In spite of harsh conditions created by persistent drought, populations in southwestern states are growing, placing greater burdens on the water supply. Resource managers and policy-makers face the daunting task of ensuring an adequate water supply for the states’ thirsty residents. There are different water supply options when faced with drought. One method of augmenting the water supply involves voluntary water transfers, negotiated between those who possess secure dry-year supplies and those who want to improve the dry-year reliability of their water. Policy-makers can opt to expand water supply through the use of water banks, spot markets, and dry-year options contracts.
To shed light on the economic behavior of water markets during droughts, CLIMAS researchers sought to identify the effects of drought on water prices in three major western water markets: the Colorado-Big Thompson (CBT) project market, the Arizona Type II water market, and the Central Arizona Project (CAP) market. The CBT project is one of the largest and most complex of the U.S. Bureau of Reclamation water projects, diverting water from the western to the eastern slope of the Rocky Mountains. The Arizona Type II market refers to groundwater rights in central and southern Arizona that can be used for non-irrigation purposes only and can only be transferred within a specified, geographically defined management area (referred to as an Adative Management Area). The Central Arizona Project (CAP) refers to the well-known project that distributes allocations of Colorado River water to Arizona tribes, municipalities, and industrial users. The uses of this water are varied, but unlike the CBT and Arizona Type II markets, prices are not freely negotiated.
The hedonic pricing method was used in the analysis of 946 water market transactions for the CBT region, 44 transactions for the Arizona Type II market, and 67 transactions for the CAP market. Hedonic pricing is used to estimate the economic values for environmental services which affect the price of market goods. Researchers consulted water transaction data from public journals and other research sources for transactions that occurred from 1987 through 2004. Researchers also referred to the Palmer Hydrological Drought Index (PHDI) and the Standard Precipitation Index (SPI) for information relating to groundwater and reservoir levels and for the probability of precipitation at different timescales.
Results indicate that drought conditions play a varying role in the market price of water in each of these three markets. The Arizona Type II results show that under wetter conditions, the price of water is lower, holding all other factors constant. Type II water rights in Tucson and Prescott will cost more than Type II water rights in Phoenix. In addition to the connection between drought and higher prices, results for the Arizona CAP and Colorado Big Thompson markets indicate that water rights purchased for agricultural, industrial, or environmental purposes are less expensive than water rights purchased for municipal use. To put it simply, when drought conditions intensify, the price of water is likely to increase—especially for cities.
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