Rights regimes that are well designed and implemented are among the most effective tools for distributing water fairly and sustainably. Under one such system, Australian states began reforming water management in 1994. Few others have followed, though attempts at reform in Chile and Yemen have met with varying degrees of success.
To create tradable water rights, Australia first drew up a baseline for water use, taking into consideration past commercial, social and environmental needs. Next, old water rights were replaced with shares that granted holders (usually landowners) a proportion of any annual allocations. Clever formulae take account of the seniority of pre-existing rights. Different classes of shares determine who gets what and when to balance the competing claims of upstream farmers and downstream urbanites. After that a regulatory board makes sure that all users get as much as they are entitled to.
Allocations made to shareholders are tradable, but those receiving them can also store them for the future. This prevents any sudden wasting of water at the end of each year and encourages thrift during a drought. Issuing shares in perpetuity ensures that a holder can have more water only if someone else is prepared to have less. A centralised register holds everything together. Two markets for trading have been created: one in which shares are exchanged, and another for allocations of water in a given year. The idea is not a new one. In places such as Oman, aflaj systems involve villages trading in shares and in minutes of water flow.
Such regime change originally met strong resistance from farmers and other big users in Australia. But trading allocations reaped enormous rewards for shareholders. During the first decade of reform the annual internal rate of return from owning a water right was over 15%; those who held water shares saw the value of their rights double every five or so years. But following this example elsewhere will be tough. Even rich countries will struggle to unbundle rights that have accumulated over decades.
Excerpt from Liquidity Crisis, Economist, Nov. 5, 2016, at 17