Making sure the price is right: Addressing aging infrastructure through full-cost water pricing - Metropolitan Planning Council

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Making sure the price is right: Addressing aging infrastructure through full-cost water pricing

Rachel Carnahan

According to the U.S. Environmental Protection Agency, addressing aging water infrastructure will have cost the state of Illinois an estimated $21.5 billion by 2030. Many communities are struggling to cover these costs.

The Village of Westmont, Ill., like many communities that use Lake Michigan as a source of drinking water, is not located on the lake. Westmont’s water is purchased by and delivered through the DuPage Water Commission. The cost of treatment and delivery is passed along to consumers in the form of a water bill. Unlike similar communities, however, Westmont employs full-cost pricing for its water resources—in other words, whereas other places supply water at an artificially low cost, Westmont both recoups greater revenue with which to meet the costs of safe, sustainable water delivery and encourages its residents to use water efficiently at the same time.

The words “price” and “cost” are often used interchangeably, but there is a significant difference between the two. In the world of water resources, price is what we pay as consumers and can be found on a water bill. The cost is equal to the sum of all resources and dollars needed to produce a unit of potable water. The price paid by the consumer should be greater than or equal to the cost, but residents of the Great Lakes region have traditionally enjoyed low water prices for high consumption rates. In Illinois the consequences of underpricing and over-consumption of water are becoming apparent.

According to the U.S. Environmental Protection Agency, addressing aging water infrastructure will have cost the state of Illinois an estimated $21.5 billion by 2030. Federal government loan and grant subsidies that utilities have come to rely on to keep daily operations going and prices artificially low are drying up. Consequently, agencies aren’t recovering enough costs to be financially stable or to complete infrastructure improvements in a timely manner. In the current age of budget cuts and decreasing water resources, how quickly we can transform the way we value water in the region will influence the stability of our water supply going forward. The Metropolitan Planning Council (MPC) has been working for the past decade to promote sound water management policies, including the adoption of full-cost water pricing.

Water treatment and infrastructure costs have to be covered by someone at some point, and in the absence of the kind of federal financial support seen in the last century, it makes sense to find a way to cover these costs directly—by the consumer through the water utility bill. While water customers often do not know the price or volume of water they consume, research suggests that they are concerned with the total dollar amount each billing cycle and adapt their behavior accordingly. Rising prices cause consumers to decrease their consumption. This phenomenon is called “signaling.”  Full-cost pricing, or conservation pricing, charges consumers at a rate equal to the real cost of treatment and delivery—an economic tool that encourages efficient use of resources and balances long-term supply and demand of drinking water as consumers adjust their water usage to save money.

Figure 1: Full-cost pricing equation; A two-part rate structure can lead to cost recovery and revenue for capital improvements

MPC

Full-cost pricing, endorsed by the American Water Works Association and Chicago Metropolitan Agency for Planning (CMAP) among others, can be achieved by implementing a two-part rate structure with a fixed charge and a variable charge (see Figure 1). The fixed charge component covers fixed costs (e.g., employee salaries and debt payments) and provides revenue stability because this portion does not vary by month or by volume of water consumed. The variable charge component covers costs that vary by the amount of water consumed (e.g., treatment plant electricity and chemicals). The appropriate variable charge can be determined most accurately through marginal-cost pricing (see Figure 2), which determines the “socially optimal” price—customers consume only the units of water for which they are willing to pay. Detailed information about the process of rate setting for a utility can be found in CMAP’s Full-Cost Water Pricing Guidebook.  

Figure 2: Marginal-cost price determination; The optimal price is set at a rate where the
marginal cost of production is equal to consumer demand

MPC

Most municipalities have not moved to true marginal-cost pricing due to the difficulty in determining the marginal cost of water in the long run. However, the Village of Westmont is one of the first communities in the region to raise water rates to a level that more accurately reflects the true cost of water consumption. Mike Ramsey, public works supervisor for Westmont, says that the department decided to raise the price of water in order to generate enough revenue to cover necessary infrastructure improvement costs for the next two decades. The village needs $28 million for projects like the replacement of water mains and water meters and the construction of an additional storage tank. In 2011, Ramsey completed an analysis that included a rate comparison to similar municipalities and calculations to determine the rate increase needed to cover costs. He found that a price increase of $1.60 per thousand gallons would be sufficient. The Village Board agreed to the rate increase without resistance because they found it made financial sense to generate a reliable revenue stream in light of new regulations like the “no-lead” regulation. In addition to seeing revenue increases during the past two years, Ramsey says he is confident that the rate increase has been a contributing factor in annual water usage reductions that he has observed as customers use less water to save money.

While the transition to full-cost pricing will not be easy for many communities, it is becoming increasingly important as our infrastructure ages to re-evaluate the price of water versus the cost. MPC is dedicated to finding sensible water supply management solutions in the region, and recently partnered with the DuPage Water Commission, CMAP and MWH Global to present a series of workshops on management techniques that promote water conservation. Designed for utilities workers, these workshops covered how to balance water conservation with bringing in enough revenue to cover operational and capital costs.

Along with these efforts, MPC will continue its water supply management work in the region by working with the Northwest Water Planning Alliance, a group of roughly 80 communities that have committed to lessening their impact on water resources. MPC will also continue evaluating ways in which the State Revolving Loan Fund can more efficiently allocate resources to a broader range of Illinois communities. After five years of careful analysis and advocacy, MPC will finish its work modernizing the Ill. Plumbing Code, thereby stimulating new marketplace activity in water efficient products and non-potable water re-use. These efforts will help ensure that our region’s plentiful freshwater resources remain plentiful for centuries to come.

 

WOWW Factors

D

Grade that the American Society of Civil Engineers gave both U.S. drinking water and wastewater infrastructure on its 2013 Report Card for America’s Infrastructure

$21.5 billion

Estimated cost to addressing aging infrastructure problems in Illinois through 2030

64%

Amount by which Northeast Ill. demand could increase by 2050

38%

Of utilities in northeast Ill. do not have full metering, which makes full-cost pricing impossible

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Metropolitan Planning Council 140 S. Dearborn St.
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Chicago, Ill. 60603
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