Saturday, February 24, 2007

Pricing Strategies for Limited Resources

Limited rainfall in the past few months has sparked worries of a drought this Spring (at least here in Minnesota). While relo's like me are undoubtedly bouncing off the wall with joy that the weather has been so mild, farmers are of a different mind. With insufficient rainfall, planting and watering crops may be very difficult. This concern has, unsurprisingly, begged the question of whether and how to better conserve water in anticipation of a drought. Can Minnesotans be counted on to voluntarily reduce water usage, or does the government (or industry, for that matter), need to step in and tweak the market to discourage water use?

Water is a cheap commodity in most metropolitan regions of the United States. It is, in fact, so cheap that it is usually included as part of the rent (unlike other utilities, such as electricity, the usage and cost of which can often vary widely among individuals). If you're curious to hear about the excesses of water usage, check out this article on "Hydro Hogs", published a few months ago in Portland, OR. Between lawn care, dish- and clothes-washing, showers, and toilets, we Americans use a heck of a lot of water. For a simple breakdown of our average of 200 gallons/day, check out this summary. Can we really be counted on to altruistically reduce our water use just because farmers are worried?

I suspect not; we need to think about creative pricing strategies the government can impose to limit our water use. There are several approaches to this:

  • Pricing increase: The government can impose increases on the per-gallon cost. Currently, water costs between $0.04 and $0.07 per gallon. Why not ratchet it up? How about 10c/gallon? Or 15c/gallon? When gasoline prices spiked, SUV sales plummeted. Is there a breaking point for water cost?

  • Rationing: Let's all pretend it's WWII! The government can simply impose a per-person limit on water use per-day. If we are to believe the 200 gallon/person/day statistic cited above, how about lowering it to 175? or 150?

  • Bracketed price increases: This is my favorite idea. See, the problem with an across-the-board increase in the per-gallon price is that it hits poor people especially hard. How about charging 4c/gallon for the first 100 gallons, then 7c/gallon for the next 100 gallons, then 25c/gallon beyond that? That would discourage hydro-hogs (ideally). As far as I know, this pricing system is very rare. The only working example that springs to mind is China's pricing system for having children: the first one's free, and beyond that you have to start paying the government for the privilege of having more kids.


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