One of the most applauded announcements of President Marcos Jr. in his penultimate State of the Nation Address (SONA) was his call urging Congress to immediately amend the Electric Power Industry Reform Act (EPIRA) to stop distribution utilities from passing on system losses and the corresponding value-added tax (VAT) to consumers. The rationale given by the President is straightforward: “it is not the consumer’s fault that a system loss occurred,” and households should not pay for electricity that never reaches them.

However, the proposed solution is not as simple as it sounds. Private distribution companies—represented by Meralco Chairman Manuel V. Pangilinan—immediately responded by highlighting a fundamental technical reality: “When you push electricity through copper wires, there will be resistance. The longer the lines are, the more losses there will be. It is not a question of inefficiency; it is just the way it is, and there’s a cost to it. So the real question is: who bears the cost?” One could just as validly argue that “it is not the distributor’s fault that a technical system loss occurred.”

System loss is the difference between the electricity entering a distribution network (whether belonging to a private utility or an electric cooperative) and the volume billed to customers. It stems from two sources: technical losses caused by line resistance, transformers, and aging equipment; and non-technical losses resulting from electricity theft, illegal connections, defective meters, and billing errors. Meralco’s system loss charges account for about five percent of monthly bills—well below the 6.5 percent cap set by the Energy Regulatory Commission (ERC). By contrast, some provincial electric cooperatives register system losses as high as 16 percent.

Fortunately for non-specialists in energy economics, two of the field's most knowledgeable professionals—Dr. Ricardo Barcelona and Atty. Monalisa Dimalanta—offered valuable clarity in a recent paper titled “Systems Losses and Market Discipline: Reforming Loss Recovery, Utility Accountability, and Philippine Power-Market Design.” Dr. Barcelona is a banker and business school professor specializing in energy economics, while Atty. Dimalanta is a former Chairperson and CEO of the ERC.

They remind us that system losses are not merely a billing dispute; they are a test of whether regulation enforces discipline on inefficient operators or allows the costs of weak governance, theft, and operational neglect to be passed on to consumers. They propose a core policy standard: consumers should only pay for efficient, benchmarked technical losses, whereas avoidable commercial losses should be absorbed by power suppliers, operators, shareholders, and lenders. This comprehensive framework connects system-loss regulation, market discipline, regulatory reform, grid investment, and cooperative restructuring into a single legislative rationale.

To grasp this issue, laypeople must understand how competitive power markets operate. The current market structure in the Philippine energy sector stems from the thoroughgoing deregulation, liberalization, and privatization enacted during the administration of the late President Fidel V. Ramos—arguably the most effective post-war administration from an economic development standpoint.

Under the competitive market design established by EPIRA, generation prices are set by the marginal supplier in each trading period, and dispatch follows an economic merit order: lower-cost, highly efficient generators supply power first, while higher-cost plants operate only when demand spikes. The mechanics are straightforward: efficiency is rewarded, and inefficiency is exposed. Low-cost generators earn higher dispatch volumes and stronger revenues, while structurally uncompetitive suppliers face lower utilization, squeezed margins, and eventual insolvency if underperformance persists.

The same logic applies to system losses. Power supply pricing covers fixed-cost recovery, variable operating costs, fuel (where applicable), and the efficient technical losses inherent to operating a network. The fundamental policy question is not whether losses exist, but whether the permitted recovery levels are efficient, transparent, and appropriately allocated. Once framed this way, system losses cease to be an emotional billing controversy and become a standard test of regulatory architecture.

Reducing system losses to zero is physically impossible because electricity delivery relies on an integrated production and supply chain. Power plants must generate more energy than end-users consume because plant operations, auxiliary services, network equipment, and physical delivery constraints use up power long before it hits household meters. Once losses breach efficient thresholds, the issue shifts from engineering constraints to regulatory accountability.

Among power plants (whether fueled by coal, diesel, solar, or other renewables), technical losses are typically modest and limited to plant operation and auxiliary services. In contrast, transmission and distribution losses are far higher due to the physical complexity of grid delivery. While efficient urban distribution systems operate at low loss levels, weak grids or poorly maintained systems cannot—as seen in several struggling electric cooperatives. Efficient technical losses represent a legitimate cost of reliable energy supply; conversely, commercial losses driven by theft, poor collections, or governance failures represent management breakdowns and should never qualify for automatic cost recovery.

This principle applies most directly to transmission and distribution networks—the “wires” businesses (such as Meralco) that operate as natural monopolies. Because captive customers cannot choose an alternative distributor, regulators must simulate market discipline through rate formulas that reward efficiency and punish underperformance.

One standard tool is the RPI-X formula used across liberalized power markets. Its logic is simple: a reference price is established for a regulatory period, adjusted annually for inflation, and reduced by an efficiency factor (X) that reflects expected productivity gains. For instance, a ₱10/kWh reference price, combined with six percent inflation and a two percent efficiency factor, yields a Year 1 price of ₱10.4/kWh. This predictable model gives utilities clear parameters to plan capital investments while incentivizing them to beat efficiency targets and retain the financial upside.

Under this setup, system loss management becomes a test of corporate governance rather than an automatic pass-through entitlement. If a utility drives losses below the benchmark, it keeps the savings; if it underperforms, shareholders absorb the loss instead of shifting the burden to rate-payers.

This model explains why networks with high initial loss rates can handle higher efficiency targets: during early liberalization phases, substantial efficiency gains are achievable. Targeted capital expenditure, modern metering, aggressive theft reduction, and professionalized management can cut losses faster than inflation drives up operational costs—a vital mechanism during periods of high inflation driven by external geopolitical or climate shocks.

Unfortunately, current Philippine regulatory practice undermines this incentive framework whenever tariff recovery functions as a guaranteed cost-plus safety net. When excess, preventable losses are routinely passed on to consumers, a distributor's operational shortcomings become the public's financial burden. Conversely, when loss recovery is strictly capped and benchmarked, management gains a direct financial incentive to invest, enforce, collect, and minimize losses.