Summary

Depending on the beholder’s viewpoint, water has been called a public resource, defined as an economic good, and categorized as a “tax,” subject to the rigors of California’s electorate under the rules of Proposition 218. In a local government setting, are water rates set artificially low for short-term political gains in today’s post tax revolt California? Or are they determined by sound analysis on a foundation of “good” public policy choices, such as addressing environmental concerns, fiscal prudence, and fairness?

The positive news from the results of my recent study is that it appears water rates are generally set by good public policy decisions. In addition, over half of the respondents had a water conservation-based rate structure. Fiscally prudent policies ranked highest in the survey, followed by fairness and environmental concerns. However, rate tension and political pressures were also present, especially when a conservation rate structure is in use. In addition, there is a concern that conservation mandates have had the unintended consequences of decreasing the public’s sentiment for conservation, and its commensurate price tag, while undermining overall revenue stability for local water agencies.

Background and discussion

Are local water rates set artificially low for short-term political gains? Or are they determined by sound technical analysis on a foundation of “good” public policy choices? This research study (a cross-sectional quantitative survey of local water agencies in California, augmented by qualitative interviews) sought to understand this timely question by performing background and literature research as well as directly surveying local public water suppliers in California. For the study, good public policy criteria were defined as addressing environmental concerns, fiscal concerns, and fairness.

Amidst these water policy discussions, the anti-tax movement must be considered. Local governments in California have been embroiled in the anti-tax movement since the 1970’s. This was remarkably demonstrated by the voter-approved fiscal constraint measure known as Proposition 13 in 1978. In 1996, Proposition 218 was approved; this established further limitations on local governments’ abilities to raise revenues. The anti-tax revolt became a significant problem for local water agencies in the most

recent decade, as the California Supreme Court concluded in 2006 in the Bighorn-Desert View Water Agency vs. Verjil case that water rates were subject to the initiative powers granted, perhaps unintentionally, by Proposition 218.

Proposition 218 was in many ways a successor initiative to Proposition 13, with its express intent being to limit local governments’ revenue abilities. Was the intent also aimed at the cost of water provision, given that water is an economic good subject to market pricing? The Findings and Declarations of the so-called “Right to Vote on Taxes Act” states: “This measure protects taxpayers by limiting the methods by which local governments exact revenue from taxpayers without their consent”1. The  California Supreme Court appears to have taken the measure’s language to the extreme.

General Background

The availability of water is a basic need in society. The pricing of water is a fundamental public policy issue in our quest for environmental sustainability, in California and in the rest of the World. As to potable water, it was not uncommon in the past to provide water at practically no cost to users. It was considered to be a cheap resource and a basic necessity. This is no longer the case today, and water pricing is an important management tool.

Water management is also an important tool. Water, which includes potable water, wastewater, recycled water, and storm water, should be viewed and managed in a holistic manner. Water is a “common pool item” and as such, “government’s role is to develop policies to ensure their [its] continuance or sustainability.”2 This is especially true in California where water is precious, and increasingly in short supply. Unfortunately, the panoply of public and private agencies are not always in sync in terms of public policy and general management of the resource, and pricing thereof.

Previously thought of as a public good, water was declared an “economic good” in 1992 under the Dublin Water Principles3 and in other forums, an economic good being subject to the market rigors of price and demand. The United Nations Agenda 21 incorporates sustainable development as a way to mitigate poverty and environmental degradation.4 Water availability, efficiency, and pricing are seen as supportive of these global goals.

When water is priced appropriately, it will be put to use in the most valuable and efficient uses. “Sound rate making policy is a policy of reasonable compromise among partly conflicting objectives.”5 From a social perspective, equity is a consideration. With the consideration of equity, politics becomes a force to reckon with. To complicate matters, politicians always have two goals: a policy goal on whatever program they would like to see accomplished, and a political goal. The paradox is that in gaining or preserving their power, they may lose  perspective on the policy decisions.6

Regardless of whether or not policy or political goals were paramount, in the early twentieth century days of public administration, public or municipal entities provided an increasing share of potable water, but not always correctly. As noted by Harry Baker in 1917, “there is probably no greater field of discrimination and unfair rates than among the municipally-owned utilities.”

There was clearly some room for improvement in rate discussions.

The California Environment

A variety of water rate structures are in use today by public water agencies in California for a host of economic, public policy, and practical reasons. These structures range from flat (or  fixed) rates to metered rates to conservation-based tiered or block rates. More recently, water- budget rates (or customer-specific allocation based rates) have become technically feasible in California, and elsewhere. A water budget rate is “an increasing block rate structure in which the block definition is different for each customer based on an efficient level of water use by that customer.”7 In the recent past, water budget rates linked with an increasing block rate structure have been implemented successfully in more than 20 utilities.8 However, detractors of water- budget rates have concerns about equity with such a rate scheme, and the motivational structures they can foster (to build a larger home, for example).

Table 1 – Common Water Rate Structures

The current environment in the State of California reflects mandated water conservation and the passage and implementation of Proposition 218 and other law, which has had an effect on  water rate implementation. There is also a continuation of the demand to maintain or reduce fees for such services, especially when provided by a local government. On top of this is the generally accepted premise that our collective water infrastructure is in a state of decline, and it needs costly and significant repair and replacement.9 Additionally, conservation rates bring up technical problems when viewed from the cost of service mindset. “Often such [conservation] rates raise questions about the need to maintain cost of service principles in rate design that avoid the subsidization of any customer by another customer.”10 The paradigm of conservation rates and the principles of cost of service may be difficult to reconcile.

The Public Policy Institute of California recently published a white paper entitled Water and the California Economy. This paper discussed a wide range of water-related issues at stake in California today. This included economic concerns, climate change, and many other perspectives. However, the number one priority listed for action was to modernize water measurement and pricing.11

In general, calculating and implementing water rates has become more complicated and technically challenging within the California environment. In addition, Propositions 13 and 218 have added a level of politics and complexity. “Over the course of 34 years, California’s law of local utility fees has been transformed. An earlier era of legislative discretion and deferential judicial review meant disputes over rates were more often resolved by political means than lawsuits.”12 Clearly, the environment of policy decision making on water rate structures has changed.

Moreover, the relationship with the public at large has  changed significantly, requiring a whole new paradigm of public education and engagement. This was discussed at length at a recent nationwide forum of water leaders: “The inevitable raising of rates will require trust, clarity, and understanding. Consumers need  to understand the full implications of not raising rates. They need to understand the drivers of rates and rate increases. For many utilities, effectively communicating       these messages will require professional help.”13

Wisconsin. August 2012.

Study Results

Over half of the survey respondents had some type of conservation-oriented rate structure (inclining block or water-budget rates) in place. This would generally be expected given the conservation-minded goals and policies in use in California.

Table 2 – Types of Water Rate Structures

Notably, it appears from the quantitative data that water rates are generally set by good public policies, most notably those policies classified as fiscally prudent. These top public policy motivations, as distinguished by level of importance (marked on a Likert scale as important, very important, or extremely important), were in the following ranked order:

  1. Revenue stability
  2. Repair and maintenance
  3. Basic costs are covered
  4. Fairness/equity in rates
  5. Managing a finite supply
  6. Ease of implementation
  7. Conservation goals
  8. Political pressure/Proposition 218

Goal numbers 1 through 4 above had importance scores in the 80-90 range, 5 and 6 in the   60-

70 range, and 7 and 8 in the 50-60 range. Economic development and Intergenerational concerns (9 and 10 in the list) were mostly categorized as neutral.

However, palpable tension and political pressures were at work, especially when a conservation rate structure is in place – even more so at smaller water agencies. This was evidenced by Chi square and Gamma relationship statistical tests, which in particular showed a moderate relationship between political pressure and conservation and fiscal policy goals. In addition, concerns were raised that conservation mandates have had the unintended consequences of decreasing the public’s sentiment for conservation while at the same time undermining revenue stability.

Conclusions

What this study means for local water districts is a continued and increased need for rate-

making diligence, including the development perhaps of an entirely new form of rate structure or even a new paradigm of ways for charging for water. In addition, water providers should enhance the transparency in rate setting and enliven the public dialog on the needs for water conservation and relevant rate structures in order to sustain the effort to manage the aging water infrastructure assets for the long-term benefit of Californians.

In the future, developing a deeper understanding of water rate making policy decision criteria and the practical implications thereof should include a discussion of these areas:

Use of conservation rates: It would be valuable to obtain a better understanding of the use of conservation rates and their relationship to overall water conservation. Given the advancement of many water efficiency fixtures and usage procedures, there has been a significant reduction in the use of water in many communities, so much so that revenue stability has emerged as an issue.

Evolution of water rates: The types of water rate structures have evolved over the past 100 years, at least in most communities. However, further discussion and research and development into other manners of water rates would be interesting. In particular of course, conservation rates are an area to monitor. While water budget rates have become a more common fixture, they are not used widely, perhaps due to their complexity. Will fixed rates no longer be used? Will conservation rates stand the test of time?

Fixed vs. variable costs: The relationship of fixed to variable costs in water purveyance  is an issue to understand better. Although AWWA standards14 and current procedures advocate assigning a large share of water rate revenue to variable costs in order to induce conservation, the largest share of the costs to run a water system and, importantly, provide for the maintenance and replacement of infrastructure are fixed type costs. How can this be reconciled?

Revenue stability: The overlapping issues of fixed vs. variable costs, improved water conservation, and increased weather variability due ostensibly to global climate change have caused revenue instability for water providers. How can water providers maintain a fiscally-sound service given these challenges?

Engaging the public: Lastly, the best practices of community engagement seem to be a critical component of the process of water purveyance and the pricing thereof. Further efforts on how to increase public participation and education on the issues and the evolution of practices would be a valuable endeavor.

  1. California Legislative Analyst’s Office. (1996) Understanding Proposition 218.
  2. Kraft, Michael E and Scott R. Furlong. (2007) Public Policy – Politics, Analysis and Alternatives. Third Edition. CQ Press: Washington DC.
  3. Rogers, Peter, de Silva, Radhika, and Bhatia, Ramesh. (2002) Water is an Economic Good: How to use prices to promote equity, efficiency, and sustainability. Water Policy 4, 1-17. Retrieved from Waterpolicy.net
  4. ibid
  5. Bonbright, James Cummings. (1961) Principles of Public Utility Rates. Columbia University Press: New York.
  6. Stone, Deborah. Policy Paradox: The Art of Political Decision Making. In Classics of Public
  7. Mayer, Peter W. (2008) Water Budgets and Rate Structures: Innovative Management Tools. American Water Works Association Research Foundation: Denver, Colorado.
  8. ibid
  9. American Society of Civil Engineers (ASCE). (2013) Failure to Act: The Impact of Current Infrastructure
  10. https://www.nbsgov.com/wp-content/uploads/2016/09/water-conundrum.png10 Corsmitt, C.W. Editor. (2010) Water Rates, Fees and the Legal Environment. American Water Works Association. Second edition.
  11. Hanak, Ellen. (2012) Water and the California Economy. Public Policy Institute of California.
  12. Colantuono, Michael G, Esq. (2012, May) A History of Rate-Setting Under California Law: Proposition 13 through Proposition 26. Presented at the Association of California Water Agencies, Monterey,California.
  13. National Water Rates Summit. (2012) Declining Water Sales and Utility Revenues – A Framework for Understanding and Adapting. Alliance for Water Efficiency and The Johnson Foundation. Racine
  14. American Water Works Association (AWWA). (2000) Principles of Water Rates, Fees, and Charges – Manual of Water Supply Practices, Manual M1. Fifth Edition.

 

For More Information: Contact Tim Seufert, Managing Director/NBS at tseufert@nbsgov.com