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Infrastructure has been in the news a lot lately. The president highlighted it in his budget speech/State of the Union address, and if you live in North Carolina, you heard the Governor highlight it in his State of the State speech a few weeks later. Both leaders identified infrastructure in general (including water and wastewater) as key problems that required new national and state initiatives. Initiates such as new types of bonds and augmented public funding programs will help, but none of these will replace the most important and somewhat magical water and wastewater finance tool – namely, locally determined customer water and sewer rates. Water rates are the tool that customers dread and elected officials rarely embrace, but rates ultimately drive the ability of communities to protect their environment and public health.

Four Myths of Water Pricing

Rates come in all shapes and sizes and rate setting is no longer as simple as an annual across the board rate adjustment. There are many oversimplifications and bits of “conventional wisdom” in the world of water finance and pricing which don’t necessarily hold up upon deeper investigation.

Myth 1: Higher Rates are Bad

Higher rates often do not necessarily reflect poor or inefficient management. In fact, data show that some utilities with low rates do not generate sufficient revenue to properly maintain their system’s assets, which could ultimately lead to long-term adverse cost and service impacts. Pressure to maintain low rates has the potential to force utilities to run a deficit or avoid making necessary operational and capital expenditures. Some utilities may have low rates because they have not re-examined their rate structures in many years, and their pricing structure may not support key finance and policy goals such as promoting conservation or maintaining affordability.

Myth 2: Comparing Rates is Simple

An examination of rates and rate structures will only tell part of the story, and there are many different methods of comparing pricing. Ideally, rates should reflect the cost of providing service. Cost of service depends on diverse factors including geographic location, size of treatment facilities, customer base, age of assets, site-specific regulatory requirements, type of water supply, and quality of source water and receiving waters. Two neighboring utilities with similar customer bases may have very different costs that justify very different rate structures and rates. Therefore, policy decisions drawn from the comparative information should also consider the many other factors listed above. Furthermore, figuring out the most pertinent factors to compare can be a challenge. For example, the EFC’s analysis revealed that in some cases, when comparing two utilities, one utility’s rate may be higher than the other utility’s rate for bills in the 0 to 4,000 gallon range, but lower at 5,000 to 10,000 gallon range, or vice versa. Comparing rates among utilities is really just a starting point for a more in-depth analysis.

Myth 3: Pricing is Simple

North Carolina utilities employ a tremendous variety of pricing structures. Utilities show wide variation in how they set base charges and design block structures. Utilities have many design choices and should be thoughtful in customizing their rate structure to serve their specific needs as they evolve in time, rather than maintaining outdated rate structures or copying their neighbor’s rate structure

Myth 4: Promoting Conservation Requires Increasing Block Rate Structures

Many utilities are facing water supply challenges and are looking for ways to use pricing structures to promote conservation. Many different types of pricing structures can be adopted to encourage conservation; some of these are quite complicated and some are very simple. Increasing block or increasing tier price structures are sometimes heralded as the solution to conservation rate setting, but the EFC’s analysis clearly shows that some utilities with simpler rate structures (such as uniform rates) sent customers stronger conservation price signals than other utilities with increasing block structures. In fact, a significant minority of the utilities using increasing block rate structures had less effective conservation pricing signals than some utilities employing aggressive uniform rates. Rather than focusing on rate structures alone, utilities should consider all aspects of pricing. Above conservation, utilities must determine if their rates are set to truly reflect their costs, and make sure that rates are not artificially low.

Resources for Rate Setting Season

It’s rate setting season as many communities across the country prepare annual budgets (NC annual budget starts in July 1, 2015), and the time of year where leaders are looking at their fiscal health, the capacity of their utility to invest in infrastructure, and their customers capacity to carry that investment. As part of our effort to support this tremendously important and challenging task, the EFC produces rate self-checks and benchmarking tools. Working with the NC League of Municipalities, the EFC recently released the results of our 2015 NC Water and Wastewater Rates Survey. This year saw the participation of 496 utilities, a 95% participation rate that spans a variety of water systems, large and small, private and government. The 2015 results include an updated dashboard with new features, rates tables that list each utility’s rate structures, and a detailed summary report that includes detailed analysis of rate setting structures. Funding to create these resources for NC utilities was provided by the Public Water Supply Section of Division of Water Resources at NCDENR.

For a deeper dive into the world of water pricing, listen to a recent WaterValues podcast in which I guide listeners through the rate setting process, from traditional ratemaking to several more creative approaches to implementing water rates. In this podcast, I delve into the complicated questions being discussed among utilities and consumers as new rate designs are being explored and introduced.

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