Morgan Mouton Energy Policy

Technical Assistance Consultant’s Report
Project Number: 41074

May 2011
Efficiency Improvement and Connectivity

Strengthening in Archipelagic Southeast Asia Project
(Cofinanced by the Regional Cooperation and Integration Fund
under the Regional Cooperation and Integration Financing
Partnership Facility)
Prepared by Geoff Swier

Farrier Swier Consulting
Melbourne, Australia
For Asian Development Bank
This consultant’s report does not necessarily reflect the views of ADB or the Government concerned, and
ADB and the Government cannot be held liable for its contents.
TA-6441 (REG): Efficiency Improvement and Connectivity
Strengthening in Archipelagic Southeast Asia
Review of Institutional and Governance arrangements in the

Philippines Power Sector
Final Report and Recommendations
Report prepared for the Asian Development Bank
Geoff Swier, Consultant
Final Report, May 2011
Email geoff.swier@farrierswier.com.au
Farrier Swier Consulting

Level 7, 330 Collins St
Melbourne 3000
Australia
1 Introduction
1. This is the Final Report of a Review of Institutional and Governance arrangements in the
Philippines Power Sector (PPS) undertaken for the Asian Development Bank (ADB).
2 Background
2. The Terms of Reference for this review is as follows:
International experience indicates that effective institutional and governance

arrangements are critical to resolving such problems and achieving good sector outcomes.
Institutional and governance arrangements encompass legislation; policy development;
rule making; economic regulation of monopoly transmission and distribution elements;
competition (antitrust) regulation; monitoring, compliance and enforcement functions; and
market and system operation. Good power sector outcomes will be supported by an
effective overall design for the institutional and governance arrangements.
This design would provide a framework for well drafted legislation; appropriate allocation
of powers and functions between ministers, departmental officials, regulators, and the
market and system operator; effective antitrust regulation; regulatory independence and
competent public officials and regulators; and an appropriate legal environment including
provisions for disputes and appeals. Other supporting factors include an absence of
significant corruption, high levels of transparency, and rights for citizens to participate in
decision making processes
3. This Final Report was prepared by first preparing a Diagnostic Report1 and then developing draft
recommendations that were tested with stakeholders in Manila on 25 - 27 April 2011. This
report takes into account relevant feedback from these meetings. A number of detailed matters
were raised that are outside the scope of this review.2
4. The review adopts an expansive definition of institutional arrangements to include both the
1
The Diagnostic report was based on; review of an internal ADB strategy document; discussion with Sohail Hasnie; review of publicly
available documents including relevant legislation, and background documents from the various electricity agencies; news reports; and
interviews with five experts who have had involvement with the PPS; and this consultant’s own experience in power sector reform including
of the Philippines.
2
These include: matters raised by National Power: need for budgetary support from PSALM to enable scheduled plant maintenance for
National Power assets in the main grid; creation of subsidiary companies to manage certain assets in lieu of privatisation. In Missionary
areas: full recovery of variable generation costs from customers; achieving reasonable rates of return; accelerated private sector
participation in missionary electricity in unviable areas; capacity building of National Power staff in generation and transmission planning;
limitations on National Power capacity to borrow to undertake Missionary investment . Issues raised by Transco: Recovery of costs for
compensation payments for Transmission Rights of Way; weaknesses in planning for connection assets. Issues raised by ERC: Administrative
burden of having to licence (COC) numerous small gensets – need to evaluate whether this is necessary; jurisdictions over a distribution
multiply situated within a Special Economic Zone.
Final Report: Institutional and Governance arrangements in the Philippines Power Sector 2
“formal” as well as “informal” aspects of the institutional arrangements3. The review is confined
to the operation of the competitive and monopoly aspects of the electricity industry. It does not
review implications of the development of a national energy strategy.4
3 Industry context
5. The Electric Power Industry Reform Act (EPIRA), which was enacted ten years ago, initiated an
ambitious restructuring of the PPS, the objectives of which were to establish a competitive
market based environment for generation and supply; encourage private sector participation;
and ensure adequate, efficient and reliable supply of electricity. Congress is currently
considering review and amendment of the EPIRA.
6. The outcomes expected from the electricity industry arrangements as set out in the EPIRA are:
to promote and protect long-term consumer interests in terms of quality, reliability and
reasonable pricing of a sustainable supply of electricity.
3.1 Institutional arrangements

7. The key institutions in the PPS and a summary of their functions are set out in Attachment 1.
The following summarise the main aspects of the formal institutional arrangements:
 The President has overall responsibility for setting strategic policy directions for the PPS
and makes key appointments including the Secretary of the DOE and the ERC Chair.
 Congress and Congressional Committees enact legislation and monitor the PPS.
 The Department of Energy (DOE) provides policy advice and promulgates the Wholesale
Electricity Market (WESM) Rules.
 Energy Regulatory Commission (ERC) promulgates rules and regulations, enforces rules,
resolves cases (sets rates) and resolves disputes.
 Philippines Electricity Market Corporation (PEMC) administers the WESM Rules, operates
the market and determines dispatch schedules and spot prices.
 Power System Assets and Liability Management Corporation (PSALM) manages and sells
the assets of the former National Power Corporation and manages sector liabilities.
3
See David Newberry. The Concise Oxford Dictionary gives as its definition of institutions “established law, customer or practice” Institutions
are supported by a complex web of rules, norms, expectations and sanctions that have greater inertia, and their evolution is typically
incremental and history dependent, (pg 52 “Privatization, Restructuring and Regulation of Networker Utilities” David Newberry).
4
The government intends drafting a National Energy Development Plan that will encompass energy self-sufficiency and use of clean and
sustainable sources of energy.
 The National Electrification Administration (NEA) oversights the Rural Electricity
Cooperatives.
 The Courts play an important role, for example in determining appeals to ERC
determinations.
8. Agency funding and staff pay arrangements are a critical practical aspect of the institutional
arrangements.
9. In many jurisdictions there is a separate economy wide antitrust (or competition law)
enforcement body. The Philippines does not have such a body but antitrust legislation and
establishment of an antitrust regulator is currently being discussed.
10. Other institutions that play a role in the PPS but which are outside the scope of this review are
National Economic and Development Authority, Department of Finance, the Commission on
Audit, and the Department of Budget and Management.
3.2 Government policy

11. Since drafting the Review Terms of Reference, the newly elected Aquino administration has
taken office and a new Secretary of Energy, Jose Rene Almendras, has been appointed. The
Aquino administrations electricity industry policy priorities are set out in Attachment 2. Key
points are as follows:
 Government’s objectives are to lower electricity prices, and increase investment. Reducing
electricity prices that are inefficiently high is consistent with the focus of this review.
However the government needs to be mindful that inappropriate steps to reduce
wholesale electricity prices could discourage necessary investment.
 The government aims to improve consumer protection. This is not considered in this
review.
 The government has objectives to promote energy self sufficiency and increase the shift to
renewable energy. While these objectives are sound in isolation, they are potentially in
conflict with objectives to lowering electricity prices. It is not clear there are robust
government processes to sufficiently understand and manage the tradeoffs.
 The government intends to review and implement possible amendments to the EPIRA Act.
Congress is also reviewing the EPIRA.
 Government intends completing the privatization process for the remaining government
owned power-generating assets.
 Government has signalled the need for improved transparency and ensure a level playing
field for investors in the energy sector. This is discussed further below.
 There will be regular evaluation of performance management to ensure the accountability
of government agencies. This is discussed further below.
4 Principles for institutional design and good governance
12. Considering possible changes to the institutional arrangements should consider principles for
“Institutional Design” – which means determining or revising the functions that need to be
performed, designing structures / institutions to perform those functions, and the rules that
bind / guide them. It involves structural decisions around whether a function is performed by a
single person/entity, or board; and developing the statutory framework, and instrument design.
Key issues to be considered for any possible changes in institutional arrangements are:
 The costs and benefits of ensuring clear separation of policy, regulatory and operational
functions
 Issues around funding and financial independence
 Issues around how entities actions are monitored and evaluated
 The extent to which regulatory decisions are subject to judicial scrutiny
13. Attachment 3 sets out a “good governance” checklist based on experience of successful
electricity industry reforms elsewhere.
5 How has the Philippines Electric Power Sector performed?

5.1 Assessment of performance
14. While the implementation the electricity industry reforms have taken longer than expected,
there is now evidence of a number of positive developments occurring:
 The WESM, while it has problems, behaves like a “real market”- there are signs that it is
starting to produce some of the beneficial outcomes expected5.
 Although there is a concern with the sufficiency of generation investment, the WESM has
lead to significant investment in new generation from a more diverse range of local and
foreign investors.
 While the privatisation programme has taken time to achieve, there is now relatively a high
level of private ownership.6
 Capital markets are developing to provide financing to private sector generation
developers.
 The regulator (the ERC) was said (by some) to have done a reasonable job in developing
5
For example it was suggested that recent high spot prices is leading, as should be expected, to improved generator maintenance and better
coal procurement practices; also as excess take or pay gas is utilized, the merit order is expected to rebalance in a rational way with coal
plants shifting to operate more at base load leading to greater reliability and improved market performance
6
It was noted that private ownership is now higher than in Australia or New Zealand.
Performance Based Incentive arrangements for Transco regulation.
15. There was a view that further improvements should occur in generation sector performance,
since both the WESM and privatisation of the generation sector is still only quite recent; and
that high wholesale electricity prices will correct themselves as the WESM matures and the
legacy contracts are worked out of the system. Similarly, in relation to network regulation there
was a view that ERC was making steady progress on transmission regulation and therefore
concerns with transmission investment and operations may reduce over time as these changes
are introduced.
16. However there are still significant challenges:
 High electricity prices - there is a wide spread view (notwithstanding the view above that
wholesale electricity prices will correct in time) that retail electricity prices are excessive
and there is concern with continued trend towards higher prices.7
 Currently there are generation shortages, in Luzon, Visayas and most especially in
Mindanao.
 There is uncertainty as to the best approach for introducing competition into Mindanao
which is a relatively small system, including a concern whether the WESM design is
appropriate for Mindanao.
17. From the current perspective - 10 years after EPIRA was enacted - the Reform strategy
embedded in EPIRA does not give sufficient attention to directly addressing high / increasing
electricity prices or current concerns with lack of investment and the underlying root causes.
18. Contributing problems identified by the ADB8, include
 lack of effective competition in the wholesale electricity markets and evidence of exercise
of market power and lack of effective antitrust legislation
 excessively high distribution tariffs
 complex and opaque retail tariffs
 the legacy of IPP take or pay contracts entered into in the 1990’s
 related party contracts9
5.2 Assessment of the Reform strategy

19. The competitive electricity market model adopted in the Philippines is very sophisticated. Its
overall design is as advanced as any in the world. This market design can operate well in
7
Electricity prices in the Philippines are amongst the highest in Asia. While the Philippines does not subsidies electricity prices, as do many
countries in Asia, there is concern that the industry reforms have not been as effective as they should have been.
8
See Terms of Reference for this review.
9
Recent ownership changes in Meralco have changed previous related party concerns
developed jurisdictions. But because of the sophisticated capabilities and systems required to
manage, regulate and operate within such a market it is unusual for a developing country such
as the Philippines to adopt such a sophisticated market design. While consideration could be
given to changes that created a simpler and less challenging competitive market design, this is a
question that is outside the scope of this study. This study assumes that the competitive market
design adopted in the Philippines should be retained with the focus of ongoing reform efforts
being to drive down electricity costs and prices through enhanced competition and improved
regulation, and to encourage efficient investment in generation and transmission.
Recommendation 1
The Government of the Philippines should retain the overall objective for the Philippines
Electric Power Sector:
to promote and protect long-term consumer interests in terms of quality, reliability and
reasonable pricing of a sustainable supply of electricity.
The Government of the Philippines should, for the main Luzon and Visyas system, build on the
competitive reforms established by EPIRA and implement further reforms that aim to reduce
electricity costs and prices and promote efficiency and timely investment in generation and
transmission.
For Mindanao a “fit for purpose” competitive model should be established. It was not clear
from this study that the WESM model is appropriate for Mindanao.
5.3 Implications of the sophisticated market design adopted in the Philippines

20. A key finding of this study is that senior decision makers need to understand that the Philippines
has adopted a very sophisticated market design; and as a result they need to recognise that in
order to deal effectively with the future challenges, that much more attention needs to be given
to developing, retaining, necessary skills and capability within the key agencies, in particular the
Department of Energy and ERC.
21. In other words, the most important institutional and governance challenge is to ensure that the
human resource policies for the key agencies matches the sophistication of the electricity
market design. This requires significant changes to current budgeting, funding and human
resource policies.
Finding 1
The most important institutional and governance challenge is to ensure that the human
resource policies for the key agencies matches the sophistication of the electricity market
design. This requires significant changes to current budgeting, funding and human resource
policies.
5.4 Policies areas of significant emerging risk

22. This review is not focused on policy questions - but rather on the institutional and governance
arrangements by which policy decision are made. However it is relevant to this review to note
two related areas of significant policy related risk that were identified - the tightening demand /
supply balance leading to the likelihood of volatile spot prices; and the lack of a managed
transition for the introduction of open access.
23. The WESM is an energy only market where spot prices are volatile and can rise to very high
levels. Effective risk management is vital in protecting participants from excessive exposure to
spot prices. The market design assumes that the demand from buyers for contracts to hedge
against high spot prices should provide incentives for investment in additional generation
capacity or voluntary demand side management. When the WESM was introduced there was
significant surplus capacity. Now with significant economic growth, a “tight” supply-demand
environment is emerging. In 2010 there were instances of very high spot prices, and further
periods of very high spot prices can be expected, until sufficient additional supply comes
forward to balance demand, (including ensuring adequate generation reserves).
24. A related area of risk is the implementation of open access. It was suggested in interviews that
if open access is introduced as planned, retailers and or customers will be exposed to the risk of
high spot prices, and a lack of effective mechanisms to manage these risks. Currently ERC
requires all contracts to be approved. Hedging markets for risk management (for example
Contracts for Difference) have not emerged. There are concerns that there is no effective
transition or “bridging mechanisms” that allows participants to manage their risks in the
transition to open access. This could result in financial distress or financial failure for
participants or other parties (eg NEA) “standing behind” a market participant’s prudential
position.
25. ERC notes that “declaration of Open Access and Retail Competition in the near term will again
open the floodgates for more work and responsibilities coming ERC’s way.” 10
26. It is suggested that priority be given to identifying institutional and governance changes that
could assist in better managing these risks. Reforms could focus on:
 improving the environment for improved operation of existing generation and transmission
assets; and promoting timely investment in new generation; and removing inefficient
transmission bottlenecks
 indentifying the preconditions for implementing open access11, and assessing whether
these preconditions have been adequately met; and developing an effective transition
strategy for introduction of open access
10
Powerpoint presentation provided by Francis Juan, ERC
11
Such as adequate skilled resourcing within the ERC.
Recommendation 3
Institutional and governance reforms should give priority to
– improving the environment for improved operation of existing generation and transmission assets
and timely investment in new generation or to remove inefficient transmission bottlenecks; and
– Indentifying the preconditions for implementing open access, and assessing whether these
preconditions have been adequately met; and developing an effective transition strategy for
introduction of open access.
6 An Independent Expert Review is recommended

27. It is recommended the Philippines government establish an Independent Expert Review. As
noted, it is 10 years since EPIRA was enacted and in that time it not been amended. While
considerable progress has been made in implementing the EPIRA, there are outstanding areas of
concern in particular that electricity prices appear excessively high and concern with generation
shortages, in Luzon, Visayas and most especially in Mindanao. It is therefore timely to review
the EPIRA and to make appropriate changes that support achievement of the government’s
principal objectives. As noted, the government and Congress are undertaking a review of the
EPIRA.
28. Independent expert reviews are common in other jurisdictions with similar competitive market
structures as adopted in the Philippines. Attachment 4 sets out examples of independent
expert reviews undertaken in other jurisdictions
29. A review that is independent is proposed - nearly all the current sources of expert advice to the
government are associated with existing stakeholders (including the DOE) and therefore may
reflect particular interests, or long standing positions rather than an objective and fresh view of
what changes may best promote the long interest of consumers.
30. A review involving experts is proposed - because the PPS is complex and advice to the
government needs to be based on a high level of relevant skill and experience.
31. It is proposed that an Expert Independent Review Committee would include independent
international electricity experts and local independent government and business experts (who
are not necessarily electricity market experts). The committee should be small, no more the 5
or 6 people. Discussions indicated that it is unlikely that there would be any person with strong
electricity industry expertise based in the Philippines that could be considered independent, and
therefore such experts would need to be found internationally.
32. Indicatively it is suggested that Expert Independent Review could take about nine months. The
review would undertake research and consult widely within the electricity sector. It is suggested
that the Expert Independent Review Committee would be supported by a secretariat established
by DOE. The secretariat should be staffed by the best available people in the PPS including
seconded staff from other agencies.
Recommendation 4
The Philippines government should establish an Independent Expert Review of the Philippines
Power Sector.
7 Systemic governance risk

33. There is one significant are of systemic governance risk identified in this review. PEMC is subject
to oversight by the DOE. In particular, WESM rule changes are approved by DOE. It was
suggested by several persons who were familiar with the actual situation that DOE did not have
sufficient capability and knowledge to effectively exercise this oversight function. On
investigation this review found that the principle root cause for this situation is the very large
pay gaps that exist between PEMC and the DOE. PEMC advised that the typical “pay gap” for a
person shifting from DOE to PEMC was 3 times and in at least one instance this was 10 times.
34. This very large pay gap has a number of obvious risks. First it is clear that DOE finds it difficult to
retain any person that develops sufficient experience and capability and so in practice DOE is
highly reliant on PEMC advice. Second, even if DOE staff had the capability to identify problems
with a PEMC proposal, there is a significant risk that technically competent DOE staff would not
challenge PEMC (for example, because this may affect their future career prospects). Third, if
there were concerns with a particular WESM rule change or policy matter, it is possible that DOE
could determine policies or rules that are unworkable or damaging to the operation of the
market. In summary, the current level of pay disparity between PEMC and DOE means that in
practice that PEMC is unlikely to be subject to any technically competent oversight by DOE and
faces limited pressures to be accountable.
35. It should be emphasised that this finding does not imply anything inappropriate with PEMC’s
current conduct; indeed PEMC appears to have a reputation for being a competent and
professional organisation. Rather, the concern is that there are significant risks to good industry
governance in future.
Finding 2
The large “pay gap” between PEMC and DOE means that in practice that PEMC is not subject to
any technically competent oversight by DOE which poses a systemic risk to good industry
governance.
8 Establish an Electricity Industry Reform Strategy

36. As outlined in further detail below, there are a number of changes in institutional and
governance arrangements that could improve the performance of the PPS to bring about
reductions in costs, improve industry efficiency and mobalise increased investment.
8.1 Establishing an Electricity Industry Reform strategy

37. The first recommended institutional and governance reform is to establish a formal Electricity
Industry Reform Strategy. Currently there is no document which sets out DOE’s intentions in
regard to ongoing reform and improvement of the sector. Establishing a formal Electricity
Industry Reform Strategy will provide greater transparency and clarity for the reform process,
and strengthen accountability for the DOE and other agencies.
Recommendation 5
Strengthen transparency and clarity for the reform process, and strengthen accountability for
the DOE and other agencies by establishing a rolling three year Electricity Industry Reform
Strategy including specific actions, timeframes and responsibilities.
38. An indicative approach to developing an initial Electricity Industry Reform Strategy is set out in
the following diagram.
Electricity Industry Reform Strategy
Understanding
the Cause of Independent
Improving the Climate for investment
High Electricity Expert Review
prices
Establish a Provide
Improved Establish
targeted and authoritative Improved
arrangements Statement of
prioritized advice to governance
for Data Opportunities
work program government
8.2 Understanding the cause of high electricity prices

39. Review of the available information and discussions suggests that some of the causes of high
electricity prices are understood. The country's many inhabited, often mountainous, islands
mean that connection and operational costs in some areas will be quite high and current
electricity prices also reflect legacy costs of past poor investments. But there is also a
widespread view that electricity prices reflect inefficiencies that are capable of being addressed.
40. Analysis and experience indicates that there may be many potential causes of high electricity
prices. Attachment 5 lists possible causes of high electricity prices in the Philippines. There
does not appear to be a comprehensive and authoritative understanding of the full range of
causes of high electricity prices, and therefore there is not a shared expectation as to the extent
there could be downward pressure on electricity costs and prices. A lack of a comprehensive
understanding of the causes high electricity prices risks policy efforts not being well targeted.
41. Therefore it is recommended that an expert study be undertaken of the electricity supply value
chain to better understand all the causes of high electricity prices and areas where electricity
costs and prices may be unnecessarily high (due to inefficiency, market power or some other
controllable factor). This study would provide guidance on establishing a targeted and
prioritised work program of reforms. The study could be an input in to the proposed
Independent Expert Review as well as provide valuable input to the Department of Energy and
other agencies.
42. It is proposed that the study would identify cost structures at each step of the value chain (along
the lines suggested in Attachment 5) and undertake benchmarking, commercial, financial and
engineering analysis as appropriate, to identify the cost levels industry value chain that appear
out of line with efficient costs.
Recommendation 6
Undertake an expert study of the electricity value chain to better understand all the causes of
high electricity prices and identify areas where electricity costs and prices may be
unnecessarily high.
9 Institutional Reform of the Department of Energy

9.1 Background
43. The DOE has policy oversight of the electricity sector and related downstream sectors:
geothermal and coal, natural gas, renewable energy12.
44. The Electricity Power Industry Administration bureau within DOE is responsible for “supervising
the implementation of the EPIRA to establish a competitive market based environment and
encourage private sector participation; ensure adequate and reliable supply of electricity and
formulate plans, programs and strategies relative to rural electricity.” The bureau comprises: a
Power Market Development Division; a Power Planning and Development division; and a Rural
Electrification Administration and Management Division.
45. The Power Market Development Division is responsible for formulating policies, plans and
programs related to the development of the Philippine Power Market and ensuring the effective
and sustainable operation of a competitive national and regional electricity markets.
46. The Division includes a Power Market Research and Development Group, which oversees and
implements the WESM, and an EPIRA monitoring and coordination group. This includes
responsibility for promulgating the detailed rules of the WESM which it formulates jointly with
12
Other relevant functions include energy utilization and energy efficiency, consumer welfare and investment promotion
the industry participants.13 A Visyas Field Office and a Mindanao Field Office implements
regional policies, plans programs and regulations for the electricity industry in these two
regions.
9.2 Assessment of DOE Performance

47. Specific problems with DOE’s performance was identified in two areas:
48. Policy direction and rule changes: There is evidence suggesting DOE does not effectively
exercise its role in policy direction and rules changes. Several examples were given of
unresolved or poorly developed policies where the root cause was said to be DOE lack of
capability and skills.
49. Data collection: One person with experience in advising potential generation investors stated
that DOE’s performance in collection and analysis of key industry data was poor. Inadequate
availability and reliability of data from DOE is likely to have an adverse impact on investor’s
ability and confidence to plan and invest in new generation.
9.3 Addressing capability gaps in DOE

50. As discussed above, one of the fundamental root causes of poor performance by DOE is low pay,
at least for certain types of expertise, relative to PEMC and the private sector. While it is
common in developed countries for there to be lower salaries in government agencies, the “pay
gaps” are not nearly as extreme as with the Philippines DOE.
51. This study has not sought to identify in detail how DOE might address the salary disparity
problem or utilise any flexibility that may exist in remuneration, staffing and budgeting
arrangements, or flexibility to engage external consultants and contractors.
52. It is noted that from the narrow perspective of electricity industry reform, that it is not
necessary to address salary disparities across the board within DOE. Experience suggests, DOE
could address much of its capability issues for oversight of the electricity market through being
able to retain and recruit a relatively small number of experts (for example by establishing an
expert “Electricity Industry Reform Unit”). Having said this, low salaries undoubtedly affect
DOEs performance in respect of other sectors. Further, substantially increasing salaries only in
the certain areas may be unrealistic because of the internal relativity problems this may create.
Recommendation 7
Action should be take to address the pay gap between the DOE and other parts of the
Philippines electricity sector, including PEMC and the private sector
13
S 1.2.3.1 WESM Rule
9.4 Weak public sector institutions
53. It appears that the capability problems identified for DOE extend across much of the public
sector. The ADB’s draft County Partnership Strategy 14 states “the public sector is characterized
by weak public institutions and systems, insufficient budget resources, and uneven capacities at
sector and LGU level, leading to inefficient public service delivery and regulation.” Significant
fundamental initiatives by the ADB to support public sector reform including review of the Civil
Service law, strengthening of the Public Sector Commission or assistance with capability
development for the responsible funding agencies, such as the Department of Budget and
Management in the Philippines may be warranted. However such initiatives are considered
outside the scope of this review and no recommendations are made on this matter.
9.5 DOE should focus on policy and strategy.

54. As far as possible, DOE should focus on policy oversight and strategy and limit its involvement in
routine operational function which could be undertaken by other agencies. A full review of all
DOEs function has not been undertaken but opportunities identified include; to shift DOEs
current electricity data collection and publication responsibilities to another agency; (see
section 12); and to shift responsibilities for the planning functions to another agency (see
section 13).
55. This recommendation is in line with international best practice in other jurisdictions - which is to
ensure separation of policy, regulatory and operational functions.
Recommendation 8
DOE should focus on policy oversight and strategy and shift responsibility for operational
functions to other agencies.
9.6 WESM Rule making responsibility

56. As noted above, feedback indicated that the Power Market Research and Development Group in
DOE is not performing effectively in terms of promulgating the detailed rules of the WESM. It
was indicated there had been a lack of progress in resolving a range of outstanding market
design issues.15 The underlying cause of this problem is considered to be the capability issues
discussed above.
57. In developed jurisdictions, Energy Departments do not undertake rule making for wholesale
14
ADB Country Engagement Strategy; Document Stage: First Draft April 2011 Philippines 2011–2016
15
Examples of outstanding market design issues include: development of capacity and ancillary services market; classification and
remuneration of must run units; protocols for manual load dropping; declaration of bilateral contract quantities.
electricity (or gas) market. Rather, the rule making function is allocated to a specialist body that
has appropriate capability and governance arrangements.16 The department or minister may
provide general policy direction about rule making to this body.
58. Separating out responsibility for rule making has a number of advantages:
 It is consistent with design principles for separation of policy and operational functions. The
Department’s performance of its role will be strengthened if can undertake policy oversight
- and not be involved day to day functions
 It strengthens accountability - the rule making body has a clear accountability for resolving
market design and detailed rule making, and reports to government on its performance
59. However simply allocating the WESM rule making role to another body will not necessarily
resolve the apparent “root cause” problem with lack of technical expertise due to pay gaps.
Recommendation 9
Consider allocating the WESM rule making function from DOE to a specialist body that has
appropriate capability and governance arrangements.
9.7 DOE Accountability to Government and Congress

60. The President’s recent energy policy notes a need to strengthen DOE accountability.
Strengthening of DOE’s accountability would assist improved performance (though improved
accountability on its own is not sufficient to address DOE performance concerns).
61. The EPIRA requires the DOE to publish annual reports on the implementation of the EPIRA. This
is a substantial report that is the only major annual statement of the PPS industry status.
Because aspects of the EPIRA are out of date, this means that DOE reporting is not as
strategically useful as it could be. For example the DOE reporting focuses on progress in
implementing the privatisation programme, (now largely completed) reflecting the specific
reporting requirements set out in the EPIRA.
62. Review of the EPIRA could consider how to make annual DOE reporting more strategically
relevant. It is recommended there should be a requirement for DOE to (1) publish a multiyear
electricity industry reform strategy and plan, and (2) for DOE to report annually on progress
against this plan.
16
Examples of bodies that currently or in the past, have undertaken detailed wholesale market rule making roles include: Regulatory bodies
(such as the New Zealand Electricity Commission which has been replaced by the New Zealand Electricity Authority; the Austrian Energy
Markets Commission); and Market Operators (The Victorian Energy Network Corporation for the Victoria gas market; Victorian Power
exchange of the Victorian wholesale electricity market).
Recommendation 10
Amend the reporting provisions in the EPIRA.
Consider imposing a requirement on DOE to publish a multiyear electricity industry reform

strategy, with DOE being required reporting annually on progress against this strategy.
10 Reform of the Electricity Regulatory Commission Framework

10.1 Background
63. The EPIRA abolished the previous Energy Regulatory Board and created the Energy Regulatory
Commission (ERC). The EPIRA states that “the ERC is an independent regulatory body
performing the combined quasi-judicial, quasi-legislative and administrative functions in the
electric industry.” The complete list of ERC’s functions17 is set out in attachment 6. In summary
ERC’s functions are:
 To promulgate/approve rules, regulations, guidelines and policies
 To enforce rules, regulations including issuances of permits and licenses
 To resolve cases (rates and other cases) and disputes
 To promote consumer interest
10.2 Overall assessment of ERC performance

64. From the material reviewed and interviews it was difficult to gain a clear view of ERC’s
performance. An objective external assessment of a regulator’s performance is difficult without
studying its decisions in detail.
65. A number of interviewees indicated that ERC staff have an inadequate understanding of the
competitive electricity market and that ERC has difficulties in attracting and retaining sufficient
skilled staff. A recent newspaper report cites industry sources who consider ERC has “too many
lawyers and too few people from industry."18 It was also indicated that ERC’s decision making
processes are overly legalistic and do not give enough attention to best practice regulation.
66. The ERC’s objective is “to become a dynamic organization of professional people with the
highest degree of technical competence and integrity”. The ERC’s “Core Values” are “Fairness,
Transparency, Integrity, Excellence, Innovativeness and Accountability”. This statement of
17
Section 43 EPIRA
18
ERC chief wants daughter-in-law to replace him after retirement, GMA News TV
http://www.gmanews.tv/story/90790/ERC-chief-wants-daughter-in-law...lace-him-after-retirement
organisational objectives and values is similar to what any good regulator would adopt.
67. ERC itself raises concerns about its competence and the resources of the ERC needs to handle
market monitoring and investigations and to make decisions that can withstand any legal
challenge.19
68. There were also positive comments about ERC’s role in developing performance Based
Regulation for Transco. It may be desirable to undertake a more detailed assessment of ERCs
performance then has been possible in this high level review through the proposed Independent
Expert Review.
10.3 ERC statutory functions

69. The ERC’s functions set out in the EPIRA (section 43) are in the form of a list. There is little
guidance on the principles that it should apply in undertaking its functions. It may be desirable
to amend the ERC statutory functions of the ERC to provide it with clearer guidance to give
priority to the principle of promoting the long term interests of customers through enhancing
economic efficiency. This would be in line with best practice adopted in other jurisdictions, and
provide greater clarity for the ERC in undertaking its functions.
Recommendation 11
Amend the statutory functions of the ERC to establish an overarching principle to promote the
long term interests of customs through enhancing economic efficiency.
10.4 Clear delineation of functions

70. It was mentioned that have been difficulties in determining jurisdiction and how best to deal
with certain policy issues (examples include: Visyas augmentation projects; jurisdiction over a
petition for direct connection). It was also suggested that ERC had inappropriately become
involved in policy matters that were properly the responsibility of DOE. Some officials
expressed the view that ERC should follow the policy laid down by DOE. Similarity there are
unclear boundaries between the roles of ERC and PEMC20
71. Requiring ERC to follow policy set down by DOE is not supported since the ERC should be an
independent regulator that operates strictly according to functions set out in legislation and
subordinate legal instruments, and should not be subject to direction by a Department. Rather
19
Powerpoint presentation provided by Francis Juan, ERC
20
“At present, there is an ongoing case questioning the arrangement between PEMC and ERC whereby for WESM Rules breaches, PEMC can
proceed with its own investigation, except that for those WESM Rules breaches that at the same time constitute market power abuse/anti-
competitive behavior, it is the ERC that has jurisdiction. This underscores the need to be clear about these overlapping functions.”
Powerpoint presentation provided by Francis Juan, ERC.
the recommended solution to overlap or conflict in roles is to ensure careful drafting of ERCs
statutory functions to ensure a clear delineation of responsibilities between ERC and DOE, or,
creation of subordinate legal instruments.
72. However in some cases difference of view between regulators and policy makers are inevitable
and unavoidable. Regulators will be focused on questions of efficiency whereas policy makers
may be focused on other legitimate policy goals. What may be required in this case is
appropriate management of these conflicting objectives with decision makers understanding
that they undertake particular roles; and seeking an outcome where decision makers are well
informed on the tradeoffs and implications of their decisions.
Recommendation 12
Amend the EPIRA to improve clarity on the ERC’s functions and the delineation with DOE
functions.
10.5 Statutory regulatory discretions

73. There appear to be few constraints in the EPIRA on the exercise of ERC’s discretions when
undertaking its functions, compared with expectations of an electricity regulator in developed
jurisdictions. The right of appeal from ERC decisions to higher courts plays a major role in
constraining the exercise of its decisions.21 The ERC indicated that currently appeals of its
decisions to the Courts were on procedural grounds. However experience indicates that over
time, appeals to the Court’s may deal with more substantive economic questions.
74. Options for reform are to introduce clearer legislative constraints (for example through
amendments to EPIRA) on the regulator’s discretions and thereby reduce the scope for
interpretation by the courts; and provide a clearer basis for appeals from ERC decisions. Legal
and policy input from appropriate legal experts is suggested to identify specific reform options
that are feasible within the Philippines.
Recommendation 13
Consider options for improving ERC accountability through appeals to its decisions by
introducing clearer legislative constraints through amendments to EPIRA
75. A further suggestion would be to establish a specialist industry appeal panels or a specialist
division of the court, so that appeals are heard by bodies with more appropriate technical
21
For example In its first five years, tariff decisions determined by the ERC were twice nullified by the Supreme Court. Source: Assessment
Report : Electricity Governance in the Philippines Maria Teresa Diokno-Pascual, March 30 2006
expertise.
Recommendation 14
Consider establishing specialist industry appeal panels or a specialist division of the court, so
that appeals are heard by bodies with more appropriate technical expertise.
10.6 ERC Governance

76. ERC governance is established under Sec 38 of the EPIRA. The Commission is composed of a
chairman and four members. The chair of ERC and one of the members must be a member of
the Philippines Bar. No member may serve a term of more than seven years. The commissioners
must have recognized competence in any of the following fields: energy, law, economics,
finance, commerce, or engineering.
77. The ERC governance model generally appears appropriate. The following changes could be
considered
 If there is a desire to move the ERC more towards an economic regulator model - which
gives greater attention to economic incentives - then the appointment of commissioners
with a background in economics and related disciplines could be encouraged. One option
is to require a Commissioner to have a background in economics.22 This approach is not
supported: It is better that decision on the best background for ERC Commissioners is
based on “custom and practice” rather than to be subject to inflexible rules.
 The requirement for the ERC Chair to be a member of the Bar could be removed. Arguably
this requirement is not necessary. This provision is out of step with appointment
provisions for regulators in developed jurisdictions.
 There could be a limitation on a member being a recent politician.
 The seven year limit for Commission appointments may lead to loss of scarce skills.
Recommendation 14
Consider amendments to section 38 of the EPIRA to remove the requirement that the ERC
chair be a member of the Bar, create time limits on the member being a recent politician,
and consider extending the seven year limit for Commission appointments.
10.7 Addressing ERC capability issues

78. In regard to ERC skill and capability concerns, there are at least three separate issues to
22
In Australia and New Zealand it is not mandatory for members of regulatory commission to have professional training in economics, but it
recognized custom and practice that there will be at least one person with economics training.
consider:
 whether ERC has adequate funding

 whether ERC faces inappropriate constraints on offering compensation that attracts and
retains people with the requisite skills
 whether ERC has inappropriate strategies for determining its staffing requirements – for
example “too many lawyers and too few people with backgrounds in industry”.
79. The budgeting and funding processes for ERC is an area of potential concern. EPIRA provisions
relating to agency budgets and funding are vague. Initially the ERC budget was set at 150 m
pesos with any balance initially sourced from the Office of the President of the Philippines.
Thereafter the annual budget of the ERC was to be included in the regular or special
appropriations. Principles of good public administration require that, that funding needs should
be set realistically to match the accountabilities and scope of work.
80. The impact of inappropriate funding arrangements include (a) a lack of depth of skill and staff
capability (b) conflicts of interest if an agency is dependent on another entity for funding.23
Setting the ERC budget through appropriations makes ERC vulnerable to political pressure, and
may compromise its independence (though there is no evidence that the ERC has been subject
to, or that it has reacted to political pressure).
81. Therefore a possible area of institutional reform would be to undertake a review of the process
for determining ERCs annual budgets and funding. An option for reform could be for ERC to be
funded by a levy on market participants rather than the government budget. Systems and
capability within the Ministry of Finance to assess and approve ERC funding requests could be
improved.
Recommendation 15
Amending the EPIRA to improve the process for determining ERCs annual budgets and funding.
An option could be for ERC to be funded by a levy on market participants rather than the
government budget. Consider improving systems and capability within the Ministry of Finance
to assess ERC funding requests.
23
An example is a recent project to develop an ancillary services market. Funding for ERC’s regulatory role for development the ancillary
services market was met by PEMC. This was because the easiest way for ERC to obtain funding was via PEMC which was able to recover its
costs though a levy on the market. Such dependence on a regulated body for funding is clearly inappropriate as it compromises the proper
discharge of its regulatory duties.
10.8 Approval of ERC staff compensation
82. Section 39 of the EPIRA provides that compensation of ERC personnel, is approved by the
President of the Philippines. This provision is not in line with best practice. It leads to the risk of
actual or perceived political influence on the regulator. (Although there is no evidence that such
influence has been an issue).
83. Regulator’s staff compensation should be set through a process that is insulated from the
political process. Institutional reforms could explore alternative approaches to setting ERC staff
compensation.
Recommendation 16
Amend Section 39 of the EPIRA so that compensation for ERC staff is insulated from the
political process.
10.9 Opportunities to streamline ERC’s responsibilities

84. The ERC role is made challenging by the large number (140) of ECs to be regulated. The ADB
strategy paper discusses options for reducing the number of ECs which could simplify the ERCs
regulatory task. This is an important policy issue but lies outside the scope of this review.
85. Similarly, rationalisation of current requirements under EPIRA Implementing Rules and
Regulations (IRRs) to issue Certificates of Convenience (COC) for numerous small gensets could
be desirable.
86. ERC notes that in relation to transmission and distribution, “the issue is the adequacy of ERC’s
resources to enable it to cope with all its mandates, especially in the light of the shift to
Performance-based Regulation, the number of utilities, and the procedural requirements that
have to be observed by ERC in discharging its quasi-judicial and quasi-legislative functions, which
include conducting at least one hearing in the particular localities affected.”
87. It is noted that the ERC evolved from the Energy Regulatory Board which has long history of
administering rate of return based regulation in the Philippines. It is not clear whether all the
ERC’s regulatory rules and process, some inherited from the past are necessary. Consideration
could be given to a “regulatory housekeeping review”. This could review from the bottom up,
whether all of the current regulatory approval and oversight processes are necessary and
whether some could be streamlined or removed.
Recommendation 17
The ERC should consider conducting a “regulatory housekeeping review” to determine whether
current regulatory approval and oversight processes are necessary and whether some could be
streamlined or removed.
11 Reform of Data Management arrangements
88. As noted above, it appears that DOE’s performance in collection and analysis of key industry
data was poor. Inadequate availability and reliability of data from DOE appears to be having an
adverse impact on investor’s ability and confidence to plan and invest in new generation.
89. It is recommended that a review be undertaken involving wide consultation with industry
participants to develop recommendations for a systematic approach to data definitions, data
collection, review and audit, and publication.
90. The outcome of any reforms should be meaningful, reliable, and timely provision of data sets to
reduce barriers to efficient investment and operations, and enhance transparency and
competition. The review should recommend appropriate institutional arrangements, and the
scope of any necessary rules, such as obligations on participants to provide data.
91. There should be a presumption of open access to information, with confidentially of data limited
only for clear public interest reasons (eg infrastructure security).
Recommendation 18
Improve the climate for investment and competition by undertaking a review to establish a
systematic approach to data definitions, data collection, review and audit, and publication. The
review should involve close consultation with industry participants.
There should be a presumption of open access to information, with confidentially of data

limited only for clear public interest reasons.
12 Establish a Statement of Opportunities

92. The Department of Energy currently publishes a Power Development Program which sets out
forecast demand growth and determines an indicative program of generation and transmission
development.
93. Experience in Australia, New Zealand and England and Wales indicates that market efficiency
and investment promotion as well as good policy oversight is supported by an effective
centralised forecasting function that identifies emerging investment opportunities to an
appropriate level of detail (e.g. by time and location) that meets potential investors planning
needs. Such a planning document does not set out how future investment needs will be met –
as this is a decision for the market to determine.
94. It is recommended that an annual Statement of Opportunities be prepared by a specialist
planning body. Indicatively, the Statement of Opportunities sets out (say) ten year demand
forecasts; existing generation and transmission capability; announced and committed projects;
and opportunities for new investment in generation and transmission to meet demand growth
and plant retirement. The primary audience of the Statement of Opportunities is potential
investors, but it will also provide useful information for other stakeholders including the
government.
95. If this recommendation is accepted, then a review should be undertaken involving consultation
with investors, planners and policy makers to determine the desired objectives, approach and
content of the Statement of Opportunities.
96. As noted above it is recommended that the DOE should not prepare the Statement of
Opportunities as this is considered to be a routine operational function. A decision is required
on which agency should prepare the Statement of Opportunities. Options for the entity to
prepare the Statement of Opportunities are PEMC or a new agency.
97. If the Statement of Opportunities is established it is not clear that the current a Power
Development Program serves any purpose. It is possible that the Power Development Program
could be abolished.
Recommendation 19
Seek to improve the climate for investment and competition in the Philippines Power Sector by
establishing an annual Statement of Opportunities to provide information on investment
opportunities to potential investors.
The Statement of Opportunities should be prepared by a specialist planning body rather than
the DOE.
A review should be undertaken involving consultation with investors, planners and policy
makers to determine the objectives, approach and content of the Statement of Opportunities.
13 Philippine Electricity Market Corporation (PEMC) - Market

Operator
98. The PEMC is a not for profit body with its main functions being:
 to undertake “governance” (regulation24) of the WESM including participation in the rule
change process; enforcement and compliance; market surveillance; and dispute resolution
 to be the Market Operator - day to day operation of the WESM25 and registration of the
WESM participants. The Market Operator group within PEMC operates the WESM in
coordination with the System Operator.
99. Effective discharge of rules changes; enforcement and compliance; market surveillance; and
dispute resolution play an important role in competitive electricity markets by facilitating
24
The PEMC website refer to these functions as “governance”. It is arguably more accurate to describe these functions as “regulation”.
25
The Market Operators functions include administering the WESM in accordance with the WESM Rules, determining dispatch schedules
which are submitted to the System Operator and overseeing transaction billing and settlement procedures and publishing the register of
WESM participants
efficient operations and investment thereby assisting in minimising electricity prices.
100. A separate study has been undertaken by the ADB to advise on establishing the PEMC as an
Impendent Market Operator. This is not discussed further here.
101. The potential consequential changes for the PEMC that arise as a result of this review are:
 PEMC could potentially take over responsible for Data management from DOE
 PEMC could potentially be responsible for a Statement of Opportunities
14 System Operator accountability

102. One of Transco’s functions is to act as the System Operator. The System Operator manages
power system security in real time, gives effect to the generation dispatch instructions given by
PEMC and operates the Transmission system. Experience indicates that the System Operator
needs to be able to have discretions to make decisions in real time to manage System Security,
but there should be effective constraints on its discretions so that it’s operational decisions do
not unnecessarily distort the market.
103. The System Operator should be accountable, by being bound by the WESM rules. It was
suggested however that the System operator does not think that it is bound by the WESM Rules.
Investigations could be undertaken to determine if this is correct, and if so how to address this
issue.
Recommendation 20
The System Operator should be accountable, by being bound by the WESM rules
15 Transmission Planning and Investment

104. Efficient investments in the transmission system will be driven by: growth in connected load and
generation; reliability benefits; reduced transmission losses; and optimising total system costs
(balancing reduced out of merit generation costs with transmission costs).
105. Several people mentioned perceived weaknesses in the transmission grid due to lack of
investment. The adequacy of transmission planning and investment arrangements is unclear.
The ERC is currently introducing Performance Base Rate making arrangements for transmission
investment. It was suggested that there are internal problems within the Transco ownership
structure which are affecting investment. In principle, the adequacy of investment in
transmission should not depend on internal ownership. A well designed regulatory structure
should have clear regulatory accountabilities and appropriate obligations and enforcement
mechanism to ensure appropriate investments are undertaken.
106. The need claimed by several people for increased transmission investment is difficult to assess
without detailed analysis. In some cases investment in local generation will be preferable to
large scale transmission investments, and in other cases large scale transmission upgrades will
be justified. It is important that transmission planning processes gives balanced consideration
to transmission and non transmission solutions.
107. The adequacy of transmission planning arrangements could, be assessed through the proposed
Independent Expert Review; and improved and more transparent transmission planning could be
included as part the proposed Statement of Opportunities.
Recommendation 21
Review adequacy of transmission planning arrangements through the proposed Independent

Expert Review.
Establish a more transparent transmission planning process through the proposed Statement
of Opportunities.
16 Antitrust legislation.
108. Experience in the development of competitive electricity market indicates that it is important
that the WESM has sufficient competition between separately owned generation businesses to
encourage competitive outcomes in the spot and contract markets; and appropriate regulation
to prevent collusion. The Philippines lacks anti-trust laws. Several antitrust bills have been
introduced into the Congress and the President recently urged Congress to pass an antitrust
law.26
Finding 3
Competition in the electricity market and therefore lower electricity prices will be supported
by antitrust legislation and an effective regulatory agency to enforce the anti trust legislation.
26
Wall Street Journal July 27 2010.
17 Summary of possible institutional changes
109. Possible changes in institutional arrangements recommend in this review are summarised in the
following diagram.
Summary of possible institutional changes for the PPS
Government
Approve
Electricity Industry Reform Strategy (New Function)
Implement
DOE
Focus on strategy and policy
Option Operational functions

• Data Management
Option
ERC • WESM rule making and
Development
Option (Australia model)

Option Option
PEMC
Option (Australia model )
New Agency ? Statement of Opportunities

Option - Planning Information
(New Function)
Attachment 1
Current Institutional Arrangements for the Philippines Power Sector
The Institutional arrangements for the PPS are summarised in the following diagram.
President Congress / Congressional

Monitoring and
Strategic Policy Committee
Review
Appointments Legislation
Political
Environment
Consumers
Businesses Department of Energy
Local Statutory Roles and responsibilities
Communities Governance
Investors Policy Advice
Policy Oversight
WESM Rules Skills,
Capability
Energy Regulatory Commission Experts

Statutory Roles and responsibilities
Governance
Promulgate rules, regulations
Courts Enforce Rules
Resolve cases (rates and other), disputes
PEMC
Statutory Roles and responsibilities
Governance
Administer WESM Rules
Determine dispatch
Monitor trading
Agency Funding
The following table summarizes the key institutions in the PPS in the Philippines and their functions.
Role Who Description
Strategic policy The President, Sets broad policy directions
Appoints the Secretary of Energy
Legislation Congress Enacts laws
Monitoring Joint Congressional Power Set the guidelines and overall framework to monitor and
Commission implementation of EPIRA
Endorse the initial privatization plan
Ensure transparency, on public bidding
Review and evaluate the performance of the industry

participants
Others ? Monitoring sector and agency performance
Policy Department of Energy (DOE) Promulgate the detailed rules of the WESM
Operational functions Policy oversight of the electricity sector and related

downstream sectors, and renewable energy
WESM Rule making
Energy utilization and energy efficiency
Consumer welfare
Investment promotion
Energy policy and planning, alternative fuels and energy

technology
Economic regulation Energy Regulatory Commission Promulgate/approve rules, regulations, guidelines and
(ERC) policies
Market conduct
Enforce rules, including WESM rules; and regulations
including issuances of permits and licenses
Resolve cases (rates and other cases) and disputes
Philippine Electricity Market Administer the WESM in accordance with the WESM Rules
Corp (PEMC)
Determine dispatch schedules
Monitor daily trading
Oversee transaction billing and settlement
Maintain participant registry
Service delivery Power Sector Assets and Competitive sectors

Liabilities Management
Asset ownership, Generation
Corporation (PSALM)
management, investment
Fuel supply
Electricity market participants
and investors
Electricity market participants Monopoly sectors

and investors
Distribution Utilities
 Meralco and others
 Rural Electric Cooperatives (ECs)
Transmission (Transco)
Retail sector
 Mercalco and others
 ECs
National Electrification Provision of financial, institutional and technical assistance

Administration to ECs
Monitoring of performance
Takeover of underperforming ECs
Guarantor of EC purchases in WESM
Project Financing National Economic and NEDA and DOF have a role in Project Financing
Development Authority
Department of Finance
Informal institutional arrangements
 the political process and culture – politics plays a major role in the Philippines economy and
the PPS
 the influence of individuals and businesses which can range from legitimate (lobbying)
through to illegal (cronyism and corruption)
 culture, norms, behaviors within electricity industry agencies
 NGOs and consumer groups
 professional bodies (for example the Philippines Institute of Civil and Electrical engineers).
New skills and capability: A new set of informal institutions plays a key role in the successful
development of ESIs in other jurisdictions. In particular sector development is enhanced by the
influence of specialist electricity economic theory and practice; concepts of efficient risk allocation
(prevalent in economics and law); and related disciplines such as corporate finance, economic
modeling, and actuarial studies. The necessary skills are developed in universities, major regulatory
organizations, within companies and in external consultancies. The increased application of the range
of modern professional management disciplines (eg general management, finance, risk management,
human resources, technology etc) is also important.
Unusually, compared to other jurisdictions, requirements for legal qualifications have formal role in
the regulation of the Philippines ESI.27
27
Section 38 of the EPIRA provides that the Chairman of the ERC, must be a member of the Philippine Bar. Section 39 EPIRA provides that
the Chairman and members of the Commission shall initially be entitled to the same salaries, allowances and benefits as those of the
Presiding Justice and Associate Justices of the Supreme Court
Attachment 2
Government Electricity Industry Policy
This attachment summarises the Government Electricity Industry Policy Statement. 28
Objectives
 Focus on lowering the price of electricity

 Improve energy available and affordable for consumers including establishing consumer
protection programs.
 Increase investments and boost power production.

 Promote energy self-sufficiency and increased shift to renewable energy
Legislative Reform
 Review the implementation of the Electric Power Industry Reform Act of 2001 (EPIRA) and
consider possible amendments to the Act
Privatization
 Complete the privatization process for the remaining government owned power-generating
assets
Administrative reforms
 Improved transparency and ensure a level playing field for investors in the energy sector
 Ensure that the DOE and its attached agencies will be streamlined and rationalized to have
clear cut and distinct mandates and that qualification standards, especially eligibility, will
be strictly followed
 Review of all projects in the DOE and its attached agencies in view of a zero-based
budgeting system where their budget allocations are shaped by their performance and
their compliance with Commission of Audit reports.
 Regular evaluation of performance management to ensure the accountability of

government agencies
A number of specific initiatives were announced. These include:
28
Philippine Star July 12 2011
 Establishing the feasibility of establishing a national grid which will link Luzon, Visayas, and
Mindanao
 Drafting of a National Energy Development Plan that will encompass energy self-sufficiency
and the extensive use of clean and sustainable sources of energy such as wind, water, and
others.
 Encouraging investments in the energy sector to tap more diverse sources of power and
lower the cost of energy in the long term.
 Short -term moves to mitigate the effects of the power crisis such as leasing power barges;
contracting additional generating capacity through cooperatives and private utilities;
allowing the National Grid Corp. of the Philippines to use ancillary services such as the
contracting of backup generating capacity; and promoting demand side management
Attachment 3
What is Good Governance?
Governance encompasses
 External accountability of organisations including reporting, procedures, and standard

principles of risk allocation in assigning rights, obligations, accountabilities
 Corporate governance: which relates to how an individual organization is managed; its
functional structures; its cultures, policies and strategies; and the way in which it deals with
various stakeholders29.
The Philippines government should be aspiring to improve and entrench good governance in the PPS
over time. This review considers governance of all the power sector agencies below the level of the
President and Congress.
The following “good governance” checklist is suggested based on experience of successful electricity
industry reforms elsewhere.
Good Governance Checklist
Is there effective accountability?
 Are the roles and functions of agencies effective and comprehensive – or are there conflict,
duplication or gaps in agency roles and functions?
 Are the roles and function of agencies clear?
 Are there strategies and plans and other supporting documents which clearly set out what an
agency is expected to achieve?
 Is there effective reporting of achievements against plans?
 Is there effective monitoring and oversight of agency performance?
 Are appropriate steps taken to investigate and rectify inadequate performance?
 Do stakeholders have confidence that decision makers are being held accountable?
Effectiveness and efficiency
 Are the costs and benefits of decisions considered and balanced appropriately?
 Are agencies operating effectively and efficiently?
29
Accepted elements of good corporate governance include corporate plans setting out objectives and strategies; values and codes of
conduct; business planning; audit committees; control structures, including risk management; performance monitoring & assessment
(evaluation and review)
 Are strategies, plans and resource allocation effectively prioritised - do they align well with
legislation and government policy?
 Are rules, regulations, procedures etc well drafted and understood by those who must comply
with them?
 Is data being collected and published at the right level and is it reliable and accurate?
 Where decision makers are subject to appeal or review processes are the costs of these
processes commensurate with the benefits? Are the appeal or review processes effective and
efficient?
Transparency
 Do decision makers clearly and publicly justify their decisions?

 Is data and analysis on which decision are based reliable and accurate?
Inclusiveness
 Do all stakeholders have equal access to information?

 Can all stakeholders comment on regulatory decisions which affect them ?
Understanding of good governance
 Are the principles of good governance well understood?

 Are there guidelines, training, review processes etc which assist in improving governance over
time, or identifying shortfalls in governance?
Attachment 4
Examples of ESI independent expert reviews in other jurisdictions
Australia
The Council of Australian Governments (COAG) commissioned in 2002 an independent review of the
Australia electricity and gas markets. The review was conducted by an independent panel of experts
chaired by a former Minister of Energy. The Review identified strategic issues for Australian Energy
Markets. It also identified policy options for Governments (Commonwealth, State and Territory) that
will achieve the most significant benefits.
COAG established a further independent expert review in 2006, the Energy Reform Implementation
Group (ERIG) to review certain elements of the operation of Australia’s energy sector and to suggest
further reforms. The Terms of Reference included advice on: achieving a fully national transmission
grid including the most suitable governance and transitional arrangements; measures that may be
necessary to address structural issues affecting the ongoing competitiveness and efficiency of the
electricity sector; measures that may be necessary to ensure there are transparent and effective
financial markets to support energy markets.
New Zealand
In 2000, an independent expert electricity industry review was established by the Minister of Energy.
The review was chaired by Professor Stephen Littechild. The Terms of Reference included examination
of the regulatory arrangements for the transmission, distribution, wholesale and retail sectors.
In 2009 an independent expert review was established (Ministerial Review of the Electricity market).
The review was undertaken by a six person panel of experts. The review Terms of Reference covered
concerns about security of supply, the affordability of electricity, and duplication of electricity sector
governance. A discussion paper was prepared, followed by public consultation. The review reported
to the government in March 2010.
Singapore
In 2004, the Senior Minister of State for Trade and Industry (MTI) established the Energy System
Review Committee. The committee comprised nine members from industry, academia and the energy
sector. The committee was tasked with undertaking an independent review of Singapore’s electricity
and gas systems, and make recommendations on improvements.
Attachment 5
Understanding the causes of high electricity prices
The table below lists possible causes of high electricity prices in the Philippines.
The cost structure of the electricity industry is complex and so there may be many individual causes of
high electricity prices. Individually some cost components which are inefficiently high may have a
small impact, but in aggregate could be significant.
The participants in a well performing electricity industry should be constantly monitoring, identify and
managing all sources of inefficiency. While it is appropriate to be concerned about obvious problems
such as generation market power, an exclusive focus on these is not likely to be the best way to
address the concern with high electricity prices.
It appears that there is not a full understanding, by DOE of all the factors that cause high electricity
prices in the Philippines. Therefore a valuable input into strategic analysis would be a clear
understanding of the likely causes of high electricity costs. There are a number of techniques for
gaining this understanding:
 Unbundling and high-level international benchmarking of each element of the electricity

value chain.
 Modelling of wholesale markets that take account of new entry generation costs;
 Identification and Benchmarking of each cost element within each industry sector
Possible cause of high electricity prices

Symptom Known/ Possible cause Possible Root cause
Legacy generation Past high costs unable to be avoided or Past decisions

contracts written off
Decisions not to peruse viable restructuring
options?
Inefficient generation Inefficient procurement practices Legacy issues - eg backlog of inadequate

operating practices maintenance
Uncompetitive fuel costs.
Philippines has limited domestic coal supply.
Inefficient operations and labour costs,
International market prices affect the cost of
excessive corporate overhead
fuel
Low generation plant reliability due to poor
Poor incentives for efficiency – willingness of
maintenance
buyers to accept high costs because of their
ability to pass through costs to end users
Inefficient new Lack of access, availability of fuel sources Poor information

generation costs
Inefficient generation investment costs Poor transmission price signals
Sub optimal plant siting decisions Poor incentives for efficiency – willingness of
buyers to accept high costs because of ability to
pass through costs to end users
Inefficient generation Sub optimal investment in generation plant Distorted long term price signals
plant mix (System wide) mix
Lack of access to long term capital causes bias
to low capital intensive plant
Lack of level playing field for new entrants
Sub optimal dispatch Inefficient market design
Poor practices by the System Operator

30
Excessive generation Enduring market power in the wholesale Insufficient numbers competing generators
profits electricity market
Inefficient features in the market design, (such
as interaction of the market design with
31
transmission constraints)
Lack of effective rules to mitigate the effects of

exercise of market power; or inadequate
monitoring and enforcement where rules exist
Poor incentives for efficiency – willingness of

buyers to accept high costs because of their
ability to pass through costs to end users
Related party contracts between retailer Vertical integration between generation and
and generation retail may be a concern if the wholesale and
32
retail markets are insufficiently competitive
Inefficient transmission Excessive regulated rates of return Ineffective economic regulation to promote
costs efficient investment and operation
Inefficient planning, investment and
operating decisions
Low labour productivity
Sub optimal use of technology
Inefficient distribution Excessive regulated rates of return Ineffective economic regulation to promote
costs efficient investment and operation
Inefficient planning, investment and
operating decisions Lack of economies of scope and scale - for the
Electricity Cooperatives
Low labour productivity
Poor commercial incentives- inappropriate
Sub optimal use of technology
ownership and governance models
30
Temporary market power is less of a concern if high prices attract new investment or promote efficient demand side management
31
A nodal pricing design combined with a long stringy transmission system can result in regional market power problems.
32
Vertical integration between generation and retail is not necessarily a concern is provided the wholesale and retail and market is
sufficiently completive
Lack of co optimisation Poor transmission and system planning Lack of information

of generation and processes
Poor institutional arrangements, skills,
transmission system
Inadequate funding, low prices for capability for transmission planning
transmission
Ineffective economic regulation for
transmission – does not take account of
generation interactions
Excessive system losses Inappropriate investment or operating Inappropriate pricing arrangements and
practices incentives
Inefficient retail Excessive profitability Lack of competitive pressures

operating costs
Inefficient operating and labour Poor regulation where competition is not
productivity effective resulting in pass through of inefficient
generation costs
Inefficient economies of scope and scale.
Lack of economies of scope and scale - for the
Electricity Cooperatives
Attachment 6
ERC Powers and Functions
This attachment sets out the ERC’s Powers and function (sec 43 of the EPIRA)
 Promote competition, encourage market development, ensure customer choice and

penalize abuse of market power in the electricity industry.
 To carry out this undertaking, ERC shall, promulgate necessary rules and regulations,
including Competition Rules, and impose fines or penalties for any non-compliance with or
breach of the EPIRA, the Implementing Rules and Regulations of the EPIRA, and other rules
and regulations which it promulgates or administers as well as other laws it is tasked to
implement/enforce.
 Determine, fix and approve, after due notice and hearing, Transmission and Distribution
Wheeling Charges, and Retail Rates through an ERC established and enforced rate-setting
methodology that will promote efficiency and non-discrimination.
 Approve applications for, issue, grant, revoke, review and modify Certificate of Public
Convenience and Necessity (CPCN), Certificate of Compliance (COC), as well as licenses
and/or permits of electric industry participants.
 Promulgate and enforce a national Grid Code and a Distribution Code that shall include
performance standards and the minimum financial capability standards and other terms
and conditions for access to and use of the transmission and distribution facilities.
 Enforce the rules and regulations governing the operations of the Wholesale Electricity
Spot Market (WESM) and the activities of the WESM operator and other WESM
participants, for the purpose of ensuring greater supply and rational pricing of electricity.
 Ensure that NPC and Distribution Utilities functionally and structurally unbundle their
respective business activities and rates; determine the level of cross subsidies in the
existing retail rates until the same is removed and thereafter, ensure that the charges of
Transco or any Distribution Utility bear no cross subsidies between grids, within grids, or
between classes of customers, except as provided by law.
 Set a Lifeline Rate for the Marginalized End-Users.
 Promulgate rules and regulations prescribing the qualifications of Suppliers which shall
include, among other things, their technical and financial capability and credit worthiness.
 Determine the electricity End-users comprising the Contestable and Captive Markets.
 Verify the reasonable amounts and determine the manner and duration for the full
recovery of stranded debts and stranded contract costs of NPC and the Distribution
Utilities.
 Handle consumer complaints and ensure promotion of consumer interests.

 Act on applications for cost recovery and return on Demand-Side Management (DSM)
projects.
 Fix user fees to be charged by Transco for ancillary services to all electric power industry
participants or self-generating entities connected to the Grid.
 Review power purchase contracts between IPPs and NPC, including the Distribution
Utilities.
 Monitor and take measures to discourage/penalize abuse of market power, cartelization

and any anti-competitive or discriminatory behavior by any electric power industry
participant.
 Review and approve the terms and conditions of service of the Transco or any Distribution
Utility and any changes therein.
 Determine, fix and approve a universal charge to be imposed on all electricity end-users.
 Test, calibrate and seal electric watt-hour meters.
 Implement pertinent provisions of R.A. No. 7832 or the Anti-Pilferage of Electricity Law.
 Fix and regulate the rate schedule or prices of piped gas to be charged by duly franchised
gas companies which distribute gas by means of underground pipe system.

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Technical Assistance Consultant’s Report

Project Number: 41074

Efficiency Improvement and Connectivity

Prepared by Geoff Swier

For Asian Development Bank

Review of Institutional and Governance arrangements in the

Report prepared for the Asian Development Bank

Geoff Swier, Consultant

Final Report, May 2011

Farrier Swier Consulting

International experience indicates that effective institutional and governance

3.1 Institutional arrangements

3.2 Government policy

5 How has the Philippines Electric Power Sector performed?

5.2 Assessment of the Reform strategy

5.3 Implications of the sophisticated market design adopted in the Philippines

5.4 Policies areas of significant emerging risk

Institutional and governance reforms should give priority to

6 An Independent Expert Review is recommended

7 Systemic governance risk

8 Establish an Electricity Industry Reform Strategy

8.1 Establishing an Electricity Industry Reform strategy

Electricity Industry Reform Strategy

8.2 Understanding the cause of high electricity prices

9 Institutional Reform of the Department of Energy

9.2 Assessment of DOE Performance

9.3 Addressing capability gaps in DOE

9.5 DOE should focus on policy and strategy.

9.6 WESM Rule making responsibility

9.7 DOE Accountability to Government and Congress

Amend the reporting provisions in the EPIRA.

Consider imposing a requirement on DOE to publish a multiyear electricity industry reform

10 Reform of the Electricity Regulatory Commission Framework

10.2 Overall assessment of ERC performance

10.3 ERC statutory functions

10.4 Clear delineation of functions

10.5 Statutory regulatory discretions

10.6 ERC Governance

10.7 Addressing ERC capability issues

 whether ERC has adequate funding

10.9 Opportunities to streamline ERC’s responsibilities

There should be a presumption of open access to information, with confidentially of data

12 Establish a Statement of Opportunities

13 Philippine Electricity Market Corporation (PEMC) - Market

14 System Operator accountability

15 Transmission Planning and Investment

Review adequacy of transmission planning arrangements through the proposed Independent

Summary of possible institutional changes for the PPS

Electricity Industry Reform Strategy (New Function)

Option Operational functions

Option (Australia model)

Option (Australia model )

New Agency ? Statement of Opportunities

President Congress / Congressional

Energy Regulatory Commission Experts

Role Who Description

Strategic policy The President, Sets broad policy directions

Appoints the Secretary of Energy

Legislation Congress Enacts laws

Endorse the initial privatization plan

Ensure transparency, on public bidding

Review and evaluate the performance of the industry

Others ? Monitoring sector and agency performance

Operational functions Policy oversight of the electricity sector and related