Matete Integrated(2006)

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ANALYSIS

Integrated ecological economics accounting approach to

evaluation of inter-basin water transfers: An

application to the Lesotho Highlands Water Project

Mampiti Mateteaand Rashid Hassan

b, 1

aDepartment of Agricultural Economics, National University of Lesotho, P.O. Roma 180,

LesothobCenter for Environmental Economics and Policy in Africa, University of Pretoria, 0002Pretoria, South Africa

Abstract

This study developed a generalised analytical framework that can be applied tointegrating environmental sustainability aspects into economic development planning inthe case of exploiting water resources through inter-basin water transfers (IBWT). Thestudy developed and applied a multi-country ecological social accounting matrix (MC-ESAM) for Lesotho and SA to evaluate the ecological implications of the LesothoHighlands Water Project (LHWP) and their consequent economic costs and benefits for

the two countries. The study further used the developed MC-ESAM multipliers to analysethe impact of lost ecological services downstream the LHWP dams in Lesotho on thewellbeing of households directly affected by the project in Lesotho and the generaleconomies of Lesotho and SA. The results revealed that while the LHWP has significantdirect and indirect benefits in terms of social and economic development in Lesotho andSA, the project has serious unintended impacts on ecological resources and services, withdeleterious wellbeing implications for populations residing within the reaches of theLHWP rivers and downstream the LHWP dams in Lesotho. The empirical analysis resultsshowed relatively small impacts in general, but were significant for groups of peopledirectly affected by the project in Lesotho. An important limitation of the empiricalcontributions of the study relates to the inability to measure and include in the analysesvalues of critical other ecosystem services of affected freshwater resources. Nevertheless,the study demonstrated the importance of integrated ecological economic accounting forcomprehensive assessment of IBWT projects' impacts.


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Article Outline

1. Introduction2. The Lesotho Highlands Water Project

3. The integrated ecological economics analytical framework3.1. Streamflow services to ecological production3.2. Streamflow water services to households' direct consumption3.3. Streamflow water as intermediate input in economic production3.4. The ecological social accounting matrix (ESAM)4. Data and results of the empirical analysis5. ConclusionsAppendix A. Glossary of ESAM notationsAppendix B. Multi-country ESAM multiplier analysisReferences

1. Introduction

Water is scarce in many regions of the world. But even in countries with an overallabundance of water, demand exceeds supply in many areas. To overcome water deficits,water is often imported through inter-basin water transfers (IBWT) across national,regional and local boundaries to meet increasing off-stream demands in agriculture,industry, hydropower, and household sectors for economic and social development.However, off-stream gains from IBWT are achieved at high ecological costs downstream.

This is because transferring water from one basin to the other can enormously reducewater required for in-stream uses leading to negative impacts on ecological resources andprocesses, which provide direct and indirect benefits to riparians.

Environmental Impact Assessments (EIAs) for inter-basin transfer projects usually leaveout in-stream ecological effects of such projects. The assessments are also often doneafter important projects' elements have been designed (Hirji, 1998). The LesothoHighlands Water Project (LHWP) that transfers water from the Orange River in Lesothoto the Vaal River Basin in South Africa provides a good example. Recently, the LesothoHighlands Development Authority (LHDA) commissioned a study to determine InstreamFlow Requirements (IFRs) necessary to sustain the ecology of rivers downstream the

dams of the project in Lesotho (LHDA, 2002a). However, this was done after importantelements of the project had been implemented, e.g., part A of the first phase of the projecthad already been completed and work on part B had already commenced. It is importantthat in-stream impacts of IBWT are measured and included in IBWT impact assessmentsbefore such projects are implemented, and that mitigation and compensation measuresagainst possible losses are put in place to ensure sustainable flow of in-stream benefits toriparians. Otherwise, IBWT may result in unintended negative impacts that threaten thesustainability of such projects in the long run.


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The major objective of this paper is to develop and apply an ecological economicsframework that integrates ecological considerations into economic assessment models toenable more comprehensive evaluation and analysis of implications of IBWT. Becauseinter-basin water transfers affect many sectors of an economy, a social accounting matrix(SAM) framework is considered most appropriate for assessing the socioeconomic

impacts of inter-basin water transfers. Also, the SAM framework is an important tool foranalysing social aspects (e.g. welfare implications of changes in institutional income) asit traces origins and distribution of income and expenditure (Adelman, 1975, Adelmanand Robinson, 1989, Pyatt and Round, 1985 and Thorbeck, 2002).

Therefore, the SAM can help assess impacts of IBWT projects on different householdsand social groups. Where more than one country is involved, like in the case of theLHWP, a multi-country social accounting matrix (MC-SAM) is needed to trace theimpacts on the economies of all the countries involved. SAM models have been mainlyapplied in the literature to water quantity management issues: Pan (2000) in China,Kumar and Young (1996) in Thailand and Daren et al. (1998) in Canada. Multi-region

country SAMs have been recently used to measure water benefits from the Komati andThukela IBWT in SA (Conningarth Consultants, 2000a and Conningarth Consultants,2000b). These SAM-based studies, however, did not include ecological considerations ofwater transfer schemes (in-stream impacts).

Assessment of the ecological implications of water transfer projects has historically beenperformed as ad-hoc studies separate from direct economic impacts of such transfers.Examples include work done on assessing impacts of water transfer projects on HadeijaNguru Wetlands in Nigeria (Hollis and Thompson, 1993, Barbier et al., 1993, Barbier andThompson, 1998, Acharya, 2000 and Acharya and Barbier, 2000) and work done onestimation of streamflow values in recreational fishing (Johnson and Adams, 1988,

Hansen and Hallam, 1991, Duffield et al., 1992 and Harpman et al., 1993). The presentstudy, therefore, made an attempt to contribute to improving currently used analyticalframeworks for assessing IBWT impacts by developing an ecological economicsframework that integrates ecological impacts into economy-wide models.

The LHWP is used as a case study to empirically apply the developed model. The paperis divided into five sections. The next section gives a brief background to the case studyarea. The analytical framework for assessing economic and ecological impacts of IBWTis discussed in Section 3. Section 4 presents the data and results of the study andconclusions are drawn in Section 5.

2. The Lesotho Highlands Water Project

The prime objective of the LHWP is to abstract water from rivers in the Highlands ofLesotho, store it in reservoirs and transfer it, through gravity, to the water deficient Vaalregion in SA. Before transferred, the water is used to generate hydropower in Lesotho.The transferred water is aimed at augmenting water supply for industrial and residentialuse in the Vaal region. SA pays for the full cost of the project except the hydropowercomponent and also pays US$45 47 million annually in royalties for the water delivered


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(World Bank, 1998), which brings valued foreign earnings to Lesotho. Fig. 1 shows thelocation of the project in Lesotho including the main dams and rivers supplying the dams.The figure also shows sites where populations deriving livelihoods from the LHWPRivers downstream the project dams reside. These are marked as IFR sites in the figure.

Fig. 1. The LHWP location in Lesotho and areas affected by modified river flowdownstream the project dams. Source: LHDA (2002a).

In the IFR sites reside 150 000 riparians whose livelihoods depend on a host of ecologicalservices within the reaches of the affected rivers (LHDA, 2002b). These services depend


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on the flows of the river system (streamflows) and include wild vegetables, medicinalplants, crafts grass, firewood, fish, sand deposits and forage for grazing. The rivers arealso the source of drinking water for riparians and their livestock. They also providecultural/recreational/religious services to riparians. All these benefits were estimated tovalue 45 million Maloti at 2000 prices

2(LHDA, 2002c). LHDA (2002c) also estimated

that, due to the modification of streamflows downstream the LHWP dams, availability ofaforementioned ecological services will decline with deleterious impacts on the welfareof riparians. However, these impacts were not assessed by the EIA of the scheme andhence respective mitigation measures have not been considered.

In SA significant ecological impacts are expected on the As, Liebenbergslei and WilgeRivers, the main rivers connecting the Katse reservoir in Lesotho to the Vaal dam in SA,and Saulpoort Dam (see Fig. 2). The additional water from Katse Reservoir is expected toalter the flow, temperature, chemistry and biology of these rivers and dam. The increasedflow of the rivers is expected to erode the river beds and alter the flows necessary toinundate riparian floodplains and probably destroy existing wetlands that are a habitat for

the spurwing goose, yellow bill duck and Egyptian goose populations, all of which areendemic in the Eastern Orange Free State (Jackson, 1987). The increased flows are alsoexpected to increase the size of the rivers, which is expected to impact positively on thediversity of riverine biota. These impacts were studied by Chutter and Ashton (1990) andChutter, 1992 and Chutter, 1997, but were never quantified as in the IFR studies ofLesotho.


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Fig. 2. The river system in SA connecting the major reservoir (Katse dam) in Lesotho andthe Vaal dam in SA. Source: Adapted from Chutter and Ashton (1990).

3. The integrated ecological economics analytical framework

Because of close trade links between Lesotho and South Africa (i.e. Lesotho obtainsapproximately 90% of its total imports from SA), the use of the MC-SAM is especiallyimportant for capturing economy-wide impacts of the LHWP in both economies. Tomeasure ecological and economic implications of water transferred from one basin to theother through a SAM framework, it is important that ecological values of water areintegrated into the SAM. This is more important in developing countries where the bulkof the population living in rural areas directly derive livelihoods from ecologicalresources and services.3 Unfortunately, conventional SAMs are derived from countries'national accounts (NA) that usually capture values of only traded goods and services

(Abel and Bernanke, 2000, El Serafy and Lutz, 1996 and United Nations, 2003). Sincemany ecological resources and services are usually not traded (e.g. moisture rechargeservice provided by streamflows to riverbank agriculture), their contribution to nationalincome is often attributed to other sectors (e.g. agriculture in this case) or underestimatedin the NA.

To integrate ecological values into economy-wide modeling this study developed andused a conceptual framework that traces flows between water-related ecological andsocioeconomic systems (Fig. 3). The framework incorporates all major transactionswithin the socioeconomic and ecological systems4 and shows how benefits flow withinand between systems (notations used in the figure are defined in Appendix A). The dotted

lines in the figure denote benefits for which providing ecosystems are not compensated(i.e. representing a subsidy from nature). These flows are later formally modeled andpresented in the ecological social accounting matrix (ESAM) presented in Table 1. Asconceptualized in Fig. 3, the freshwater ecosystem comprises two major activities: (i)ecological production (N)5 and (ii) streamflow or natural water (Q). Thestreamflow/natural water includes water quantity and water quality attributes, which inthe system of integrated environmental and economic, accounting (SEEA) language, arecalled water environmental assets (United Nations, 2003 and Pan, 2000). Waterenvironmental assets consist of environmental attributes of water including biochemicaloxygen demand (BODs), chemical oxygen demand (CODs), and ammonium ion (NH4

+)

concentrations (United Nations, 2003). Water quantity and quality form part of thenatural capital and provide three types of services: (i) freshwater to support ecologicalproduction, (ii) freshwater for human consumption, and (iii) freshwater used asintermediate input and waste sink in economic production.


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Fig. 3. Flow diagram of ecological and socioeconomic flows. The dotted lines in thediagram refer to implicit transactions representing income and expenditure by freshwaterand ecological production segments of the system that do not take place through marketexchange but are nonetheless real contributions made as implicit transfers. For example,household does not pay nature for harvesting its wild products (CN) or for use offreshwater services (CQ). Similarly, economic activities do not pay for the services ofecological processes (XNE) and freshwater (XQE). These values, however, represent directand indirect subsidies from nature to production and consumption activities using them inthe form of natural resources rents dissipating to users. Collectively, the freshwaterecosystem forms part of the accumulation accounts in the SAM parlance. Accordingly,this analytical framework assumes that natural water from rivers downstream the LHWP

dams (streamflows) have three main competing uses (services):

(i) Maintaining ecological production (i.e. support of growth and availability ofecological services), valued asXQN.

(ii) Maintaining human wellbeing (i.e. freshwater for direct human consumption andwater required for aesthetic/religious/cultural reasons), valued as CQ, and


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(iii) Maintaining economic production (natural water required as an intermediate input inproduction and as waste assimilation amenity), valued asXQE.

3.1. Streamflow services to ecological production

Ecological production in this model uses two production factors: (i) natural water tosupport growth of biological resources and their services and (ii) economic factors(mainly labor) for harvesting biological resources. Ecological production is directlyconsumed by households (CN) or further used as intermediate inputs in economicproduction (XNE):

YN=CN+XNE (1)

where YN, CN andXNE measure gross value of ecological production, value of ecologicalproducts directly harvested by households for consumption and value of ecologicalproducts and services used as intermediate inputs in economic production, respectively.

Although the system of national accounts (SNA) allows for inclusion of all non-marketconsumption and household production, these are not included in the NA of mostdeveloping countries, mainly because of accounting problems. Lesotho is no exception inthis case. The most recent Household Budget Survey (HBS) of the country (1994) did notinclude values of ecological services and products.

Since ecological production does not explicitly involve market transactions, some of itsvalue goes missing from the NA of Lesotho such as CN, which represents a direct subsidyfrom nature to households harvesting these products. However, the value of ecologicalproducts and services used as intermediate inputs in economic production (XNE) isincluded in the NA as part of the VAD in using sectors and hence economic surplus

dissipating to owners of benefiting economic activities. Both CN andXNE contain variousnatural resource rents' components (rents for ecological production and freshwaterservices) that are realized as subsidies to different economic agents and institutions aswill become clear later.

As said above, ecological production uses freshwater and economic factors (valued inFig. 3 asXQN and WN, respectively). The main economic factor used in ecologicalproduction in this model is labor efforts (i.e. the opportunity cost of labor needed forharvesting products from the wild).

6Suppliers of these factors and services are not

directly compensated for the value of their contributions. Nevertheless, all that value(rents to ecological production and freshwater services of nature), ends up dissipating

directly or indirectly to institutions owning the various factors and economic activitiesemploying such services of nature through CN andXNE.

Accordingly, the value of ecological production can alternatively be measured as:

YN=VADN+XQN (2)


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where VADN measures value added in ecological production andXQN measures thecontribution of freshwater as intermediate input into ecological production. Using Eqs.(1) and (2), we can express VADN as:

VADN=YNXQN=CN+XNEXQN (3)

Consequently, one can derive the value of freshwater (streamflow) contribution toecological production as:

XQN=CN+XNEVADN (4)

However, note that VADN is made up of the value of labor employed in harvestingproducts ofN(WN) and the rent to the natural ecological processes supporting N(RN) andhence:

XQN=CN+XNEWNRN (5)

Or alternatively:

XQN+RN=(CNWN)+XNE (6)

The above indicates that while households and firms are not explicitly paid for supplyingthe production factors and inputs toNthey are compensated through CN andXNE. In otherwords, the actual value that households and firms get ofNoutput includes naturalresource rent components (XQN andRN). For instance, one can think of (CNWN) as thenet subsidy (or share of natures' rent) accruing to households, whereas XNE measures whatfirms reap of nature's resource rent through ecological production as part of their businessprofits. One can split nature's rentRN into two components here, the part accruing to

householdsRNC and that accruing to economic productionRNE.

Biological products and services of relevance to this study include fish, wild vegetables,medicinal plants, wood, crafts and thatch grass, and fine and rough sand. Some of theseresources are harvested for final use in consumption and their value is measured by ( CN)(Pan, 2000). Examples of resources harvested for sale or direct use as intermediateproducts in economic production (XNE) include medicinal plants sold to, or directly usedby traditional healers, wild vegetables, fire and construction wood, sand used in brick-laying and construction, and crafts and thatch grass directly used by, or sold to craftsmakers (LHDA, 2002c). In the case where harvested ecological products are sold inmarkets, they become economic products and hence form part of the commodities block

in Fig. 3 (United Nations, 2003). However, since not paid for, their value (XNE), whichincludes nature's resource rent in economic production (RNE), is absorbed in VAD ofeconomic production sectors.

Notwithstanding, trade in most of these resources mainly takes place in the informalmarkets and hence these values are often not included in national income. For example,riparians who harvest crafts-grass directly from nature either make crafts which they sellin the informal sector, or sell the grass to crafts' vendors who make and sell crafts in the


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informal sector. Therefore, except for the insignificant portion of the grass used inmaking crafts sold in the formal market, most of these resources are traded in informalmarkets. Because in this case benefits from these resources accrue directly to households,they form part ofCN as explained earlier and the corresponding nature's resource rentRNC. Income transferred from ecological production to households (CN) in this particular

case study area is not included in the NA of Lesotho as explained above. This comprisestotal income transferred from ecological production to households CN (which equals thesum ofWN,XQN andRNC from the above discussion).

Under the category of regulatory and supportive streamflow service in ecologicalproduction discussed above, the following values comprise contribution of ecologicalproduction to GDP, and are either missing or improperly accounted for in the NA:

(i) Contribution ofNto households' consumption (CN),

(ii) Contribution ofNto economic production (XNE),

(iii) Contribution ofNto households' labor income (WN), and ecological goods andservices rent dissipating to households (RNC).

Given information on these variables, one could isolateRN andXQN from the total valueof ecological production. In this case study, information is available only on CN, which isadequate since the focus of this study is on the total contribution of streamflow tohouseholds income through ecological production and hence no need to decompose thatto its various components.

Availability of biological resources and services are crucially dependent on the water

quantity and quality that provide supportive and regulatory services for their production.Part of the water from nature is also used for direct human consumption and economicproduction. If due to economic activities the capacity of the natural water (streamflow) toprovide water for direct consumption by households and for maintenance of biologicalproduction diminishes, the availability of ecological resources diminishes, leading toreduced households' welfare.

3.2. Streamflow water services to households' direct consumption

Households do not only use produced water, which we shall call CW (CW is not includedin Fig. 3 for simplicity). That is, the value of water distributed to households by the water

supply sector (see Section 3.3). They also abstract or use water directly from streamflowsor nature for direct consumption or aesthetic/religious/spiritual/cultural purposes, thevalue of which is measured by CQ.

Since water from nature is free, its production function follows that of biologicalresources production (see Section 3.1). It is assumed that only two inputs (i.e. streamflowand labor (sometimes also capital) for collecting water are used in the production of


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natural water for direct human consumption. Accordingly, one can present total value ofnatural water directly consumed by households as:7

CQ=WQ+RQC (7)

where CQ, WQ andRQC represent gross value of streamflow output for direct humanconsumption, the value of labor (and sometimes capital) used in collecting streamflowwater and natural water resource rent accruing to householdsRQC.

Production costs in this case are only labor costs associated with fetching the water (WQ).While households pay CW for water supplied by water utilities, they do not pay forfreshwater services from nature. Thus, freshwater resource rent absorbed in consumption,RQC is a subsidy from nature to households.

The SNA only includes the value of households' consumption of water distributed bywater authorities (CW). In the same manner, only factor income payments made by the

water-producing sector are included in the SNA. The contribution of streamflow/naturalwater to labor services (WQ) and natural water rent dissipating to households fromconsumption of streamflow services (RQC) are not included. Inclusion of both WQ andRQC(orCQ) in the SNA is important as it increases households' purchasing power to expendon other products (i.e. saves households money by not having to buy water). Therefore,the SNA and thus conventional SAM accounts must be extended to account forCQ,which equalsRQC + WQ from the above discussion.

3.3. Streamflow water as intermediate input in economic production

Economic production also uses the quantity and quality of freshwater from streamflows

as intermediate input. Some economic sectors abstract water from nature for direct use inproduction and some abstract water for distribution to other sectors, i.e. water supplyutilities. Because of these two distinct economic uses of water, we split economicproduction between the water producing sector (W) and other economic sectors (E) (thisdistinction, and related notations that follow, are not explicitly made in Fig. 3 forsimplicity). We also split the value of intermediate use of raw water between these twoactivities as: (i) the value of water used as an intermediate input by the water supplysector (XQEW) and (ii) the value of natural water used as intermediate input by othereconomic sectors (XQEE). Therefore,XQE in Fig. 3 equalsXQEW +XQEE (this distinctionbecomes clearer in the ESAM presented in Section 3.4 where a distinction is also madebetween the use of produced and natural water by different sectors).

Economic sectors return water that is no longer useful in its current state back to nature,or streamflows (i.e. water residuals), measured byZ(water residuals are also not includedin Fig. 3 for simplicity). Water residuals can also be re-absorbed by the economic system(e.g., the water used for hydropower generation in Lesotho is re-absorbed by the watersector and transferred to SA).8 In this case, the value of the residual is not altered since itis assumed that the water is returned to nature in its original quantity and quality. But thewater can also be returned in degraded quantity and quality (i.e. polluted water). The


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quantity and quality of water that remains in-stream after water abstraction by economicactivities, or after waste disposal into the streams is also referred to as residual because itrepresents the condition of streamflow after economic production use. To make adistinction between the water producing sector and other economic sectors we denote thevalue of water residuals from the former asZW and those from the latter asZE (i.e.

Z=ZW +ZE).

If the value of the water residual is less than that of raw water used as intermediate inputin economic production (i.e.ZWXQEW < 0 and/orZEXQEE < 0), it means that theopportunity cost of water use in economic production is positive, implying a negativeexternality or a cost to society. Economic production activities must then pay nature thewater resource rent (RQE) to internalize the water quantity/quality loss in terms of lostbiological resources and services and harmful effects that insufficient and polluted watermay have on humans. In this case,RQE =RW +RE, whereRW andRE are water rents to bepaid by the water supply sector, and other economic sectors, respectively. It thus followsthat:9

XQEW=ZW+RW (8)

XQEE=ZE+RE (9)

If economic production activities do not internalize the costs, it means that the rent isabsorbed into private profits. In this case production costs of the externality source sectoris determined by ordinary total private production costs (TCp). But due to the externality,there is extra cost to society (TCe) that is not borne by the externality source sector. Thisdamage is measured as the total sum of decrease in society's utility due to the externaleffect on society and/or firms affected (Sterner, 2003). In this case, the externality

manifests itself as reduced output of biological resources, deterioration in human andanimal health and reduced human welfare in general. If internalized, total socialproduction costs (TCs) would be the sum of total private production costs and totalexternal costs to society (i.e. TCs = TCp + TCe). If the external cost is not internalized,total production costs of the source sector are underestimated and the externality isabsorbed into private profits (uncompensated damages to others).

With this background, the value of services of streamflow (natural water) in economicproduction consists of:

i) The value of freshwater directly abstracted from nature by economic sectors for own

use (XQEE), e.g. water abstracted by agriculture for irrigation and used to provide moistureto dryland farming. In most cases, this water is not paid for, and thus, its value representsa subsidy to agriculture from nature. That value, however, is captured in the NA as part ofVAD generated by agriculture and not attributed to the supplying natural resource sector(freshwater ecosystem).

ii) The value of freshwater abstracted from nature and processed by the water supplyutilities for distribution to other sectors like agriculture, industry, and final consumers


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(XQEW), or even for export to other countries. In this case, water is considered a productand it enters the SNA (United Nations, 2003). However, the value is not allocated to thecorrect sector. Only costs associated with the water infrastructure and purification arecorrectly charged to water using sectors and correctly allocated to the water sector asrevenue in the NA.

iii) The value of water used by economic sectors as a sink for waste products fromproduction (point pollution), i.e. waste amenities (also broadly measured as part ofXQEE).These water benefits are indirectly captured by the SNA as they contribute to improvedVAD in sectors receiving, but not paying for this service.

External costs associated with the use of water in economic production (RQE) are includedin the NA, but are not included as part of the cost of production in economic sectors (theyare rather absorbed as VAD by water using economic sectors). This value thus needs tobe measured and removed from profits of economic sectors and properly allocated to thesource, which is natural water. Therefore, in the ecologically adjusted NA and SAM, RW

andRE in Eqs. (8) and (9) must be subtracted from the GOS of source sectors to calculateoperating surplus adjusted for water opportunity cost, and included in governmentincome account as water rent if government is assumed the custodian of natural resourceson behalf of households, or else be directly included in households income. To meet thedouble entry requirements of the SAM, this value should be paid as compensation toaffected households.

3.4. The ecological social accounting matrix (ESAM)

From the above discussions it is clear that some adjustments and extensions are needed tothe conventional SAM to integrate ecological values. Major adjustments are required on

production and factors' accounts, which have to be split between economic and ecologicalproduction and factors, respectively. Effectively a new set of accounts (ecologicalaccounts) has to be introduced into the SAM, and existing production and factor accountshave to be adjusted with ecological values. Accordingly, corresponding accounts (e.g.households, enterprise and government accounts) have to be adjusted as well. Toaccommodate these adjustments, the ESAM (Table 1) is augmented with two accounts:(i) ecological production and (ii) natural water/streamflow. In the ESAM of Table 1, theinner block (light shade) represents a simplified conventional economic SAM and theouter block (dark shade) represents the ecological system that augments the conventionalSAM structure. The ESAM forms the analytical framework and it gives a snapshot of theeconomic and ecological flows shown in Fig. 3 for a given year. It uses a generic singlecountry SAM as an example to show how ecological values can be integrated in theconventional SAM framework.


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In the ESAM the use of streamflow/natural water by economic activities is explicitly splitbetween the water production activity and other economic activities (i.e.XQE in Fig. 3 issplit intoXQEW andXQEE in Table 1). This explicit presentation is important because water

requirements for economic and human consumption in an economy are met from naturaland produced water. As discussed earlier, water users directly abstract natural water fromnature while produced water is distributed to users by the water supply sector. This sectorabstracts water from nature and distributes it to users in either processed or raw (natural)state. In this study, we assume that any water that is distributed by the water supply sector(or water authority) is produced water even if it is distributed in the raw/natural form (e.g.the water exported by Lesotho to SA is exported in the natural form by the Lesotho watersector). The explicit distinction between natural and produced water is necessary to showthe proportional use of water between the two categories and also show which users(sectors) absorb the water rent.

According to discussions presented in the preceding section, the following adjustments tothe NA and consequently the SAM are needed:

a) By excluding the value of freshwater and other biological products and servicessupported by freshwater ecosystems, which are directly harvested for final consumption,the NA underestimates total output or income. This value needs to be estimated andadded to measures of income, i.e. GDP and GNP (ecologically adjustedGDP = TYN + TYQ, where TYN and TYQ are the missing values of biological productsand services and natural water, respectively).

b) The value of water and other biological products directly harvested for use as

intermediate inputs in economic production is included as part of the VAD in economicproduction. However, products harvested and sold in informal markets are excluded fromGDP.

c) As the SAM also traces the distribution of the values in (a) and (b) to institutions,corrections are needed in the following accounts to properly account for that:

(i) Income of households who directly harvest water and other services for finalconsumption, and thus enjoying the total value of these ecological production activities.Part of this total value represents the contribution of labor to VAD in ecologicalproduction (WN) but also includes the resource rent to the natural water system (XQN andR

CN), which dissipates to households harvesting under common property/open access.

The correction in this case involves paying this additional value estimates in (i) above tohouseholds either through government transfer or directly. In this study, we assume thatthese transfers are made to households directly. Households then spend that additionalincome to pay nature (e.g. buy ecological products and natural water).

(ii) The value of water and ecological products used in economic production (E) isreceived by economic activities and hence rents on those are transferred to business


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owners (government or private enterprises) as a subsidy from nature (XQEW,XQEE andXNE). These values (resource rents) must be estimated, reallocated to ecologicalproduction and natural/freshwater services, which in turn will transfer them to householdsdirectly. Households are already receiving and spending that value on final demandsectors (e.g. consumption, savings, transfers, etc.), but in the conventional NA, this value

is part of enterprise profits distributed to households and not a subsidy transfer fromnature to households.

d) As the quantity and/or quality of water is extracted (degraded), the stock of waterresource assets is affected and hence such change in the value of the asset needs to beaccounted for. Although adjusting the NA for depreciation or appreciation of asset valuesis the most important correction to measures of sustainable income and welfare, the SAMstructure represent flows of value in current period and does not contain assetscomponents. Accordingly, this study did not make an attempt to account for changes inasset values (apart from quality aspects and capacity of the ecosystem to supply productsin future, this is not major for a renewable freshwater resources).

The double entry balances required by the SAM (i.e. for every expenditure there must becorresponding income) are as follows for the augmented accounts in the ESAM:

(i) Ecological production

XNE+CN=WN+RNC+XQN

(ii) Natural water

XQEW+XQEE+CQ+XQN=ZW+WQ+RQC+XQW+RQE

For detailed adjustments of the conventional SAM accounts refer to Matete (2004).

4. Data and results of the empirical analysis

The model developed in the section above was empirically applied using the case of theLHWP as far as the data allowed. The Lesotho and SA SAMs for the year 2000 wereused to develop a multi-country economic SAM for the two countries as the first step tothe development of the multi-country ESAM (MC-ESAM) (see Matete, 2004 for details

on the SAMs). Since the riparians reside in the highlands of Lesotho, and the main focusof this paper is on welfare impacts on riparians due to the LHWP, the households accountin the Lesotho SAM was disaggregated into four groups: (i) high-income mountainhouseholds, (ii) low-income mountain households, (iii) other high-income householdsand (iv) other low income households. The households' account in the SA SAM was alsodisaggregated into low- and high-income households. To build the MC-ESAM, the valuesof ecological resources and services supported by flows of the Lesotho Highlands Riversas well as the value of streamflow in maintaining the health and cultural values of


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riparians calculated by the Lesotho Highlands Water Authority (LHDA) were used toestimate CN and CQ in the MC-ESAM (LHDA, 2002c). Productivity/cost measures wereused to value those ecological resources that riparians use directly or sell in informalmarkets and where in-stream water serves as an input in their production. For streamflowhealth and cultural services, mitigation and transport costs, respectively, were used to

value these services. Valuation details can be obtained from LHDA (2002c) and Matete(2004).

LHDA (2002c) did not calculate the value of streamflow in economic production. Hence,XQEW andXQEE could not be isolated from economic production profits.XNE was assumedto be zero since almost all the harvested ecological resources are traded in the informalmarkets and hence their rent directly dissipates to households (see Section 3.1). LHDA(2002c) also did not explicitly calculate WN andRNC; and WQ,RQC,XQN, andRQE. As aresult, required adjustments in some of the MC-ESAM accounts could not beimplemented and these measures could not be isolated from CN and CQ, respectively.

The value of the loss of ecological resources and services due to the LHWP wascalculated from the biophysical changes resulting from the project, socioeconomic andeconomic information collected by LHDA. The same techniques used in valuingstreamflow services in biological production and direct human consumption were used(see LHDA, 2002c and Matete, 2004 for details). The derived value was used as a proxyforRQE in the MC-ESAM. This was introduced, however, as an external decrease inhouseholds income in the MC-ESAM to analyse the impact of the LHWP, through theloss of ecological resources and services, on households' welfare. The data on ecologicalresources and services relevant for riparian livelihoods, their values and impact value ofthe LHWP are reported in Table 2.

Table 2.

Ecological resources and services values

Resource/service Total value

(million

Maloti at

2000 prices)

Percent loss in

resource/service

(%)

Value of lost

resource/service

(million Maloti at 2000

prices)

Fish 10.77 4.6 1.95

Forage 1.6 0.2 0.09

Medicinal plants 0.52 0.2 0.09

Wild vegetables 4.93 1.7 0.74

Trees and shrubs 24.54 13.5 5.70


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Resource/service Total value

(million

Maloti at

2000 prices)

Percent loss in

resource/service

(%)

Value of lost

resource/service

(million Maloti at 2000

prices)

Crafts and thatch grass 0.92 + 0

Sand 2.14 + 0

Public health 0.26

Animal health 0.17

Total 45.43 20.2 8.99

It is noteworthy to mention that the project also have potential positive water regulationbenefits. It is expected that increased river flows downstream the project dams will leadto increased availability of crafts and thatch grass and sand (see Table 2). The values ofthese resources were not included in the impact analysis since they are currently notlimiting, and thus increase in their abundance will not add much value to riparians. Thisis confirmed by fairly small value of these resources (about 2% 4%). Hence, thisomission will only slightly overestimate the total net losses suffered. In any case, it is notappropriate to net out gains and losses for this kind of exercise as they are of differentnature and might accrue to different people (Klassen, 2002). It should also be mentioned

that the study only considered use values of streamflows and ignored non-use valuesthereof.

For impact analysis, the SAM used the multiplier matrices. Therefore, to analyse theimpact of the loss in ecological resources and services due to the LHWP, the valueimpact is multiplied by the respective multiplier matrix derived from the MC-ESAM tocalculate the total impact on households' welfare and general economies of Lesotho andSA using the equation dY=M2M1dF, where dYis change in endogenous incomes in eachcountry,M1 the intra-country multiplier matrix that shows multiplier effects that resultfrom linkages wholly within each country taken separately.M2 is the inter-countrymultiplier matrix and captures all the repercussions between the accounts of one country

and those of the other, but excludes all of the within country effects and d Fan exogenouschange in Lesotho households income resulting from the loss of ecological resources andservices (see Appendix B for derivation of multi-country multiplier analysis). The resultsof the multiplier analysis are reported in Table 3.


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Table 3.

Impact of lost ecological services in Lesotho due to the LHWP (2000 million Rands)

Total

income inLesotho

Total

income inSA

Change in

Lesothoincome

Percent

change(%)

Change in

SAincome

Percent

change(%)

Agriculture 2687.51 94 302.5 3.11 0.12 1.08 0.0011

Mining 47.4007 115 668 0.03 0.07 0.27 0.0002

Manufacturing 9397.77 1 047 034 7.63 0.08 8.66 0.0008

Electricity 435.636 57 711.5 0.19 0.04 0.33 0.0006

Water 370.289 17 621.6 0.11 0.03 0.10 0.0006

Construction 5019.6 148 571 0.17 0.00 0.10 0.0001

Trade 1889.19 361 783 1.23 0.07 1.83 0.0005

Transport 763.269 275 261 0.51 0.07 1.40 0.0005

Business 1518.67 503 838 2.94 0.19 3.26 0.0006

Community services 1557.63 163 895 1.93 0.12 0.92 0.0006

FACTORS

Skilled labor 1348.69 189 838 0.55 0.04 0.77 0.0004

Semi-skilled labor 1389.2 90 238.8 0.58 0.04 0.37 0.0004

Unskilled labor 2055.11 144 150 0.75 0.04 0.77 0.0005

Capital 2304.98 371 237 1.71 0.07 2.37 0.0006

INSTITUTIONS

Enterprises 1073.98 270 368 0.80 0.07 1.40 0.0005

Mountainhouseholds high-income

240.19

1.92

0.80

Mountainhouseholds low-income

154.44 7.43 4.81


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Total

income in

Lesotho

Total

income in

SA

Change in

Lesotho

income

Percent

change

(%)

Change in

SA

income

Percent

change

(%)

Other households

high-income

4362.69 1.89 0.04

Other householdslow-income

545.94 0.20 0.04

SA high income 513 684 2.38 0.0005

SA low-income 154 620 0.65 0.0004

Total 37 162.18 4 519 821.40

33.71 0.09 26.66 0.0006

Adjusting the SAM for freshwater ecosystems' services values (from Table 2) in the MC-ESAM showed that by excluding ecological resource and service values, the NAunderestimates Lesotho's GDP by M45 million (at 2000 prices). From Table 2, it is clearthat streamflows downstream the LHWP dams provide substantial benefits of highimportance to sustaining riparian livelihoods estimated at M45 million (at 2000 prices).This comprised 24% of riparian total income in 2000 (LHDA, 2002c). Due to the LHWP,the benefits of streamflows downstream the LHWP are likely to fall by approximatelyM9 million (at 2000 prices), thus affecting households depending on these resources forlivelihoods. This comprises 10% of total income of households directly affected by the

project (LHDA, 2002c). For the total mountain households' population, the loss is M1.8million and M7.19 million for high- and low-income mountain households, respectively,and is equivalent to 0.75% and 4.66% of total income of the two groups of households,respectively.

The MC-ESAM multiplier analyses showed that, due to multiplier effects, the total fall indirectly affected households in Lesotho is M1.92 and M7.43 million for high- and low-income mountain households, respectively. This fall represents 0.81% and 4.81%percentage loss in total income of the two groups of households. Because of the inter- andintra-linkages that exist between Lesotho and SA the loss of ecological services does notonly affect households directly affected by the LHWP, i.e., the Mountains households,

but also other households in Lesotho and SA, though the magnitude of impacts on thelatter is low. Other high-income and low-income households in Lesotho are likely toloose income of M1.89 and M0.20 million on average, respectively. In SA, high- andlow-income households are likely to loose income of M2.38 and M0.65 million,respectively. In addition, because of direct and induced multipliers, the loss in ecologicalservices is also likely to affect economic production in both Lesotho and SA.


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In both countries production sectors likely to suffer most are manufacturing sectors withincome loss of M7.63 and M8.66 million for Lesotho and SA, respectively. However, interms of proportion to total income of respective sectors, these losses are insignificant.Again, due to induced multipliers, Lesotho and SA factors are likely to looseemployment, with SA factors loosing by higher magnitudes compared to those of Lesotho

because of the strong forward multipliers that SA has with Lesotho (Matete, 2004). Forexample, the impact of lost ecological values is likely to lead to a total fall in employmentof M1.88 and M1.91 million for Lesotho and SA, respectively, with unskilled labor thehardest hit in both countries (see Table 3). In the case of capital, both countries wereestimated to loose M1.71 and M2.37 million for Lesotho and SA, respectively.

Total impacts were estimated to amount to a loss of M33.79 million for the economy ofLesotho, which is equivalent to about 0.1% of total national income. In SA the totalimpact was estimated to stand at a loss of M26.66 million, which is highly insignificantcompared to SA national income. It is not surprising that the percentage changes are thissmall because of the size of the impact compared to the sizes of both Lesotho and SA

economies. Notwithstanding, the important result remains that, if unaccounted for andmitigated against or compensated, ecological losses due to water transfer projects canhave significant negative impacts on riparians and to some extend, the general economiesof involved countries. It is important to note, however, that this study could not estimateand include in the analyses values of a number of critical freshwater ecosystem functionsand services and consequently the economy-wide consequences of loosing those servicesas a result of the project leading to an unknown downward bias in estimates of actualecological and associated economic costs of the LHWP.

It is evident that the LHWP generates benefits amounting to M9 million accruing tosectors directly benefiting from the LHWP water. This, however, comes at a cost to

households in Lesotho directly affected by the consequent loss of ecological services.According to the compensation principle from the Cost Benefit literature (Freeman III,1994 and Gittinger, 1982), for the project to achieve Pareto improvement required forsustainable development, the ecological losses identified in this study need to beinternalized, either through mitigation activities or direct compensation of loserpopulations by the winning sectors. The estimated total loss of M9.35 million in Lesothois notably much lower (i.e. 1.7%) than the royalties of approximately M540 millionspayable to the government of Lesotho by SA. This means that the transfer of such a smallshare (1.7%) of the royalty to losers would achieve the necessary compensation or covermitigation costs. While the loss of some resources like vegetables, firewood and fishcould easily be mitigated through agricultural programs aimed at growing them in otherareas, other ecological services like human health and spiritual, cultural and aestheticvalues cannot be easily substituted or compensated.

5. Conclusions

Inter-basin water transfer projects undoubtedly have significant direct economic impactsnecessary for socioeconomic development of economies involved in the projects.However, they can seriously affect the capacity of water ecosystems to provide services


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and thus negatively impact on households' welfare. Ignoring these effects can result inun-intended unsustainable development in the long run. Leaving out in-stream(ecological) effects of IBWT results in off-stream users of diverted water enjoying highsubsidies through large profits at the expense of other economic activities and socialgroups affected by the loss of ecosystem services critical for their livelihoods. The impact

results have demonstrated that the LHWP is good for the country of Lesotho because ofits direct benefits and rents received on water transfers to RSA which are significantlyhigher than the in-stream losses of the project. It is important, however, to ensure thatcommunities negatively affected by the project are adequately compensated on theirlosses for sustainable livelihoods.

Because of often very strong inter-linkages between ecosystems functions and economicactivity in multi-sector and multi-regioncountry systems, in-stream (ecological) impactsof IBWT are likely to affect, not only those households directly linked to such projects,but also the entire economies of countries and regions involved. The study demonstratedthe importance of evaluating off-stream benefits from IBWT projects against the total

impacts of in-stream (ecological) effects within an economy-wide framework to get aholistic measure of the net impacts of such projects before being implemented.

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accounting: an overview. In: Y.S. Ahmad, S. El Serafy and E. Lutz, Editors,Environmental Accounting for Sustainable Development, The World Bank, WashingtonDC (1996).

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Appendix A. Glossary of ESAM notations

Notation Explanation

1. Ecological production (N) block

YN Gross value of ecological production

XQN Value of streamflow input in ecological production

RN andRCN andREN

Total ecological goods and services rent, rent dissipating directly tohouseholds and business sector, respectively

WN The value of labor used in harvesting ecological resources

CN The value of ecological resources and services directly harvested byhouseholds for consumption

XNE The value of ecological resources and services directly used as intermediateinputs in economic production

2. Stream flow (Q) block

YQ Total value of natural water available for direct consumption by households

RQ andRQC andRQE

Total streamflow rent absorbed from provisioning services of streamflow andstreamflow rent dissipating to households and business sector, respectively

WQ Value of labor used in collecting streamflow water

CQ Gross value of streamflow output for direct human consumption

3. Economic (E) block

XQE Total value of streamflow used in economic production


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XQEW Value of streamflow used by water supply activity

XQEE Value of streamflow used by other economic activities

EWW Payments by water supply activity to economic production factors

EWE Payments by other economic activities to economic production factors

C Value of economic goods and services consumed by households

G Value of economic goods and services consumed by government

I Value of economic goods and services consumed for investment purposes

Appendix B. Multi-country ESAM multiplier analysis

For analytical purposes, the ESAM is partitioned into endogenous and exogenousaccounts, where the former consist of the endogenous accounts of both countries and thelatter the exogenous accounts of both countries. The endogenous part of the ESAMaccounts is converted into the corresponding matrix of average expenditure propensitiesor coefficients. This is obtained by dividing each element in a given column ofendogenous accounts (Tij) by the sum total of that column (Yj). Thus

(B1)

where i,j = Lesotho or SA.

For endogenous accounts, the total income Yi in each country can therefore be computedas

Y1=A11Y1+A12Y2+F1 (B2)

Y2=A21Y1+A22Y2+F2 (B3)

Following Round (1985) and Reinert and Roland-Holst, 1998 and Reinert and Roland-

Holst, 2001, Eqs. (B2) and (B3) may be written as

(B4)

which is solved as


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(B5)

Eq. (B5) then becomes

(B6)

whereD12 = (IA11)1A12 andD21 = (IA22)

1A21.

Therefore,

(B7)

or

Y=M2M1F (B8)

where Yand Fare stacked vectors of endogenous account incomes and exogenousexpenditures, respectively, andM1 andM2 are multiplier matrices.M1 is the intra-countrymultiplier matrix. It shows the multiplier effects that result from linkages wholly withineach country taken separately.M2 is the inter-country matrix. It captures all of therepercussions between the accounts of one country and those of the other, but excludes allof the within country effects.

Changes in endogenous incomes (dY) (e.g. production activity and factor incomes, andresultant incomes accruing to different socioeconomic groups in each country) resultingfrom changes in injections (dF) (e.g. change in water exports from Lesotho to SouthAfrica) can therefore be expressed as

dY=M2M1dF (B9)

Corresponding author. Fax: +266 22 340000.1 Fax: +27 12 4204958.

2 Maloti (M) is the local currency of Lesotho which is pegged to the SA Rand (R) on parbasis. The M/R value in the year 2000 in relation to the US dollar was US$1 M12.00.3

See Cavendish, 1999 and Cavendish, 1995, and Clarke et al. (1996) for detailed analysis


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on the link between rural households economics and ecosystems.4

It should be noted that ecological systems in this paper only refer to those directlyrelated to the LHWTS water.5 In this case, ecological production refers to production of biological resources andservices supported by streamflows.6

It is noteworthy to mention that although harvesting of biological products is laborintensive, sometimes capital is used (e.g. tools of harvesting). However, capital use in thiscase study in Lesotho is negligible and is usually made by riparians themselves usingown labor and products from nature (e.g. wood). Notwithstanding, sometimes usedcapital includes few manufactured implements like axes for chopping wood, spades fordigging roots, carts for transporting harvests, pangas for slashing grass, etc.7

Note that YQ = CQ +XQN +XQE.8 In this case, the value of water residuals refers to the value of quantity and quality ofnatural water resulting from economic production.9

Note thatRW =XQEWZW is defined only whenZWXQEW and similarlyRE =XQEEZE is defined only ifZEXQEE.

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