Yale's Sheila Olmstead and Harvard's Robert Stavins have released their working paper "Comparing Price and Non-Price Approaches to Urban Water Conservation" (gated) just in time to fuel another of my water-pricing rants. They find (surprise!) that pricing reduces water use more cost-effectively than a command-and-control system.
Urban water conservation is typically achieved through prescriptive regulations, including the rationing of water for particular uses and requirements for the installation of particular technologies. A significant shift has occurred in pollution control regulations toward market-based policies in recent decades. We offer an analysis of the relative merits of market-based and prescriptive approaches to water conservation, where prices have rarely been used to allocate scarce supplies. The analysis emphasizes the emerging theoretical and empirical evidence that using prices to manage water demand is more cost-effective than implementing non-price conservation programs, similar to results for pollution control in earlier decades. Price-based approaches also have advantages in terms of monitoring and enforcement. In terms of predictability and equity, neither policy instrument has an inherent advantage over the other. As in any policy context, political considerations are important.
Here's the money quote, if only because it matches precisely what I wrote just two days ago:
Non-price management techniques can create political liabilities in the form of water-utility budget deficits. Non-price conservation programs are costly. In addition, if these policies actually reduce demand, water utility revenues decline. During prolonged droughts, these combined effects can result in the necessity for substantial price increases following “successful” non-price conservation programs, simply to prevent water utilities from unsustainable financial losses. This occurred in 1991 in southern California. During a prolonged drought, Los Angeles water consumers responded to the Department of Water and Power’s request for voluntary water use reductions. Total use and total revenues fell by more than 20 percent. As a result, the Department requested a rate increase to cover its growing losses (Hall 2000). In contrast, given urban price elasticities common in the United States, price increases will increase water suppliers’ total revenues. The extra per-unit revenues from a price increase outweighs lost revenue from the decreased demand.
In other words, a city can conserve water by raising prices, in which case it will have more water and more money. Or a city can adopt water-conservation rules, in which case it will have more water but less money. It's dumb enough for a cash-strapped city to choose the second option, but it's super-duper-fantastically dumb for it to spend $1 million on an advertising campaign just to guarantee that it loses as much money as possible.
As a lawyer, I've been trained to look at both sides of any issue. But I simply can't fathom the resistance to pricing water properly. ("Resistance" isn't even the right word -- there's nothing to resist, because no one that matters is pushing it.)
Can anyone out there make a cogent case for top-down regulation? Devil's advocates welcomed.