Market Mechanisms Address Controversy in Member Agency Decision-Making

Water agencies face decisions about significant investments in water resources.  Some projects enhance the reliability of existing service.  Others expand the ability to meet new demands.  Do project benefits justify project costs?  Member agencies with different goals or opportunities may come to different conclusions.  Investment decisions become controversial.  What can be done?

Use market mechanisms to make investment decisions.  How? Define member agency rights to the services provided by the project including assignment of costs and obligations.  Use a subscription process to decide the viability of investment opportunities.  Facilitate trading of project rights post-project completion.  The proposal is not for all investments–the project should represent a large enough commitment to justify the effort of developing market mechanisms.

Define Project Rights.  Consider an investment opportunity that creates a new water source for a water agency.  The water source would be conveyed to a defined integration point with the agency’s water distribution system.  Like the Colorado Big-Thompson Project, define a Unit as an apportioned share of project yield and an apportioned share of project costs.  The water agency would need a wheeling/exchange policy to state the terms and conditions for how water “will be moved” from the project’s integration point to member agencies.

Subscription Process.  The water agency offers Units to its member agencies by subscription.  The project is viable if member agencies order at least the number of available project Units.  If total orders exceed available Units, allocate Units based on member agency orders.  If member agencies order fewer Units than available, then the project is not viable in its current form.  There are three alternatives:

  • market the unsubscribed Units to non-member agencies
  • redesign the project to meet lower demand at prices acceptable to member agencies expressing an interest
  • abandon the project

The Units of viable projects are binding contractual commitments of member agencies.  To the extent that the water agency issues project debt, a Unit’s financial obligation includes an apportioned share of project debt obligations (this follows the California State Water Project).

Trading of Project Units.  Allow subsequent trading of Units among member agencies to allow flexibility in project use over time as circumstances of member agencies change.

Critical Role of Water Agency.  Market mechanisms change the relationship between a water agency and its member agencies, but not the key leadership role of the water agency.  The agency’s investment decision-making uses a “business relationship” rather than political decision-making.  The agency still plays critical roles of identifying project opportunities, develop and negotiate projects,  project financing, and project implementation.  The use of market mechanisms expands water agency responsibilities to define project rights, run subscription processes and oversee trading in project units.

Final Thoughts.  The benefits of the proposal is that projects go ahead only if member agency proponents step up and assume responsibility for project costs and obligations in exchange for project benefits, and member agency project opponents can stay out of the project altogether.  These assessments are not frozen in time.  Unit trading redistributes project benefits and costs/obligations over time as parties’ circumstances or assessments change.  Unit pricing also gives feedback on the wisdom of decision-making.  Unit prices should rise for excellent decisions and fall for poor ones.

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About Rodney T. Smith

Rodney T. Smith, Ph.D., President of Stratecon Inc.—an economics and strategic planning consulting firm—advises public and private sector water users on the acquisition, sale and leasing of water rights and water supplies in the western U.S. He is routinely involved in economic valuation of water rights, water investments, and negotiation of water acquisition and transportation agreements and has served as an expert witness in the economic valuation of groundwater resources, disputes over the economic interpretation of water contracts, economics of water conservation and water use practices, and the socio-economic impacts of land fallowing. For more information, see