Yesterday the New York Times had a story about California’s four-year drought, complete with apocalyptic imagery and despair over whether conservation would succeed. Alex Tabarrok used that article as a springboard for a very informative and link-filled post at Marginal Revolution digging into the ongoing California drought, including some useful data and comment participation from David Zetland:
California has plenty of water…just not enough to satisfy every possible use of water that people can imagine when the price is close to zero. As David Zetland points out in an excellent interview with Russ Roberts, people in San Diego county use around 150 gallons of water a day. Meanwhile in Sydney Australia, with a roughly comparable climate and standard of living, people use about half that amount. Trust me, no one in Sydney is going thirsty.
California’s drought is a failure to implement institutional change consistent with environmental and economic sustainability. One failure that Alex discusses (and that every economist who pays attention to water agrees on) is the artificially low retail price of water, both to residential consumers and agricultural consumers. And Alex combines David’s insights with some analysis from Matthew Kahn to conclude that the income effect arguments against higher water prices have no analytical or moral foundation — San Diego residents pay approximately 0.5 cents per gallon (yes, that’s half a penny per gallon) for their tap water, so even increasing that price by 50% would only decrease incomes by about 1%.
There’s another institutional failure in California, which is the lack of water markets and the fact that the transfer of water across different uses has been illegal. Farmers have not been able to sell any of their agricultural allocation to other users, even if the value of the water in those other uses is higher. According to the California Water Code as summarized by the State Water Resource Board,
In recent years, temporary transfers of water from one water user to another have been used increasingly as a way of meeting statewide water demands, particularly in drought years. Temporary transfers of post 1914 water rights are initiated by petition to the State Board. If the Board finds the proposed transfer will not injure any other legal user of water and will not unreasonably affect fish, wildlife or other instream users, then the transfer is approved. If the Board cannot make the required findings within 60 days, a hearing is held prior to Board action on the proposed transfer. Temporary transfers are defined to be for a period of one year or less. A similar review and approval process applies to long-term transfers in excess of one year.
Thus in a semi-arid region like California there’s a large rice industry, represented in Sacramento by an active trade association. Think of this rule through the lens of permissionless innovation — these farmers have to ask permission before they can make temporary transfers, Board approval is not guaranteed, and they are barred from making permanent transfers of their use rights. One justification for this rule is the economic viability of small farming communities, which the water bureaucrats believe would suffer if farmers sold their water rights and exited the industry. This narrow view of economic viability, assuming away the dynamism that means that residents of those communities could create more valuable lives for themselves and others if they use their resources and talents differently, is a depressing but not surprising piece of bureaucratic hubris.
Not surprisingly in year 4 of a drought, these temporary water transfers are increasing in value. Just yesterday, the Metropolitan Water District of Southern California made an offer to the Western Canal Water District in Northern California at the highest prices yet.
The offer from the Metropolitan Water District of Southern California and others to buy water from the Sacramento Valley for $700 per acre-foot reflects how dire the situation is as the state suffers through its fourth year of drought. In 2010 — also a drought year — it bought water but only paid between $244 and $300 for the same amount. The district stretches from Los Angeles to San Diego County. …
The offer is a hard one to turn down for farmers like Tennis, who also sits on the Western Canal Water District Board. Farmers can make around $900 an acre, after costs, growing rice, Tennis said. But because each acre of rice takes a little more than 3 acre-feet of water, they could make around $2,100 by selling the water that would be used. …
If the deal is made, Tennis said farmers like himself will treat it as a windfall rather than a long-term enterprise.
“We’re not water sellers, we’re farmers,” he said.
And that’s the problem.