block of electricity to meet their basic requirement, thus satisfying
sociopolitical objectives. Conversely, if marginal costs
are below average costs-typically as a result of economies of
scale-then pricing at the strict LRMC will lead to a financial
deficit. This will have to be made up, for example, by higher
lump sum connection charges, flat rate, charges, or even government
subsidies.
Another reason for deviating from the strict LRMC arises because
of second-best considerations. When prices elsewhere in
the economy do not reflect marginal costs, especially for electric
power substitutes and complements, then departures from
the strict marginal cost pricing rule for electricity services
would be justified. For example, in rural areas, inexpensive
alternative energy may be available in the form of subsidized
kerosene and/or gas. In this case, pricing electricity below the
LRMC may be justified, to prevent excessive use of the alternative
forms of energy. Similarly, if incentives are provided to
import private generators and their fuel is also subsidized,
then charging the full marginal cost to industrial consumers
may encourage them to purchase their own or captive power
plant. This is economically less efficient from a national perspectives.
Since the computation of strict LRMC is based on
the power utilities least cost expansion program, LRMC may
also need to be modified by short-term considerations if previously
unforeseen events make the long-run system plan suboptimal
in the short run. Typical examples include a sudden
reduction in demand growth and a large excess of installed
capacity that may justify somewhat reduced capacity charges,
or a rapid increase in fuel prices, which could warrant a shortterm
fuel surcharge.
As discussed earlier, the LRMC approach permits a high degree
of tariff structuring. However, data constraints and the
objective of simplifying metering and billing procedures usually
requires that there should be a practical limit to differentiation
of tariffs by: a) major customer categories-residential,
industrial, commercial, special, rural, and so on; b) voltage
levels (high, medium, and low); c) time of day (peak, offpeak);
and d) geographic region. Finally, various other constraints
also may be incorporated into the LRMC based tariffs,
such as the political requirement of having a uniform national
tariff, subsidizing rural electrification, and so on. In each case,
however, such deviations from LRMC will impose an efficiency
cost on the economy.