Prescriptive Public Choice: Application To Residential Water Rate Reform

Peltzman’s model of price regulation predicts inefficient prices for regulated firms; based on a constraint giving the trade‐off between economic profit and the regulated price, the price will be set between a competitive industry price and a monopoly price. This article generalizes the model for application to a wider class of trade‐offs, including municipal utilities that are not legally permitted to make a profit. Extending Peltzman’s idea of political support functions, this article defines political feasibility relative to economic efficiency. A Pareto superior change with compensation is sufficient but not necessary for political feasibility; the Kaldor‐Hicks criterion is neither necessary nor sufficient for political feasibility. The generalization of Peltzman’s model of public choice and the concept of political feasibility together explain why Tucson in 1976 and Los Angeles in 1993 adopted efficient water rates during droughts and why, 1 yr later, Tucson rescinded the rates and Los Angeles almost rescinded them. The concept of political feasibility explains why and how, after the drought, the Los Angeles innovations to rate design achieved efficiency and political feasibility, avoiding reversion to the previous, inefficient rates, by separating economic efficiency from political feasibility in both the rate design and the rate reform process. (JEL D42, D70, H00, L38, L51, L97, Q25, Q28, Q48, Q58)