can vary widely between utilities.

Information management

Initially, as a result of the successful bidder’s due diligence at tender stage and open access to planning and operational records, the operator will command considerably more information about the technical and commercial performance of the basic services systems than the regulator. It takes time for the regulator to collect sufficient information to be on a level footing. This initial imbalance (known as “information asymmetry”) is widespread in all emerging regulatory regimes and therefore can be more detrimental in low-income environments. It arises for the following reasons:

1. it can take two or three years to plan and implement performance improvements through investment or strengthened operations (the implementation period can be much longer where the service standards are abysmal or where assets are run down);

2. the skills available to the regulator may be less experienced in regulation than those of the operator (who has experience in similar contracts elsewhere); this can reduce the regulatory impact;

3. the onus for data gathering and reporting rests with the operator, whilst the regulator is confined to requesting and reviewing reports to inform regulatory action; and

4. the regulator can assess performance only at macro level, whilst the operator has access to management and commercial information for local areas.

There is little consistent cost and performance data in low-income environments, which could otherwise be used as a yardstick against which to set standards or assess performance. Historic data from the former public utility will likely be of doubtful reliability, whilst external comparisons with peer utilities of similar size are questionable. Global benchmarking data may be used for comparing past performance, but such comparisons can be statistically flawed and all situations are different.
The experience of similar emergent regulatory regimes worldwide suggests that it could take at least five years for newly-created regulators to acquire information that is sufficiently robust to make a significant impact on performance or outcomes.
Developing a forum for sharing experiences on cost and performance information for basic services in the region could be one of the ways to get the necessary information. If this proves valuable, there may be merit in adopting similar projects in other regions. However, local government managers should keep in mind that using comparative data to contrast performance between similar organisations could have limited value in establishing targets for out-performance.

Relationship between regulator and operating company

It is widely accepted that effective regulation is essential in order to extract successfully the full benefits of private sector participation in delivering basic services. The regulatory process requires a clear delineation of roles and responsibilities between customers, the regulator and the private operator with transparent relationships between the parties.
Establishing this relationship in an even-handed manner, whilst preserving independence and ensuring fairness to all parties can pose a particular challenge for the regulator. This challenge is heightened where regulation concerns a small number of single-sector providers. Notably, contract supervisors (as regulators of single operators) can be open to criticism from one party or another for bias.

An effective working relationship, albeit within strict limits of contractual responsibility and legal authority, depends on trust and understanding between individual personalities on opposite sides of the fence. Regulators as governmental bodies are publicly accountable and must conform to constitutional standards. Successful regulation seeks balanced outcomes, including protection of customers in general. It is not in the customers’ interests for private operators to be under-funded and therefore unable to perform properly.

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