Cost Recovery and Financial Viability of the Power Sector in Developing Countries

Abstract

The financial viability of the power sector is a prerequisite for attracting the investment needed to ensure reliable energy supply, meet universal access targets, and hasten the clean energy transition. Adequate pricing of electricity to allow for cost recovery is also important to minimize the power sector’s negative macroeconomic, fiscal, environmental, and social impacts. This paper takes stock of the empirical and conceptual literature on the financial viability and cost recovery of the power sector in developing countries. Time-series data across countries are relatively scarce, but comparing the findings from 21 studies suggests that under-recovery of costs remains pervasive despite decades of efforts by governments and development institutions. Large electricity subsidies continue to burden governments, especially in the Middle East, South Asia, Central Asia, and Sub-Saharan Africa. Reviews by the World Bank and International Monetary Fund on outcomes of their own engagement also conclude that progress on cost recovery in supported countries has been limited. Although the aggregated view obscures fluctuation within individual countries over time, the available evidence suggests that countries progressing toward cost recovery may find themselves backsliding within a few years. As for understanding the circumstances under which progress can be made, a handful of studies point toward a correlation between sector reforms and cost recovery, although few of the studies address obvious endogeneity problems. To provide more solid guidance for future efforts to improve cost recovery, more research is needed on: (i) the determinants and enabling conditions of progress on cost recovery; (ii) tariff reform sequencing; and (iii) institutional arrangements, policies, and regulations that enable countries to sustain cost recovery once it is reached.