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Designing Water Rate Structures for Conservation and Revenue Stability

As we have written many times before, water conservation is critical to meeting the future water needs of Texas.  Many programs may be implemented to reduce water use, and a number of utilities across the State are making strong efforts to advance water conservation. One of the most effective methods to driving conservation is water pricing.  Used effectively, price can provide a signal to users regarding the value and supply of water so they can adjust their demand accordingly. Unfortunately, rates are also the primary revenue mechanism for utilities that are also tasked with protecting public health and the environment. This can create a disincentive to increase conservation.  Fixing this conflict requires rethinking the current business model.

A Proposed Solution

The Environmental Finance Center at the University of North Carolina at Chapel Hill and the Sierra Club Lone Star Chapter have collaborated on a report to help Texas water utilities use their water rates and financial policies to encourage customers to reduce their water use while still maintaining the financial viability of the utility.

Texas Rate ReportThis report provides snapshots on the relationship between water pricing, water use, and revenue stability in the State of Texas and shows trends that higher water prices are associated with lower average residential water use for water utilities that:

  • Increase rates from one year to the next (2012 to 2013),
  • Charge higher rates for water at 5,000 gallons per month, and
  • Charge more at higher levels of water use.

Additionally, water rates in Texas show a range of revenue vulnerability across the state, which is influenced by marginal pricing and the level of a base charge

Keys to Rate Success

The report introduces a menu of rate structure, billing, and financial practice options that can be adopted by utilities that promotes conservation AND ensures revenue stability in locally appropriate combinations. Although there is no one-size-fits-all approach to using rate structures to achieve water conservation goals, there are some general principles to keep mind when developing such rate structures:

  • The rate level itself matters more than the rate structure. Prices that are artificially kept low and ignore key components of cost, such as deferred maintenance, send inaccurate and shortsighted price signals to customers. Utilities should balance short- and long-term revenue and expenditure balance in setting rates. While different rate structures target specific types of water use, the overall price level is influential on demand.
  • Small details matter. Pricing dialogue is often dominated by what type of block pricing is used when other design decisions, such as the size of the flat charge or the way wastewater charges are calculated, can have significant impact of pricing signals and revenue generation.
  • Utility methods matter. Rate setting of any kind should begin with accurate demand projections that take into consideration the impact of pricing on consumption. Projections for revenue and demand should be reviewed annually and recalibrated to match current thinking. Furthermore, revenue risk can be mitigated with reserves (rate stabilization fund) and conservative budgeting.
  • Rate awareness matters. A better and more frequent understanding of pricing levels and water use by utilities and their customers will assist the use of pricing to achieve strategic objectives, such as conservation and revenue stability.

Texas utilities are not alone in dealing with this tension between water pricing, conservation, and revenues. The report concludes with a summary of the great deal of work that has gone into investigating this dilemma across the country. Although some reports go back to the mid-1990s, the increase of thinking and writing on the topic reflects a growing interest and need for solutions as water supply constraints demand conservation and water infrastructure needs demand revenue.

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