Value of Reliable Urban Water Supply (Discussion Paper for tva)



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Value of Reliable Urban Water Supply


(Discussion Paper for TVA)
William W. Wade

Energy and Water Economics

Columbia TN 38401

wade@energyandwatereconomics.com

October 2, 2001


Outline
1. Introduction
2. What is Water Service Reliability?
3. Costs of Unreliable Water Supplies
4. Supply Reliability Planning

5. Value of Urban Water Service Reliability




    1. Magnitude of Shortages and Need for Reliability Benefit Values

Value of Reliable Urban Water Supply

October 2, 2001
William W. Wade

Energy and Water Economics

Columbia TN 38401

931-490-0060

1. Introduction
No resource is more important to our economic and social well-being than water. Water supply is one of the essential infrastructure utilities -- along with electricity, telephones and natural gas -- on which our society depends. Customers of these utilities expect reliable service. Research in California, Texas, and Georgia shows that the societal values for reliable water supplies are extremely high. (Barakat and Chamberlin, Inc., 1994; Griffin & Mielde, 2000; McMahon, Wade & Roach, 2001.)
2. What is Water Service Reliability?
Turn the switch; pick up the handset; turn on the tap. You expect flawless service. Electricity and telephone utilities meet extremely high and regulated standards of reliability, well over 99.99 percent.
But water is a natural resource, endowed by nature and harnessed only after the fact by humans. Managing water supplies to meet mankind’s unquenchable needs has become problematic. Achieving high reliability in the face of population and economic growth has become an economic challenge. In the United States, the problem has worked its way from the drier West to the rapidly growing Southeast.
Water supply reliability is a measure of a water system’s expected success in avoiding detrimental economic, social, and environmental effects from shortages. The consequences of water supply unreliability on economic activity, environmental conditions, and social well-being, as well as the direct shortage-related costs and losses, are central to the evaluation of adequate reliability. In other words, the definition embeds the economic values at stake.
The need for supply reliability stems from three aspects that all utilities share:
1. Shortages have high cost to society. Shortages reverberate throughout the economy because industries and households depend on communication services, energy and water as essential to maintain production and our American quality of life.
2. Both storage and transportation of the commodity are limited; so restrictions on supply must be anticipated and planned-for. Although water can be stored to a certain extent, the ability to add storage or to transport incremental quantities is limited.
3. Long lead‑times are typically necessary to bring new infrastructure on-line; once reliability is lost it cannot be regained in the short-term.
Infrastructure utilities plan for high levels of reliability. Planning criteria typically regulate reliability levels well over 99 percent. What is an adequate level of reliability for a water system?
3. Costs of Unreliable Water Supplies
Water shortages reduce the quality of living in a region, can affect industrial output, and ultimately can erode the economic potential of the region. The long-term economic consequences of unreliability relate to business decisions to make investments in the area. Businesses may relocate out of area, drop product lines, expand elsewhere or reduce local production due to inadequate water service reliability.
Financial institutions that provide needed capital for business expansion plans are subject to perceptions of future performance that can be affected by water service reliability. Because of their backbone importance to the region, basic industries’ water use is typically protected. (Wade, 1991a.)
Protecting regional industrial water use leads to lower residential quality of life. If resultant residential-borne shortages are large enough to affect indoor water use -- if flushing is curtailed and reuse of water is imposed (e.g., California in the 70s and early 90s), residential shortage costs sharply rise. California’s Tourism sector was close to significant curtailments in February 1992 as water supplies to San Francisco hotels were about to be severely limited. The economic cost of such an unanticipated curtailment has never been estimated.
Urban water shortages can have serious impacts on businesses that depend on having water available for landscaping, such as golf courses, and on businesses dependent on establishing and maintaining residential landscaping. (Wade, 1991b.) Shortages can be very costly to businesses and homeowners who have to replace lawns, shrubs, and trees. In addition to the loss of aesthetic value during the shortage event, it may be many years before the replacement plants gain the maturity (and value) of the trees and shrubs that were lost.
The result of most allocation programs is to shift the worst impacts to residential exterior and commercial landscaping use and away from industrial use, commercial non-landscaping use, and residential interior use. This typical strategy worsens the effects on outdoor vegetation values and losses. In urban areas, trees, shrubs, and lawns, as well as parks and golf courses, provide habitat for birds and small mammals. Wildlife and habitat values are another large source of urban losses. (Illingworth and Wade, 1992.)
Property values for residential users and their quality of life may be lower in an area with less reliable water service if the expected cost of shortage-related landscaping replacement is high enough to discourage planting of preferred, high-investment landscaping. The secondary benefits to the regional economy of expenditures on services needed to maintain high-investment landscaping could be another loss, if this type of landscaping is discouraged because of unreliable water supplies. Loss of vegetation can lead to higher utility bills because trees and bushes provide important sources of cooling in warm regions.
Long-term consequences of unreliability also show up in the value of urban land. Land that could support residential development to serve a growing region can be rendered of little value if water hook-ups are severely limited. Alternatively, expensive conservation investments by both the builders and the water supply agency can be factored into the price of a hook-up and cost of the new home, thereby raising the cost of housing to residents.

Reduced water sales can put a financial strain on water agencies with large fixed costs. Bond coverage can become an issue. (Wade, 1992.) Reduced water agency revenues would likely occur at a time when increased costs are required to promote conservation awareness.

All of these costs bear on the question of an adequate water supply reliability standard.



4. Supply Reliability Planning
Two inexorable trends press the nation’s limited water supplies:


  • Rising population, with rising per capita demands for water use;

  • Increasing efforts to preserve and protect remaining ecosystems and habitat that support natural resources and wildlife.

One effect of these two trends is that future water development must carefully weigh alternatives to balance uses of limited surface or ground waters. Supply reliability planning is a process that solves for a region’s adequate level of reliability, taking account of balancing all alternatives, including potential shortages.


The purpose of supply reliability planning is to develop a comprehensive water resources strategy that will provide the region with a reliable and affordable water supply for the next 50 years. Many factors are involved, including the demand for and supply of water resources, the costs of building facilities to supply water, the costs of treating water, and the costs and availability of alternative water supplies, broadly defined to include conservation and reclamation, and water transfers. Water supply reliability planning should proceed until the marginal cost of new supply options equals the marginal shortage cost. An extensive data set is needed to discover this balance, including an estimate of shortage costs, or alternatively stated, benefits of increased reliability. What is society willing to pay to have a reliable water supply under various drought and outage scenarios?

Developing an economically efficient regional water management plan requires the identification of four elements:


1. Expected success of the existing (base case) long-term and shortage-contingency water management facilities and measures to avoid or mitigate shortages;
2. Costs of regional options to manage unreliability, including supply augmentation and demand management programs and hardware;
3. Shortage-related costs and losses – to society, the economy and to water supply agencies;
4. Quantifiable social or environmental costs and losses associated with either the options or shortages; i.e., other externalities need to be considered.
The preferred plan will be the combination of water management options likely to produce the lowest overall economic cost -- including externalities.


5. Value of Urban Water Service Reliability

Apart from quantifiable engineering and management program costs, an essential element of water supply planning is an estimate of the economic benefits of increasing M&I water service reliability, or the costs and losses of a range of shortages. The magnitude of the economic benefits of increasing regional urban water service reliability is the critical determinant of the amount of limited resources to spend developing new sources of supply.



5.1 Magnitude of Shortages and Need for Shortage Costs to Guide the Planning Process
Supply reliability benefits depend on the economic consequences of the yearly changes in demands and/or fluctuating availability of water supplies.
The economic analysis of benefits broadly hinges on:
(1) the cost of water; i.e., alternative water sup­plies, or programs that may reduce the need for alternative water supplies; and
(2) the cost of shortages; i.e., drought management program costs, lost profits, and reduced consumer surplus.
The solution process must balance the economic and environ­mental needs of the region in accordance with established laws and policies. Alternative supply options and their costs entail substantial research to ascertain engineering and program alternatives. The estimation and evaluation of shortage costs is equally complex.
The conceptual elements of relevant shortage costs are:


  • Costs of shortage management programs including conservation and reclamation;

  • Agency revenues lost from reduced water sales;

  • Costs imposed on customers by water shortages;

  • Economic losses to the region as a result of water shortages or water supply capacity limitations.

Costs imposed on consumers is measured as consumer surplus, which is jargon used by economists and federal program managers. (Greeley-Polhemus Group, 1991.) Consumers pay a charge for water that can be seen as an extreme lower bound estimate of the consumers' willingness to pay. We know that consumers are willing to pay at least that much because they do pay that much. However, they may be willing to pay considerably more than this -- particularly if the alternative were water shortages. The difference between what they are willing to pay and what they are charged is the consumer surplus. The charge for the water plus the consumer surplus is the total value of the water to the consumer. In the language of federal National Economic Development Benefits, this is the total benefit value of the water supply. If an alternative supply can be found at a lower cost, this would be a preferable outcome and should be pursued.

Except at the federal planning level and in Southern California, the notion of balancing benefits and costs of water supply planning is not well understood. But, the process variously labeled Integrated Resource Planning (IRP) or Least Cost Planning (LCP) is diffusing across the United States.



References:
Barakat and Chamberlin, Inc., 1994. “The Value of Water Supply Reliability: Results of a Contingent Value Survey.” California Urban Water Agencies, Oakland, CA.
Greeley-Polhemus Group, Inc. “National Economic Development Procedures Manual.” U.S. Army Corps of Engineers, Water Resources Support Center, Institute for Water Resources. 1991.
Griffin, Ronald C. & James W. Mielde. “Valuing Water Supply Reliability.” American Journal of Agricultural Economics, 82, 2, May 2000. 414 - 426.
Illingworth, Wendy and William W. Wade. “Drought Impacts on California Green Industries.” January, 1992; Submitted to SWRCB as State Water Contractors Exhibit 20, June, 1992.
McMahon, George F., William W. Wade and Brian Roach, 2001. “Lake Lanier National Economic Development Update: Evaluation of Water Supply, Hydropower and Recreation Benefits.” Report to Atlanta Regional Commission and Cobb County-Marietta Water Authority.
William W. Wade. “Financial Impacts of Decreasing Wholesale Water Supply Reliability on Class A Water Utilities.” Testimony to California Public Utilities Commission. 1992.
William W. Wade, et al. Cost of Industrial Water Shortages. California Urban Water Agencies. November, 1991a.
William W. Wade, Mary Renwick, et al. “The Cost of Water Shortages: Case Study of Santa Barbara.” Metropolitan Water District of Southern California. 1991b.











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