Distributional aspects of public utility pricing with reference to Brazil

No substantive economic literature on public utility pricing exists in Brazil. The little the studies do is to treat summarily with the theoretical aspects of such pricing and the objectives those prices are supposed to reach. This thesis attempts to fill this gap: it is aimed at deriving price schedules subject to specific social objectives and appraising their distributional content. Chapter 1 describes the institutional characteristics of the Brazilian experience on public utility pricing and investigates the possible distributional impact of these prices. Using evidence taken from a sample survey made by a water/sewage company, it is shown that its progressive marginal prices for larger consumptions turn out to be regressive for low income households and that its cross-subsidy scheme results in the poor paying a higher price than the non-poor. This means that the assumption implicitly adopted in its price schedule (and in those of other public utilities) of a positive relationship between individual household income and individual household consumption of public utility services does not hold and cannot be taken for granted if the objective is to set prices that are progressive in income terms. Chapter 2 surveys the relevant bibliography, discusses the main issues and describes the main tools to be used in the subsequent chapters. Since we are interested in deriving discriminatory prices, we first investigate the concept of price discrimination, the conditions for its existence, and the different types of price discrimination in use. Later, we review the bibliography on public utility pricing; we found that the distributional aspects of public utility pricing have attracted less interest than the efficiency objectives and that the main type of discrimination the authors investigate is of the second-degree and not of the third-degree discrimination, the object of our concern. In chapter 3 we derive prices in a social welfare maximization context, discuss how optimal discriminatory prices are sensitive to different social welfare weights attributed to households, and estimate these weights for the currently used price schedules. In an appendix to this chapter, we remove the assumption that public services are provided by state-owned enterprises and we derive discriminatory prices when the firm's objective is maximization of profit subject to regulatory constraints; we discuss some distributional aspects of these prices and compare them with those prices that maximize welfare. We also examine in this chapter the public utility's capacity of production constraint in its effect upon the determination of optimal discriminatory prices and how the decision to expand the capacity of production is related to the welfare weights being used. In chapter 4 we assume that the government adopts a paternalistic approach towards public utility pricing by setting a minimum entitlement constraint to be satisfied in the derivation of discriminatory prices. The idea is that these prices should be set in such a way that the price the poor should pay allows them to consume at least a minimum socially desirable quantity. In the last section of this chapter we discuss the implications of the Brazilian government adopting such a pricing policy and we conclude that its implementation would probably require a mixed strategy of funding the additional required subsidy with more resources transferred by the government and higher prices charged to the non-poor, plus a less ambitious level of minimum entitlement. We also examine in chapter 4 how prices should be set when the social objective is the minimization of poverty. Given the present high level of absolute and relative poverty in Brazil, this topic is very relevant. We first present different concepts and measures of poverty; then, we derive a set of prices that minimize poverty, as appropriately defined. We discuss the limits that constrain the choice of a lower price to be paid by the poor under this objective, noting that in addition to the cost of production, the possibility of cross-subsidization is crucial in defining these prices. In chapter 5 is shown how to translate the income-price schedules derived in former chapters into consumption-price ones, the traditional way of setting prices, currently used by public utilities. In this type of price discrimination, the occurrence of adverse selection by the non-poor may occur; thus, we first discuss how the self-selection mechanism would produce this problem and later we show how the problem can be solved in a second-degree price discrimination pricing scheme. In this chapter we examine how the choice between a price-quantity schedule and a price-income scheduele is affected by errors of classification of households' social conditions and by the degree of aversion to inequality being used to derive the price-income schedule. Chapter 6 summarizes the findings of this thesis, advances two lines of future work and discusses policy implications