While the traditional calendar may still say that there are three more months left in 2016, water year 2016 is now in the books, ending on September 30th. While some parts of California had an about average winter in terms of precipitation (particularly in northern California), other areas did not fare as well. Unfortunately, the Golden State begins the 2017 water year in a sixth straight year of drought. According to the most recent US Drought Monitor, although levels of exceptional drought have dropped from 44.84% at the start of the calendar year to 21.04% currently, 100% of the state still has some form of drought. California is one of only four states in the US with any exceptional drought conditions. (Interestingly, Georgia, Alabama and a small part of Tennessee are the other states currently experiencing exceptional drought.)
California’s reservoirs have not fared well either. The California Data Exchange Center shows that only two major reservoirs, Lake Shasta and Millerton Lake currently have above-average storage levels for this time of year. Major reservoirs such as San Luis and Folsom are both at approximately 50% of historical averages. In this backdrop, you would assume that state and local officials would still be mandating water conservation measures. The opposite has happened. In May 2016, the State Water Resources Control Board repealed the mandatory water conservation measures and instead gave local water agencies the authority to implement local “stress tests” to determine how much water conservation (if any) they would need to conduct. The “stress test” asked each water district to demonstrate to the State Water Resources Control Board that the district would have enough water to withstand three more years of drought. Unsurprisingly, 83% of the state’s 411 urban water districts passed their stress tests. Many districts also rolled back mandatory restrictions, and since then, water conservation as a whole has fallen off. In August 2016, California cities and towns conserved less than 18%, down 36% from the same time in 2015 when Governor Brown mandated water restrictions.
The downward trend in water conservation has some water officials concerned. Felicia Marcus, chairwoman of the State Water Resources Control Board said, “We’re at yellow alert. I’m not ready to go to red alert until we figure it out” (whether the drop-off in conservation is a trend or an aberration). Tracy Quinn with the Natural Resources Defense Council said that relaxing the mandatory water conservation standards was a mistake. She said, “It is very clear, at least in this drought, voluntary conservation hasn’t been successful. What got us the savings we need is mandatory conservation through the state.”
In my opinion, I agree with Quinn’s assessment that mandatory conservation standards are a more powerful tool to get citizens to conserve water. However, the current situation is not as cut and dry as the aggregate figures may show. Despite the fact that California’s data in August showed a decline in water conservation, 114 districts still saved achieved more than 20% conservation without mandatory restrictions in place. Further, with the way most water districts are financed, they have a dis-incentive to conserve water because it puts more financial strain on the ratepayers. So while mandatory conservation measures are a tool that has proven to be effective, are there other ways to incentivize water conservation while maintaining a solid financial footing for water districts? I will address these issues in this post.
A Brief Primer on California Water District Finance
Before we discuss the challenge of financing water systems in a drought and potential solutions to this challenge, I will first walk through how most water systems in California are financed. Water systems are capital intensive, and they have both fixed and variable costs. Take the State Water Project as an example. According to the Department of Water Resources, operations and maintenance (O&M) costs for labor and equipment account for about 25% of the total contractors’ costs. Power purchases are about 32%, financing and bond payments account for 37%, and the remaining 6% of the total cost goes towards insurance, contingency accounts and other miscellaneous expenses. Fixed costs including O&M and bond repayments must be paid in full every year, regardless of the amount of water that the project delivers. In 2014 for example when the SWP delivered only 5%, the 29 State Water Contractors still had to pay their full share of the fixed costs for the project.
This created a financial challenge for many of these districts. To pay for these costs, water districts rely on its customers to purchase a certain amount of water, thus creating the revenue to pay back the system costs. The more water districts sell, the more revenue that comes in to defray those costs. However, water districts faced a double-whammy of natural and regulatory challenges that strained their finances. First, the drought conditions meant that Mother Nature provided districts with much less water than the long-term average. (See DWR’s Delivery Capability Report for more information on delivery projections) Second, while the mandatory conservation goals helped to lessen the drought’s impact, it decreased the revenue streams to water districts that would help them cover fixed costs.
In response, many water agencies issued “drought surcharges” to make up for lost water sales. These surcharges proved to be very unpopular. In a sense, citizens who saved water were being penalized. Once the State Water Resources Control Board removed the voluntary water conservation measures, many water districts removed the drought surcharges from their bills. East Bay Municipal Utilities District which covers cities such as Oakland removed the drought surcharge from customers’ bills almost immediately after the mandatory restrictions were lifted. Many other districts across the state followed suit.
The way that California’s water districts are financed leaves them in a catch-22: If a drought hits, the districts have less water to sell, which means less revenue to cover their costs. District officials could implement a drought surcharge, but it sends a bad message. It penalizes the people who actually conserve water. Are there ways to bring in the revenue needed to cover infrastructure costs during a drought while not penalizing water-conscious customers? I will propose two potential solutions for water districts to explore.
Tiered Pricing Systems and Individual Fines
We have all read the stories about the “Wet Prince of Bel Air,” a citizen of the tony Los Angeles enclave that used 11.8 million gallons of water during the 12 months ending April 1, 2015, enough to supply 80 average households with enough water for a year. A public records request would not reveal the names of these “mega users,” but it did reveal that 100 homes in Los Angeles, 100 homes in the East Bay are and 92 homes in San Diego used over 1 million gallons of water during the 12 months ending April 1, 2015, despite multiple years of unprecedented drought. However, cities such as Los Angeles could not stop individuals from using excessive amounts of water, as no ordinance was or is in place to levy fines by household.
In my opinion, two policies could help alleviate this problem. First, during declared drought conditions, cities should have the ability to fine individuals that use excessive amounts of water. For example, a water district could determine the average per capita water usage in its jurisdiction and set fines for homes that use a certain amount above the median (e.g. 300% above the median). Second, tiered water rate structures could continue to be helpful to encourage water users to consume less. While the State Supreme Court struck down San Juan Capistrano’s tiered rate structure last year, it did not say that they were wholly unconstitutional. The Supreme Court said only that municipalities have to tie their rates to cost to make them comply with Proposition 218. Both fines for egregiously excessive water users and the continued implementation of tiered water rate structures would help to discourage excessive water users and provide revenue to water agencies during dry years.
Alternative Financing Mechanisms
Water districts could also consider infrastructure finance programs that are not necessarily tied to water use fees or rates. California has a few laws in place such as Senate Bill 628 which allows cities, counties and special districts to form Enhanced Infrastructure Financing Districts (EIFDs) to create a revenue stream for needed infrastructure. The legislation allows a designated area that the city or district chooses to set aside some of its future property tax increment growth to go specifically towards funding designated infrastructure projects. EIFDs are particularly helpful in urban/suburban areas that expect to see development and therefore increases in assessed values and property tax increment. EIFDs require no voter approval to form the district and require a 55% voter approval to issue bonds to finance the infrastructure.
Financing mechanisms such as EIFDs could be a useful tool to urban water districts looking for a revenue stream not tied to user rates or selling water. Unlike user fees, EIFDs also remove the fluctuations in revenue when people in the district use more or less water. Tiered rates, fines and EIFDs are not individually going to solve the financial challenges that water districts face. However, when used collectively and under the correct circumstances, these programs could help water districts to diversify their revenue streams and alleviate some of the financial stress that droughts put on water districts.