Heterogeneity, incentives and sustainable water use

1. Heterogeneity, incentives and sustainable water use Karina Schoengold David Zilberman Renan Goetz

2. Population trends and water • Global world population have grown from • 1Billion people in 1800 to • 2.5 Billion in1950 to • 6 Billion in 2000 to ? • 11 Billion ? 17 Billion ? 6 Billion in 2100 • With population growth came Increase in water use per Capita

3. Heterogeneity and conflict • Some countries (Canada) are water rich- Other (Jordan) are water poor -but even Canada has deserts Provides opportunity to trade Diversity of interest drought prevention vs. flood control • Conflicts about irrigated agriculture In dry regions Agricultural may use up to 80% of water- Environment and urban sector are expanding their demand

4. Benefits of irrigation Irrigation allowed us to overcome population growth Irrigated land has increased from 50 mha (million hectares) in 1900 to 267 mha today. Between 1962 and 1996 the irrigated area in developing countries increased at 2% annually. • The 17% irrigated land is producing 40% of global food • The value of output of irrigated cropland is about $625/ha/year ($95/ha/year for rain-fed cropland and $17.50/ha/year for rangelands). • The high productivity of agriculture slowed expansion of deforestation.

5. Perception water supply crisis • Water consumption in 2000 is 4-5 times as in 1950 • Most the “obvious” sources for diversion are used • We will need more water to accommodate more people • There is appreciation for environmental services of water

6. More bad news • The capital costs of water projects have been underestimated. A recent study of 81 dams found that the average cost overrun was 56% • Environmental cost - lose of habitat • Increase of water and land salinity Soil Salinity reduce productivity of 20% of irrigated land 1.5 million hectares of these lands are deserted annually Water logging Costs 11Billion annually Ground water depletion 8% of India’s food produced with depleted aquifers • In 1973 3% of India's groundwater pumped below 10 meters in 1994 46%.

7. Social Concerns • Water born diseases • kill 4-5 million annually • Displacement • 40 – 80 million people has been displaced 1950-99. • International conflicts and water supply.

8. Sustainability and management • .There is a perception of water supply crisis,but we have a water management crisis. • Improved policies and incentives can address water supply and quality concern and lead to sustainability • Sustainability- Environmental quality levels and natural resource resource stocks are above target levels

9. Causes & Solutions of water situation • Water institution respond to scarcity and political economy • We will argue that changes in conditions requires institutional transition • Economics is crucial in transition design,yet it has been under used • Heterogeneity is essential feature of water system and should be integrated in analytical framework

10. Factor affecting the emergence of water Institutions • Water institutions are affected by • Water Scarcity • Government ability to tax and finance projects • Policy objectives-growth vs. environmental quality • Water abundance + Financially weak government+ Desire for growthlead to Water rights (prior appropriation) • Water abundance + • Financial resources availability+ • Desire for growthlead to Public supply projects +subsidies

11. The emergence of water Institutions • Water scarcityleads towater trading • Financial crunchleads toPrivatization of supplies • Environmental concernslead to Water quality regulations + Environmental purchasing funds • Equity concernsleads toregulated pricing+subsidies

12. The Tricky Transitions • Transition from water rights to water market • Introduction of water quality regulations • Introduction of new innovations is very challenging • Economists and scientist can recommend but • Politician have to deliver Understanding of policy process can lead to effective designs

13. Transitions are not alike • Timing, History,Transaction cost , Political economy and preferences affect transitions • Transition may be gradual-the transition towards water trading in most locations takes years • Yet Crises trigger transitions • Depletion of ground water leads to surface water projects • San Fernando valley flood led to building dams upstream • Long Draughts lead to migrations (American Indians), storage (Joseph and Pharaoh) • Systems are rigid - a threshold have to be crossed (Dixit Pyndick) to overcome political economy constraints (Rausser Zussman) and transition costs (Shah &Zilberman) to introduce change

14. Economics based approach to water management reformleading to sustainability We will present incentives and policies to improve: • Water project design • Water pricing allocation and conveyance • Micro level choices • Water quality

15. I.Improved water projects design Rely on social benefit cost analysis Consider projects with positive expected NPV &resources should be valued by their societal value Capital subsides and under-costing the environment lead to oversized projects • Learning is crucial-delay is worth while-invest when it is optimal not at first moment when NPV is positive • Project design should include nonstructural solutions-bring the economists and biologists to the design process • Consider future costs water logging cost and drainage

16. Benefit cost analysis and project design • Water projects make fortunes and political careers-”too importance to leave to economics”. Some yield high returns most do not • Budgetary constrains led to economic scrutiny in U.S.-projects require to pass benefit cost tests • The application of benefits cost analysis reduced the number of new projects and reduced delivery of political pork • Politicians and interest groups are working to exempt projects from benefit cost requirement

17. Despite formal requirement to use benefit cost analysis- projects are not efficient Economics is not used for projects design Under emphasis on non structural solution Need more ex post studies on return from projects.

18. Beyond benefit cost analysis • Projects assessment should not only decide if to build or not but also when to do it, • Adaptive learning (AL):Allow flexibility to resolve uncertainty about preferences or technologies-delayed decisions allow learning Care is especially important in cases of irreversibility • Projects should be apart of a multi tool strategy. • Incentives(water price) may be used to reduce project size or delay its start. • For unique and new problems-Investment in appropriate R&D may lead to projects

19. II.Improve water allocation and pricing The price of water is elusive • The actual prices of water (whenever they exist) tend to be different from efficient pricing • Both actual and efficient prices vary depending on • Time (within season and between season) • Location • Quality • Use • Institutions

21. Elements of the economics of water systems • Benefits (Marginal benefits=demand) • Private cost extraction • Conveyance cost • Externality cost • Future value of water inventory

22. MPC+MCC+MEC+MFC P R I C E MPC+MCC+MEC A MC+MCC B MPC M N(subsidized} Quanitity Optimal Vs subsidized water - water is over used and under paid

23. Optimal pricing Price= Marginal extraction cost+ Marginal conveyance cost+ Marginal environmental cost+ Marginal storage cost

24. Implication of optimal pricing in Ag Subsidies are not accidental, removal is painful Optimal pricing will reduce water use resulting in: • Adoption of conservation technologies • Transfers to cities-lower prices in cities • Reduction in acreage of low value crops • More environmental benefits • Less water projects constriction over time • More stable systems

25. Pricing under small provider • Provider ignores environmental costs and dynamic pricing-over-supplies • Need for intervention to prevent over provision • Extra water tax to account for environment & storage • Regulatory limit on amount consumed with tradable permits • Buy back of water for environmental purposes

26. Current failures of water pricing • Current pricing systems aimed at cost recovery not efficiency • Recovery of operation and maintenance costs ranges from a low of 20-30 percent in India and Pakistan to a high of close to 75 percent in Madagascar • The most common pricing systems are per-acre fees. Subsidies of +50% are common • System like tiered pricing providing some subsidies but relying on social marginal cost will lead to optimality

27. Improved Conveyance & water allocation • Poor management of irrigation systems leads to conveyance losses of up to 50 percent • Improved canal and varying price with distance will improve efficiency -require new institutions • Canals are public goods. Private users tend to under investment in canal maintenance • A water utility determines simultaneously optimal water pricing and investment in conveyance

28. Spatial impacts of optimal conveyance Water use basic conveyance Water use improved conveyance Distance from source • Optimal conveyance policy will • increase utilized acreage and water use in agriculture • Charge downstream farmer higher water prices which will lead to conservation • Empirical simulation find that optimal conveyance loss to be negligible

29. Conveyance I Suppose Marginal productivity of water per acre is 10-2X Where X is water per acre We have 2 parcels of land locations 1 and 2 Water use at destination X1 and X2 Initial conveyance lose in location 2 is 50% pay for 2 units at source for each unit consumed at 2 Each unit consumed at location 2 requires 2 units at source D1=10-2X1 DEMANDLOCATION 1 D21=5-X21 DEM AND LOCATION 2 IN TERMS OF WATER AT SOURCE X21=2X2 MC OF WATER AT SOURCE =.25(X1+X21)

30. Conveyance II S=X1+X21 P IS PRICE AT SOURCE P=10-2S FINDING AGGREGATE DEMAND FOR P=5 S=2.5 FOR P=0 S=7.5 AGRREGATE DEMADN IS P=7.5-S =.25*S HENCE S=6 P=1.5 P=5-X21 S PRODUCTION AT LOCATION 1 IS 4 WATER PRICE 1.5 PRODUCION AT LOCATION 2 IS 2WATER PRICE IS 3

31. NO CONVEYANCE LOSE S=X1+X21 P IS PRICE AT SOURCE AND LOCATION 2 P=10-S AGRREGATE DEMADN IS P=10-S =.25*S HENCE X1=X2=4 S=8 P=4 ( 10-2X1=10-2X2) S PRODUCTION AT LOCATION 1 IS 4 WATER PRICE 2 PRODUCION AT LOCATION 4 IS 2 WATER PRICE IS 2

32. 50% CONVEYANCE LOSS P1= 1.5 Q1=4 P2=3 Q2=2 NO CONVEYANCE LOSS P1=P2=2 Q1=Q2=4 COMPARISON BETTER CONVEYANCE INCREASES PRODUCTION BENFIT DOWNSTREAM PRODUCERS DAMAGES UPSTREAM PRODUCERS ( PAY MORE FOR WATER)

33. Water rights systems • Water is allocated according to water right systems that are queuing system based on location or seniority • Prior appropriation allocates water according to • Use it or loss it • First in use first in • Water use permits operate as queuing systems as well • Trading is restricted with other rights systems

34. FROM PRIOR APPROPRIATION TO MARKET WATER SUPPLY GAIN FROM TRADING PRICE AFTER TRADING TOTAL DEMAND DEAMND OF INITIAL WATER USERS

35. TRANSITION FROM QUEUING TO MARKETS • D1 INITIAL DEAMDN 10-X TOTAL WATER SUPPLY 10INITIAL SURPLUS 50 • D2 LATER DEMAND 10-.5X • PRICE IS 5, WHERE 10-.5*10=5 • SURPLUS IS 75 • IN CASE OF TRANSFERABLE RIGHTS • SENIOT RIGHT OWNERS WILL SELL HALF THEIR WATER AND MAKE $25 THEIR SUPLUS 62.5 • JUNIOR RIGHTS WILL HAVE $12.5 IN SURPLUS • IN CASE FO GOVERNMENT OWNERSHIP • GOVERNEMENT WILL MAKE $50 • SENIOR AND JUNIOR RIGHTS WELFARE AT $12.5

36. Transition from queuing to market • Reform :A transition to trading where water is priced according to opportunity cost • It require transaction and transition cost • Gain from trade increase with scarcity • Trading is desirable when gain > transaction cost • Trading lead to conservation of water among sellers

37. The gains/loses from trade • Trading may be introduced in crisis situations-requires monitoring, expanded canal system • Trading may be small but critical to adjust to shortages • Trading may have negative third party effect-less runoff to environment & groundwater replenishment • Reform allows new entrants to markets-new crop- • Grapes in Chile • Golf courses (high value farming) • Purchases for environmental purposes

38. water trading design issues • Should permanent sales be allowed? Or should the trade be in rights (water rent) rights? • Who will sell- the state or historical owners? • What about Export outside the basin? • Should the sales be of of effective or applied water? Effective water Applied water Field Residue go to Third parties

39. Emerging arrangements • Transferable rights-annual sales of water is easy-permanents sales of rights is facing constraints • annual upper bound on exported volume from a region • Only 70-85% of applied water can be sold-to compensate third parties

40. Pricing and information • Pricing is perfected with volumetric monitoring • Pricing should change by time and sometimes by crop and location to reflect • conveyance cost • environmental side effects • Without volumetric measurement-Per acre fees may vary by season / crop. • Prices should reflect costs of side effects of water - use of greener/cleaner application technologies should be rewarded

41. Improve ground water management • India increased pumping by 300% since 1951-86 • Farmers should pay user fee( to reflect future scarcity)- • Fuel for irrigation should not be subsidized. • Elimination of fuel subsidies and user fee will raise ground water pumping-leading to reduced acreage and conservation • Tiered pricing may address equity issues • Monitoring of pumping is needed-may need regional ground water authorities.

42. Conjunctive use of surface and ground water • Precipitation is random-reliance on rainfall or surface water(river flow) lead to instability • The marginal value of water varies across season- high at dry seasons Low at wet season Gain from storage Ground water can serve storage facility Water in ground has value that depends on Variability of supply Stock in ground

43. Reflection-reform will increase ag water prices Ag can survive with higher pricing- but it will have to changes- Reform requires Reliable information-facts not guesses Good economics Effective administrators Sophisticated legal understanding Excellent political skill&leadership Patience

44. III.Conservation technologies • Technologies that increase input use efficiency- the input actually consumed by crops • Input use efficiency-depends on technology and specific situation • The residue of unused input may be a source of environmental concern • Residue = Actual input * (1 - input use efficiency) • Smaller residue reduces environmental damages

45. Basic model • Y=a+bE-cE2 E =effective water • E=qiX qi=irrigation effectiveness technology i • Profit(i)=Max p (a+b qiX -c qiX qiX) -wX-Ki • Ki-fixed cost technology i • Xi=(p b qi-w)/p c qi2 • Adoption occur at lower q if 0 <q <1

47. Example-irrigation(hypothetical/ California) • Increase yield, reduce water reduce drainage, costs more • Low cost version (bucket drip, bamboo drip) exists • Impact greater/adoption higheron lower quality lands-sandy soils steep hills Labor intensive conservation technologies available to Poor farmers. More needed to be invented

48. Policies to introduce conservation technologies • Real pricing accounting for environmental cost • Technology subsidies • Effective extension

49. Common Theme Research and learning • We operate with much ignorance- need to learn and adapt • Water policy requires constant leaning of both natural phenomena and human learning • With GIS and new information tools we can improve policy design • Crucial - is policy maker education and interdisciplinary dialogue

50. Specifics cases Economics principle for policy reform are valuable, but their application is subject to objections • Case studies may illuminate factor affecting water policy reform