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Tariff reforms and affordability: “Avoid a cure that is worse than the disease”

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Working paper on tariff reforms and affordability

Every winter reports of aged people freezing in the dark somewhere in the icy Russian North reach the world public. Poverty levels in the former Soviet Union and central and eastern Europe have risen dramatically over the past 15 years. But at the same time a look at the dilapidated infrastructure leaves no doubt that improvements are only possible if the underfunded energy and water industries are put on a sound financial footing. A new working paper by Samuel Fankhauser and Sladjana Tepic from the Office of the Chief Economist is looking into ways how to square this circle. The research summarised in the paper was supported by the UK Department for International Development. 

The obvious solution to fund the reconstruction and improvement of the energy and water infrastructure would be higher tariffs. But this is proving difficult in an environment where even under low prices, many low-income households find it hard to pay their utility bills in full and on time. As the study points out, in Croatia, FYR Macedonia, Georgia and the Slovak Republic the poorest 10 per cent of households currently spend more than 10 per cent of their income on electric power alone.

Nevertheless, social considerations must not be used as an excuse to put off unavoidable reforms, the authors argue. In many countries electricity, district heating and water tariffs are still unsustainably low, and the payment record is patchy. Effective tariffs (that is, tariffs regulated for payment levels) will have to be adjusted if services are to be improved and financial sustainability resorted.

Given these conditions, there appears to be no “quick fix”. Affordability problems caused by higher, market-orientated tariffs are likely to get worse before they get better, Fankhauser and Tepic warn. Tariff increases will be steeper than the rate of income growth and only level off once cost recovery has been reached.

This poses potential social problems. Therefore a need to mitigate the effects of tariff reform especially on low-income costumers clearly exists. Among the various models discussed in the paper are block tariffs, targeted assistance programmes and end-user efficiency programmes. Although there are a number of constraints for implementing these solutions, they point to an urgent need to improve social safety provisions more than they imply a need to postpone tariff reform. As the Greek fabulist Aesop once said: Avoid a cure that is worse than the disease.

Click here to read the full working paper: Can poor consumers pay for energy and water?

by Axel Reiserer

9 August 2005