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Water shortages in California: Let the market do its job

By Trig Mabrey
web posted October 24, 2022

Many people don’t realize just how scarce water is. Economists have a slightly unconventional definition of scarcity. They define any good that is limited and has an opportunity cost to be scarce. This includes goods such as food, oil, and most crucially for California, water. Just like with any other scarce good, the most populous state must answer the three economic questions: What will be produced, how will it be produced, and most importantly, for whom will it be produced.

California has a history of water shortages and mismanagement, not helped by the arid nature of its largest population center and an ongoing drought. This naturally causes problems, including such disasters as wildfires, the Salton Sea debacle, and the near extinction of the Colorado river. However, the current ongoing shortages are not helped by mismanagement and inefficient utilization of the limited supply.

California averages seventy million acre-feet of surface runoff annually, but over 5 times that amount has been allocated for use, draining its groundwater reserves alarmingly fast. This overallocation is exacerbated by first-come-first-served policies that encourage wasteful behavior and antiquated districting that no longer serves any function except impeding intra-state coordination. However dire these crises look; another desert state might have found a way to mitigate many of them.

Australia used to suffer from similar problems, but a series of reforms has overhauled their distribution system to better manage the vagaries of drought and market forces. One of the first changes was instituting a distinction between water entitlements and water allocations, one the ideal amount, and one the percentage that can be used, dependent on the environmental state and current supply. Another was instituting an open market for distribution, based on allocation trading. Unused water can go up on the market to sell, allowing purchase by governments of ecological work, orchards for irrigation, or cities to meet demand spikes. During a drought, a bean or corn farmer might sell his water to a vineyard or citrus orchard, bringing in higher profits than if he had used that water for irrigation.

If California instituted these sorts of measures, it would greatly aid its struggling current market. While Australia sells about 20% of its water supply on the market, only about 5% of California’s water is up for sale, leading to prices of almost $2,000 per acre-foot. If the supply to this market was opened with these reforms, the price would drop in correlation, alleviating the strain on groundwater and desalination plants to make up the current supply deficit. This system is far more flexible, allowing it to better match the market conditions of supply and demand, while still allowing for some government oversight of a crucial communal resource. Some even more radical ideas have been proposed, such as a annual water auction to gauge demand, but these are unlikely to be seen in the short term.

Overall, California could lean much from the successes Australia experienced whilst opening up its water market. Nothing does better at flexibility and efficiency than the free market, and the applications of this pillar of capitalism is long overdue in the production of this good. A quote from David Zetland of Leiden University College sums it up nicely: “Nature makes a drought, but Man makes a shortage.” ESR

Trig Mabrey is a high school AP Macroeconomics student. (c) 2022 Trig Mabrey.

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