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Effect of price information on residential water demand

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Abstract:

Microeconomic theory predicts that people decrease consumption when price increases, the magnitude of the effect depending on price elasticity. The law of demand, however, implicitly assumes that consumers know prices, an assumption that is not always satisfied in markets with ex post billing. When prices are not transparent, elasticity estimates are potentially lower than their full information potential. Evidence of low price elasticity abounds in residential water demand studies, limiting the effectiveness and desirability of using price signals as a conservation tool. It is hypothesized that resident's sluggish response to price is partly due to the absence of price information on water bills. Differences in the informational content of bills are documented for the first time on the basis of sample bills collected from 383 utilities across the USA. A standard aggregate water demand model is augmented with qualitative variables describing differences in billing information, allowing such variables to affect the intensity with which consumers respond to price signals. No evidence is found that non-price information items affect price elasticity but there is a statistically significant effect in the case of price-related information; in our sample, price elasticity increases by 30% or more when price information is given on the bill.

Document Type: Research Article

DOI: http://dx.doi.org/10.1080/00036840500397499

Affiliations: Department of Economics, Oberlin College, Oberlin, OH 44074, USA

Publication date: March 10, 2006

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