One solution to states' water problems could be auctioning off the rights
There are a lot of debates and questions about how we allocate water, especially as supplies become scarcer. But what if we thought about water the same way we think about radio spectra?
Billy Ferguson is thinking about that. Ferguson is a Ph.D. student in economics at the Stanford Graduate School of Business, where he focuses on water property rights and market design. He and his advisor, the Nobel Prize winning economist Paul Milgrom, have written a paper suggesting water could be auctioned off in a manner similar to a radio spectrum auction.
Ferguson joined The Show to talk more about this idea and the connections he says he’s discovered between water allocation and electromagnetic spectrum allocation.
MARK BRODIE: What exactly are those connections? How are they similar?
BILLY FERGUSON: Electromagnetic spectrum was allocated in 1927 primarily for radio and television uses. And so you can think of it as this resource that was allocated a long time ago when the needs of the world were maybe a little bit different than they are today. And spectrum is quite a complicated resource, in that if you have two broadcasters sort of broadcasting adjacently to each other, their signals can interfere. And so if you are, for example, nowadays, you're a big telecom company and you're trying to clear spectrum or use spectrum to broadcast data for phones. If you're trying to buy up the spectrum licenses, you have to be very careful to not interfere with other people that are broadcasting. And so this is a very hard problem to solve between any two individual buyers and sellers because there's a lot of third parties affected.
And similarly in water, when water was allocated, the rights to water were allocated a long time ago through the prior appropriation system and their uses interfere with each other. The runoff from your use can change the water supply elsewhere in the system. Additionally, sort of the local economic value of that water is important. And so you can think of it as another resource that is similarly hard to reallocate between any buyer and seller because of these externalities with others.
BRODIE: It seems like the finite nature of both water and the spectrum, like there's only so much of either, also seems to maybe play a role here as well. Does that sort of play into what you're thinking in terms of how an auction kind of thing could work for water?
FERGUSON: Yeah, that's true as well. So when you have a finite resource, you can’t just produce more spectrum or produce more water very easily. And so, when you have other uses or you think there's a big misallocation of the resource, you need to do something big to sort of facilitate that reallocation.
BRODIE: Well, so how would an auction of water rights, ideally in your mind, go? What would it look like?
FERGUSON: So, based on how we ran the incentive auction for spectrum, the auction has sort of two active components that current right holders would engage in. So one of them, we call a reverse auction. That is one in which water rights are bought back and then a forward auction and that is one in which water rights are sold.
So how this works is in the reverse auction, a very high price is stated at first and all water right holders are supposed to raise their hand, if at that high price, they would sell their water right at that price. And so as the price decreases, you'll start to see that people's hands go down and they would no longer like to sell at that price.
And then sort of on the flip side for the forward auction, we start at a very low price and we say who would want to buy water at this price? Everybody raises their hands and we raise the price until the hands that are down and the hands that are up on the respective sides of the auction equate and that we can balance the system.
BRODIE: By doing it that way you're finding sort of the happy medium where people who have water to sell, have a price at which they're willing to sell it, where it makes sense for them to sell it, and that same price where people who need water are O.K. and can afford to buy it?
FERGUSON: At a high level, that's exactly what's going on, I think exactly as in spectrum, is what we think will happen in water. In actuality, it won't be that everybody is paying or selling at exactly the same price. So some spectrum licenses were worth way more than other spectrum licenses. And so similarly, different water uses or water used in particular places could be more valuable given the hydrological network and where the water is used where the water would go. And so the prices could vary between users, but everybody's getting the same information at the same time about how much money they would be paid or how much money they would have to pay.
BRODIE: I would imagine this also is predicated on the fact that there are enough people who have excess water or excess water rights, who don't need the water they have and can afford, not financially, but afford water wise to sell it.
FERGUSON: Yeah, the goal of the mechanism is to find the people, where selling water is easiest for them. So whether that means they can change what crops they grow, whether that means they can install some sort of treated wastewater system to reuse water, whether that means they can actually just change how they irrigate and they can sell off the savings from having a more efficient irrigation system. We want to be able to, in a single mechanism, find those people who have options to reduce their water use for the cheapest amount and then compensate them, help them make that switch.
BRODIE: I'm curious if there are particular water users or water rights holders that you think this would be better for. You think, sort of, the range of water users between agriculture and cities and homeowners, just sort of regular people, at their homes. Are there certain groups where this might make more sense to do than others?
FERGUSON: Yeah, so I think on both sides, there are certain users that could benefit a lot. So if you’re thinking about agriculture in California, which is the place I study the most, you have a lot of farmers who are growing almond trees, orange trees and these perennial crops need water for many years to produce fruit. And so stability and access to water over a long time period is important for these people. And so being able to, to purchase water on a market would be very useful for them, especially in years of drought because they've made this long, many year investment in these crops. On the other hand, if you have people with annual crops, maybe like alfalfa or just some sort of grain, it's very easy for these growers to not grow for a year and then grow again the following year. So in years of scarcity, there's a nice opportunity for reallocation between these two users. And on the city side, I mean, you have in lots of states across the country but also in California that urban or residential prices for water are skyrocketing. And a lot of this is that utilities do not have easy access to more water. And so there are cities that are already paying so much for water that would be very happy to buy more water from willing farmers, especially in years of scarcity.
BRODIE: When you are looking to create this market system to do this, I wonder if you're envisioning any kind of maybe oversight or control because you know, unlike spectrum, like people can't live without water, you can live without, without radio spectrum, you can't really live without water. So I'm wondering if you're envisioning any kind of way to make sure that people who really need water to survive and to live will still have access to that within the overall market framework?
FERGUSON: I'm really glad you brought that up and that is like a key point where water I think is different than spectrum. And it's important to think about that when you're trying to design the system. What's nice is when you're in this stage where you're imagining this perfect world of how we want a system to look, you can set sort of boundaries on how far you're able to sell or buy water. So for example, there are some people that have said that if an agricultural community sells so much water that they end up fallowing over a quarter of their land, that can have very bad impacts for the local economy. But up to that 25% fallowing sort of boundary, there's not a lot of impact for the community.
And so you could think of sort of guidelines like this, the community can only sell so much water in a given year so that the local economy can adjust and be O.K. And then similarly for cities, their right can never go below a certain amount in a given year. So these are the kinds of constraints that you can put into the system.