Estimating Production Inefficiency of Alternative Cost-Sharing Arrangements: A Case Study in Groundwater Pumping Decisions

In Mexico, farmers only pay the cost of electricity used to pump groundwater from wells for groundwater consumption and also receive electricity subsidy from government. It causes the fact that farmers consume groundwater under the situation that private marginal cost is lower than social marginal cost. Furthermore, in Mexico, different wells function under different institutional arrangements. Some wells are privately owned while others are shared by multiple farmers. In some shared wells, farmers pay for their own electricity consumption but in other shared wells farmers distribute total electricity cost based on a pre-specified rule. Both the jointly ownership and pre-specified payment rule may cause further distortion of groundwater pumping cost. By estimating the frontier demand function and technical efficiency of groundwater, we calculate the own-price elasticity of groundwater and test the effect of joint ownership and pre-specified electricity payment rule on the groundwater use efficiency. It is found that the groundwater has a negative and large (-0.5) own-price elasticity and that the number of farmers owning one well and the pre-specified payment rules do not affect the efficiency level significantly. The elimination of electricity subsidy may be the most effective policy to alleviate groundwater depletion in Mexico.