capital taxation and accumulation in a life cycle growth model almost all of the serious economic work on savings decisions within the past decade has relied on some variant of the life cycle hypothesis in which savings arise out of individual choices of an optimum lifetime consumption path this paper reexamines the incidence and welfare consequences of capital income taxes within a realistic life cycle model the results suggest that the elimination of capital income taxation would have very substantial economic effects for example a complete shift to consumption taxation might raise steady state output by as much as 18 percent and consumption by 16 percent the long run welfare gain from such a shift would for plausible parameter values exceed 150 billion annually stated somewhat differently shifting to consumption taxation would raise the lifetime utility of the representative consumer by the equivalent of about six years income in the new steady state these estimates dwarf estimates of the static welfare cost of taxation and significantly exceed even extreme previous estimates of the dynamic loss this study departs from earlier analyses of the effects of taxes on capital income in several respects probably the most important difference between this treatment and most preceding ones lies in the assumptions about the interest elasticity of saving it is shown below that the common two period formulation of saving decisions yields quite misleading results a more realistic model of life cycle savings demonstrates that for a wide variety of plausible parameter values savings are very interest elastic this implies that shifting away from capital income taxation would significantly increase capital formation making possible long run increases in consumption many studies of the welfare effects of capital income taxation have ignored the general equilibrium effects of increased capital formation in an economy with life cycle savings there is no presumption that the undistorted growth path corresponds to any sort of social optimum as peter diamond has shown life cycle savings can lead to a steady state capital intensity either greater or less than the golden rule level more generally it is clear that there is no reason to believe that a life cycle economy will maximize any particular intertemporal social welfare function a fundamental tenet of welfare evaluation is that preexisting distortions must be considered in evaluating the consequences of tax changes the results presented in this paper take explicit account of the nonoptimal character of the no tax steady state this explains in large part why such a sizeable welfare effect of capital taxes is found in an economy far from the golden rule level of capital intensity there are substantial gains in steady state consumption achievable through increased capital formation section i of the paper examines the aggregate savings function in a continuous time life cycle framework the second section clarifies the differences between wage and consumption taxes an aggregate production function is added to complete the model in the third section the effects of changes in capital taxes on both steady state incidence and welfare are considered within a general equilibrium framework the final section of the paper discusses some implications of the results and suggests areas which appear to warrant further study assistant professor of economics massachusetts institute of technology and research analyst national bureau of economic research i am grateful to alan auerbach martin feldstein laurence kotlikoff to the participants in the nber workshop on business taxation and to the harvard public finance seminar for useful discussions james poterba and james buchal performed the numerical calculations

targeted transfers and the fiscal response to the great recession abstract between 2007 and 2009 government expenditures increased rapidly across the oecd countries while economic research on the impact of government purchases has flourished in the data most of the increase in expenditures was in government transfers after documenting this fact we argue that future research should focus on the positive impact of transfers towards this we present a model in which there is no representative agent and ricardian equivalence does not hold because of uncertainty imperfect credit markets and nominal rigidities targeted lump sum transfers are expansionary both because of a neoclassical wealth effect and because of a keynesian aggregate demand effect

precautionary saving over the business cycle we study the macroeconomic implications of time varying precautionary savings within a general equilibrium model with borrowing constraints aggregate shocks and uninsurable idiosyncratic unemployment risk our framework generates limited cross sectional household heterogeneity as an equilibrium outcome thereby making it possible to analyse the role of precautionary saving over the business cycle in an analytically tractable way the time series behaviour of aggregate consumption generated by our model is closer to the data than that implied by the hand to mouth and representative agent models and it is comparable to that produced by the krusell and smith 1998 model

assessing the impact of incentive regulation for innovation on res integration investing in innovative smart grids sgs technology can reduce overall investments in distribution systems with unpredictable renewable energy sources res regulators should therefore decide what incentives are desirable and design a flexible economic regulatory framework able to encourage distribution system operators dnos to decide for innovation in the sgs an innovative method that can support the regulators in encouraging res exploitation by determining the right incentives to favor investments in innovation in an electrical distribution network is proposed in this paper the method allows stakeholders like regulators distribution companies and developers evaluating the long term economic effects of their decisions the effectiveness of the proposed method based on non dominated sorting genetic algorithm nsga ii and on multi period optimal power flow mp opf is verified on an 84 bus network

government size and macroeconomic stability abstract we analyze the effects of government size on output variability in the context of a rbc model in which government size is parameterized by the income tax rate and the share of government purchases in output the model implies that i income taxes are destabilizing and ii for most specifications considered government purchases are stabilizing we compare those predictions with the results of simple cross country regressions using data for 22 oecd countries the estimated relationship between empirical indicators of government size and measures of gdp variability appears far stronger than the model predicts and often has the opposite sign

bounds on elasticities with optimization frictions a synthesis of micro and macro evidence on labor supply how can price elasticities be identified when agents face optimization frictions such as adjustment costs or inattention i derive bounds on structural price elasticities that are a function of the observed effect of a price change on demand the size of the price change and the degree of frictions the degree of frictions is measured by the utility losses agents tolerate to deviate from the frictionless optimum the bounds imply that frictions affect intensive margin elasticities much more than extensive margin elasticities i apply these bounds to the literature on labor supply the utility costs of ignoring the tax changes used to identify intensive margin labor supply elasticities are typically less than 1 of earnings as a result small frictions can explain the differences between micro and macro elasticities extensive and intensive margin elasticities and other disparate findings pooling estimates from existing studies i estimate a hicksian labor supply elasticity of 0 33 on the intensive margin and 0 25 on the extensive margin after accounting for frictions

indeterminacy and stabilization policy abstract it has been shown that a one sector real business cycle model with sufficient increasing returns in production may possess an indeterminate steady state that can be exploited to generate business cycles driven by animal spirits of agents this paper shows how an income tax schedule that exhibits a progressivity feature can ensure saddle path stability in such a framework and thereby stabilize the economy against sunspot fluctuations conversely an economy with a flat or regressive tax schedule is more susceptible to indeterminacy journal of economic literature classification numbers e32 e62

consumer spending and the economic stimulus payments of 2008 abstract we measure the change in household spending caused by receipt of the economic stimulus payments of 2008 using questions added to the consumer expenditure survey and variation from the ran

the effectiveness of government debt and transfers as insurance abstract government debt and redistributive taxation can help people to smooth consumption when facing uninsurable individual specific risk i examine the effects that variations in public debt and transfers have on risk sharing efficiency and the distribution of resources i find that risk sharing can be improved significantly by both debt and transfers but that debt has adverse effects on equity when used in isolation debt will enhance welfare if transfers are lower than optimal however the beneficial effects of public debt vanish if transfers are used optimally

fertility and the personal exemption implicit pronatalist policy in the united states the personal exemption in the us provides households with an income tax subsidy for each child this paper uses aggregate time series data for the us from 1913 to 1984 to estimate the impact of the tax value of the personal exemption on the aggregate birth rate the empirical results indicate that the personal exemption has a positive and significant impact on fertility and this result is robust to a variety of specifications the us therefore pursues an implicit pronatalist policy through the income tax and the empirical results indicate that the recent tax reform act of 1986 will on average increase this subsidy for fertility authors

welfare spending in advanced industrial democracies 1950 1980 this paper addresses long standing debates over the role of demographic structure class power class based political parties and democraphic political participation in the growth of the welfare state in advance industrial democracies from 1950 to 1980 it distinguishes four theories industrialism monopoly capitalism social democratic and interest group politics and tests them using pooled cross sectional time series data for 18 nations and seven time points total social welfare spending composed primarily of social insurance benefits is dominated by the size of the aged population smaller but important effect of nonclass political variables such as voting participation and electoral competition and interaction of age with political and other variables public assistance means tested programs however are dominated by class variables although evaluation of the theories must consider the domain of programs to which each best applies the results generally favor an interest group politics theo

on measuring the effects of fiscal policy in recessions we do not have a good measure of the effects of fiscal policy in a recession because the methods that we use to estimate the effects of fiscal policy both those using the observed outcomes following different policies in aggregate data and those studying counterfactuals in fitted model economies almost entirely ignore the state of the economy and estimate the government multiplier which is presumably a weighted average of the one we care about the multiplier in a recession and one we care less about the multiplier in an expansion notable exceptions to this general claim sug gest this difference is potentially large our lack of knowledge stems significantly from the focus on linear dynamics vector autoregressions and linearized or close to linear dynamic stochastic general equilibrium dsge models our lack of knowledge also reflects a lack of data deep recessions are few and nonlinearities hard to measure the lack of statistical power in the estimation of nonlinear models using aggregate data can be addressed by exploiting estimates of partial equilibrium responses in disaggregated data microeconomic estimates of the partial equilibrium causal effects of a policy can discipline the causal channels inherent in any dsge model of the general equilibrium effects of policy microeconomic studies can also provide measures of the dependence of the effects of a policy on the states of different agents which is a key component of the dependence of the general equilibrium effects of fiscal policy on the state of the

on computational issues of market based optimal power flow the deregulated electricity market calls for robust optimal power flow opf tools that can provide a deterministic convergence b accurate computation of nodal prices c support of both smooth and nonsmooth costing of a variety of resources and services such as real energy reactive energy voltages support etc d full active and reactive power flow modeling of large scale systems and e satisfactory worst case performance that meets the real time dispatching requirement most prior research on opf has focused on performance issues in the context of regulated systems without giving much emphasis to requirements a c this paper discusses the computational challenges brought up by the deregulation and attempts to address them through the introduction of new opf formulations and algorithms trust region based augmented lagrangian method tralm step controlled primal dual interior point method scipm and constrained cost variable ccv opf formulation are proposed the new formulations and algorithms along with several existing ones are tested and compared using large scale power system models

age structure politics and cross national patterns of public pension expenditures this study examines the determinants of spending on public pensions unlike other programs pensions benefit an easily identifiable high voting group the aged and may be especially amenable to their political influence with that in mind we draw out predictions of industrialism and class theories for the explanation of public pension expenditures the explanations are tested with data on 48 nations at all levels of political and economic development for four time points 1960 1965 1970 1975 pooling the data allows multivariate analysis of appropriate determinants both within and across different groups of nations and detailed analysis of advanced industrial democracies industrialism variables such as percent aged social insurance program experience andfamily size have dominant effects however the effects of percent aged increase with political democracy suggesting that the aged wield political power in increasing pension expenditures class variables in contrast have little or no effect on pensions suggesting the importance of age politics over class politics in the spending for this program

the effect of tax transfer policies on fertility in canada 1921 88 this paper estimates the effect on fertility of the personal tax exemption for children child tax credit family allowances and maternity leave benefits in canada using time series data from 1921 to 1988 it is found that the exemption child tax credit and family allowances all have significant and positive effects on fertility the results are robust to a variety of specifications including first differencing while the three tax transfer programs seem to be very distinct the null hypothesis that they have no differential effects on fertility can hardly be rejected all the results also hold for the cumulative effect of the three tax transfer programs the estimates predict that a large increase in the value of the tax transfer programs would be needed to increase fertility to the replacement level

solving the incomplete markets model with aggregate uncertainty using the krusell smith algorithm and non stochastic simulations abstract this article describes the approach to computing the version of the stochastic growth model with idiosyncratic and aggregate risk that relies on collapsing the aggregate state space down to a small number of moments used to forecast future prices one innovation relative to most of the literature is the use of a non stochastic simulation routine

social democracy christian democracy constitutional structure and the welfare state the literature on the determinants of welfare state effort displays many inconsistencies and contradictins this article takes imoprtant stepts toward resolving these issues with the use of pooled

rethinking fiscal policy the use of fiscal policy as a stabilization device has all but vanished more or less explicitly in europe and de facto in the united states the practical consequences have not been entirely satisfactory in either place so it is important and timely that the oxford review is devoting a special issue to the macroeconomics of fiscal policy in this paper i want to discuss two underlying questions about the eclipse of fiscal policy why did this happen and was it a good ideaq and if it was not a good idea then what followsq copyright 2005 oxford university press

the persistence of inflation in the united states abstract has the persistence of inflation in the united states changed since 1965 we estimate the persistence of inflation over time using different measures and estimation procedures and we produce confidence intervals for our estimates as well as formal tests of unchanged persistence we find that inflation persistence has been high and approximately unchanged in the u s over our sample period we reconcile our results with other studies that reached different conclusions

transmission and wind power investment this paper jointly considers wind power investment and transmission reinforcement the proposed model is a mathematical program with equilibrium constraints mpec that seeks to identify the optimal wind projects to be developed and the required network reinforcements under the transmission system operator perspective this mpec seeks to minimize consumer payments and is constrained by investment conditions and the equilibria of the market under different operating conditions an array of subsidies is considered to promote independent wind power investment an example and two case studies illustrate the characteristics of the proposed model

automatic stabilizers fiscal rules and macroeconomic stability abstract this paper analyzes the effect of the fiscal structure upon the trade off between inflation and output stabilization induced by technological shocks in a dge model with nominal and real rigidities that also integrates a rich menu of fiscal variables as well as a target on the debt to output ratio the channels through which fiscal policy affects macroeconomic stability include supply side effects of distortionary taxes the procyclical behavior of public spending induced by fiscal rules and the conventional effect of automatic stabilizers operating through disposable permanent income the paper investigates these channels and concludes that contrary to what has been found in rbc models distortionary taxes tend to reduce output volatility relative to lump sum taxes when significant rigidities are present we also study the stabilization effect of alternative distortionary tax structures and find that these are only relevant if substantial rigidities are present

political resources and the growth of welfare in affluent capitalist democracies 1960 1982 explanations of welfare effort in affluent postwar democracies are partially integrated within a political resource framework political resource models of welfare effort fare well when tested with pooled time series data for 1960 82 use of governmental authority by the left use of disruption by the working class and the petty burgeois and use of lobbying voting and or entitlement rights by the elderly and the unemployed constitute means of political action among more diffusely available infraresources state revenue expansion economic growth and inflation appear to buoy welfre expansion as do left corporatism and bureaucratic paternalism some mediating effects of economic epoch and state structure are explored

credit crises precautionary savings and the liquidity trap we use a model a la bewly huggett ayagari to explore the eects of a credit crunch on consumer spending households borrow and lend to smooth idiosyncratic income shocks facing an exogenous borrowing constraint we look at the economy response after an unexpected permananent tightening of this constraint the interest rate drops sharply in the short run and then adjusts to a lower steady state level this is due to the fact that after the shock a large fraction of agents is far below their target holdings of precautionary savings and this generates a large temporary positive shock to net lending we then look at the eects on output here two opposing forces are present as households can deleverage in two ways by consuming less and by working more we show that under a reasonable parametrization the eect on consumer spending dominates and precautionary behavior generates a recession if we add nominal rigidities two things happen i supply side responses are muted and ii there is a lower bound on the interest rate adjustment these two elements tend to amplify the recession caused by the credit tightening

politics institutions and welfare spending in industrialized democracies 1960 82 electoral turnout as well as left and center governments increase welfare effort that the welfare efforts of governments led by particular types of parties show significant differences and vary notably with the strength of oppositional and junior coalitional parties and that relatively neocorporatist centralized and traditionalistic polities are high on welfare effort overall our findings suggest that contrary to many claims both partisan and nonpartisan facets of democratic politics and political institutions shape contemporary social welfare effort

population aging class context and age inequality in public spending although recent experiences in the united states suggest that population aging for both demographic and political reasons favors public spending for the elderly relative to children many european nations with different political environments show no shuch pattern this paper investigates age inequality or bias in public spending for these two age based dependent groups using annual time series data for 18 advanced industrial democracies the results show that a large aged population reduces age inequality in favor of the eldearly in the presence of 1 class based corporatism and 2 strong leftist parties whereas a large aged population increases age inequality in the absence of these two factors

can government purchases stimulate the economy this essay briefly reviews the state of knowledge about the government spending multiplier drawing on theoretical work aggregate empirical estimates from the united states as well as cross locality estimates i assess the likely range of multiplier values for the experiment most relevant to the stimulus package debate a temporary deficit financed increase in government purchases i conclude that the multiplier for this type of spending is probably between 0 8 and 1 5 jel e23 e62 h50

income and wealth heterogeneity in the macroeconomy how do movements in the distribution of income and wealth affect the macroeconomy we analyze this question using a calibrated version of the stochastic growth model with partially uninsurable idiosyncratic risk and movements in aggregate productivity our main finding is that in the stationary stochastic equilibrium the behavior of the macroeconomic aggregates can be almost perfectly described using only the mean of the wealth distribution this result is robust to substantial changes in both parameter values and model specification our benchmark model whose only difference from the representative agent framework is the existence of uninsurable idiosyncratic risk displays far less cross sectional dispersion and skewness in wealth than u s data however an extension that relies on a small amount of heterogeneity in thrift does succeed in replicating the key features of the wealth data furthermore this extension features aggregate time series that depart significantly from permanent income behavior

the significance of federal taxes as automatic stabilizers using the taxsim model for the period 1962 95 we consider the federal tax system s impact as an automatic stabilizer despite the many changes in the tax system there has been relatively little change in its role as an automatic stabilizer we estimate that individual federal taxes offset perhaps as much as 8 percent of initial shocks to gdp we also suggest that the progressive income tax may help to stabilize output via its effect on the supply of labor an additional effect that may even be of similar magnitude to the more traditional path of stabilization through aggregate demand

social spending and automatic stabilizers in the oecd the macroeconomic literature on automatic stabilization tends to focus on taxes and dismiss the relevance of government expenditure except for unemployment compensation our results go sharply contrary to this view we engage in an empirical analysis of 21 oecd countries from 1982 to 2003 and find that age and health related social expenditure as well as incapacity and sick benefits all react to the cycle in a stabilizing manner while possibly new in the macro literature this conforms to many results in studies in labour economics the policy implications are broad since much previous analysis of discretionary fiscal policy rests on official figures for automatic stabilization there are also major implications for efforts to incorporate automatic fiscal policy in simulation models julia darby and jacques melitz

optimal unemployment insurance this paper considers the design of an optimal unemployment insurance system the problem is modeled as a repeated principalagent problem involving a risk averse agent the unemployed worker and a risk neutral principal which cannot monitor the agent s search effort the optimal long term contract subject to the associated incentive constraints is characterized this contract involves a replacement ratio that decreases throughout the unemployment spell and a wage tax after reemployment that under some mild regularity conditions increases with the lenght of the unemployment spell some numerical results are presented that suggest that the gains from switching to this optimal unemployment insurance scheme could be quite large the performance of this optimal contract is also compared to alternative liquidity provision mechanisms

fiscal policy with heterogeneous agents and incomplete markets i undertake a quantitative investigation into the short run effects of changes in the timing of proportional income taxes for model economies in which heterogeneous households face a borrowing constraint temporary tax changes are found to have large real effects in the benchmark model a temporary tax cut increases aggregate consumption on impact by around 29 cents for every dollar of tax revenue lost comparing the benchmark incomplete markets model to a complete markets economy income tax cuts provide a larger boost to consumption and a smaller investment stimulus when asset markets are incomplete copyright 2005 wiley blackwell

rethinking the role of fiscal policy as recently as two years ago there was a widespread consensus among economists that fiscal policy is not useful as a countercyclical instrument now governments in washington and around the world are developing massive fiscal stimulus packages supported by a wide range of economists in universities governments and businesses why has this change occurred what are the principles for designing a potentially useful fiscal stimulus and what will happen if the current fiscal stimulus fails this abstract was borrowed from another version of this item

has fiscal policy helped stabilize the postwar u s economy abstract in this paper i consider whether postwar fiscal policy has helped stabilize the u s economy i do this by adding to the stochastic growth model fiscal policy feedback rules estimated from postwar data these rules allow fiscal policies to respond to current and lagged output and labor hours i use the estimated policy rules to see if postwar fiscal policy reduces output volatility and or lengthens expansions and shortens recessions i find that fiscal policy in general provides little stability on either count i also find that the endogenous feedback links by themselves can provide some stabilization

a review on implementation strategies for demand side management dsm in kuwait through incentive based demand response programs abstract since the export of fossil fuel is the backbone of kuwait s economy the enormous upsurge in the internal fuel consumption creates anguish and bane at present 46 of the internal fossil fuel consumption is used for electricity generation the increase in fuel consumption hurled kuwait as one of the highest per capita electricity consuming as well as co 2 emitting countries in the world consumers pay only 6 of the production cost of electricity the government subsidizes the balance which is one of the major reasons behind the high electricity consumption in the country any reduction in electricity consumption can positively reflect on both per capita electricity consumption and co 2 emission additionally the saved fossil fuel can be exported to generate revenue to support the country s economy worldwide demand side management dsm is considered as an effective tool to curtail electricity demand the objective of this review paper is to explore the available literature to find out the most suitable dsm measures to control the growth of per capita electricity consumption in kuwait after conducting a detailed strengths weaknesses opportunities and threats swot analysis it is concluded that incentive based demand response programs can be considered as one of the most suitable solutions to address this problem

incentive regulation of electricity distribution networks lessons of experience from britain this paper reviews the recent experience of the uk electricity distribution sector under incentive regulation the uk has a significant and transparent history in implementing incentive regulation in the period since 1990 we demonstrate the successes of this period in reducing costs prices and energy losses while maintaining quality of service we also draw out the lessons for other countries in implementing distribution sector reform we conclude by discussing the place of incentive regulation of networks within the wider reform context the required legislative framework the need for appropriate unbundling the importance of quality of service incentives the regulatory information requirements and the role of sector rationalisation

antisocial security the puzzle of beggar thy children policies the u s social security program has irrevocably transferred substantial wealth from workers to their ostensibly altruistic parents after some alternative explanations for this paradox are addressed a formal model is developed to show that a majority of rational voters who care about their descendants can support the preservation of current benefits for themselves but accept the prospect of social security s future retrenchment incorporating elements of tabellini s 2000 positive theory of social security and benabou and ok s 2001 analysis of income mobility the model identifies specific forces affecting this time varying individual support for social security these forces are embodied in three hypotheses related to income mobility relative income level and age an ordered logit analysis of cumulative anes data supports these hypotheses

strategic generation investment using a complementarity approach this paper provides a methodology to assist a strategic producer in making informed decisions on generation investment a single target year is considered with demand variations modeled through blocks the strategic behavior of the producer is represented through a bilevel model the upper level considers both investment decisions and strategic production actions and the lower level corresponds to market clearing prices are obtained as dual variables of power balance equations rival uncertainties on offering and investment are characterized through scenarios the resulting model is a large scale mixed integer lp problem solvable using currently available branch and cut techniques results pertaining to an illustrative example and a case study are reported and discussed

job uncertainty and deep recessions abstract we study a model where households are subject to uninsurable unemployment risk price setting is subject to nominal rigidities and the labor market is characterized by matching frictions and inflexible wages higher risk of job loss and worsening job finding prospects during unemployment depress goods demand because of a precautionary savings motive lower goods demand reduces job vacancies and the job finding rate producing an amplification mechanism due to endogenous countercyclical income risk amplification derives from the combination of incomplete financial markets and frictional goods and labor markets the model can account for key features of the great recession

unemployment insurance and capital accumulation abstract in this paper i examine a model economy with production search and unemployment insurance the introduction of capital into the economy of wang and williamson j monetary econom 49 7 2001 1337 generates the result that optimal replacement ratios are always zero the result arises from the decline in aggregate activity caused by unemployment insurance both capital and labor inputs to production fall when benefits rise unlike most of the literature i compute explicitly the cost of the transition path agents are made better off by switching to a steady state with no unemployment insurance but the welfare gain is approximately cut in half only the very poor and unemployed suffer welfare losses along the transition path i then briefly investigate the implications of negative replacement ratios

an empirical analysis of the revival of fiscal activism in the 2000s an empirical review of the three fiscal stimulus packages of the 2000s shows that they had little if any direct impact on consumption or government purchases households largely saved the transfers and tax rebates the federal government only increased purchases by a small amount state and local governments saved their stimulus grants and shifted spending away from purchases to transfers counterfactual simulations show that the stimulus induced decrease in state and local government purchases was larger than the increase in federal purchases simulations also show that a larger stimulus package with the same design as the 2009 stimulus would not have increased government purchases or consumption by a larger amount these results raise doubts about the efficacy of such packages adding weight to similar assessments reached more than thirty years ago jel e21 e23 e32 e62 h50

the role of automatic stabilizers in the u s business cycle most countries have automatic rules in their tax and transfer systems that are partly intended to stabilize economic uctuations this paper measures how eective they are at lowering the volatility of u s economic activity we identify seven potential stabilizers in the data and include four theoretical channels through which they may operate in a business cycle model calibrated to the u s data the model is used to compare the volatility of output in the data with counterfactuals where some or all of the stabilizers are shut down our rst nding is that proportional taxes like sales property and corporate income taxes contribute little to stabilization our second

standard incentive regulation hinders the integration of renewable energy generation the connection and distribution of growing decentralized electricity generation from renewable energy sources res e is leading tomassive investment needs besides investing in additional conventional assets e g cables grid operators can also invest in innovative smart solutions like local storage capacities or voltage regulation appliances which may be a more suitable way of integrating res e this paper investigates the influence of incentive regulation on the investment decision of grid operators to integrate res e we describe the technical and regulatory background explain the advantages of smart solutions and present an approach for comparing investment scenarios as an example we calculate the profitability of investments in a case study of the german electricity market we apply data envelopment analysis dea and stochastic frontier analysis sfa to show the influence of the investment alternatives on grid operator efficiency objectives we demonstrate that under current standard incentive regulation the grid operators gain profitability by avoiding investments and if they are forced to invest by not implementing smart solutions the results highlight the need to consider innovation in the regulation design further research should investigate specific instruments that can be used to account for innovation our brief discussion of such instruments provides a starting point