Water price debate: Long run marginal cost way of determining water price seriously flawed

(Photo - Hyflux)

By Colin

I refer to the 4 Mar 2017 Online Citizen letter “More on justifications for water price increase”.

Bullshit 1: Can’t refute, so call it irrelevant

Prof Ng could give no reply to the fact that more than half of the water we consume experienced little or no inflation having been fixed at 3 cents per 1000 gallons all this while.  Since half of our water experienced little or no inflation, Prof Ng has no basis to compare it with 30% general inflation and insist that this water should be inflated 30% as well.  What Prof Ng cannot refute, he calls it irrelevant.  That’s all he can do.

Bullshit 2: Government says save water means water is underpriced

According to Minister Chan Chun Sing, water is an existential issue needed for our survival (Channel News Asia, 1 Mar 2017).  Hence, the government’s exhortation for water to be saved need not necessarily have anything to do with it being underpriced but rather something to do with our survival.  Surely under pricing is not a matter of existence or survival is it?  Or perhaps Prof Ng thinks Minister Chan is wrong?

Bullshit 3: Water revenues not enough for infrastructure investment

Much of the infrastructure investment is to support future population and industry growth.  The proper appraisal for these infrastructure investments should be the incremental revenue from future industries and businesses less cost of these additional infrastructure investments weighed against an appropriate cost of capital such as GIC 6.1% nominal returns (http://www.gic.com.sg/report/report-2014-2015/investment_report.html, in USD).  Infrastructure investment can only make sense if it can yield more than 6.1% annual returns.  If it can, then there is no need to increase water prices.  If it cannot, then it is better to park the money with GIC and earn 6.1% instead.

Bullshit 4: Economics

Long run marginal costing has one problem – where is the demand curve?  Long run marginal cost alone is insufficient.  Without the demand curve, there is no way of working out the equilibrium market efficient price.

The government can plan for the quantity demanded in future just as it planned for the quantity demanded today.  But quantity demanded doesn’t constitute the demand curve.  There is no price information on consumers’ willingness to spend on water.  The current water price is a dictated price which is not necessarily the price consumers are willing to pay at the current quantity demanded.

Since water demand is highly inelastic, in the worst case scenario where water demand is perfectly inelastic, it would be impossible to determine exactly what price consumers are willing to pay for the present quantity demanded.

As long run marginal costing has been in place since 1997 (http://www.financialexpress.com/opinion/singapore-shows-the-way-on-water/63431/), it can be assumed that the current pricing is already at the current long run marginal cost.  So when water planners move Singapore from the current long run marginal cost to the next long run marginal cost through intensive infrastructure investment, it should be accompanied by a rightward shift of the demand curve through population and industry increases.  This rightward shift of the demand curve will lead to higher demand curves which will lead to an increase in the willingness of existing consumers to pay for water.

Consumer surplus is calculated based on the area between the demand curve and the price line.  So when the demand curve shifts right or up, there is an increase in consumer surplus for existing consumers.  This implies that existing consumers now derive more benefit from the fact that there are now more consumers, greater quantity of water supplied and higher price to pay for water.  But that’s not how normal consumers feel.  When population increases, water supply is increased and people pay more for water, the average consumer doesn’t feel happier about it nor derive more benefit from it.

This should show how nebulous the consumer surplus concept is when applied to water demand.  Since market efficiency and long run marginal costing cannot be separated from the concept of consumer surplus which is nebulous when applied to water demand, the whole long run marginal cost way of determining water price is seriously flawed.

Bullshit 5: Government will lessen increases in other areas

Prof Ng claims that the additional money that government makes from supplying water will lessen increases in taxes, charges and prices of other things.  That again may not necessarily be true.  The extra money that the government gains can simply go into their pockets and disappear into government reserves only to reappear as losses in government investments.

Bullshit 6: More roti prata

Prof Ng continues to adhere to his roti prata style of heads he wins, tails you lose argument that European cities not only have higher water prices, they also under price water according to long term marginal costs.  But as mentioned earlier, long term marginal costing has serious flaws when applied to water pricing.  Also, do European cities have 50% fresh water capped at 3 cents per 1,000 gallons?  Why not compare with Asian cities?

Prof Ng also mentions that only 1% of water consumed is for drinking.  Is Prof Ng suggesting that water is not an existential problem as Minister Chan Chun Sing insisted since we can get more than enough drinking water from our own reservoirs?  Or perhaps both Prof Ng and Minister Chan think that flushing the toilet is also an existential problem?

Bullshit 7: Buries his head in investment costs only

Prof Ng continues to ignore the high running costs of desalination and chooses instead to bury his head in capital investment only.  According to Hyflux (Hyflux named preferred bidder for Tuas II desalination plant, Singapore, 7 Mar 2011, page 8), the amortised capital cost of the desalination plant is only 30% of operating costs.  No details are given on the number of years of amortisation but by considering a longer time period, the share of capital cost may be even lower.  Hence, Prof Ng’s focus on spreading capital costs over a larger population can only apply to at most 30% of desalination costs only.

Again, Prof Ng brushes off high running costs as irrelevant.  As the exchanges continue, more and more of Prof Ng’s answers become condensed into one word – irrelevant, rather than effective rebuttals.

Bullshit 8: Higher prices benefit Singaporeans

Prof Ng claims that higher prices due to more people fighting for limited resources will accrue mostly to Singaporeans and the government and is only bad for non asset holders.

Correction Prof Ng, since the government owns most of the land in Singapore, higher prices will accrue mostly to the government rather than to the people.  Secondly, the children of Singaporeans are non asset holders so this is bad for our children.  Our gain will be their loss so there will be no net gain for Singaporean families with many children.  Thirdly, there is a sizeable population of foreigners, PRs or otherwise, who also benefit from higher prices.  Many of them have sold their houses back to Singaporeans at much higher prices and emigrated to the West, taking their gains (our losses) with them.  So it is hard to say that Singaporeans (not including the government) has benefitted.

Prof Ng says that higher population leads to lower per head costs of defence and other goods.  Is the per head cost of housing lower now due to higher population?  Between 1991 and 2015, non-landed private residential price index rose from 42.8 to 137.4 while population increased from 3.1 million to 5.6 million.  Per head price increased from 13.8 per million to 24.5 per million, it didn’t decrease.

Read All Comment
Ajax spinner

Login to your account below

Fill the forms bellow to register

Retrieve your password

Please enter your username or email address to reset your password.