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The Price of Underpricing Water

The Price of Underpricing Water

By Daniel Shapiro

Many of this blog’s readers are familiar with Econtalk, and I want to recommend a terrific recent episode on the importance of not underpricing water with economist David Zetland. It is an extremely common practice to price water below—sometimes way below—its market price, which means, of course, that demand outstrips the supply. The consequences of this in affluent countries such as the US include environmental damage—e.g., in some parts of California aquifers are being drained in an unsustainable way, rivers are drained, and entire lakes are drained—and encouragement of sprawl, since new communities tend not to pay the cost of their additional demand. (Some people prefer ‘sprawl’, of course, but what is at issue is whether that preference would change if new communities had to pay the cost of their additional water demand.)

What I found most eye-opening was the consequences in undeveloped countries, where the subsidization of water is more pronounced. Here’s a quote from the transcript: “[A] typical situation in India for example is that the price of water is set very low. And so there’s no revenue to the utility. They are only going to provide water to the core of the urban area, not to the periphery or to the slums. And then they only provide it a certain number of hours per day. That’s kind of a typical scenario for a developing country. What happens then is that people are going to have those tanks (cisterns to store water when the tap is off); they are going to have suction pumps that they drop into the mains that will try and suck out as much water as is there when it’s around. This tends to create negative pressure, which sucks in sewage from all the cracks in the mains, which are next to the sewage lines if you have sewage. So they have contamination; they’ve got all kinds of problems of supply. And that is, as far as I’m concerned, directly related to the government putting a price limit on water, because they think it’s the proper way to help poor people.”

One thing I learned from the Zetland podcast is that price controls on water may be one of the most pernicious forms of price controls, particularly in undeveloped countries.

Price controls often hurt the very people they are supposed to help. Proper pricing of water is a reform that would be of enormous benefit to many of the most vulnerable people on the planet.

After listening to the podcast, I plan to buy Zetland’s book, Living With Water Scarcity. Russ Roberts gives a lovely quote from the book defending pricing of water to cover all of its costs: “Prices generate revenues and reduce demand, but they also give customers choices. A regulation on outdoor watering may annoy a granny with flowers. A desalination plant may annoy environmentalists. An education campaign is condescending to some and a waste of breath on others. A campaign to install low-flow toilets may install sparkling receptacles in unused second bathrooms. Prices send a direct signal at the same time as they accommodate many responses. Customers can choose their own mix of technologies and techniques. Some will take shorter showers. Others will install drip irrigation. Some will shower at work. Others will just pay more. A higher price for water, like a higher price for any commodity, allows people to choose how much water to use. Choice is a pleasant option compared to water shortages or tickets from water cops.”

This article was originally published on Bleeding Heart Libertarians.

Daniel Shapiro is a Professor of Philosophy at the West Virginia University.

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