17 Sep 2009

Lessons Not Learned

This story (via DW and TS) recounts a familiar problem:
  1. Water agencies ask customers to use x% less water, often increasing restrictions on water use.
  2. Customers cut use by 2x%, reducing agency sales below projections based on x% reductions.
  3. To cover the gap between revenue and expenses, agencies raise prices, reduce services and/or tap reserve funds -- upsetting customers who feel they are being penalized for cutting back.
  4. Some agencies cut back on conservation programs, hoping that customers will use more water (!) and thus provide revenue...
This cycle of fail (ever hear of this problem at gas stations? restaurants?) is driven by agencies' need to break-even on water sales and inaccuracy in making demand projections.

The solution to this problem is to raise prices (and revenue projections) far above the level required to break even and rebate excess revenue (per capita) to customers. Higher prices (especially for wasteful use) will increase conservation; rebates will please water misers; revenue in excess of costs will please accountants. (Here's my detailed description of how to match variable/fixed revenues and costs.)

Bottom Line: Higher prices (and advertising) will promote conservation, but we have to make sure that those prices are sustainable, i.e, that they encourage conservation while ensuring long-term financial viability to the water agency.


Anonymous said...

Although water is different from gas stations and restaurants becuase of the whole natural monopoly thing, right?

J said...

In Israel we have a campaign to save water, and consumption dropped 17%. Local authorities's income dropped as expected, so the government increase the price of water up to 7 dollars per cubic meter (!). That is without the sewage treatment surcharge.

Since private companies are able to supply desalinated water at 1$/cu m, what is happening here is that we are trapped in a government monopoly situation. No solution in sight.

Francis said...


The appropriate solution is to set basic (non-consumptive) fees to cover all fixed charges and to set water charges at the marginal price of delivery of water.

If you want to discourage disproportionate use, establish water reduction programs (toilet and showerhead exchanges, smart meter and xeriscape cost support, etc.) that get funded only out of usage charges imposed on use above the allocated base use.

If there's really a problem with low-income people being incapable of paying the basic charge, establish a low-income relief program and build that cost into the basic fee.

George said...

I agree completely with @Francis. I think it makes sense to have a fixed base fee to fund operations and delivery expenses. But if the income for the water itself (which means they charge more for the water than they paid) funds the operations, there is a conflict of interest. Thus we find a water department under political pressure to encourage conservation, but to succeed in that is to cause harm to itself (see also my post from yesterday).

Eric said...

It seems to me that higher prices following decreased usage is the same as decreased usage following higher prices.

David Zetland said...

@Anon -- you're right. My point is that they market brings discipline. A natural monopoly faces no such discipline -- except through regulation -- and that the regulation must change.

@J -- ouch! Looks like the govt is in the wrong business (or are we mixed up -- $1/m^3 is to "make" water but not distribute it, right?)

@Francis -- Your solution is more complicated and less-effective( high powered) than mine.

@George -- ditto :)

@Eric -- yes, but the order DOES matter (it upsets people to see prices go UP after conserving...)

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