Author : Nilanjan Ghosh

Expert Speak Terra Nova
Published on Feb 01, 2024

Efficient water demand management relies on market prices signalling the availability or future scarcity. India should consider such markets for effective water governance.

The value of water

The resistance against water markets has so far emerged from two contentious points. First, it is perceived that water markets will result in the exclusion of many from accessing the fundamental resource to life and is therefore inimical to the principles of equity and distributive justice. Second, the communistic antagonism against markets is rooted in its opposition to private ownership of means of production and private property—this finds its origin in the Marxian-socialist position that is ideologically positioned against all forms of acquisitive and competitive social relations.

At the very outset, it needs to be understood that markets have traditionally emerged by default, and not by design. Rather, markets historically have often been an institutional response to scarcity: if a resource is abundant and free, there is no need for any market, and markets will not emerge either unless exogenous forces are applied by an external agent. Contrary to the perception that markets are iniquitous, the market as an institution can help efficient allocation—that doesn't mean that human well-being is a monotonically increasing function of unbridled market forces. Rather, markets are ruthless and need to be bridled with regulatory instruments.

Contrary to the perception that markets are iniquitous, the market as an institution can help efficient allocation—that doesn't mean that human well-being is a monotonically increasing function of unbridled market forces.

Verily, water markets need to be construed in the framework of water scarcity. Informal water markets in South Asia (India, Pakistan, and Bangladesh) and the western US developed before they got formalised largely as a response to scarcity. Globally, markets are organised across the world to respond to scarcity. This has organically helped the process of water allocation as per need arranged in terms of water’s economic importance. In this process, the biggest contribution of the market is discovering the value of water through the market price.

Why value water?

The value of water reflects how valuable the resource is to an individual, to a community, or an economy. There are two ways of looking at it. First, water is not a final good— it is an intermediate factor in the production process or for human utility. Therefore, the value of water depends on the value of the final product in which water is used. In other words, if water is put to valuable use or in the production of high-value commodities or services, its value becomes high. Second, the value of water also draws from its relative availability or scarcity—to put it in Benjamin Franklin’s words, “… When the well is dry, we know the worth of water”. In both cases, the unavailability of water results in valuable losses. The value of this loss has been interpreted as the scarcity value of water in economic and academic policy literature.  

The importance of valuing water arises from the following points:

  1. Deciding on projects with precision: When faced with multiple water projects, valuation provides a quantified ranking, making decision-making a breeze.
  2. Balancing act of equitable resource allocation: The delicate balance between efficiency and equity in water resource allocation needs to be navigated in a judicious way. Valuation guides the way, offering a rational approach to distribution and aiding social optimality in consumption and production.
  3. Natural resources speak louder with valuation: Valuation elevates public awareness of the significance of water by attaching a value to it. Valuation not only underscores their importance but also helps communities recognize and appreciate vital resources.
  4. Valuation in legal arenas; determining damages: In legal battles, valuation takes the stage. When one party causes harm to another, valuation steps in to quantify the loss. Whether for financial compensation or environmental damages, valuation guides legal proceedings towards fair resolutions.
  5. Beyond taxes and subsidies: Valuation isn't just about taxes and subsidies; it's about crafting efficient management mechanisms. From economic instruments to governmental controls, valuation opens a treasure trove of options for achieving optimal consumption and production.
  6. Revising investments: A green perspective: Valuation of water ensures that investment decisions, especially in public utilities like dams, weigh the environmental costs against economic benefits for a sustainable future.
  7. Market creation through valuation: For resources lacking market presence like water, valuation catalyses market creation. As resources become scarcer, valuation sets the stage for better resource management and market dynamics.

Therefore, valuation emerges as the linchpin for water allocation, production, distribution, and consumption, steering optimal decision-making and prioritisation. In a world of limited budgets, it helps the cause of distributive justice and conservation goals.

Markets for valuation

The importance of the market phenomenon for water arises from various perspectives, the centrality of which lies with valuation. Markets help discover equilibrium prices through the demand-supply dynamics and have been adopted globally as a demand management mechanism helping efficient and sustainable water governance. As an example, in the water markets existing in California in the western US, participants engage in the exchange of water through short- and long-term leases, as well as the permanent sale of water rights. This trading mechanism contributes to increased flexibility in water management. Short-term transfers act as strategic manoeuvres, deftly alleviating the fiscal strain of water shortages by channelising water to activities and locations where its scarcity bears a massive economic toll. Meanwhile, the enduring partnerships forged through long-term and permanent transfers adapt to the ever-shifting landscape of water demand, synchronising with economic growth, urbanisation and a burgeoning population of the state. Currently, the predominant focus of trading is on surface water, with some groundwater trading taking place in specially managed basins. The likelihood of expanding groundwater trading is anticipated, particularly as users in other basins adhere to the regulations outlined in the Sustainable Groundwater Management Act (SGMA). Now, water futures trading has also begun in California in the Chicago Mercantile Exchange platform for spot market participants to hedge against hydrological and market risks.

Markets help discover equilibrium prices through the demand-supply dynamics and have been adopted globally as a demand management mechanism helping efficient and sustainable water governance.

The Murray-Darling Basin Authority in Australia regulates the water market enabling farmers to enhance water productivity and contribute to sustainable water management. In Chile, the National Water Code of 1981 established a transferable system of water rights independent of land use and ownership. Chilean water markets often involve transactions like the 'renting' of water between neighbouring farmers with differing water needs. However, the adoption of such market mechanisms is yet to be realized in the Indian context.

While academic literature has highlighted water markets as a crucial institution for demand management in water-scarce India, there are ongoing debates on the potential benefits of water futures markets in the Indian scenario. In September 2022, reports surfaced about the NITI Aayog's plans to release a draft recommendation paper on various instruments for water trading for public consultation. Examples include spot trading, derivative instruments like futures trading of water, and tradable licenses. While the NITI Aayog has placed a document in the public domain on exchanging treated wastewater rights and entitlements through a transparent platform, the efficient price discovery role of water markets is crucial. One needs to understand here that ad-hoc water charges set by governments or regulators often fail to reflect the scarcity value of the resource, as those are not based on market mechanisms. Efficient water demand management relies on market prices signalling the physical availability or future scarcity, making a compelling case for India to consider such markets for effective water governance.

One needs to understand here that ad-hoc water charges set by governments or regulators often fail to reflect the scarcity value of the resource, as those are not based on market mechanisms.

Therefore, the moot point is that the valuation of water that helps in its best possible allocation, and productive efficiency and also meeting the sustainability goals cannot be optimal and efficient if the market forces are left out. One needs to understand that communistic critique of markets being exclusionary can be circumvented if fundamental human needs like drinking water and other human and ecosystem needs for water are excluded from the market framework. Rather these fundamental uses constitute a nominal percentage of total water demand. The bigger demand lies with agriculture, where in many parts of the developing world including India, subsidisation leads to reprehensible wastage even under scarcity. This is where markets need to emerge to signal the present and future scarcity through efficient prices reflecting on the value of the resource. Value, therefore, is not just about numbers; it's a transformative force with profound implications for sustainable water management. Valuation based on the efficient market-based phenomenon has to emerge as the beacon guiding us toward a future where every drop counts.


Nilanjan Ghosh is a Director at the Observer Research Foundation

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