Nova Scotia Power has cut its request for a rate increase by almost half, after reaching a deal that allows for automatic rate adjustments tied to the price of fuel.

The agreement was announced Monday, as the Nova Scotia Utility and Review Board was set to begin a hearing into the utility's latest rate request.

NSP had applied to increase rates this April an average 7.5 per cent, or almost nine per cent for residential customers.

But consultants hired by the UARB said the utility's estimate of oil prices was too high and its profit from Sable gas sales too low.

NSP amended its rate request and is now seeking an overall hike of 3.8 per cent. For residential customers, it's 4.6 per cent.

For the average residential customer, this would mean a monthly increase of $3.50. People who heat their homes with electricity could expect to pay an extra $7 each month.

In exchange for cutting the rate request, most of NSP's customers have agreed to consider a plan that would automatically tie rates to the cost of fossil fuel the utility burns to generate electricity, something NSP has long wanted.

A fuel adjustment mechanism (FAM) would trigger an automatic rate hike or rebate for consumers based on what the utility actually paid for oil and coal, said NSP president and CEO Ralph Tedesco.

"Everyone has seen the volatility in fuel markets," he said Monday. "This way customers are certain they will pay no more than the actual cost of fuel."

Consumer advocate John Merrick has reserved the right to challenge when an FAM clause comes in, but he said he's satisfied that consumers won't be getting the same nine per cent rate shock they experienced last April.

Merrick, lawyers for several large businesses and the review board's lawyer, Bruce Outhouse, have agreed to take part in another hearing this summer to set the ground rules for an FAM.

Outhouse said there are several issues that have to be worked out, such as how it would work, when to set it up and whether any pre-conditions need to be imposed on Nova Scotia Power.

"There's no agreement on what a fuel adjustment mechanism should look like," Outhouse said.

But not everyone approves of the deal.

The province's biggest power users, paper mills Stora Enso and Bowater Mersey, have not signed on and will continue to fight a proposed five per cent increase in their rates.

The Ecology Action Centre says NSP needs to realign its priorities and focus on renewable energy, and this deal doesn't do that.

"There is not much incentive to Nova Scotia Power to get off fossil fuels, which are ever increasing in price, if they can always go back and get a rate increase," said Brendan Haley, the centre's energy co-ordinator.

The hearing before the Nova Scotia Utility and Review Board resumes on Tuesday. If approved, this will be the fourth rate hike in five years.