Are water markets a potential ally or a dangerous trap for the environment?

The ongoing water crisis facing Australia has led to an unlikely alliance between economists, scientists and some environmentalists - an alliance that supports the growing consensus that water in Australia is undervalued and that a market in tradeable water rights may offer the solution.

Water markets have been operating in Australia since the early 1980s, but movement towards a nationally uniform system of tradeable water rights really began in 1994 with the adoption by the Council of Australian Governments (COAG) of a strategic framework for reform of the Australian water industry. The need to arrest widespread environmental degradation was a key driver of the COAG Framework. But economic more than environmental considerations lie behind the National Competition Council (NCC)-driven push for water markets, evidenced by the Federal Government's linking of water reforms to National Competition Policy (NCP) payments to the States/Territories.

Economic benefits

Economic benefits from trading water rights arise when water is traded from low-value to higher value uses. Typically this means from irrigated agriculture to higher value horticulture and to industrial and urban use. Where water resources are fully allocated, trading also facilitates the introduction of new users.

Rural community concerns about the economic and social impacts remain a key political obstacle to the establishment of water trading. There is no doubt that local impacts can be significant and must be managed with care. However, the overwhelming evidence suggests that as water moves to higher value uses there can be substantial economic benefits for the wider community. For example, in 1991 the California Water Bank estimated that although 1600 jobs were lost in areas selling water, 5400 jobs were created in areas purchasing that water, delivering a net economic benefit of US$104 million.

Environmental benefits...

Water markets also offer potential environmental benefits. Experience from water markets in Australia and elsewhere has shown that the value of water entitlements typically increases, changing the behaviour of users - encouraging efficiency and reducing waste. A significant cause of poor water quality in Australia is return flows from over-irrigation carrying salt, nutrients and pesticides back to rivers and aquifers. Increased irrigation efficiency reduces return flows, reducing pollutant loads to surface and groundwater resources. Reduced consumption also means increased river flows available to the environment.

By purchasing water entitlements from other users at market rates, governments and environmental groups can increase environmental allocations without expropriation. In Nevada for example, the Nature Conservancy has purchased an additional US$1.5 million worth of water from farmers and this now flows down the Carson River.

...and risks

There are, however, some environmental risks associated with water markets. Firstly, there is no guarantee that higher value use of water is environmentally beneficial. For example, there is evidence from the Pilot Interstate Water Trading Project in the Murray Darling Basin (involving three State jurisdictions) that water is moving to higher value viticulture use but on land not previously irrigated and therefore with a risk of increasing the area affected by salinisation. This highlights the need to understand the full environmental impacts of trading on our river systems and build in measures to mitigate any potentially adverse impacts.

A second environmental risk from the introduction of water markets is the awakening of "sleeper" entitlements; markets provide farmers with the opportunity to realise the value of unused water allocations that previously flowed downstream. It has been suggested that in the Murray Darling Pilot Project a significant portion of the water traded was not being used by the vendors. Forewarned is forearmed, however, and the more recently drafted Western Australian policy prevents the trading of 'sleepers' and the consequential impact of this practice on environmental sustainability.

So when will Australians be able to trade in water and reap the environmental and economic benefits promised? Although not widely acknowledged in the press, significant progress has been made. The 2001 NCC assessment reported that all States had implemented reforms necessary to allow the trading of water rights, and the Murray Darling Pilot Project has yielded important lessons. Progress has stalled, however, over two issues: initial allocation of water entitlements, and compensation to those whose entitlements are reduced in order to achieve sustainable allocation. These issues were originally due to be dealt with at the COAG meeting in December 2002 but remain unresolved.

It is unlikely that such a paradigm shift in water resource management will be achieved perfectly in the first instance. But for the sake of Australia's degraded rivers, COAG must act.