December 2013, Issue 78: Editor’s Notes

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Fasten your seat belts! This month, M&A’s Mark Myers draws a potent analogy between CAP water rates and amusement park rides.  

I’ve been doing water policy work for about 30 years now — since long before the CAP system was completed. For many of those years, CAP rate cycles were like a Disney Fantasyland ride: Pricing uncertainties, although a bit scary, were generally predictable. We wondered whether the average M&I rates would increase by 4 (or perhaps even 6) percent annually. Policymakers took a leisurely approach to planning for shortages that would reduce Arizona’s Colorado River allocation, driven more by the goal of utilizing this resource fully than by any real expectation of shortage in the next 30 years.

Then, about a decade ago, we entered a prolonged drought and the uncertainties increased. As demands for CAP water approached — and then exceeded — the available supply, we left the kiddie park and boarded “Space Mountain.” This new rollercoaster ride was not only more adventurous but it also began unfolding mostly in the dark because we had few rules for implementing the Law of the River under real shortage conditions.

As the likelihood of shortages increased, the basin states developed rules for co-managing these conditions. The process highlighted how a reduction in CAP deliveries would translate to an across-the-board increase in rates. Because the federal repayment contract stipulates that annual fixed expenses (the fixed OM&R portion of the M&I rate) must be divided by total deliveries for that year, all users would be impacted.

Fast forward to the present. We are leaving behind the relatively mild adventures of Disneyland and preparing for a different type of ride — perhaps more of a state fair rollercoaster. You just hope its relatively untested structure holds up through the twists and turns. Although we can see what’s coming, it’s impossible to fully prepare. In the coming years, however, we know that a few unprecedented factors will put upward pressure on CAP rates:

  • The cost of electric power (the variable OM&R rate component) will accelerate rapidly under any of the future scenarios that have been outlined for the Navajo Generating Station.
  • Unless winter precipitation is very high over the next 2 years, a shortage declaration is imminent. In its first phase, this declaration will reduce total CAP deliveries by close to 20 percent, triggering a proportional increase in fixed OM&R expenses that would only partially and temporarily be buffered by rate-stabilization reserves.
  • Higher power costs will make it more difficult for farmers to afford their required purchase of ag pool water. As a result, the rate buy-down for the ag pool is likely to increase. If farmers reduce their use of this water because of its cost, their ability to qualify for groundwater savings facility (GSF) storage could be limited, affecting M&I subcontractors who use GSFs to accrue long-term storage credits. The combined effect could reduce total CAP orders, affecting the fixed OM&R rate in the same way as a shortage declaration, unless other CAP customers pick up the slack.
  • The sales of excess power from NGS, except for the main contract with SRP, moved into the red in 2013. This trend, if it continues, will drive M&I subcontract and excess water capital charges higher.

The ride will be interesting, and we have already begun clicking up the first incline. Although the CAP rate-setting process in 2014 hints about where we are going, water resource planners and managers will need to hang on! We will revisit CAP rates again in this column in March 2014.

Mark H. Myers, M&A Senior Water Policy Consultant