Water market regulation, infrastructure access and governance for the 21st Century

1. Water market regulation, infrastructure access and governance for the 21st Century Prof. Mike Young Research Chair, Water Economics and ManagementThe University of Adelaide ACCC Regulatory Conference, Sanctuary Cove26th July 2007

2. Iraq New Zealand United Kingdom Water withdrawals per capita Australia = “The driest inhabited continent in the world.” Australia (Australia = 135/161 countries) “We have a water management problem not a water supply problem!” Business Council of Australia 2006

3. Managing supply variability After Craik 2007

4. Melbourne

5. Less rain means much less water!

6. Sydney

7. “The simple fact is that there is little or no reason why our large cities should be gripped permanently by water crises … Having a city on permanent water restrictions makes as much sense as having a city on permanent power restrictions.” John Howard 17 July 2006 • Cost of restrictions has been high • Cost to Brisbane 50% of a desalination plant PMSEIC, 2007

8. 21 years Total Murray-Darling Basin inflows Annual flows (year ending June) showing forecast for 2006/07 Source: Craik, MDBC

9. Murray System TotalStorage(June 2000 to May 2007 with indicative outlook to end Sept. 2007) Source: Craik, MDBC Two dredges were put in the Murray Mouth in October 2002 – before the drought!The extent of over-allocation and over entitlement is serious.

10. Direct Costs of Water Supply/Demand Options(Sydney, Adelaide, Perth, Newcastle) Source: Marsden Jacob 2006 The price of urban water supply and security is rising!Who should bear the financial risk for increased security in a world of climate shift and change?

11. Water Policy History • 1994 – CoAG Agreement- National Competition Policy identified water as an arena for reform • Separate policy from infrastructure • Water trading in rural areas • Full cost pricing including the costs of externalities • 1996 – Agreement extended to cover groundwater and storm water • 2004 – National Water Initiative • An internationally renowned template for ongoing reform • Lacked urban policy detail but commits urban Australia to efficient urban water use • Allowed all states & all state-owned utilities to escape from the tranche-payment incentive mechanism • 2005 – 07 – Awareness of a water supply step change caused governments to lose sight of the importance of competition and market-opening reforms that provide incentive • Grants, subsidies and restrictions have become the norm! • NWI progress has been slower than scheduled

12. National Water Initiative Intent (s5) • “.. in recognition of the continuing national imperative to increase the productivity and efficiency of Australia’s water use, • the need to service rural and urban communities, and • to ensure the health of river and groundwater systems ..” • “clear pathways to return all systems to environmentally sustainable levels of extraction.” … • “greater certainty for investment and the environment, and” • “underpin the capacity of Australia’s water management regimes to deal with change responsively and fairly.

13. NWI v’s Grants, subsidies & promises • Urban • $250 million over four years to fix leaking water pipes and save 155 ML water per annum. (Labor) • $17 million for Australian scout halls to install rainwater tanks • Water Smart Australia Program $1.6 billion for projects over $1 million in value • Rural • $10 billion for National Plan for Water Security $3 billion for entitlement purchase & $5.8 billion for “modernisation” • Necessary transitional payments to speed reform (?) • NWI “..full cost recovery for water services to ensure business viability and avoid monopoly rents..” “upper bound pricing”

14. 8 Murray Darling Basin outcomes needed • Balanced water sharing • Environment & consumptive use in harmony • Hydrological integrity • Ground water, surface water and interception managed as one • Investment security • Guaranteed entitlement registers and allocation accounts • Continuously efficient resource use • A low-cost trading, free of administrative impediments • Water Quality • Healthy rivers and wetlands not degrading • Optimal storage management • Efficient inter-seasonal storage • Resolution of over-allocation (and) over-entitlement • Entitlements defined as shares of that which is available • Robust governance • Political and public accountability to deliver objectives – Independent governance

15. NWI - Rural Water Trading • A well functioning market • Pre-stated rules so no-delays • Full price and quantity revelation • No artificial barriers including exit from irrigation and transfer to another area • Consistent pricing and charging rules • Includes infrastructure access & exit fees policy necessary • PriceWaterhouseCoopers move entitlement ownership out of supply companies • Administrative efficiency • Speedy electronic allocation trading as a norm • Tagged trading does should not require registration on two state entitlement registers • Market discipline • Rigorous announcement policy – competitive neutrality

16. Competitive neutrality June 2007 The Victorian Competition & Efficiency Commission found that … “WaterMove is a significant business and … required to comply with the competitive neutrality policy” 03/11/2006 Due to ongoing dry conditions, water trading in the NSW Murray and Murrumbidgee valleys was suspended immediately by the NSW DNR May only be coincidence but irrigators are often consulted before announcements

17. Administrative efficiency and trading • The state of the art can be found in the world of electronic share trading and the banking sectors accounting systems. Water industry still has long way to go. • A tagged interstate water trade from NSW to Vic requires • Extraction of entitlement from an Irrigation Water Supply Company • 17% left behind, $400 admin. fee + $382.96/ML “exit” fee • Organise to get water out of NSW • 17 Administrative Steps with NSW govt • 8 forms with 8 cheques for 4*$105.69 + 3*$86 +$90 = $665.07 • Irrigators can lodge by post but brokers must lodge personally • A 28 day statutory process to get a “zero” use approval • 3-4 months processing of forms one by one • Compare this with share market’s “one” electronic click • Water licences are handled under “real” not “financial” property protocols – Which regulatory model is better? • Source: Waterfind, pers. com. 2007

18. Rural Water Supply Utility Structure • What is the right model? • Government businesses • Corporatised government entities • Private cooperatives • Private companies owned by water users • Private businesses owned (largely) by non-users • All run as regulated regional supply monopolies. • Many water supply companies hold water entitlements on behalf of “their” shareholders. • Is this the right model?

19. Addressing over-allocation • $3 billion to buy entitlement enough to purchase between 1,500 and 5,000 GL depending upon entitlement type purchased • MDB Market current max trade is 100 GL/ year • $5.8 billion to be spent on infrastructure modernisation • Reform sequencing reforms is VIP • Voluntary acquisition slowly • v’s • Compulsory acquisition with money up front, 2 year’s lease back and no trading charges

20. Water source management Water distribution Water retailing Sewage disposal Urban water supply and disposal Unbundling would allow competition and markets to emerge. The Prime Minister’s vision of a world without water restrictions could emerge.

21. National Water Initiative • s. 65 In accordance with NCP commitments, the States and Territories agree to bring into effect pricing policies for water storage and delivery in rural and urban systems that facilitate efficient water use and trade in water entitlements, including through the use of: • consumption based pricing; • full cost recovery for water services to ensure business viability and avoid monopoly rents, including recovery of environmental externalities, where feasible and practical; and • consistency in pricing policies across sectors and jurisdictions where entitlements are able to be traded. • In a grant dominated world, private investment is risky

22. 1. Urban supply & disposal separation • Bulk supply from other regions • Urban – rural trading by developers • Storage management and treatment • Indirect re-use can have competitive access • Distribution • Dual supply encouraged (Supply system bypass possible) • Third party access to first-use dsn system for desalination, private dams, private storm water capture, etc • Retail • Removal of postage stamp pricing • Competition and innovation • Sewage infrastructure maintenance • Recovering costs via indirect re-use • Sewage treatment • Charging households for estimated load • Stormwater infrastructure • Load based charging • Tradeable credits for peak load reduction

23. 2. Competitive Pricing • Scarcity pricing coupled with full opportunity cost recovery • Entitlements markets • Allocation markets • Recover cost of grants • Large water user urban-water entitlement and allocation trading • Tolerance for retail block tariffs • But household trading of blocks allowed • (Access-rights to a cheap block can be traded) • Small users pay marginal opportunity cost for entitlements and allocations above, say, 200KL/annum • No special industry water supply agreements • Independent regulation in all States • Replacement of grants with clear price signaling of scarcity and opportunity costs

24. 3. Competitive infrastructure access • Depreciation rules that recognise infrastructure obsolescence (when does the access holiday end?) • PMSEIC observation energy costs for water supply to Kalgoorlie • By pipeline 12 kWhr electricity / kL • By desalination 2-3 kWhr electricity / kL • Competitive access to all elements in the supply and disposal system • All classes of water from drinking to sewage • Rules that prevent governments from crowding out private investment

25. 4. Managing externalities • NWI .. full cost recovery for water services to ensure business viability and avoid monopoly rents, including recovery of environmental externalities, • Generally, more efficient to manage externalities using separate instruments • Offset infrastructure externalities and reflect them in access entitlement charges • Tradable nutrient credit systems • Tradable salinity credits, etc • Separate sewage charges

26. Developer & Builder ~ 80% 5. Building and subdivision incentives • Developers required to source urban water entitlements prior to subdivision • Options • Irrigators • Urban storm water credits • Aquifer storage and recovery • Urban infill and extensions under same disciplines • Mandatory disclosure of water efficiency at house sale Source: Marsden Jacob 2005 PMSEIC 2007 Owners & Occupiers ~ 20%

27. 5 elements of an NWI urban supplement • Supply and disposal system separation • Pricing structures, investment rules and trading rules that signal • Long-run opportunity costs and supply risks • Short-run opportunity costs and scarcity • Competitive access to all infrastructure • Depreciation rules that recognise assets can become redundant • Independent management of externalities • Building and subdivision incentives

28. Concluding comment • Out of supply adversity comes competitive opportunity • Urban reform • Increase competition • Allow private investment • Rural reform • Buy-back entitlements • Open market with state of the art administrative costs • Then infrastructure moderisation • Reduce administrative process • Re-introduce competition payments if States retain control • Remove grant/subsidy culture

29. Subscribe to Droplets at www.myoung.net.au Contact: Prof Mike Young Water Economics and Management Email: Mike.Young@adelaide.edu.au Phone: +61-8-8303.5279Mobile: +61-408-488.538 www.myoung.net.au