In the middle part of the nineteenth century, the British parliament staged an experiment in private enterprise. In the early part of the century, water was drawn from local rivers, stored in ponds on higher ground, and then distributed by wooden pipes to customers. In most urban areas, this primitive sort of water system was run by local government. The Industrial Revolution caused the rapid growth of urban areas, and local governments lacked explicit powers to borrow money to finance the expansion of their water systems. The policies of Parliament caused many towns and cities to switch to private water companies, and by 1851 about three-fifths of the urban population got their water from private companies. There were many problems with the private provision of water, including low pressure that sometimes made firefighting ineffective and water hardness (high mineral content) that damaged industrial boilers and reduced the quality of silk products. The control of the water supply gradually returned to local governments, and by 1891 only one-sixth of the urban population was served by private water companies. In addition to improving water pressure and water softness, the move to municipal provision increased total consumption of water and decreased the capital cost per unit of water.
What does the British experience with water privatization tell us? The distribution of water is a natural monopoly, meaning that although a single firm will be profitable, two firms will not. The private water companies established under the policies of Parliament were unregulated natural monopolies. As we’ve seen, an unregulated monopoly is socially inefficient. In this case, the inefficiency resulted in a low-quality product (hard water), low service (low pressure), low output (small quantity of water per capita), and high capital cost. If the water monopolies had been regulated in an efficient manner, the experience with privatization of the water supply would have been different.