Category Archives: Weekly notes

Bangalore Water Bill1

Demand, Supply and Marginal Cost Pricing

Karthik Shashidhar, Resident Quant at the Takshashila Institution and B.CLIP faculty, discusses a few concepts in economic reasoning.

How much would you value a pen? I’m talking about a stainless steel fountain pen here, made by the Parker Pen Company. It is a three year old pen in excellent working condition.

Let us say that Anjali values it at Rs. 100 and Babu values it at Rs. 50. Now, what if I tell them that I’m willing to sell the pen, and that the price at which I’m willing to sell is Rs. 75? Will either of them buy the pen?

It might be intuitive to see that Anjali will buy the pen at Rs. 75, while Babu will not. Notice that Anjali values the pen at Rs. 100, which means by paying Rs. 75, she is getting hold of a good that is worth Rs. 100 to her. It is a clear win for her! Why will Babu not buy the pen? Given that he values the pen at Rs. 50, he will only get Rs. 50 worth of goods by spending Rs. 75 – clearly a losing deal.

Insight 1: Price and value are not the same thing. Value is what a particular good is intrinsically worth to you. Price is the rate at which the good is traded.

What would happen if I were to set the price of the pen at Rs. 40? Now, you might see that both Anjali and Babu will want to buy the pen. If the price is Rs. 150? It is intuitive to see that neither will want to buy the pen at that price.

Now let us expand the problem. What if there are a thousand different potential customers,  rather than just Anjali and Babu? Let us assume once again that each of them values the pen independently. Now, how will the number of people who want to buy the pen depend on the price?

Insight 2: If you value a good that is for sale at an amount that is higher than the price at which you can buy it, you should buy.

If we were to price the pen at Rs. 50, how many units will it sell? This is exactly equal to the number of people who value the pen at greater than or equal to Rs. 50! If we are to price the pen at Rs. 49? Then it will sell exactly as many units as the number of people who value the pen at greater than or equal to Rs. 49!

You might see a mathematical insight here – the number of people who are willing to buy the pen at Rs. 49 is either greater than or equal to the number of people who are willing to buy it at Rs. 50. How is this so? The people who buy it at Rs. 50 are those who value the pen at an amount greater than or equal to Rs. 50. Now, if an amount is greater than or equal t Rs. 50, it is also greater than Rs. 49. So everyone who values the pen at greater than or equal to Rs. 50 (i.e. people who are willing to buy at Rs. 50) will buy it at Rs. 49. And there are more – what about those people who value the pen at Rs. 49? They may not buy when the price is Rs. 50, but they will definitely buy when the price is Rs. 49! Adding these to the number of people who have valued the pen at an amount greater than or equal to Rs. 50, we find that the number of people who want to buy the pen at Rs. 49 is greater than or equal to the number of people who want to buy at Rs. 50.

Now, we can generalize this rule.

Insight 3: For a particular good, the number of people who will want to buy at a lower price is greater than or equal to the number of people who will want to buy at a higher price.

Now, let us look at selling. Let us assume that everyone in the class has an identical pen.  Let us say that once again it is a stainless steel fountain pen made by the Parker Pen Company. Once again, each member of the class values the pen differently. Now, what if I offer to buy their pens at Rs. 50? Who is going to sell to me?

People who will sell me the pen at Rs. 50 are those that value their pens at an amount lower than Rs. 50! Let us say Chetan values it at Rs. 40. By selling the pen to me at Rs. 50, he is giving up a good which is worth only Rs. 40 to him, and getting Rs. 50 in return. Hence, he will sell it to me.

Let us say Diana values the pen at Rs. 60. She will not sell it to me at Rs. 50, because by doing so she is giving up a good worth Rs. 60 and getting only Rs. 50 in return! Hence, the people who will sell to me at Rs. 50 are those that value the pen at Rs. 50 or lower. The people who will sell to me at Rs. 100 are those that value the pen at Rs. 100 or lower.

Like in buying, we have a similar law in selling. The number of people who are willing to sell a good at a particular price is less than or equal to the number of people who are willing to sell the good at a higher price.  

The proof of this is similar to that of the buying case, hence it is left as an exercise to the reader.

Now that we know when people buy and when people sell, can we generalize a trade? If A sells something to B at a particular price, what does that tell you about the valuations that A and B put on the good? That A has sold the good means that he values the good at an amount less than or equal to the price at which it was sold to B. That B has bought the good means he values it as an amount greater than or equal to the purchase price!

So, you notice that whenever a trade takes place (unless it is under coercion or any other extraordinary circumstances), both the buyer and the seller are better off than they were before the trade! In other words, voluntary trade is always good.

Marginal cost pricing

Let us say I grow mangoes on my farm, and in season the trees collectively bear 100 fruits a day. Let us say that I am willing to sell each of these fruits at Rs. 10. I take them to the market, where other people from the village buy it from me. As long as the number of people who want to buy it from me is below 100, everybody is happy, for everyone gets the fruit they want, and I get adequate compensation for the fruits I’ve sold.

Over time, the population of the village increases and the demand for mangoes grows. Soon it goes beyond 100, and every day some people are denied their mangoes. Now, my intention is to maximize welfare, so it hurts me to see that people who want mangoes are not getting it. What do I do?

Let us say there is a neighbour who is willing to sell me mangoes, and I can sell his mangoes at Rs. 20 per piece. He has a large farm, so he can supply to me as much as I want every day, but I need to be the one going to the market and selling. What price do I sell them at?

Note that I need to have a constant price through the day. If, let’s say, I price mangoes at Rs. 10 per mango for the first 100 pieces and Rs. 20 thereafter (thus accurately reflecting my cost), there will be a rush among the people of the village to buy the first 100 mangoes. Given that they are no different (in terms of quality or any other “intrinsic value”) than the next few mangoes, this creates unnecessary commotion. As a welfare maximizer, I don’t like people fighting, and want them to come peacefully at any time they want and buy the mango at the known price. In other words, I need to price the mangoes uniformly. The question is what price I should charge for the mangoes.  Let us assume that each day I expect to sell anywhere between 150 and 180 mangoes.

Instinctively, you might think that the welfare maximizing price is the average price. For example, if I know that the demand will not exceed 180, the average cost of the mangoes I will sell will not exceed (100 * 10 + 80 * 20)/180 = Rs. 14.44. Does that mean I can sell the mangoes at Rs. 14.44 as a welfare maximizing measure?

Let us see what happens then. If the price is 14.44, I am happy selling the first 100 mangoes, for they have cost me only Rs. 10 each. The question is if I will want to sell the 101st mango. Note that the 101st mango comes from the neighbour’s farm, and I can procure it at only Rs. 20. Now, if I have to sell it at Rs. 14.44, I make a loss on selling the mango. Not just the 101st – every additional mango I have to sell thereafter I have to sell at a loss. In other words, I’m better off selling lesser mangoes than more mangoes! And if I don’t want to sell mangoes I’m making a loss on, in that case I’m not maximizing welfare!

Notice that at any price I set below Rs. 20, I have no incentive to sell any mangoes beyond the 100 I have grown in my own farm! As long as I have set a price less than Rs. 20 (even if it is Rs. 19.95) I have an incentive to pack up my shop early and not sell mangoes to everyone who wants it! Hence, a price less than Rs. 20 does not maximize welfare!

So what should I price mangoes at if I want to ensure maximum welfare? This has to be a price at which I’m as happy or happier selling more mangoes, as I am selling lesser mangoes. This can only happen when the price is greater than or equal to Rs. 20!

Essentially, irrespective of how many mangoes I managed to get (in limited quantities) at a lower price, in order to maximize welfare, I need to price the mangoes at the cost of the last mango I purchase! This means that in order to maximize welfare, I should price the good at the marginal cost of producing that good! In the case of mangoes here, my marginal cost (i.e. the cost of the last mango I buy) is Rs. 20, hence in order to maximize welfare I need to price the mangoes at Rs. 20. This is called marginal cost pricing.

Now, let us draw an analogy of an apartment complex. The complex gets a limited amount of BWSSB water a day, beyond which it needs to get water from tankers. Let us say that BWSSB charges Rs. 10 per kilo Liter, and supplies up to 1000 kL a day. Beyond that, the apartment association has to purchase water from tankers at Rs. 20 per kL. The question is how much the apartment association needs to bill its users for water.

The answer is the same as above. As long as the total demand exceeds 1000 kL a day (the price at which the association can purchase water at Rs. 10), water needs to be uniformly priced at Rs. 20 per kL, which is the marginal cost of purchase!

Now let us look at Bangalore city. Let us assume that BWSSB can sustainably draw up to 10000 kL of water a day from the lakes around Bangalore, and this costs them Rs. 5 per kL. Beyond that, they will need to draw water from the Cauvery, over a 100km away, at Rs. 10 per kL. What should BWSSB price the water at?

Again, it doesn’t matter that BWSSB is a public sector agency, providing a “public service”. We have seen that in order to maximize welfare, we need to price the good at the marginal cost. And the marginal cost of procuring water for the BWSSB is Rs. 10 per kL, hence, every unit must be priced at Rs. 10 per kL.

It doesn’t matter whether we are selling mangoes or water or electricity or brinjals. If our objective is welfare maximization, we will need to price the good at the marginal cost. This is a fundamental principle of economics.

Photo credit: S Vishwanath, Rainwater Harvesting Club.

Rupee

Introduction to BBMP’s finances

On the 17th of January, Ashwin Mahesh analysed the BBMP budget for the B.CLIP students. Despite the common belief that the city’s revenues are more than sufficient to cater to it, he insisted that Bangalore is an underfunded city. Today, Bangalore houses over 10 million people, and this number is increasing by the day with migration and more job opportunities becoming available, making it the second fastest growing city in the country today.

Bangalore over the last few years has reached an infrastructure cliff – be it social, political or demographic. The population density plummets immediately beyond the limits of BBMP jurisdiction, and so does the quality of infrastructure. This is primarily due to the fact that the attention of the government outside BBMP limits has been greatly limited. But if one looks at what goes into the planning of a city like Bangalore, one can see that not everything falls under the official control of the BBMP. But then if you are a municipal corporator the only direct budget that you will have influence over is that of the BBMP.  So how do you influence what is allocated or what’s budgeted?

Calculating cost
Consider the issue of housing for the poor. How many houses will the government of Karnataka have to build? To do this, we need to identify what percentage of the population can be classified as “very very poor”.

  • Define demand: The median income across the country is about Rs. 5400 a month, and in city areas, it is about Rs. 7000 a month. In Bangalore, about 50% of the population makes less than a Lakh per annum. If the threshold of poverty is, say, Rs. 4000 a month, then we can safely estimate that around 10-15% of the people that migrate into the city need some kind of support.
  • Calculate quantity demanded:  Out of about 850-1000 people migrating into the city, 100 people need to be given a house, resulting in the need for about 20-25 houses per day (average of 4 in one house), or 7000 to 8000 houses per year.
  • Calculate cost: The minimum cost of construction is about Rs. 1500 per sqft, and the minimum habitable house is about 300 sqft. So constructing one house alone would come up to 1500 X 300 = Rs. 4,50,000. For 8000 houses, it will amount to around Rs. 350 crores, excluding the cost for land.

What we understand by calculating the cost of providing houses for the poor is that it is much larger than expected. This one small need already eats into a third of the budget. This same cost exercise can be adopted in the other areas that the BBMP works with – education, lake revival etc.

Getting the money
The main sources of funding for these projects are:

  • Levied taxes – predominantly property tax
  • Inter-governmental transfers
    • Aid – State and Federal
    • Devolution – State and Central
    • Other factors
      • Fees
      • Licenses
      • Permits
      • Betterment charges
      • Special assessments
      • Utilities

Discrepancies  – Budget vs. Expenditure
The expenditure on the proposed projects is only 35-40% of the planned amount. Reasons behind this are

  • Under-collection of revenues due. Until 2006, property tax was not self-assessed. Once it became so, around 65,000 people realised that they could either undervalue their property and pay a lesser amount, or pay someone locally to ignore the collection of the tax on their property. Today, nearly 7 lakh properties have not been registered.
  • Inclusion of illegal entries
  • Wild assumptions about the state largesse
  • Bad estimation of the actual cost
  • Contingencies

Although this is well-known, discrepancies still occur for various political reasons.

Constraints in getting funding

  • Mismatch between growth and revenue
  • Poor constitutional framework for taxation
  • Hierarchy of politics
  • No borrowing
  • Long-term financial schemes are limited
  • Greater preference for expenditure-led schemes
  • Reluctance to increase taxes
  • Increasing proclivity to reversing decisions

 How can these be overcome?

  • Collect everything that is due
  • Push the state to make a guaranteed devolution of Rs. 6000 per capita
  • Similar guarantee from the centre to make a devolution of Rs. 2000 per capita
  • Educate the public about true costs
  • Decide the role of the private sector
  • Create sync between growth and revenue
  • Move to reconstitution schemes
Long Beach, CA

Introduction to field track: Parking

This session was taught by Nitin Pai and examined the concept of paid parking, its impact on infrastructure, economics and politics, and how an administrator should strategise  on implementing it across the city. The class discussed the reasons why parking is conventionally considered to be free. These included the fact that citizens pay a road tax and hence assume they can gain free parking; consider parking a public good; consider free parking a right; to avoid the parking ‘mafia’; assume that parking space is historically free; assume that it increases business and economic activity among other reasons.

The main points of discussion were:

  • “Paid parking” is charging money for a space of land that is utilised by the vehicle owner. Subsidising it, or not charging for that space does not ensure benefits to the needy. The need of parking is only for people who have vehicles. Vehicle owners, do not come under the traditional needy category. Therefore, paid parking is an anti people policy because it subsidises people who do not need the free parking. “Free parking is a transfer of value from a public asset to a private individual who is not the needy.” People will want free parking, but that does not mean that they need it and it should be given free.
  • If parking is free, everyone will use it and nobody will maintain or care about the space. The tragedy of the commons will prevail.
  • There is economic value in paid parking. All cities across the world have multi-story car parks that are paid and this is considered a business. The supply of parking space can go up because you are creating an incentive for people to create parking space and charge money for it. Paid parking will ensure revenue to the government/land owner as well.
  • In some cases paid parking can ensure that parking space will increase if priced properly. This is because people will be interested in giving their land for parking purposes.
  • Two points to keep in mind with paid parking is the ‘concept’ and the ‘execution’ of paid parking. There is a need to understand what  the concept of paid parking is and then look at ways to execute it effectively.
  • Paid parking is considered to be unpopular among people. To change it, there is a need to look at different strategies. Eg. Employing consultants who make the decision, and act as the stepping-stones to implement an unpopular idea. Another way is to invest in infrastructure—pavements, roads, public transport etc. Reduce the scarcity of paid parking spots in the city.
  • Implementing paid parking will be a challenge, as citizens will oppose  it. For any administrator, it is hard decision to take away a freely provided service to the people, and initiate the a new system charging for that service. It will have political ramifications. The challenge then is, how does an administrator sell this idea to people, starting from one ward and convincing the whole of Bangalore? How do you move the people from the concept of free parking to paid parking?

For this the best method is to do a stakeholder analysis, asking the following questions: One, Who are the stakeholders? Two, What are their interests?  Three, What are their incentives? How will one change their behaviour?

There are multiple stakeholders when it comes to parking in the city. These include vehicle owners, business establishments, tourists, homeowners, land owners, pedestrians, cyclists, autos and taxis, local buses, traffic police, municipal bodies such as the BBMP, roadside vendors, parking contractors, homeless people, educational institutions, home owners among others. Some stakeholders want free parking while some do not.  As an administrator, one needs to analyse each of these stakeholders and their needs. After an assessment, one needs to discuss and contend over the pragmatic ways to implement paid parking across the city.

Water meter

Measurement

This session was taught by Pavan Srinath and went into the importance of measurement in understanding the needs and wants of citizens along with the problems that plague a city. The session emphasised on how the ‘need’ of a citizen should be broken down to information and data first and then there should then be an attempt to create meaning from that data. The process should flow from data to information—information to knowledge.

The example of water supply was used to  illustrate measurement. The first step to understanding water supply in a city or any problems faced with respect to it, is that every aspect of it should first be broken down, looked into and defined.  Indicators such as class, source, quantity, quality, pressure, time spent-money allocated, effort spent—on water connection, grievance redressal, payments, coping strategy, storage etc. should be defined.

Among the many, there are three things that can be measured: input, output and outcome. Opinion and user experience can also be used to measure the three. Opinion includes interviews and structured interviews and focus group discussions, (particular group discussion). A way to measure diverse opinions accurately is using surveys- a sample size will determine the estimation of error in a survey. There is a methodology that needs to be learnt to understand how to conduct a survey. In a survey, there are two kinds of questions that can be asked: the subjective and the objective. Subjective questions usually have a yes or no answer while objective can be vague and can vary, depending on the question and situations.

The point of measurements is to use the appropriate techniques and collect different kinds of information. The first task is to always ascertain the numbers involved, measure them and then proceed with analysing the numbers.

Needs analysis

This session was taught by Nitin Pai and focused on the importance of assessing the needs of people. How does one know what are the problems in a certain area and what needs to be done to solve this? How does one choose between two solutions, understanding which is more important and pragmatic? There are three things that are important for assessing needs and for understanding why an alternative is preferable to the other and in forming the basis for a choice:

First, Gathering techniques
Second, Public choice findings
Third, Analysis techniques

to watch for screen

Gathering Techniques: How does one come to the answer of what is needed and what is not needed? If you don’t define a problem properly, will it benefit everybody? The class discussed gathering this data and delved into multiple broad based techniques such as anecdotes, surveys, measurements, estimates and expert opinions. The nuances of each of these techniques and their importance in understanding the needs of people was also elaborated.

Public choice findings: Some ideas with respect to public choice findings were discussed with detailed examples. These theories are important for any politician to understand and internalise, to understand how to approach problems once they have been gathered. First, often, special interest tends to prevail over public interests because beneficiaries are concentrated and losers are diffused. Second, how it is rational for people to be ignorant… making lobbyists/activists more influential and this leads to a decline in ‘experts’ or ‘expertise’ in a certain area. Third, how, at times, self interest groups engage in rent seeking behaviour. Fourth, How despite exceptions, many bureaucrats are interested in perpetuating and empowering themselves.

Analysis techniques: People want different things and one needs to assess the different things that are needed. When it comes to understanding what people want, it is important to realise that there are some things that people clearly don’t want and some that they do want. Juxtaposed against wants are the needs. There are thing’s that are needed and some that are not needed. Based on what people tell you and what you learn, how does one asses what is important? How does one determine what is necessary? When it comes to making a choice between the different wants and needs, it is importance to apply economic reasoning based on empirical evidence before making a choice.

What people want and what is really needed can be seen in four cases:
Case 1: What is not needed and people do not want it
Case 2: What is really needed but people do not want it
Case 3: People want what is not really needed
Case 4: People want what is really needed

Each case requires a different strategy and approach towards handling it. If a situation arises with case 1, where a politician has to make a decision with regard to something people need and want, then the best strategy is to keep this situation aside, because it is not needed or wanted and hence becomes irrelevant. In the second case, it is important to show awareness and why it is necessary. The third case, one needs to educate and show what is necessary and in the fourth case, it is to reinforce and consolidate public support.

Along with strategy, the class discussed the different leadership styles required to handle the different cases arising. For case 2: a good leader must “do and persuade” (courageous leadership). For Case 3, a good leader must “educate and persuade”  (educative leadership), for case 4, a good leader must ‘do’. (executive leadership).

Introduction to the Bangalore municipal ecosystem

The second session was taught by Saurabh Chandra and Pavan Srinath on Introduction to the Bangalore municipal ecosystem. This session looked at the role and importance of different municipal bodies existing in Bangalore such as the BBMP, BMRDA, traffic, BESCOM, BDA, BWSSB, Police, RTO, BMTC, Forest, KSCB, Metro, CDA, and Indian Railway etc. among others. To execute any plan with regard to Bangalore city and its infrastructure, a healthy interaction with these agencies becomes a must. For example, if one wants to build a footpath, it becomes important to go through BBMP, Gail, traffic and BMTC. The need to know and understand the functions of each of these agencies was emphasised on.

A part of the class was spent discussing the importance of persuasion while dealing with the municipal ecosystem of Bangalore. How does one approach the different bodies and convince them to participate in solving a particular problem? It therefore becomes important to understand the ward one wants to change, identify the problem one wants to address and then approach the agencies that will be involved. It is only then can one start persuading them to participate.

This session also talked about the importance of maps in understanding Bangalore city and a particular ward. Using examples of different maps, it was explained how they elucidate the boundaries, layouts, infrastructure, roads and the complete geography of a city. The class learnt how BBMP zones, BBMP wards, BMRDA jurisdiction, MLA constituencies in BBMP, BWSSB subdivisions etc. can all be easily seen and understood by looking at a map. It was also explained how maps can be used to understand the geography of the city: Bangalore’s watershed map and authority of society and economy. The class ended with a short session on the particular websites that can be used for ward analysis.

The city

The first session was taught by Nitin Pai on “The city”. The session started with the basic question, that formed the crux of the entire class “What is a city?” The classroom perceptions of a city ranged from it being a space with a mixture of people, a stage for public drama and a space that is multi lingual, multi cultural and multi religious among others. It was explained that a city consisted of many identities that illustrated its emergence and existence. Multiple characteristics such as population, its density and diversity, buildings, industry and the employment they generate, geography, history, planning, wealth and infrastructure, all combined made up a city. The class then discussed the importance of a ‘mindset’ of a city; build of concepts such as cosmopolitanism, individualism, tolerance-intolerance, pluralism, system, uniformity and predictability.

The idea infrastructure in a city was explained along with what the term meant by itself. A part of the class was spent understanding the differences between a village and city, touching upon multiple facets that make up a village, such as community life, familiarity of population, limited planning, lower division of labour and lower specialisation of labour, associated with a village.

The class discussed the characteristics that define a city– imagined community, anonymity, norms and rules, planning and critical mass of humanity. Because of anonymity in a city among the populations, social trust among people rose from the rule of law. Emphasis was laid on the need to have explicit and defined rules that govern cities, that are stated, legislated, visible and accessible. This led to the need to implement and execute rules within a city and the importance of planning. From being a well-planned city in the 70’s, Bangalore moved to an average planned city in the 80’s to a poorly planned city in the 90s and 2000s. However it was unanimously agreed in the class that given Bangalore’s history, there is a need to only reverse this trend. Therefore clear rules, mandatory for all citizens become necessary. ‘Planning’ was crucial.

A primary idea that emerged in this class was the importance of freedom– social, political and economic freedom– and its importance in defining the nature of a city. While the class was aware of social and political freedom, they needed a nuanced explanation on the importance of economic freedom, participation in direct economic activities and the positive results of economic freedom in a city. The class touched upon the reasons that caused the decline of a city, such as war, disasters, disease, natural resource depletion, economic decline, migration and citizen apathy. It was emphasised that for a city to become successful, there were multiple factors that needed to work together. From planning, implementation, citizen reaction, law and order, economic, social and political freedom– the ideas discussed in the class needed to come together. The class ended with an intense discussion with the students. Nitin concluded by stating that the most significant problem in a city was not over population but under governance.

Introduction

Bangalore Political Action Committee (B.PAC) and the Takshashila Institution’s first set of classes for B.CLIP: B.PAC Civic Leadership Incubator Programme were held on 6th and 7th December 2013. The introductory session, held on 6th December had Nitin Pai introduce the first batch of students to the curriculum and the class structure. Nitin emphasised on the importance of the course before delving into its primary objectives, structure, rigour and what the students should take back from it. This session touched on civic awareness and emphasised on the importance of the rule of law in a civil society and democracy. This session also looked about how the most important facet of city governance was the acceptance and adherence to the rule of law along with a nuanced understanding of the problems faced by a city.