Troubled waters: Living standards and water bills
Ofwat announced yesterday that, from April, water and sewerage bills will be increasing by an average of 3.5%, or up by £13 to £388 annually (this of course masks significant variation by region). Water bills have been increasing slowly and steadily above inflation for a long time, and more recently have also been outstripping earnings. But with investment rates over the long term flat or even down, the basic justification for rising prices – to fund higher investment – does not stack up.
The graph below charts the average annual bill for water and sewerage since privatisation of the industry in 1989 (in 2009 prices).
In more recent years the graph shows that bills have been fairly flat. But this is in a period when earnings have been sorely depressed, so even an increase in line with inflation is a hit on income. For instance, using ASHE data, full time median weekly earnings increased by a 1.5% between 2010 and 2012. In the same period, prices increased by 8.5%, and nominal water bills increased by 9.9%. So water bills as a share of household income have been slowly increasing.
For a low income household the cost of water is not insignificant. For a family living on the poverty line (after housing costs) the average water bill represents slightly over 2% income for couple with two children and 6% for a single adult.
But the longer term picture shows that, since privatisation, prices have increased by 45% in real terms. Other than switching to a metering, there is nothing households can do to escape this: there is no local competition in the water industry so they are reliant on Ofwat for protection.
Ofwat argues that the normally above-inflation price increases are necessary to deliver investment. However, NPI calculations using Ofwat data suggest that investment rates have remained reasonably stable over time. In real terms, investment fluctuated between £4bn and £5bn a year between 1996-97 and 2009-10 (the years for which data is available), with perhaps a slight downward trend. Yet average bills have increased about 7.5% above inflation in the same period, with no concurrent increase in investment. This is admittedly a simplistic approach, but indicates that small but steady above inflation price increases have not been accompanied by small but steady increases in real investment rates.
The curious trends in the water industry might also illustrate the advantages of a ‘pre-distribution’ approach. This is the idea that governments should seek to rectify problems through trying to boost earnings or tackling concentrations of market power. As a series of regional monopolies, water companies could be a candidate for enhanced regulation under the latter category. One example of how this could work in practice is the suggestion by Sir Ian Byatt, a former Director General of Ofwat, who has argued in a piece for the Institute of Economic Affairs for a change to how prices are set. He suggests the previous logic for price setting was that in a time of rising living standards, prices should increase a few points above inflation (known as RPI + K). Now that incomes are stagnating, logic would suggest a period of a few points below inflation in order to ease the pressure. Extensions of this approach could include debates over whether an earnings or income link might be more appropriate than inflation, or on the consequences of profit rate limitations.
Water does not attract the same controversy that other public utilities such as energy do, due to its relatively smaller bills and greater stability. But when living standards are being squeezed from every direction, nothing should be free from scrutiny.
NPI is currently producing a longer piece of research on the water industry.