Water Price Forecasting Method Based on Marginal-Cost Theory: A Case Study in China

The purpose of this paper is to evaluate the pricing of China water utilities according to past twenty year's data. An econometric model describing both water supply and demand is specified and estimated on utilities located in the east area of China. Based on the estimated technology and demand parameters, a new method of forecasting water price is presented. It used the marginal-cost theory that is close to the historical data to establish the water price forecasting function, and according to the process of marginal-cost function to build the forecasting model. We derive the estimated parameters and discuss estimates of returns to scale and elasticity of water demand, analyzing the current pricing of water utilities by comparing marginal costs and marginal prices. In a case study of Shanghai, these estimates are then used to simulate first-best optimal pricing by solving a supply-demand system in prices and quantities. Finally, we find that the marginal cost price is the optimal pricing scheme, which is much better than fixed charge price and average cost price.