3 Jul 2012

My $1.99 consultancy

I had a brief chat with Michael Hanemann at a recent conference. Michael was my adviser at UC Berkeley (he's now at Arizona State) and the designer of Los Angeles's increasing block rate program. I am not a fan of IBRs, but he defended them as "fair" given that they charge heavy water users more (the top block, btw, is meant to be so expensive that nobody uses it but not so expensive that rationing occurs). He also defended LA's system of giving allocations of cheap water to larger lots in hotter areas, as "fair" -- a word that I wouldn't use.

Anyways, I find IBRs difficult to calculate accurately, since they require estimates of demand elasticities, consumer "buckets," etc.

Here's my preferred alternative. If you use it, you can send me $1.99, as my consulting fee:
  1. Estimate system fixed costs. Allocate these costs to customers as fixed charges in proportion to their flow capacity (e.g., 1 inch pipe/meter costs 2.56x a 5/8 inch pipe). 
  2. Estimate variable costs for delivery of units within system capacity. Charge customers a variable water price per unit equal to that cost.
  3. If the system is approaching capacity (e.g., demand exceeds 80% of supply capacity), then add a surcharge onto the variable price of water. I suggest 100%.
  4. Rebate excess revenues to customers in proportion to their fixed charges.
Note that this system balances fiscal stability with an incentive to conserve water, without adjustments for the number of people, size of lawn, etc.

Bottom Line: Simpler water charges are easy for customers to understand and change with scarcity.