Assessing environmentally sensitive productivity growth: incorporating externalities and heterogeneity into water sector evaluations

The drinking water and wastewater services often involve heterogenous production environments and considerable negative externalities such as greenhouse gas emissions. Conventional productivity measurements do not factor in either of these issues. This paper analyses the environmentally sensitive productivity change in the Australian drinking water sector whilst including greenhouse gas emissions and group heterogeneities simultaneously. It uses a smooth bootstrap metafrontier Malmquist-Luenberger production frontier framework to decompose the productivity change into efficiency change, best practice frontier change, and technical gap ratio change for 2006 to 2015 using utility-level data. The method circumvents the limitations of convexification strategy when determining the intertemporal and global directional distance functions. The findings indicate that the environmentally sensitive productivity of the Australian drinking water sector has improved for the overall study period but declined in the periods of 2006/07 to 2008/09, 2010/11 and 2012/13. The large utilities have made the most improvement in closing the gap between the within-group and global frontiers.