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Last Updated: 20 March,20 0 7 Lecture Notes ECON 622: ECONOMIC COST-BENEFIT ANALYSIS Lecture 5

Last Updated: 20 March,20 0 7 Lecture Notes ECON 622: ECONOMIC COST-BENEFIT ANALYSIS Lecture 5. Economic Analysis of Rationed Markets. $. D. S. E. m0. S’. P. F. J. P. m1. A. Demand. 0. G. I. H. Quantity. NO RATIONING. ECONOMIC VALUE OF SERVICE FOR A COMPETITIVE PROJECT

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Last Updated: 20 March,20 0 7 Lecture Notes ECON 622: ECONOMIC COST-BENEFIT ANALYSIS Lecture 5

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  1. Last Updated:20 March,2007 Lecture Notes ECON 622: ECONOMIC COST-BENEFIT ANALYSIS Lecture 5

  2. Economic Analysis of Rationed Markets

  3. $ D S E m0 S’ P F J P m1 A Demand 0 G I H Quantity NO RATIONING ECONOMIC VALUE OF SERVICE FOR A COMPETITIVE PROJECT Economic Benefits of Project Output (No Distortions) With project, the output price falls Shaded area = economic value of project output IJEH = Saving in resources due to production cut back of existing firms HEFG = The incremental consumer welfare (willingness to pay) due to increase in consumption Ws > 0 Wd > 0 Ws + Wd = 1 Economic Price (Pe) = W s P s + W d P d P= P s =P d (No Distortions) m

  4. IMPACTS OF RATIONING • If rationing then Ws = 0 and Wd = 1 • Need to measure the willingness to pay

  5. Rationing can be Carried Out by Restricting Access For example: • No existing telephone connections • Shortages of water connection

  6. Economic Value of Local Calls for Rural Customers Economic value = Q0ACQ1 = Willingness to Pay Rascom Satellite Project with the economic discount rate, 11%, PV of Financial Payments (Q0P1CQ1) = US$ 656.09 (millions) PV of Consumer Surplus (P1AC) = US$1368.98(millions) PV of Economics (Q0ACQ1) = US$ 2,025.07 (millions) PV of Investments = US$ 521.64 (millions)

  7. ECONOMIC VALUE OF WATER IF RATIONING SUPPLY TO EXISTING CUSTOMERS (For example, each customer is given 6 hours supply of water a day. Consumers will store water and use it for the highest value of consumption.) $ S0 S1 D Q0 = Initial Output (Qd-Q0) = Project Output P0m = Output Price charged Q0EFQd = Willingness to Pay for (Qd-Q0) PR = Rationed price or current coping costs E PR F I P m0 P A Demand 0 Quantity Q0 Qd If supply is rationed, the selling price is fixed below the market equilibrium price, hence, available supply is rationed. Ws = 0 and Wd =1 Shaded area = economic value of project output (Q0-Q’) Economic Value = Willingness to Pay

  8. How do we find PR? PR – P0m = Marginal Storage Costs/m3

  9. Limited AccessMarket demand shifts if new customers added Market demand before new customers added Demand of new customers Market demand after new customers added Price Price Price Market demand after Market demand before new customers added Quantity Quantity Quantity Q0 Q1 Q0 Q0+Q1

  10. $ D1 S’ S0 • When new supply becomes available, rationing of new connections can be relaxed • Shift from D1D0 to D1D1 • Shaded area = Economic value of additional service • (Q0-Q1) = Project Supply provided to meet new demand PMAX =D0 B C P m0 F D1 D0 Q1 0 Q0 Quantity Assuming 0D1 is close to 0D0, the average economic value of new service per unit is: Economic Value of Additional Service = ((PMAX + P0m)/2) * (Q0-Q1) IF RATIONING IS CARRIED OUT BY RESTRICTING OF THE NUMBER OF NEW CONNECTIONS – No Alternative Supply Available - In this case focus Valuation based on Willingness To Pay only - Example: Economic value of electricity or water New customers added only as supply of service expanded

  11. Economic Value of Additional Water Supply (Senegal Rural Water Supply) (Time savings) +(OTRQ0) Economic value = (450-50)*10/35+ [200+{(450-250)/2]*25/35 = 400 * 0.29 + 300 * 0.71 = 116 + 213 = 329 FCFA/m3

  12. The Economic Benefits of Utility Water Connection if water now supplied by Vendors (Manila) Drinking Water • Economic value of service: • Resources saved QsP2AQ0 plus value of additional consumption Q0ACQT • Net Benefits to consumers: • QsP0AQ0 + Q0ACQT – QsP1CQT • Loss to Vendors: • QsP0AQ0 – QsP2AQ0 = P0AP2 A P0 37 D P2 20 P1 5 C Q0 QS QT 75% of QT 25% of QT QT-QS= Incremental Project Water consumed by Paying Users At P = 5, Q = QT

  13. Demand for Water from Well Demand for Washing Water from Manila Water and Sewerage System B(0,10) C 6 .0 A(12618,5.0) 5.0 B D M Q Q Q T 0 1 ( 2 5236) (12618) (10094) At P0Q0 the d = -1, hence at P > P0 then |d| > 1

  14. Example: Value of Water for New Connection Coping from Vendors for different types of water (North Cyprus) Prices of different kinds of water Bottled water cost $300/m3 Vendor water cost $125/m3 Tanker washing water $1.5/m3 Present Water Coping Costs 0.5% bottled water 0.05($300) = 1.50 2.5% vendor water 0.025($125) = 3.13 97% tanker water 0.97($2.00) = 1.94 Water Cost 6.57/m3 Water Storage Cost 0.43/m3 Total Economic Cost of Water 7.00/m3

  15. Demand for Water by Metered Customers (With and Without Project, Panama Case) • Q0 – Q1 = water users reduce their consumption (with project) • Q1ABQ0 = economic loss from the reduction in the quantity consumed • PmeterABP0 = loss in consumer surplus by the metered customers

  16. Price A Pmeter O Q1 Q0 1,000 gallons per day Demand for Water by Unmetered Customers Who Receive 24-Hour a Day Service without the Project (Panama Case) • Q0 - Q1 = the decrease in quantity consumed (with project) • Q1AQ0 = loss of economic benefits • OPmeterAQ0 = total amount of consumer surplus lost • The loss in consumer surplus is equal to the economic value of their reduced consumption, Q1AQ0, plus the amount they must will pay to IDAAN, OPmeterAQ1. • At the same time with the project, they will save the fixed monthly charge of 7 Balboas. This can be viewed as a gain in consumer surplus that is offset to these loss created by the volumetric tariff.

  17. Price Demand A PMeter C0 Marginal Private Cost of Coping E B 0 1,000 gallons per day Q1 Q0 Demand for Water by Unmetered Customers Who Cope with Intermittent Supply Using Overhead Tanks without the Project (Panama Case) • Q0 - Q1 = decrease in quantity of water consumption • Q1ABQ0 = loss of economic benefits • OC0BQ0 = economic benefit arising from the resources saved because of the elimination of their coping costs • 7 B + OC0BQ0 - Q1ABQ0 – OPmeterAQ1 = Net impact on these consumers (monthly charges without project + saving in coping costs - the value of the loss in consumption – amount now pay)

  18. Demand for Water by Unmetered Customers Not Coping with Overhead Tanks without the Project (Panama Case) • QD – Q0 = increased in consumption because of reduced cost (with project) • Q0ABQD = value of increased water consumption • QIDAANFAQ0 = vendor charges and time savings resulting from not having to obtain water from vendor or public taps • net consumer surplus gained to these customers = QIDAANFAQ0 + 7 B + Q0ABQD - OPmeterBQ0 (saving coping costs + monthly charges without project + value of increased water consumption - the amount now they have to pay)

  19. Pilfered Water (Panama Case) • Q1-Q0 = decrease in quantity of water consumption • Q1AQ0 = loss of economic benefits • OPmeterAQ0 = consumer surplus lost by previously pilfering consumers

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