Sophisticated Policy with Naive Agents: Habit Formation and Piped Water in Vietnam

Quy-Toan Do and Hanan Jacoby

No 9207, Policy Research Working Paper Series from The World Bank

Abstract: Utilities the world over grapple with how to set prices to recover fixed costs. This paper considers optimal utility provision and pricing when consumers form habits without being aware of it. Data from a multi-year pricing experiment among nearly 1500 rural piped water customers in Vietnam reveal evidence of habit formation. A novel test based on the Euler equation rejects the hypothesis that consumers are aware of or sophisticated about such intertemporal dependence in favor of them being unaware or naive. As a result, the paper finds that, first, the long-run price elasticity is nearly three times larger than the short-run elasticity; second, an ex-ante willingness-to-pay elicitation would understate by nearly two-thirds consumers' ex-post valuations; and, third, when the policy maker has distributional concerns, an optimal two-part tariff that ignores habit formation is too progressive and sets the marginal price too high, with an attendant welfare loss of up to 8 percent.

Keywords: Hydrology; Water and Food Supply; International Trade and Trade Rules; Energy Policies&Economics; Demographics (search for similar items in EconPapers)
Date: 2020-04-07
New Economics Papers: this item is included in nep-sea
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
http://documents.worldbank.org/curated/en/32175158 ... Water-in-Vietnam.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:wbk:wbrwps:9207

Access Statistics for this paper

More papers in Policy Research Working Paper Series from The World Bank 1818 H Street, N.W., Washington, DC 20433. Contact information at EDIRC.
Bibliographic data for series maintained by Roula I. Yazigi ().