A Spatial Stochastic Frontier Model with Omitted Variables: Electricity Distribution in Norway

Luis Orea, Inmaculada C. Álvarez, Tooraj Jamasb

Research output: Contribution to journalJournal articleResearchpeer-review


An important methodological issue in efficiency analysis for incentive regulation of utilities is how to account for the effect of unobserved cost drivers such as environmental factors. We combine a spatial econometric approach with stochastic frontier analysis to control for unobserved environmental conditions when measuring efficiency of electricity distribution utilities. Our empirical strategy relies on the geographic location of firms as a source of information that has previously not been explored in the literature. The underlying idea is to utilise data from neighbouring firms that can be spatially correlated as proxies for unobserved cost drivers. We illustrate this approach using a dataset of Norwegian distribution utilities for the 2004–2011 period. We show that the lack of information on weather and geographic conditions can be compensated with data from surrounding firms. The methodology can be used in efficiency analysis and regulation of other utilities sectors where unobservable cost drivers are important, e.g. gas, water, agriculture, fishing.
Original languageEnglish
JournalThe Energy Journal
Issue number3
Pages (from-to)93-116
Number of pages24
Publication statusPublished - May 2018
Externally publishedYes


  • Spatial econometrics
  • Stochastic frontier models
  • Environmental conditions
  • Electricity distribution networks

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