Monday, January 6, 2014

The "assault on Incentives" in Delhi

I have blogged earlier (here, here, and here) that the most retrograde and debilitating policies are those that dramatically distort incentives. These "assault on incentives" are more pernicious than common manifestations of governance failures like corruption, wasteful subsidies, and poor quality service delivery.

The policies on free water, power, and so on being implemented or under consideration in Delhi are good examples of "assault on incentives". Nobody needs any reminder about the political challenge with reforming free farm power and raising electricity tariffs. Given the resonance between such policies and the entrenched culture of political populism, it was only a matter of time before such things generated a cascade of demand from elsewhere for free and lower priced utility services. See thisthis, and this.

Now, I am not against providing free water. Appropriately structured free supply can be both good politics and economic efficiency enhancing, especially in systems with intermittent supply. For example, in South Africa, Durban municipality initiated a program in 1998 to provide a basic minimum water supply, amounting to 40 lpcd (litres per capita per day) for a family of five (or 6 kilolitres per month per family). This was subsequently implemented in many other municipalities across the country.

But the Delhi experiment has atleast two important differences. One, instead of an assured universal minimum free of cost, consumers who use more than the free quota of 20 kl have to pay a (higher) full price (based on an increasing block tariff pricing model) for the entire consumption. Two, whereas the South African model assures a basic minimum supply free of cost, the Delhi model assures the global standard of supply free.

The former will certainly distort incentives by making 20 kl a high-stakes target, and there encourage manipulated clustering of consumption around that target. The later ensures that the scheme will benefit the non-poor much more than the poor. In fact, even though there are benchmarks of 140-170 lpcd, the median Indian city resident can rarely access this quantity of water.

While the aggregate supply (upstream treatment) may be high, the actual supply (downstream distribution) is far less, due to atleast three factors. One, the distribution loss by way of leakages etc is atleast 30-50% of the supply in most Indian cities, including Delhi. Two, the consumption pattern is heavily skewed towards the large consumers for a variety of factors. Three, the typical slum resident, who has supply for 1-2 hours, at very low pressures (a head of 3-5 m), can collect much less than half the aggregate supply. In the circumstances, the full benefit of the 700 litres free supply accrues only to the not-so-poor.

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