Valuation of Water Resources
Glenn-Marie Lange
Center for Economy, Environment and Society
The Earth Institute at Columbia University
Water Policy:
Treat water as an economic good
• Dublin Principles and IWRM—approach
recommended for MDGs
• 2002 World Summit on Sustainable Development in
Johannesburg
• 2003 Third World Water Forum
• 2006 World Water Development Report
• Human Development Report 2006
Beyond scarcity: power, poverty and the global
water crisis
What do we mean by ‘economic
value?’
A commodity has an economic value when people
are willing to pay for it, rather than go without
Water is an essential commodity, so the value of a
small/basic amount for survival is infinite—
people would pay any price.
This is not useful information for policymakers.
But after basic needs are met, people buy water
based on its price compared to other goods they
might buy.
Water’s value is the willingness to pay for water
It is observed when people make a choice between different
products
– How much will a household pay for drinking water?
– How much will a farmer pay for irrigation water?
– How much will a factory pay for clean water?
Why value water?
Water as an Economic Good: After basic needs are
met, water should be allocated to the highest value uses.
Water value provides critical information for
decisions about
• Efficient and equitable allocation of water among competing
users, both
– within the present generation
– between present and future generation
• Efficient and equitable infrastructure investment in the water
sector (how much, where, when)
• Efficient degree of treatment of wastewater
• Design of economic instruments: water pricing, property rights,
tradable water rights’ markets, taxes on water depletion and
pollution, etc.
Water tariffs and water value
SNA values water at price of transaction. Why can’t
we just use this value?
• Because the price charged by water suppliers—if any—
often unrelated to value of water, too low
• Water price often does not even reflect full costs of
water supply!
• Water is not supplied by competitive markets due to
natural characteristics
–
–
–
–
Necessary for human survival
Natural monopoly
Characteristics of public good
Property rights not always well defined for multiple use or
sequential use
– ‘Bulky’ commodity (very high transport costs relative to value
inhibiting trade)
Water tariffs and water value
Some markets for trading water rights
are developing
– Australia,
– California,
– Chile
but still uncommon, local
Price of tradable water rights does not yet
provide a reliable indicator of value because
markets too ‘thin’ (too few traders)
So we must estimate or impute economic value
of water
Can we apply economists’ techniques for
valuing water to the Water Accounts?
There are several concerns about using
economists’ ‘non-market valuation’
techniques
1. Accuracy of water values and cost of
valuation
2. Consistency of value concepts with SNA
3. Aggregation: scaling up site-specific
values
1. Accuracy of non-market valuation
• Data requirements are very high, so valuation
is costly
• Value is often uncertain, very sensitive to
assumptions
Results are often presented as a range of
values rather than a point estimate, a single
value
Values are most reliable for water used as input to
– agriculture,
– hydroelectric power
– other uses where water is a major component of production
costs
2. Concepts of value
Consistent with the SNA?
In principle, SNA measures market values,
or sometimes cost of production
Water valuation techniques were developed
for Cost-Benefit Analysis of projects (not
national economy):
– CBA often tries to measure of economic
welfare (total economic value) not market price
– Programming models measure values in an
optimizing economy which usually differs from
actual economy
3. Aggregation and national
water accounts
• Water values highly site-specific,
dependent on local uses, as well as
season, water quality and reliability
• Values are not amenable to ‘benefits
transfer’—using an estimate from one
case study for another area
• Little experience scaling up local
values to the national level
Major Imputed Water Valuation Techniques
1. REVEALED PREFERENCE TECHNIQUES
(based on observed market values)
Residual value
Marginal contribution of water to output, measured by subtracting all other costs
from revenue
Production function approach
Marginal contribution measured as the change in output from a unit increase in
water input in a given sector
Optimization models and programming
Marginal contribution measured as the change in sectoral output from
reallocation of water across the entire economy
Hedonic pricing
Price differential paid for land with water resources
Opportunity Cost
Price differential for alternative (example: replacing hydroelectric power with coalfired electricity)
2. STATED PREFERENCE
(based on surveys of willingness to pay)
Contingent Valuation Method
Survey of users, especially household water use and recreational services
Methods for Valuing Water’s
Waste Assimilation Services
Waste assimilation services can be valued in 2
ways
• Pollution damages avoided
This approach asks, ‘What would be the cost of
damages ( to health, production activities) that would
occur if we didn’t have this waste assimilation
service?’
• Costs of preventing damage
Value is measured as the costs of measures to
prevent pollution: water treatment technologies,
pollution abatement technologies, purchase of
alternative goods (bottled water)
Most commonly used water
valuation techniques
Agriculture
Manufacturing
Hydroelectric power
Consumer good
Waste assimilation
services
Frequency of
water valuation
studies
Most common methods used
Most common Residual value (and
application
variations)
Production function
Programming models
Production function,
Uncommon
programming
Programming models,
Common
opportunity cost
Common
CVM, programming models
Cost of prevention, Benefits
Common
from damages averted
Residual Value (Value Marginal Product)
The easiest & most commonly applied valuation technique
TVP   pi qi  pwqw
pw 
TVP   pi qi
qw
where
TVP = Total Value of the commodity Produced
piqi = the opportunity costs of non-water inputs to production
pw = value of water (its marginal product)
qw = the cubic meters of water used in production
Non-water inputs include:
intermediate inputs, labor, capital costs, land
Challenges to Implementing
Residual Value Technique
• Is the quantity of water measured accurately?
• Is labor cost accurate—how to value unpaid family
labor?
• Value of land—minus water rights
• Capital costs
– Are all capital costs accounted for accurately?
– What rate of return to capital should be used?
• Are there other inputs that have not been included?
• Do the prices of output & all inputs reflect true
economic value, or are they distorted?
Example: Agricultural water use in Namibia
(Stampriet area)
Farm revenue & costs (in 1999 Namibia $)
Data source
Gross farm income
$ 601,543
Output x market prices from survey
Inputs of goods and services
$ 242,620
Inputs x prices from survey
Value-added, of which:
$ 358,923
Compensation of employees
$ 71,964
Gross operating surplus, of
which:
$ 286,959
Imputed value of farmers’
labour
Wages paid + in-kind payments from survey
$ 48,000
Imputed based on average salary of hired
farm manager
Depreciation
$ 66,845
Depreciation rates x Farmers’ estimated
cost of capital in survey
Cost of working capital
$ 17,059
Imputed as % of the value of fixed capital
Cost of fixed capital
including land, 3% -7%
$75,739 to $176,724
Based on farmers’ estimated cost of capital
reported in survey
Residual value of water
$79,316 to -$21,669
Amount of water used (m3)
Residual value N$/m3
154,869
$0.51 to -$0.14
Farmers’ “best guess;” water is not
metered
Optimization models:
Valuing multiple uses of water
• Residual value and related techniques are good
to estimate the value of water in a single use, or
several closely related uses
• To estimate the value of all uses of water in an
economy, then modeling is needed
– Linear programming
– Computable General Equilibrium (CGE) modeling
– Econometric modeling
• But these approaches are better used for
evaluating changes in water allocation among
users, rather than values in current allocation.
Water Asset Valuation
Asset value = Net Present Value of all future
benefits (value of water services), the case of 2
uses
RR 01  RR 02 RR11  RR12
RR t1  RR t2
V0 

 ... 
2
(1  r )
(1  r )
(1  r ) t
or
RRt1  RRt2
V0  
(1  r ) t
Where
V = Asset value of water
RR = value of water for 2 different uses
in a given year, pw x qw
r = discount rate
When RR is constant for all uses in all years, this
formula becomes: V  RR
r
Water Asset Valuation
New Zealand & Canada (under development):
• Water resources with a single use of water: hydropower only
• Annual water service (hydropower) assumed constant in all future
years
• Valuation method used:
– New Zealand: Residual Valuation Method
Rent = Net operating surplus – return on fixed capital
– Canada: Opportunity Cost, difference between production cost
of hydropower & cost of next alternative, thermal/coal power
Rent = (CT – CH)QEH Where
CT = cost of production per unit of electricity for Thermal power plants
CH = cost of production per unit of electricity for hydropower plants
QEH = quantity of electricity produced by hydropower plants
• Asset Value:
RR
V 
r
Hydropower & Geothermal Power
Asset Value in New Zealand
4,000
Geothermal
3,500
Hydropower
3,000
2,500
2,000
1,500
1,000
500
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
1989
1988
0
1987
Million NZ$
4,500
Which Method is Better for
Valuing Water for Hydropower?
Residual value (New Zealand)
• Does the price charged for electricity reflect the
market value of electricity, or is it regulated?
• If regulated, the electricity price will not reflect
the value of water (rent) and Residual Value
Method is not a good technique
Opportunity cost (Canada)
• Based on difference in costs of production, so it
is a good technique to estimate value of water
even if electricity price is regulated
Can Water Asset Valuation be
done in other countries?
Yes, but….
Data requirements are considerable:
• measure of water asset volume & flows over time
• measure of the annual values of all uses of water over time
Water assets in most countries serve multiple
purposes:
• Agriculture
– Livestock watering
– Irrigation of different crops
• Hydropower--Drinking water--Fisheries habitat
• Sink for waste water
Will the combination of uses change in future?
Will the economic value of each use change?
Approach Water Valuation Cautiously!
Value consistent with SNA: include all values but
indicate type of value and robustness
Accuracy/uncertainty: start with major uses that are
easiest to value (agriculture) & indicate range of
values
Aggregation: implement valuation at local/river
basin level
Asset value: begin with water bodies with single or
few uses that can be easily valued