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Public submission to water market rules issues paper by Gerald Jensen on
8th May, 2008
It is widely commented upon that the management of water supply in Australia has
not performed well in the face of drought and climate change. I wish to address just
two aspects which I believe are most critical to rational allocation:
1. The basis of trading for water rights should be proportional
We don’t know how much water will be available for allocation in any planning
horizon with any degree of certainty.
It is a nonsense to allocate absolute amounts when there is uncertain supply. What is
required is to allocate a proportion of what is available with high certainty at any one
time. That means that bidders get a set proportion of actual flows (or groundwater
resource, from here on “flows” includes all resource). If the flow is less, they get less.
The absolute amount is determined over a short time interval by those who are in a
position to regulate supply from available resources. The term of forward forecast
flows should be set in keeping with the ability to provide that level of water resource
with high probability, or at any rate to be able to balance any under or over provision
within just a few forecast periods.
If the estimated flow is 1 mega-litre in some short period ( whose duration and
advanced notice is to be determined) and you are entitled to 10%, the calculation is
straightforward. Proportionate rights allocations can be long term.
To clarify the sort of policy that needs to be implemented consider this market
oriented scenario:
Water rights are split over three bands, representing below average expectation,
normal expectations and above average expectations. The expectation band lower
limit values should be at the lower levels of recent and long term levels.
Rights would represent a proportion of available flows, say in units of 1/millionth of
available flows, and would be bid for in a market patterned along the lines of the
ASX, which has an exchange traded options market, and a futures market. These
provide a ready means of obtaining insurance, and monetising assets. The obvious
band limits would be above or below one standard deviation from recent averages.
Commitments on available supply should only take place in respect of flows
available from storage with a very short term scope. That means that an authority able
to control flow will announce how much flow will be released and bidders may buy or
sell according to their short term needs in relation to long term holdings.
To work effectively, exchange contracts need to be facilitated whereby holder X gives
up a right of J unit proportionate rights for a period, after which those are returned.
These sorts of transactions are easily performed on the ASX for shares for example
using so called bull or bear spreads, or on the futures exchange.
Existing water rights could be traded on a uniform basis across the envisaged bands,
and then the market could adjust to the desired proportions of various bidders
according to their risk profile. Some bidders might have a high preference for supply
in the lower bands and care little about the above average band. A government
department concerned about river gums might be content to only hold mid and high
range bands. Conceivably there could be more bands, for example the middle band
could be further subdivided.
Where a supply authority indicates that a certain amount of water may be drawn in a
period, and a holder of rights draws more, then a premium should be paid which
represents for that excess double or more than the then current market rate, plus an
administration fee.
2. There needs to be a premium for efficiency or a penalty for waste.
In present arrangements there are holders of water resource who pass on some amount
to others. There needs to be an efficiency incentive. A Holder of water resource of
size R1 who receives input flows F1 and provides output O1 and finishes with
resource level R2 should pay a levy if R1+F1-O1 is more than R2 since the difference
represents waste, W1. The levy should reflect both W1 and W1/R1. If in year two W2
is less than W1, then there should be a rebate. The levy on waste should rise steadily.