1.2 The economics of water
Water has traditionally been regarded as a free resource in the sense that there is nothing to stop anybody collecting their own supply of water from rainfall. Even water from the public supply is very cheap. Although sand and gravel only cost around £12 a tonne in the UK in 2004 (Argles, 2005), the average of £0.80 per tonne (a cubic metre) for supply of mains water in England and Wales is even cheaper. However, some regions of the world are less fortunate. For example, in Kuwait most fresh water is produced by the expensive desalination of seawater, and there the cost of water is far higher.
Because water is generally cheap, it is uneconomic — or at any rate expensive — to transport water in large quantities very far (although it can flow under gravity or be pumped over shorter distances). Water therefore has a high place value (see Sheldon, 2005, for further explanation of place value). There is effectively no world market in water (although there is some trading between nearby countries, for example Turkey transports water to north Cyprus), so what matters is local availability.
We can use concepts of supply and demand (as reviewed in Sheldon, 2005) to consider the price of water. We need to bear three main points in mind:
A certain quantity of water is essential for life — all life, not just human life.
In most countries the water supply is under the control of a government organisation or nationalised industry, so there is not a free market price for water.
The price of water depends on the source of supply; how far it needs to be transported, what treatment is needed, etc.
We can work out the relationship between price and demand for water by first considering the island castaway. For the few litres a day necessary for survival, the castaway would give any price for the water, be it £0.80 or £80 per cubic metre, for without the water he or she would die. This small quantity of water is an essential amount so in this situation the water is inelastic in demand; this demand will not change even if the price increases. If the price comes down, water will be put to increasingly more uses, for the subsistence demands of cooking and some washing as well as drinking.
As the demand increases to the quantities used per person in developed countries, the situation becomes more complex, as different uses have different demand-price relationships. Consider domestic use. Only 24% of UK households have water meters (2003). Therefore, many people can use whatever quantity of water they wish and still pay the same flat rate for their water.
In the USA most houses have water meters, and so the cost depends on how much water is used. Small increases in price seem to have little effect on demand but large price increases do reduce demand. The quantity of water used in non-metered houses in the USA is about twice that used in metered houses. After metering in England and Wales, the demand fell by 3-21% in different areas. These findings suggest that the use of meters in domestic consumption leads to elasticity of demand. Similar considerations apply to the water used for metered industrial purposes. In recent years several industries have reduced their water bills by redesigning manufacturing processes to use water more efficiently, and electricity generating companies are making increasing use of recycled water for cooling.
The agricultural demand for water is very much influenced by price, so agricultural water is in elastic demand (Box 1.4). A maximum price can be put on the water used for irrigation in terms of the selling price of the crops grown, and this maximum is usually quite low, less than the price that most other users would be able to pay. For example, it takes 1000 litres of water to grow a kilogram of wheat or to produce 5-200 kg of steel (Table 1.2); the steel would fetch a higher price than the wheat, so the steel industry could pay more for its water.
Box 1.4 Agricultural water in the south-western USA
The agricultural water supply in the south-western USA provides an illustration of the general principles of supply and demand. The soil and climate are very suitable for agriculture but the rainfall is low, so irrigation is necessary. To meet the demand for irrigation water, local rivers and underground water sources have been used, but these local supplies are insufficient for further agricultural development and water would have to be brought to the area from elsewhere. There is a surplus of water in States to the north of the area, but to transport this water would cost more than the value of the crops grown, so it is not economic to do so. However, if industry rather than agriculture were to expand in the south-western USA, it might become worthwhile to pay the high cost of transporting water to the area. This is a consequence of water economics: water can be supplied to the south-western USA, but only at a high price, and to be economic the water would have to be used for industry rather than agriculture.
The higher the price that water can fetch, the greater the incentive to supply a larger quantity. Small quantities of water might be obtained fairly easily and cheaply from a local river, ignoring, for the moment, the cost of treating the water, and as long as there is water to be abstracted, a small change in price can produce a large change in the amount of water supplied, so the supply is elastic. If the price is higher, wells can be drilled and underground water pumped to the surface. If the price becomes higher still, it becomes economic to pump water from greater depths, or an alternative supply of water may be used (for example, from a distant river or by desalination of seawater).