How much should customers be compensated for interruptions in the drinking water supply?

Water supply interruptions directly affect customers, and customers should be compensated accordingly. However, few water regulators have applied compensation policies given the difficulty of estimating the economic value of compensation to customers. In this study, a pioneering approach based on the concept of shadow prices is proposed to determine the compensation that customers should receive for unplanned water interruptions. The Chilean water industry was selected as a case study because there is an ongoing policy discussion between the use of penalties or compensation as an incentive to prevent water supply interruptions. The estimated results indicate that for 2014, the value of compensation ranges between 2.4% and 35.4% of the fixed charge of the water tariff. The methodology and findings of this study are of great relevance to water regulators in defining incentives to prompt water companies to provide reliable water service.