Conservation vs. Efficiency

by Janice A. Beecher

The Water Pricing Primer was developed to inform and engage decision-makers and stakeholders about the central role of water pricing in water resource stewardship and sustainability. The Primer is intended to provide an introductory “why to,” more than a detailed “how to,” treatment of this rich and important subject. In addition to introducing key principles and concepts of ratemaking.

The rationale for water efficiency

The rationale for water efficiency and conservation may seem much clearer in the dry desert of the Southwest than in the watershed of the Great Lakes. Indeed, water may be the region’s greatest resource advantage. Water-intensive industries, including various means of energy generation, are more appropriately located in areas that have water. Those areas in turn benefit from the associated economic activity. The concept of a “water economy” is all the more reason to manage resources wisely for the long run. Whether water is considered abundant or scarce, sustainability is becoming a universally shared value and full- cost pricing is becoming an acknowledged prerequisite.

A distinction can be made between efficiency and conservation. Efficiency suggests achieving the same level of output with lesser inputs or resources (or more output with the same inputs). Efficiency gains contribute to a well-functioning economy, freeing resources for other productive uses. Conservation suggests reducing resource consumption, regardless of outputs. Conservation preserves inputs. Concerns about pressure on the environment in the short run and resource sustainability in the long run argue for consideration of efficiency as well as prudent conservation. Mounting concerns about global climate change have elevated interest in both energy and water resource management, and their intersection.

As a commodity, unfinished water does not always present a significant cost to utilities or their customers. Even “purchased water” tends to reflect the capital and operating costs of the wholesaler. Regulatory fees, when they apply, are usually designed to support administrative costs rather than to approximate the value of water withdrawals. Where Eastern water law pertains, water rights and extraction fees have not been attached to withdrawals, in accordance with riparian rights.        The appearance of abundant supplies can make efficiency and conservation a tough sell to utilities, customers, and other stakeholders. Water is a renewable resource, but it is also vulnerable and transient. Resource management can ensure its ongoing quality and reliability.

Raw water may be an inexpensive input, but potable or “finished” water is a value-added commodity that is provided “on demand” for a variety of daily uses, from drinking water to fire protection (which often dictates the capacity reserve margins). Water utilities add value to water through treatment, storage, and transportation, delivering as much as a ton of product every day directly to the consumer’s home and ready to use. The capacity to provide water is maintained regardless of whether a drop is used on any given day. Water is also the only utility product that consumers physically ingest, making public-health considerations paramount.

At the individual level, a conservation ethic is a matter of personal choice. For utilities, the central rationale is not conservation for its own sake but cost avoidance. Avoided costs are system-specific and vary with conditions and over time. Alternative methods for avoiding costs may be available on both the supply side and the demand side. Avoided-cost analysis can inform the assessment of prudence with regard to conservation expenditures, which is especially important in the context of rising costs associated with infrastructure renovation and replacement.

Delivering water requires both capital and operating expenditures. Reductions in water losses and water use result in immediate savings in terms of reduced operating costs, namely energy and chemicals. Indeed, the “water- energy nexus” has focused attention on the joint benefits of water efficiency and conservation.

Over the long term, load management can improve utilization and extend the life of existing capacity, and help some water systems resize, postpone, or avoid capacity additions. The benefits of efficiency in indoor water use can extend to wastewater systems as well. Not all water system costs can be avoided through conservation, of course, but efficiency and load management can help utilities optimize (or re- optimize) supply operations and capital investments over time. As will be discussed later, efficiency gains may also translate into demand and revenue erosion, which may require adjustments to rates charged for water services.

Efficiency and conservation can be accomplished through utility pricing and programs, as well as through changes in policies, codes, and standards in the utility’s environment. More efficient prices (that is, prices that approximate economic value) will induce more efficient water usage. Programs that focus on the deployment of technologies in accordance with new standards can alter the price-usage relationship. In economic terms, price changes induce movement along the demand curve and programs move the entire curve.

Over time, pricing and programs, along with consumer education, can work together to make durable changes in cultural attitudes toward water.

Over time, pricing and programs, along with consumer education, can work together to make durable changes in cultural attitudes toward water.

For many water systems in the U.S., stable or declining water usage reflects efficiency gains already achieved through contemporary practices and plumbing standards. Price and economic conditions also play a role. For most, water demand is unlikely to return to historical levels in the aggregate or on a per-capita basis. For some, present conditions of excess capacity, relatively plentiful water supplies, and wholesale agreements may constrain the costs that can be avoided in the short term. In many respects, these conditions present a window of opportunity for utilities to take a long-term view and plan to phase-in price reforms and resource- management strategies. Today’s efficiency improvements will help ensure tomorrow’s water sustainability.

Efficiency-Oriented Rates

No clear consensus exists about what makes a rate “conservation-oriented.” Any metered rate for which more water usage results in a higher bill sends a price signal to customers about the value of usage. Technically, this holds even for decreasing-block and uniform rates, both of which remain popular in some regions (see Beecher and Kalmbach, 2011).

More and more water systems across the U.S. are examining their rate structures with an eye toward efficiency. Water resource economics argue for setting tail blocks equal to the “marginal cost” of water, taking a long-run view toward efficiency and sustainability. Some utilities set rate tiers on the basis of incremental costs associated with supply and capacity options. Nationally, experiments with rate design are expanding the range of approaches.

Used by permission.  Janice A. Beecher, Ph.D. is a researcher at the Institute of Public Utilities Michigan State University.  Recommended citation: Beecher, Janice A. Primer on Water Pricing. Institute of Public Utilities, Michigan State University (November 1, 2011).

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