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Why Incentives Matter: An Example from Thunder Bay City Council

Why Incentives Matter: An Example from Thunder Bay City Council

THUNDER BAY, ONTARIO ~~~~~~~  January 7, 2020 (LSN)  It is going to be a busy month at Thunder Bay City Council as the 2021 budget deliberations get underway.  The agenda for the meetings on the 19th of January is quite lengthy with a raft of difficult to read budget documents.  However, there is also a meeting on the 11th and that meeting also has a somewhat lengthy agenda with many items.  There is so much going on and little time to digest and comment so one has to be selective. 

An interesting item worth looking at for Monday’s meeting is a memorandum from the Manager – Central Support dated November 26th “containing a motion recommending that City Council establish a loan envelope of up to $1,350,000 to support the Private Lead Water Service Replacement program.” This is a follow-up to the $50,000 in funding in 2020 that was supposed to be a grant program to help replace lead pipes but then transitioned to a loan program because it was deemed “not appropriate to continue to budget an annual contribution from the Stabilization Reserve Fund where the cost to administer the program is lost interest and administrative costs.”  Instead, the proposal is for an interest free loan program.

This is all part of Thunder Bay’s complicated 25-year ongoing water infrastructure saga which has seen the move to one source water supply in the wake of the giardia saga on the south side, the rapid increase in water rates to fund all the new infrastructure and maintain the old, the flooding of the new water treatment plant – and surrounding neighbours - the introduction of sodium hydroxide to reduce lead in pipes on the cheap, and the removal of sodium hydroxide in the wake of numerous reports of pinhole leaks and more flooding   All of this has also generated several major lawsuits – for flooding in 2012 and pinhole leaks in 2020.   

The City has remained tight-lipped on what it is going to do to address the epidemic of pinhole leaks but the connection to sodium hydroxide has not prevented it from once again embarking on the lead connection pipe problem.  The memorandum is an interesting example of policy making at Thunder Bay City Hall.  The $50,000 program has generated 24 applications which at $3000 per loan has generated a demand for loans totalling $72000.  So obviously, more loan money is needed, and the city has set $1,350,000 as the pool of loanable funds which at $3000 per loan means the city can issue 450 loans.  How clever.  The interest income foregone given current rates over the next ten years is low (apparently $100,000 in the estimate in the memo) and the City can even generate additional revenues by jacking up the fees from turning water on and off when the pipes are replaced.  Indeed, I am surprised the city has not yet thought of the latter.

So, here is the thing.  There are apparently upwards of 8,000 households in Thunder Bay that still have a lead connection pipe to the City water distribution system.  This means that the program is expected to “solve” the lead problem for approximately 6 percent of affected households. A program designed to completely solve the problem would require a much larger pool of funds – 8,000 multiplied by 3,000 – which would be $24 million.  And, there is no guarantee most households would take up the city’s offer. 

The incentive of a zero-interest loan of $3,000 for a project which based on the pinhole leak water service line replacement examples costs $5,000 to $10,000 is not terribly attractive.  Given the current loan program generated only 24 applications and not hundreds given the pool of 8,000 applicants suggests that this program will not be very successful. It is designed as a political solution to convey the impression that the City is doing something about the lead problem especially in the wake of the sodium hydroxide fiasco. 

However, economic incentives matter.  If the City was serious about addressing the lead connector pipe problem, it would use a cost-sharing grant program.  That is, it should pay 50 percent of the costs of replacing the lead connector line up to a maximum grant of say $3,000.  It needs a cost-sharing grant because realistically the obstacle to replacing the pipe on the part of homeowners given low current market interest rates is not access to loans but the total cost of the project relative to their household savings or income.  It also needs to cap the grant because an open-ended grant creates the incentive to generate escalating cost estimates on the part of service providers.

And, in the process of implementing this pipe replacement program it should also extend the program to city residents who have experienced leaks in their connector pipes in the wake of the introduction of sodium hydroxide.  Based on the leaky pipe statistics publicly provided on the Leaky Pipe Club Facebook page, it can be estimated that upwards of 3,000 households have experienced leaks over the last 18 months. Of these, a substantial fraction experienced not only household leaks but the failure of their connector pipe.  However, we do not know the official number of leaky pipe households or how many connection pipes have been replaced because the City does not release those numbers.  So, using 3000 households as a potential estimate and at $3000 per grant, would result in an estimate of $9,000,000 as the cost of a connector pipe replacement support program for leaky pipe households. And of course, this would be on top of the $24,000,000 estimate for the lead pipe households.

So, a total cost estimate for resolving these water issues comes to $33,000,000.  Is it a lot of money?  Certainly.  However, if we can spend $40,000,000 for a new sports facility and over $50,000,000 for a new police station, obviously money is no object.  It is politics.  The Mayor and Council obviously do not find the incentive of ribbon-cutting ceremonies for a lead pipe replacement sufficiently attractive events to put on their campaign literature or to attract provincial and federal cabinet ministers to the photo-op.  Basic water infrastructure and maintenance is not glitzy enough compared to spanking new water treatment plants or a shiny new turf facility or even a bridge or traffic roundabout.

Thunder Bay is fiscally constrained you say?  City councilors and administrators have seen the “light” and are now advocating only 2 percent tax increases so we cannot afford to do all of this? Think again!  Along with incentives being important in economic decision making, there is also the concept of the trade-off.  The cost of dealing with the water issue – lead and leaky pipes – can be estimated at $33,000,000.  The cost of the turf facility and new police station amount to $90,000,000.  It is time to choose.  And, by the way all this has to be done with tax increases kept as close to zero as possible given the City’s economic situation.  Putting forth a 2 percent tax levy increase is only the beginning.  It needs to go down from there.

By Livio Di Matteo

#LSN_TBay 

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The Northern Economist blog started on Shaw Webspace as commentary and analysis of economic issues and policy from a Northern Ontario perspective by Livio Di Matteo, Professor of Economics at Lakehead University in Thunder Bay, Ontario, Canada. It had regular posts from November 2010 to February 2012. Posts continued on Northern Economist 2.0 until 2013 when I took an extended break. Occasional posts resumed effective December 2016. With Shaw terminating its blog space functions, I have archived the old posts at: northerneconomistarchive.blogspot.ca.

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