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Economic Costs and

Benefits of the Water Nexus

in the Mediterranean

Presented By:

Atif Kubursi

McMaster University

February 12, 2015

European Commission Conference on the

Water-Food-Energy-Ecosystem Nexus for

Mediterranean Countries: Turkey

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• The multiple identities of water

• Is water a reproducible consumer good?

• Is water a factor of production?

• Is water an asset?

• Specific attributes of water

• Competitive markets and water prices

• Total Economic Value (TEV) of water

Outline of Presentation I

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Outline of Presentation II

• Optimizing model: Simulating a

competitive water market

• Shadow prices and scarcity rents

• Structuring a price (tariff) of water • Opportunity cost

• Full supply cost

• Full economic cost

• Substitutability

• Economic efficiency / equity 2

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Water Attributes I

Water is a fugitive, reusable, and stochastically supplied

resource whose production can be subject to economies

of scale which give rise to natural monopoly situations. In

this respect water has many of the characteristics of a

common property resource and a quasi public good.

Water is typically a non-traded commodity that is rarely

sold in a competitive market. There are few overt water

markets where suppliers and demanders exchange

water. Markets in water rights have emerged in several

parts of the world; the most notable examples are in

Australia, Colorado, California and Argentina. But most of

these markets are within national entities and often

represent simulated market solutions.

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Water Attributes II Water values generally differ from the price that would

obtain in a free and competitive market. It is often the

case that water has social value that is above what

private users are willing to pay for it. The allocation of

water often reflects national and social policies and

priorities towards agriculture, the environment, food

security and national security that go beyond serving the

interests of private farmers. Social and policy

considerations apart, the diversion of actual prices from

their scarcity values imposes social costs on the

domestic economy as well as on neighbouring countries.

Water is part of the tragedy of the commons.

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Water Attributes III

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Water is not only a desirable commodity, its availability is

also critical for life. There are little or no substitutes for it.

Furthermore, it is a well entrenched principle that no

matter how scarce water is, every person is entitled to a

minimum quantity that is considered consistent with

human dignity.

The secure supply of water in many regions of the world

is quite low. Security of supply is defined here as the

probability of average flow availability 9 out of 10 years.

In Canada, a country rich in water, this probability is less

than 30% where as it is less than 5% in the Middle East.

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Water Attributes IV

While the total water supply may be limited and, few if any, substitutes exist for it; there exists substantial possibilities for inter-sectoral and interregional substitutions. As well, there are a number of technologies and conservation programs that rationalize demand and raise the efficiency of its use.

Part of the water scarcity crisis is the fact that agriculture on average uses about 70% of the total global supply. It is often the case that other needs are suppressed, but this leaves a wide room for inter-sectoral reallocations and shuffling water between users and uses.

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Water Attributes V

While the quantity of water is in short supply, concern for preserving its quality is perhaps more pressing. Pollution and saline intrusion of the aquifers are being increasingly recognized as critical factors in planning for the future.

Water is the “universal solvent”. It performs numerous ecosystem services including the absorption, transportation, and dilution of pollutants. Water is indispensible to the environment’s pollution abatement capacity.

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Competitive Markets and

Water Prices I

Water is a scarce resource (asset), a scarce commodity and a

scarce input. Economics is particularly suited for dealing with it as

economics after all is the study of how scarce resources are or

should be allocated to various uses and users.

Indeed, water has a price as does any scarce resource, input or

asset. There is a monetary equivalent to water although this is not

the way people typically speak about water. This price need not

emerge from competitive markets. But it has or could be constructed

to have many of the characteristics that are associated with

competitive prices. The price should reflect the scarcity of water and

should disseminate information about this relative scarcity. It should

also invite, if not provoke, the correct (incentives) responses that

prices in general are expected to do.

Competitive Markets and

Water Prices II

It is generally accepted; however, that water is not bought

and sold in competitive markets. This is because in the

case of water at least five of the basic properties of

competitive markets are absent. These five properties

include the following:

Competitive markets include a large number of

independent small sellers and a similarly large

number of independent small buyers that no single

supplier or buyer is significant enough to influence the

price. Each and every buyer and seller in this market

is a price-taker.

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Competitive Markets and

Water Prices III

Second, competitive markets require freedom of entry

and exits and that no barriers exist that preclude easy

entrance or exit.

Third, the product must be homogeneous enough that

each unit is quite similar to any other unit.

Fourth, for a free market to lead to an efficient

allocation externalities must be absent. An efficient

allocation can emerge from a free market when social

costs coincide with private costs. Water production,

however, involves many "externalities“.

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Competitive Markets and

Water Prices IV

Fifth, in a free market that allocates efficiently scarce

resources social benefits must coincide with private

ones. If not, then (as in the case of cost externalities)

the pursuit of private ends will not lead to socially

optimal results. In the case of water, many uses have

social benefits that exceed the private ones. The use

of water in agricultural may result in benefits that

exceed the private returns to farmers. Among these

are food security, border security, and national

interest.

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Competitive Markets and

Water Prices V

The fact that water is not bought or sold in competitive

markets does not mean it does not have a price. It simply

means that this price is not the one where competitive

conditions prevail.

It is possible, however, to build specific models of water

allocations that simulate competitive conditions and where

the optimal nature of markets is restored. Such a model

can explicitly optimize the benefits to be obtained from

water, taking into account the five points made above.

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Competitive Markets and

Water Prices VI

We now have a rich body of literature that informs the setting of

water prices and tariffs to overcome some of the five points listed

above.

The prices that emerge from formal optimization models not only

maximize profits for the producers (producer surplus), but also

maximize the utility of the consumer (consumer surplus).

A multi-objective framework can be developed to design prices that

satisfy goals beyond pure economic efficiency. These constructed

prices permit the optimal allocation of water to its best uses as

would emerge under competitive conditions. In many respects, the

constructed prices are designed to serve as guides to consumers

and producers in much the same way as competitive prices.

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Simulating Competitive

Equilibrium Prices for Water

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Simulating Competitive

Equilibrium Prices for Water

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Shadow Prices and Scarcity

Rent

Harvard WAS

Property rights and Coase Theorem

Kuhn-Tucker conditions

Water values at shadow prices is

below the cost of a fighter jet

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Harvard WAS I

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Harvard WAS II

The Objective Function

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Harvard WAS III

Subject to:

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Adjusted Harvard WAS

The Equity Constraint

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Rationality and Water Use

Ranking by water intensity

Ranking by value

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Structuring an Optimal Water

Tariff

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Efficiency vs. Equity?

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2

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0.5 1 1.5 2 2.5 3 3.5 4 4.5

Quantity

Pri

ce

Water and Sustainability

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Prices need to protect susatinability by encouraging

conservation and substitution where possible.

The Three Dimensions of

Sustainability

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Sustainability and Total

Economic Value

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Blue and Green Water

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Irrigation?

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Virtual Water and Virtual

Riparians I

Most countries ‘import’ embedded water.

160 countries are net food importers.

15% of food produced is traded

internationally.

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Virtual Water and Virtual

Riparians II

It takes 1000 tonnes (m3) of water to

produce a tonne of wheat.

16000 tonnes to produce a tonne of

beef.

Importers of food ‘export’ the water

footprint related to the food imported -

to the food exporter.

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Virtual Water and Virtual

Riparians III

Riparians are rivals

Rivers of fire

Blue Gold

Japan is a virtual riparian to Iraq and Iran

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Food Security I?

Definition of Food Security

Food security is about water security

Getting the highest value per drop of

water

Wasting water, wasting food

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Food Security II?

Food security and over exploitation of

water

Specifically Oman, Saudi Arabia, Syria,

UAE and Yemen withdrew over 80% of

their total water withdrawals for

agriculture purposes in mid 2000`s

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Food Security III?

Between 1990 and 2010, total cereal

consumption of the ESCWA region

increased by 77% while regional cereal

production increased by 38%.

Food Security and food self-sufficiency

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Water and Food Security

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The Water and Energy Nexus I

Water and energy production and

consumption are closely inter-related.

Oil production plants consume large

quantities of water.

Cooling systems in the region use large

quantities of water.

Energy is used extensively for the

production, distribution and treatment of

water. 37

The Water and Energy Nexus II

The region is home to over 25% of the

world`s desalination facilities.

These plants are heavy consumers of

energy.

Energy availability in the region

determines water availability.

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The Water System in Jordan: A

Case Study: Anatomy of Failure I

High leakages in the water supply

network.

High prices for domestic water use (the

smaller component of demand for water)

in order to subsidize larger and more

profligate agricultural water use (the

largest component of water demand).

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The Water System in Jordan: A

Case Study: Anatomy of Failure II

Inadequate and limited use of meters,

limited monitoring and repair of existing

meters.

Inadequate administrative and physical

infrastructure resulting in large financial

losses and physical losses of water.

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The Water System in Jordan: A

Case Study: Anatomy of Failure III

Absence and/or lack of adequate water

conservation programmes and effective

government intervention to encourage

conservation.

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The Water System in Jordan: A

Case Study: Anatomy of Failure IV

Insufficient use of water- conserving

technologies – for example aerators,

low- flow flush toilets, water- and energy-

conserving household appliances, and

limited use of non- traditional and proven

irrigation technologies.

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The Water System in Jordan: A

Case Study: Anatomy of Failure V

Large amounts of water unaccounted for

in the system – as high as 60 or 70 per

cent in most governorates, 76 per cent in

Mafraq.

Inappropriate product structure with

several water-intensive crops produced

for export, such as citrus fruit and

vegetables.

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The Water System in Jordan: A

Case Study: Anatomy of Failure VI

Suboptimization in structuring prices and

crop structures.

Asymmetrical regional water shares

resulting from poor

negotiations and implementation of

water treaties.

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The Water System in Jordan: A

Case Study: Anatomy of Failure VII

Multiplicity in the administrative

structure, where clear responsibilities

and accountability structures are limited

and where overlapping responsibilities

lead to confusion and inaction.

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Conclusions

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Questions?