Sir Ian Byatt on The Global Water Industry’s Future

In February last year, Future Energy Strategies held this event on The Global Water Industry’s Future with three excellent expert speakers. Perhaps the best known of these was Sir Ian Byatt, former DG of OFWAT between 1989 and 2000. With his kind permission, we are reproducing a version of his lecture below.

The Global Water Industry’s Future;
Address to Future Energy Strategies;
Seminar Allen & Overy; 14 February 2011

“At the global level the challenges & opportunities are immense, but the achievements are modest & the prospects uncertain.
The world desperately needs better water & sanitation facilities to meet both economic and social objectives. Yet supplies are inadequate, quality is poor. There is considerable waste; non revenue water i.e. leaks, both physical and financial (bills not paid, water stolen) is a major issue.

Take the example of India. The WSP (water & sanitation program) at the World Bank estimates that inadequate sanitation alone is responsible for economic losses equivalent to 6.4% of GDP. The 3 big factors behind this are: premature mortality & other health-related impacts of inadequate sanitation (72% of impacts): productive time lost to access sanitation facilities or sites for defecation (20%): & drinking water related impacts (8%).

These costs are equivalent to $48 per person. Comparable figures are $29 in Indonesia, $32 in Cambodia & $17 in the Philippines.

Water supplies are often inadequate, with supply for only a few hours a day in many areas, while economic growth implies prospective large demands, both for agriculture and industry.

Why, in these circumstances has the world water market not taken off, as was expected by Enron when it set up its water division to exploit a hundreds of billions of $s market? The technology is there; & the finance can easily be made available. But progress is slow – often two modest steps forward and then one big step backwards.

There has been some progress. Water works well in Manilla & badly in Jakarta. But the position is very patchy.

Despite this, there is, considerable -and sustained- activity in the public/private partnership (if partnership rather than conflict is the right word) by large companies managing a variety of concessions. These concessions take a variety of forms – ranging from short-term management contracts to longer term contracts involving substantial enhancement of inadequate systems. This activity worldwide is dominated by French companies, notably Vieola & Suez (previously Generale des Eaux & Lyonnaise des Eaux.

It is, however, very easy to lose money in this area. In the early 1990s, some privatised companies suffered heavy losses – a notable example being North West Water (now United Utilities) in Bangkok. Contracts, entered into in the enthusiasm of the moment, are not always sufficiently well specified, e.g. when exchange rates change. Once investment in plant is made, it is largely immobile. Governments can be volatile and subject to dramatic changes, not always short of revolutions.

Water services in many/most countries are not being treated as businesses, with proper attention to revenues, costs, performance, levels of service, efficiency, etc. Governments are inefficient and often corrupt. A significant amount of international (aid) money finds its way into the back pockets of politics. Despite the scarcity & value of water, prices charged are low, often not covering operating costs and rarely covering capital (maintenance and enhancement) costs.

Politics lies at the heart of this problem. Governments are reluctant to see water services as a business. Privatisation is out of the question in most countries. Corporatisation may be a useful way ahead, as a first step of disentangling water services from local government and getting them seen as a separate economic activity. But there are serious & contentious issues about the governance of such bodies and the guidance/control/influence over them by government.

It has not been easy to develop competition in the water business. Some of this may be due to the nature of the product. But Scotland has shown that completion for retail services for non-household customers can work to good effect and there is prospect of extending this to England. After a long gestation period, the arrangements for making “inset” appointments for new developments are taking off. We should note, however, the antipathy among many of our politicians – & even many of our customers – for such competition.

What is the value of water – & waste water? Probably well above the price charged to consumers as the means of collecting it, treating it, transporting it, collecting waste water, transporting it and discharging it are typically provided below cost. There is no systematic evaluation of the scale of any subsidy that might or might not be provided by public authorities.
I want to stress the local nature of many water activities. There are big differences in costs in different locations. There do seem to be economies of scale – up to a point – but water, compared with electricity or gas is heavy and expensive to move compared with its value.

While water is a renewable resource, it matters – from an economic as well as an environmental perspective whence it is abstracted and whither it is discharged. Environmental, economic and social factors are relevant in looking at this issue, but there is little worthwhile analytic work to be found on these issues.

Localism can conflict with economies of scale. The excellent book edited by Kendra Okonski shows how local people can get together to deal with local water issues (big society approach?). It also shows that governments often get in the way of such solutions because of their commitment to the utilities that they may own – or accept public responsibility for.

The management of water in many jurisdictions is, frankly, a muddle. Prices are kept down for social reasons i.e. tariffs are below cost for the middle class users who have access to public supplies, while the poor pay a lot for often contaminated water, all too often stolen from the public supplies. Farmers get water at low rates – especially in California – and proceed to use it to grow water intensive crops in arid areas. Environmentalists take over-generalised – and often extreme positions on conservation, & sometimes by neo-Malthusian arguments.

There is no way to take politics out of water. Indeed there are critical international issues involving the supply of water from one jurisdiction to another, such as a river crossing a frontier or supply, such as that from Malaysia to Singapore across political boundaries. But it is possible to separate economic, social and environmental elements.

We in the UK have made significant institutional progress on this – & the principles behind these separations are, I think applicable to many jurisdictions – always remembering that the circumstances of particular situations always require some adaptation & modification.

The first of our innovations was to remove water services from local authorities in England & Wales and put them into ring-fenced corporations; this in 1974.

Secondly we privatised these bodies, – putting their water & waste water quality monitoring into a National Rivers Authority, duly absorbed into the Environment Agency.

Thirdly we appointed an economic regulator Ofwat with the specific tasks of ensuring that companies properly carried out their functions and could finance their functions, and, subject to that to protect customers.

In Scotland & Northern Ireland, corporatisation was delayed – to 1996 in Scotland and to ? (has it happened yet?) in Northern Ireland. Regulators were appointed to good effect in Scotland and, so far limited effect in Northern Ireland.

In England & Wales – and to a large extent in Scotland – this set up arrangements that enabled companies to act as businesses, instituted specialised quality & economic regulators and left the government in a position to devise whatever overall policy seemed appropriate for the water industry- i.e. in the national interest – a matter on which there is a wide range of views. So we can envisage a (reasonably) clear division of labour between suppliers, regulators and politicians.

But managing this division of labour – into the outcomes that the political process desires, the outputs that regulators can, and should, specify to meet these objectives and the efficient deployment of inputs by suppliers to deliver these outputs is no easy matter.

First, the political process is rarely content, perhaps because it find it too difficult, to set out its desired outcomes and leave matters of implementation to regulators and suppliers. Political events often resemble a series of crises, which politicians are expected –and indeed want – to “solve”. And the power of public ownership is easily contaminated by bowing to special interest groups.

Secondly regulators, whose job (in my book) is to regulate outputs, can, so easily stray into micro-management and specification of inputs. This destroys strategic thinking and corrupts incentives to efficient business behaviour.

Thirdly, suppliers can become contractors with their prime loyalties to shareholders rather than to customers.

We struggle with these issues at home – and will continue to do so. They are magnified in jurisdictions where power is highly centralised (even where ineffectively so) and where notions of the separation of power (essential to good regulation) are much less developed than they are here.

And we must ask ourselves whether the kind of political arrangements developed in the (Anglo-Saxon) West are the best arrangements for government in other parts of the world. Maybe Woodrow Wilson got it wrong.

If so we may need to start on whole new agendas. Whatever the politics, ignore them at your peril! If, however, they are properly recognised – and analysed – progress can be made. (The cost of capital is not the only game in town.)”

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