A leading water economist explains why "getting the price right" won't fix scarcity—and what will.
Professor William Michael Hanemann is one the world’s preeminent scholars on water economics, climate change impacts, and the policy implications of both. He designed the water rates for Los Angeles California that have been used successfully for 25 years and has consulted state and federal water agencies. His lecture, “The Limits to (Conventional) Economics as a Guide to Managing Water,” part of the Lim Tiam Seng Lecture Series, was well attended by an alert and engaged audience.
Professor Hanemann said, “the story of water is really the story of humanity,” but that economists don't think in those terms. He attacked the notion that if the price is set right, everybody will live happily ever after. “It's not true, and it's especially not true with water.”
That’s why he came bearing one clear message on water: change the focus from a price-centric economic model toward a more holistic approach that aimed to get the quantity right. In other words, define how much water each user is entitled to before price enters the picture, and structuring institutions around that allocation.
This is because water is critically different from other commodities. Water is essential for human life, and it's not made by man—it is produced by nature. “The arrangements people make to bring water to themselves endure because they need to endure. And the result is a huge path dependence,” he said. While this may be inconvenient to economic textbooks, Professor Hanemann insists that economics adapt to that physical reality, “like it or not.”
Real examples from the United States
In 1993, Professor Hanemann had the opportunity to design water rates for the city of Los Angeles.
He told the story of when his first recommendation for water prices were announced, which triggered a series of public demonstrations. At one large protest, a person stood up and declared he was dying of cancer, but he was prepared to kill himself if it would lead to abandoning the rate hike. “Fortunately, we did change the rates, and he didn't kill himself at the occasion,” said the professor wryly.
This dramatic episode makes the point that Professor Hanemann says economists struggle to understand, people will pay money if this is covering a tangible cost. The notion of a shadow price, of a signal of scarcity doesn't work. “If you want to send a signal of scarcity to people, mail a letter. Don't screw around with their prices,” he said.
After the backlash, Professor Hanemann and his team developed a revised rate structure that solved the problem. It used two-tiered pricing: A lower price for water up to a certain quantity, and a higher price for usage beyond that point. The lower price was the same for everyone, but the switch point for the higher price varied based on household circumstances, primarily the size of the people’s plots since outdoor watering was a dominant factor in California’s dry climate.
The system was designed to allocate the city's existing "cheap" water fairly among all residents. Water use beyond that allocation was priced higher, targeting discretionary use (like watering lawns) while keeping essential water affordable.
The rates were designed to recover costs not to send a scarcity signal and importantly, they ensured the quantity was allocated fairly.
During the Q&A, Lee Kuan Yew School of Public Policy (LKYSPP) Associate Professor, Leong Ching asked if the allocation could have been different, with a higher rate for the rich and a lower rate for everyone else based on means testing. Professor Hanemann said the city government was not willing to consider such a scheme due to politics.
Professor Hanemann also addressed the role of politics in groundwater depletion. While several studies have documented instances of raising the price of groundwater and the subsequent reduction in groundwater pumping. Professor Hanemann said, “I was involved in one of the studies and I read the others. I don't believe price was responsible for the reduction in groundwater pumping.”
He said it was political pressure, not price signals: The pumping reductions occurred in contexts where groundwater use affected the amount of water flowing downriver. Downriver states were threatening to sue upriver states. Farmers understood the governor would be forced to intervene and impose mandatory cuts if they did not act voluntarily. The price increase was coincidental, not causal.
Implications for Asia
What resonance does the call to “get the quantity right” have in the Singapore context? Assistant Professor Tan-Soo Jie-Sheng, LKYSPP, who chaired the lecture said “The most obvious application is changing the switch-point in tariff tiers. Singapore’s national water agency, PUB has mostly adjusted water tariffs while keeping the switch-point intact. Perhaps a solution to prompt further reduction in water usage is to change the switch-points.”
What about more broadly? Can Professor Hanemann’s views guide policymakers in Southeast Asia? Professor Tan-Soo said his work informs transborder water and shared resources issues. “It highlights that shared water resources generate system-wide welfare benefits that are often non-linear, irreversible, and unevenly distributed. For Southeast Asian policymakers, this implies that transboundary water issues—such as those in the Mekong basin—cannot be managed through national cost–benefit analysis or compensation alone.”
Professor Hanemann’s holistic view offers a framework to deal with the fact that once ecological thresholds are crossed, downstream welfare losses may be large and irreversible, especially for vulnerable communities. Professor Tan-Soo said, “His perspective supports regional governance that prioritises ecosystem integrity, explicitly accounts for distributional impacts, and strengthens institutions for joint management rather than reliance on pricing or post-hoc compensation.”
Recent regional initiatives, such as the 2025 ASEAN Working Group on Water Resources Management and the ASEAN–MRC Water Security Dialogue, underscore growing political and institutional commitment to cooperative transboundary water governance, reinforcing the idea that managing shared water challenges in Southeast Asia depends more on joint frameworks and institutional coordination than on isolated pricing or market tools.