Desperately seeking a non-empty core—a framework for understanding cooperation among municipal water service monopolies

Abstract

What drives, or prevents, monopolistic providers in regulated sectors from merging into larger entities? While typically studied within public service regulation, this question carries profound socio-hydrological relevance for urban water services, as their organization directly affects key societal outcomes such as water security. Within the literature, aggregation is often approached through economies of scale. This paper argues that such outcomes cannot be explained by efficiency considerations alone. Instead, it requires a socio-hydrological perspective centered on the distribution of rents and the heterogeneity of stakeholders’ incentives—dynamics involving complex power relations and institutional lock-ins that a simple economic analysis cannot fully capture. Adopting a game theory approach, we investigate the existing rents and aggregation payoffs for the actors involved and assess whether mutually beneficial cooperation arrangements, corresponding to a non-empty core, can emerge. We develop an integrated framework combining a simplified financial model with a constrained transferable utility cooperative game involving municipalities, an incumbent utility, and a potential “Big Player,” each evaluating aggregation based on status-quo rents and aggregation payoffs. The analysis is grounded in a synthetic case study representing a medium-sized Italian water service area, capturing institutional and economic features applicable to similar contexts: mature infrastructural settings, fragmented governance, and regulated natural monopolies where local authorities retain significant decision-making power over service organization. Tested against an extensive robustness assessment, results show that aggregation is not systematically prevented by the absence of efficiency gains, but by misaligned incentives. Municipalities may support aggregation due to political payoffs, while the operator requires financial viability, and the incumbent utility resists due to the loss of control-related rents. This leads to a divergence between financially viable and politically acceptable coalitions, implying that a stable grand coalition is structurally difficult to achieve within such institutional settings. The framework serves as a diagnostic tool to identify feasible coalitions and potential blocking actors. By demonstrating the persistence of these dynamics across a wide parameter space, the findings highlight a structural tension between industrial efficiency and political feasibility, providing a formal explanation of why efficient outcomes remain institutionally difficult to achieve even when economically justified.