Valuation Study

Marginal Opportunity Cost of Meeting Industrial Water Demand Requirements

Attributes

Medium: Water

Country: Philippines

Analytical Framework(s): Marginal Opportunity Cost Concept

Unit(s): Costs

Study Date: 1996

Publication Date: 1998

Major Result(s)

About the Inflation Adjustment: Prices in Philippines (PHP) changed by 93.05% from 1996 to 2014 (aggregated from annual CPI data), so the study values were multiplied by 1.93 to express them in 2014 prices. The study values could be expressed in any desired year (for example, to 2025) by following the same inflation calculation and being sensitive to directional (forward/backward) aggregations using your own CPI/inflation data.

Functional Transfer: The various components of marginal opportunity cost (MOC) of water are the marginal production cost (MPC), marginal user cost (MUC), and marginal external or environmental cost (MEC). MUC results from depletion of the resource, thus, requiring alternative sources in the future, while the external cost reflects the additional cost of pumping imposed on other users, as well as the cost of untreated water disposal. Based on the estimated future requirements of the industrial sector,

log W = -3.693 - 0.798 log P_W + 0.79 log Y - 1.613 S,

where W, P_W, and Y are the volume of intake of water (standard error: -1.356), "price" (standard error: -4.522), and output (standard error: 5.621), respectively; S (standard error: 2.187) is a dummy variable for the type of water source used (groundwater or other water source); and the existing water supply capacity of MWSS, a least-cost program that would meet the foregoing requirements should be determined. MPC is then estimated by dividing the present value of the least-cost investment stream plus the incremental operating and maintenance costs by the present worth of the incremental volume of water produced over the period considered:

AIC = [S (I_t + M_t – M₀)/(1+r)^t] / [S (Q_t – Q₀)/(1+r)^t],

where AIC is the Average Incremental Cost, I_t is the investment cost in year t, (M_t – M₀) is the operations and maintenance cost in year t due to incremental consumption of water in year t or (Q_t – Q₀), r is the discount rate, and 0 is the base year (sum from 1 to T). Meanwhile, MUC is estimated by getting the difference between the present values of the MPC of the substitute or replacement and existing technologies:

MUC = (P_b - C) / (1 + r)^T,

where P_b is the price of replacement technology, C is the price of existing technology, r is the discount rate, and T is the time at which the switch to backstop occurs or the replacement technology comes in.

Study Note: Externalities to the hydrogeologic system is incorporated by focusing on the external cost associated with the private consumption or exploitation of the groundwater resource (interference effect and salt water intrusion), external cost associated with Metropolitan Waterworks and Sewerage System's (MWSS, Metro Manila's water agency) water supply source, and the external cost associated with the production processes of the firm, such as pollution abatement cost for the untreated wastewater discharges.

Study Details

Reference: Ebarvia, Ma. Corazon M. 1997. Pricing for groundwater use of industries in Metro Manila, Philippines. EEPSEA Research Report Series, No. 1, 1-41.

Summary: Due to the rapid growth, urbanization and migration in Metro Manila, water demand has increased and has outpaced the capacity of the water agency or MWSS to expand supply. Unserved sectors had to construct wells while others had to resort to tapping illegal connections to MWSS pipes. Groundwater level declined at an estimated rate of 6-12 meters per year for the period 1990-1996. As such, the groundwater resources are being threatened by contamination, salt water intrusion, and eventual depletion, implying that current extraction and utilization of a unit of those resources involve an opportunity cost which is the value that can be gained in the future. An efficient policy equates the price of any commodity/resource or service with the marginal cost, or the cost of producing an additional unit of the commodity/resource or service. Ideally, the water pricing should be charged not only for the economic cost, but also for environmental costs involved from its production and disposal.
This study estimated the marginal opportunity cost (MOC) of meeting the water demand requirements of the industrial sector, through the MOC's three components: marginal private or direct cost (MPC), marginal user cost (MUC) or the scarcity premium, and marginal external costs (MEC). Generally, water tariffs are based on average cost pricing and not on marginal cost pricing. Moreover, opportunity costs are not properly accounted for. Also, about 28% of the industries have already installed their own deep wells, and therefore have self-supplied water and are not subjected to water tariffs, but only to a limited form of annual charges. The costs of installing and operating a deep well and pump have principally regulated groundwater use. As such, excessive quantities of water are used, and excessive pollution is produced. This, in turn, affects the availability of water for others and for future use. Setting the socially optimum price equal to the level of MOC would highlight the relationship between the depletion of the water resource and its impacts on the economy over time.
Various scenarios were developed for MOC estimation of groundwater and MWSS water. The least-cost alternative is the combined use of groundwater and MWSS water. Such an alternative would require that withdrawal from the aquifer be regulated, and that MWSS will develop alternative sources and improve distribution network and water delivery services. For regulating groundwater extraction all groundwater users must secure permits, install meters, and pay the corresponding cost. The regulating agency should also start implementing a monitoring network. By combining pricing and structural reforms, optimal use of a resource threatened by eventual depletion can be achieved. A separate charge on wastewater and effluent discharges should also be considered as another instrument. The imposition of an effluent charge would also serve as incentive for firms to treat wastes before discharging to a receiving water body, or to recycle water and minimize both water consumption and total wastewater flows. Thus, using the demand management approach and the proper pricing of the resource, together with the standard engineering and supply-side approach to the water problem, could lead to a more optimal utilization and improved allocation of this resource over time.

Site Characteristics: Ninety-seven percent of MWSS's water sources consists of surface water, while three percent consists of groundwater. Angat River, the main source, has a catchment area that is not a part of the MWSS service area. Two new sources are being developed. The agency supplies around 900 million m³ of water to eight cities and twenty-nine municipalities in the National Capital Region (NCR), Rizal and parts of Cavite. Treatment usually consists of chlorination. Besides the MWSS deepwells, there are also more than 3,000 private wells which draw approximately 31- million m³ of groundwater per year. Shallow wells are also in use (about 20,000 pumping 14 million m³ in 1990). Most of Metro Manila's water resources are already contaminated and heavily polluted (high biological oxygen demand, low levels of dissolved oxygen, contaminated with heavy metals and pesticides), such that MWSS had to draw water from river basins outside its service areas. Moreover, uncontrolled tapping of underground water has led to a decline in water supply for the whole metropolis. The water basins have low recharge characteristics.

Comments: The study was done well, though some of its recommendations may need to be updated due to the recent privatization of the Metropolitan Waterworks and Sewerage System. The division of the water system in Metro Manila into two concessions, namely the Manila Water Co. for the east sector, and the Maynilad Water Services for the west sector should also be considered.

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