Abstract

Ghazali Mohayidin, Jalal Attari, Ahmad Sadeghi and Md Arrif Hussein

Water is vital for life and plays an essential role for economic development of countries. To address water scarcity issues, better pricing has been recognized as an important tool. In this paper several empirical studies which highlight water pricing theories and related models have been reviewed. These theories explain different aspect of water pricing that can be used as a means to improve water use efficiency. Analysis of partial equilibrium can be viewed as effects of a policy on a specific sector like agriculture, but an analysis of general equilibrium often involves steady-state paths which is in fact a macro-level approach. A comparison of first best pricing with second best pricing models shows that the latter are possible when transaction costs are included. In the absence of storage capacities limits and direct costs of water, development decision studies find that the price of water held in storage must rise at the rate of interest and that the effect of discounting is to cause a cycle in the water price. Finally, recent evidence suggests that the short-run efficiency of marginal cost pricing can be extended to account for long-run fixed cost considerations.