Financing the Central Arizona Project: Econometric estimations and second-best prices

Abstract

Researchers have continually questioned the economic viability of the Central Arizona Project (CAP). The completion of CAP in 1993 triggered the repayment obligation to the federal government. Despite enormous federal subsidies and the existence of several revenue sources other than from water sales the annual repayment obligation caused CAP's total expenses to exceed total costs for the two years following 1993. Using various combinations of repayment terms this study solves for pricing schedules that generate annual revenues equal to annual costs. Using estimates of water demand and water supply, price schedules are determined by maximizing consumer surplus subject to a revenue constraint. Under the current repayment terms the initial increases in water prices are less than twenty percent. After the first year increase, prices decline in real terms over the 50 year repayment horizon. In some cases future CAP prices actually drop below current water prices in real terms. Using alternative repayment terms that partially remove large federal subsidies results in first year percentage increases of up to fifty-two percent. In summary, the massive federal subsidies inherent in CAP keep the second-best prices from becoming exorbitantly high. The relatively small impact to the individual water user from the initial increase in prices suggests that CAP will likely remain financially viable. Based on the decreasing trends exhibited by the second-best prices it is possible that CAP may someday generate significant excess revenues to be used to further develop, improve and maintain Arizona's water resources.