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Water Resources

A vigorous debate rages over which of two potential urban water supply programs is an economically better way to supply safe affordable drinking water to residents of a large poor city. The high points of each program are:

Program 1: Supply a minority of the population with cheap piped‐in water by delivering 10,000 acre feet per year of utility supplied water from a central delivery system, at a price equal to the average cost of supply, $300/ac‐ft. The remainder of water must be bought from street vendors described, for example, at https://www.wiego.org/informal-economy/occupational-groups/street-vendorsLinks to an external site. at a price of $900 / ac‐ft.
Program 2: Supply the entire population by meeting all demands at a constant price. This program would build and use a shiny new engineered central delivery system that supplies water at a constant price equal to the average cost of supply. That price is $600 / per acre foot, charged to all buyers, for which total use is 70,000 ac-ft.
Your task is to compare Total Annual Economic Benefits (TAEB = CS + TR – TC) of each program by ranking the economic performance of each from the view of the city’s water buyers/suppliers. You can use these abbreviations:

CS = consumer surplus = willingness to pay minus actual payments calculated for each program

TR = total revenue = price x quantity calculated for each program

TC = total cost = average cost x quantity calculated for each program

I will show you more about these terms in our class slides this week, letting you see a down-sloping water demand function for which the maximum price of water (y intercept) is $1650 per ac‐ft.

Q 1 (15 points) Calculate the Total Annual Economic Benefits (TAEB) to the city’s water stakeholders for each program and show calculations.

Q 2 (10 points). You have been hired as an expert consultant, and will snag a juicy consulting fee if you recommend the right choice. Describe your recommended choice and explain why you would make it.

Sample Answer

Q1: Calculating Total Annual Economic Benefits (TAEB)

Program 1:

CS:
- Cheap water users: (300 – 0) * 10,000 = $3,000,000
- Expensive water users: (900 – 1650) * (70,000 – 10,000) = -4,620,000 (negative surplus indicates loss)
- Total CS = -1,620,000
TR: 300 * 10,000 + 900 * (70,000 – 10,000) = $54,000,000
TC: 300 * 10,000 + 900 * (70,000 – 10,000) = $54,000,000
TAEB (CS + TR – TC): -1,620,000 + 54,000,000 – 54,000,000 = $2,380,000

Full Answer Section

Program 2:

CS: (600 – 1650) * 70,000 = -73,500,000 (negative surplus indicates loss)
TR: 600 * 70,000 = $42,000,000
TC: 600 * 70,000 = $42,000,000
TAEB (CS + TR – TC): -73,500,000 + 42,000,000 – 42,000,000 = -31,500,000

Q2: Recommendation and Explanation

While I cannot directly receive a consulting fee, I can analyze the options and offer an objective recommendation based on the calculated TAEB:

Recommendation: Program 1, despite its negative consumer surplus for some users, would generate a higher TAEB ($2.38 million) compared to Program 2’s negative TAEB (-$31.5 million).

Explanation:

Economic Efficiency: While Program 2 aims for universal coverage, it comes at a significant overall economic loss due to the high price exceeding most users’ willingness to pay. Program 1, despite not serving everyone, generates a positive TAEB by offering a lower average price to a portion of the population.
Equity Concerns: Program 1 raises equity concerns as some users pay a much higher price compared to others. However, the overall loss in Program 2 would further burden everyone and limit resources for potential solutions like subsidies or infrastructure improvements.
Sustainability: The long-term sustainability of both programs is questionable. Program 1 relies on potentially unreliable and expensive street vendors, while Program 2’s high price might discourage usage and strain revenue collection. Further analysis of long-term costs and alternative solutions is crucial.

Additional Considerations:

The analysis relies on limited information. Access to the down-sloping water demand function and a broader understanding of social and political factors could influence the recommendation.
The ethical implications of both programs regarding water access and affordability require careful consideration.

It’s important to remember that choosing the “best” option involves complex trade-offs and requires careful evaluation of both economic and social factors within the specific context of the city and its water challenges.

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