Water Rights and Water Trading

Jon SternCCRP, City University

FLJS Conference Wolfson College, Oxford

19 March 2013

Rights, Ownership and Markets

• The three main groups of people who take “rights” most seriously are:

(i) Moral philosophers

(ii) Lawyers

(iii) Economists

• For rights to be meaningful, they must be defined and enforceable

• For economists, defined, secure and enforceable property rights are crucial for markets to operate effectively.

Property Rights, Markets and Contracts

• Most market transactions are carried out by contract, many of 5,10, or 25 year duration– Spot market contracts make up a only small proportion of trades

– particularly in business-to-business trades

• Defined, secure and enforceable property rights are

absolutely crucial for viability of long-term contracts (See New Industrial Economics literature)

• Note such property rights do not need to be individually owned but can be collectively owned (viz. Elinor Ostroy) – Example of New Zealand fisheries rights

Water Rights

• Retail water customers have “rights” e.g. on quality, terms of sale, whether or not they can be cut-off, etc.– Very important for social and health issues but not discussed

further here

• Wholesale market trades involve water companies and others buying and selling water.

• In the UK and other OECD countries, there are two types of wholesale water trade:– Trade in abstraction licences (typically within a catchment area);

and – Trade in bulk water e.g. sales of raw water from Wales to

Birmingham

Water Rights for Trade Purposes

What property rights underpin water trades?

• Water license trade and bulk water trade requires abstraction licences which permit such trades

– In UK issued by Environment Agency (and SEPA)– Abstraction rights owned by companies allow wholesale and

retail sales of water according to Ofwat supply licences

• But, who owns “the water” to which the abstraction licences are attached?

– For an underground water source on a single property, it is the land-owner (different from hydrocarbons owned by State)

– For flowing water (e.g. a river) no-one owns “the water” : water use rights are usually riparian (reasonable use) rights associated with property at side of river

– Abstraction rights have typically been closely linked (sometimes ‘grandfathered’) with riparian rights

Water “Commons”

• Water has been treated in law as a “commons” good – like “the air”, or fisheries in international waters– This is fine while there is sufficient water for the environment and all

private demand

– System breaks down when supply shortages emerge

• Assuming climate change leads to significant increase in summer water availability in UK, shortages of water will increasingly arise – particularly in South and South-East England– Problem is ensuring enough water availability both for human uses and

for environment (river quality – Water Framework Directive)

– We already have quite large parts of the country either over-abstracted or over-licensed

Demand and Supply of Water Resources in England : Environment Agency Map March 2008

Trade as Method of Managing Growing Water Shortages

• Trade in abstraction licences the most common form of water trade in Australia, California – allocates water to highest value users (wine not alfalfa growers)– Important but basically works within river basin area. Need something

more for long distance –inter-basin trade– Some short-duration licence trades (e.g. for 2-3 months in summer) =>

effectively bulk water trades.

• Traded bulk water accounts for around 4-5% of delivered water in England and Wales but around 8% in South-East. E&W figure very stable over many years– Over 75% E&W traded water is raw water (e.g. Elan Valley to

Birmingham).– But, in South East, only around 35% is raw water and around 65% of

traded water is treated, potable water

Water Trade and Abstraction Licences• Where significant excess demand for water and threat to

“commons”, some form of rationing required

• Rationing can be by quantity (central allocation) or by price (market based solution) – or some combination (e.g. by price but with quantity controls for identified essential uses, extreme drought)

• Central allocation locates water rights in State for central or local government/agency to allocate. – Major information, inefficiency problems plus incentives for corruption– Not seen any proposals for UK

• Market solutions create property rights in water – commodification of water ownership and use (cf. taxes and/or emission limits on SO2, NOx and carbon gases)– This is solution used in Australia, Western US and proposed for UK– Requires major reform to abstraction licences – Promotes bulk water trade (but that also requires changes in Ofwat

licensing of water companies)

Water Licence Reform In England and Wales I

Main focus is on abstraction licences

• These could be modified so that abstraction licences included scarcity based abstraction pricing measures– Unpopular not least because feeds directly into wholesale and retail bills

– problem of public health etc externalities– Doesn’t address problem of existing and potential use of “excess” water

use from over-licensing/over-abstraction– Not likely to be effective because demand responses to changes in

water prices low except in very long-term

• Alternative is to modify quantity limits in licences– Most promising option is to redefine abstraction licences in terms of

percentage shares of available water rather than volumes of water– Similar to operational Australian scheme – and New Zealand fisheries

licensing– Has a number of good economic properties e.g. prices emerge from

demand/supply and observed trade transactions rather than being set by government/agency on basis of very limited information

Water Licence Reform In England and Wales II

• Redefining abstraction licences into shares of available water also good in terms of water rights– Allows continuation of licences without limited fixed term: no need for

buyback – Implies that secure property rights continue for abstraction licences -

which provides incentives for efficient investment – Avoids EU Human Rights problems on confiscation of property rights– BUT, may require action to prevent abuse of monopoly power from

concentration of licence ownership

• Proposal primarily intended to foster local/regional abstraction licence trading rather than bulk water trade but prices set in licence market will provide marker prices for trade in bulk water– Also provides incentives for regional water network planning and

organisation, regional wholesale markets and (most importantly) interconnector investment

– Key step in enabling benefits of trade => greatly reduced likelihood of local/regional water shortages, moderate and severe droughts

Abstraction Licence Reform and Water Ownership

How does this impact back onto ownership of “the water”?

• Abstraction licence reform of the type proposed effectively separates the link between water ownership and water use. – Riparian rights may continue for fishing, cultivating water plants and

similar but the link to irrigation and commercial uses of water is broken – water commons are greatly restricted

– A ‘water share’ abstraction mechanism is a major contribution to commodifying the use of water while ensuring sufficient water “for the environment”

• Ownership of “the water” can continue on the current basis - but the rights associated with it are greatly reduced and are commoditised on the basis of environmentally-based resource pricing