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The Equity and Efficiency of Two-Part Tariffs in U.S. Natural Gas Markets

  • Severin Borenstein
  • Lucas W. Davis

Residential natural gas customers in the United States face volumetric charges for natural gas that average about 30% more than marginal cost. The large markup on natural gas - which is used to cover the fixed infrastructure and operating costs of the local distribution companies - is widely recognized to be inefficient. Nonetheless, attempts to reduce volumetric charges, and cover the revenue shortfall through increased fixed monthly fees, have faced opposition based on the belief that current rate schedules have desirable distributional consequences. We evaluate this claim empirically using nationally-representative household-level data. We find that natural gas consumption is weakly correlated with household income, so current rate schedules are only mildly progressive. Under current rate schedules, high-volume customers pay a disproportionately large share of fixed costs, but these exhibit a weak correlation with high-income households. The correlation is somewhat weaker still when we consider alternative indicators of household financial stress, such as poverty status or number of children in the household. We show, for example, that poor households with multiple children would receive lower bills on average under marginal cost pricing. We present evidence that one cause of the weak redistributional impact of the current pricing policy is that the poor tend to live in less energy efficient homes.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 16653.

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Date of creation: Dec 2010
Date of revision:
Publication status: published as Severin Borenstein & Lucas W. Davis, 2012. "The Equity and Efficiency of Two-Part Tariffs in U.S. Natural Gas Markets," Journal of Law and Economics, University of Chicago Press, vol. 55(1), pages 75 - 128.
Handle: RePEc:nbr:nberwo:16653
Note: EEE IO
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  1. Christopher R. Knittel, 2003. "Market Structure and the Pricing of Electricity and Natural Gas," Journal of Industrial Economics, Wiley Blackwell, vol. 51(2), pages 167-191, 06.
  2. Charles L. Ballard & Don Fullerton, 1992. "Distortionary Taxes and the Provision of Public Goods," Journal of Economic Perspectives, American Economic Association, vol. 6(3), pages 117-131, Summer.
  3. Severin Borenstein & Meghan Busse & Ryan Kellogg, 2007. "Principal-agent Incentives, Excess Caution, and Market Inefficiency: Evidence From Utility Regulation," NBER Working Papers 13679, National Bureau of Economic Research, Inc.
  4. Baumol, William J & Bradford, David F, 1970. "Optimal Departures from Marginal Cost Pricing," American Economic Review, American Economic Association, vol. 60(3), pages 265-83, June.
  5. Snow, Arthur & Warren, Ronald Jr., 1996. "The marginal welfare cost of public funds: Theory and estimates," Journal of Public Economics, Elsevier, vol. 61(2), pages 289-305, August.
  6. Severin Borenstein, 2010. "The Redistributional Impact of Non-linear Electricity Pricing," NBER Working Papers 15822, National Bureau of Economic Research, Inc.
  7. Ng, Yew-Kwang & Weisser, Mendel, 1974. "Optimal Pricing with a Budget Constraint-The Case of the Two-part Tariff," Review of Economic Studies, Wiley Blackwell, vol. 41(3), pages 337-45, July.
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