California's Man-Made Drought; D. Yandell and M. C. Paganelli

Water has become an everydaytopic, and emo tions are strong. The shortagehas led to a numberof proposals to promote conservationand regulatewater use. Mandatorycutbacksand masterplansfor conser vation have been implementedor are beingcon sideredby waterdistrictsthroughoutCalifornia. Water-usecontrolsincludebans on the opera tion of large fountainsand decorativewater dis plays,restrictionson servingwater in restaurants unlessrequestedbythe customer,andbansonhos ingdowndrivewaysandsidewalks.Limitsonusing sprinklersystemsto waterlawns and shrubshave been imposed,and washingcars at home and fill ingswimmingpoolsandspashavebeenforbidden. The mostsevereproposalscallfor an outrightban on all outdoorresidentialwateruse. Households have been warned of impending mandatorycutbacksof30to 50 percentfromaver age water usagein prior years.The impositionof this severerationingwas postponedin many dis trictsafter heavyrainsfell in March,but planning forsuchrationingcontinues.In SanFrancisco,pri vate homes and businesseshave been budgeted only75 percentof their usualconsumption.Santa Barbara householdsand businesseswere ordered to cut waterusageby 45 percent.

Dirk Yandellis AssociateProfessorof Economics at the UniversityofSan Diego.MichaelPaganelliis astudentof businessand economicsat the Universityof San Diego. Many citiesare using "water-wastecompliant investigators"to rootoutwater-wastingcustomers. Peoplefoundwastingwaterarefirstissueda series ofwarnings,butultimatelyfacefines.Unrepentant "water hogs" have flow restrictersput in place to reducewaterpressureand limitusage. The problem is that all rationingplans ignore the naturalforcesofthe marketplace.All usersdo notplacethesamevalueonwater,butallareasked to curtailusageby the samepercentage. A Marketfor Water Theefficientsolutionis to allowa watermarket to develop so that allocationscan be made in a competitive environment. The way to get con sumersvoluntarilyto use lesswateris to allowthe market price to rise to reflectits decreasedavail ability.At higher prices,consumerswill have an incentive to conserve. Water will be demanded only for its most highlyvalueduses. An efficient allocationresults,and no regulatoryintervention or costlypolicingis needed.

Consumerscomplainedwhenthe priceof gaso line rose during the U.S. buildup in the Persian Gulf, but most understoodthat the priceincrease reflected the expectationof reduced availability and the uncertaintyof future supplies.Shoppers understand that cold weather has a direct influ ence on the pricesof many fruits and vegetables. Consumersregularlysee pricesadjustin response to changesin market forces, and yet the idea of allowingwaterto be allocatedby the samemarket forcesis ignoredin the currentdebate. The focus on residential rationing is curious when one considers that only about 15 percent of the water used in California goes to household and industrial sectors. The remaining 85 percent is used by agriculture. In fact, 40 percent of the state's water is used to grow rice, alfalfa, and cotton, and to irrigate pasture land for grazing' by cattle and sheep. These uses combined produce only about 0.2 percent of total state income.

Water for agricultural uses often is sold at prices well below the price to residential customers. Prices charged to some agricultural users are as low as $8 per acre-foot (one acre-foot of water is the amount needed to cover one acre to a depth of one foot), compared with those to some urban users who are charged well over $200 per acre foot. The focus of the water debate shouldn't be on the regulation of water use, but on means for effi ciently allocating existing supplies. The current allocation of water is determined by historical water rights. Such rights follow the legal concept of "first in time, first in right." This means that those who first claimed the right to a source of water may use it as long as they and their descen dants live. Unfortunately, the right is simply to use the water, not to sell it. To discourage hoarding, most Western states require that the water be applied to some "benefi cial use." If not, water rights can be lost. Because of this requirement, water is used in such histori callydefined "beneficial uses" as irrigating acres of alfalfa or other grasses for grazing cattle or sheep, or for growing cotton or flooding rice paddies in semi-arid regions.

Farmers and ranchers with water rights have no incentive to save water. Excess water cannot be sold to eager urban consumers, and conservation techniques are many times more costly than the cost of the water saved. Farmers often get the blame for urban water shortages, but they are sim ply responding to incentives that government poli cies place before them. Current policies have kept the price of water from reflecting its true value. One acre-foot of water contains about 326,000 gallons. A price of $200 per acre-foot is equivalent to about 6.1 cents per 100 gallons. A few cents per day to keep thou295 sands of dollars of landscaping alive is an expense that most homeowners are happy to pay.The plea sure that a pool or spa provides is well above the cost of the water needed to fillit. Water for cooling or lubrication in a manufacturing process may be much more valuable than as an agricultural input.

Mutually beneficial exchanges, made in a func tioning water market, would allow farmers to sell excess water to the users who most highly value the scarce resource. It is impossible for a central planning body to calculate all the efficient uses of a particular resource. As E A. Hayek put it, central planners cannot compute "the infinite variety of different needs of different people which compete for the available resources .... " The rational approach is to design policies that allow the marketplace to efficiently allocate water to the uses that provide the best economic return. Water markets need to be developed to allow water transfers. This doesn't mean that those with rights need lose them, but only that they face the full market costs of using water. As the price rises, some farmers may find it most profitable to leave their fields fallow and sell their water to others. A water market will allow those with the most highly valued uses to obtain the water they need.

Prices will adjust to reflect the relative scarcity of water. In periods of drought, the price will rise, which will discourage residential water use. Con sumers will find it desirable to switch to brooms and low-flush toilets, just as higher beef prices encourage consumers to eat more chicken and fish. The advantage is that consumers will be free to choose how they use water, and no rationing policy need be put in place. We all watch the disaster of economic planning in the Soviet Union and Eastern Europe and applaud their movement to a more market-orient ed economy. We recognize that their chronic short ages of products from apples to automobiles are a direct result of the failure of a command economy. Somehow most policy makers don't realize that the current water shortage is the result of the same anti-market philosophy. D 296 Teaching Business Ethics in an Environment of Mistrust by Tibor R. Machan N ewsweek recently ran a "My Turn"