2. Strengthening multi-level governance and the use of economic instruments in the Piancó-Piranhas Açu River Basin

The Piancó-Piranhas Açu (PPA) Interstate River Basin covers 46 683 km2 of semi-arid territory in the Northeast region of Brazil (Figure 2.1). The PPA river basin hosts 1.4 million people on 43 000 km2, part of the states of Paraíba (60% of the basin) and Rio Grande do Norte (40%) (IBGE, 2011[1]).

Due to its socio-economic and hydrological characteristics, the basin is very fragile in terms of securing water supply now and in the future. The basin’s hydro-climatology is characterised by a rainy season that goes from January to June (yearly rainfall ranges from 440 to 1 050 mm) and the absence of rain during the rest of the year, combined with multi-year drought periods that occur periodically. From 2012 to 2020, the basin experienced one of its worst periods of severe multi-year drought (de Sousa Freitas, 2021[3]). Most rivers are intermittent, thus almost all water supply is provided by several reservoirs that total a storage capacity of 5 352 hm³. Some of these reservoirs operate to maintain river flow and serve as a source of water for irrigators, public water supply and others.

There are three major reservoirs in the PPA river basin, namely the Curema-Mãe d’Agua (CMA, 1 160 hm3), the Armando Ribeiro Gonçalves (ARG, 2 400 hm3) and the Engenheiro Ávidos (EA, 400 hm3), corresponding to 70% of the storage capacity of surface water in the basin (5 659 hm3) (Figure 2.2). The CMA provides water to the Várzea de Souza irrigation district (2 610 hectares in irrigated area plus water supply to two cities totalling 65 000 inhabitants) and regulates flow in a 165 km downstream river reach that serves as the water source to 465 000 inhabitants and more than 4 000 hectares that can be irrigated on 1 250 farms. The ARG is the direct water source for long pipeline systems that provide water to many cities totalling 400 000 inhabitants within and out of the basin. In addition, it regulates flow in the 70 km downstream reach, which provides water to the Baixo Açu irrigation district (2 400 hectares of irrigated area) and 3 766 hectares of irrigated farms taking water from the river, and several aquaculture farms (mainly producing shrimp) totalling 630 hectares in fish tank area. In 2012, there were 54.4 thousand hectares of irrigated land, corresponding to 1.3% of the river basin drainage area. The major temporary agriculture areas produce soybean and maize, while the permanent agriculture areas produce banana and coconuts (ANA, 2016[2]).

Despite the reservoirs, 60% (31 out of 52) of the hydrological planning units1 in the PPA river basin have a negative water supply/demand balance (ANA, 2016[2]). The water resource of the basin aquifers is limited (annual recharge of 458 hm3, equivalent to 8% of the water stored in reservoirs) and little used (93 hm3 or 20% of the annual recharge). Irrigation accounts for two thirds of water demand, fish farming 22%, public water supply 7%, industry and livestock share the remaining 4% (ANA, 2016[2]). There is a lack of investment in water security (e.g. dams, reservoirs, wastewater collection and treatment), due to the limited capacity to invest in the basin. Therefore, targeted measures are needed to enhance the basin’s resilience, cope with supply and pollution issues, and competition across water users.

Irrigated agriculture is one of the main economic activities and has been key to regional development since the 1970s. The irrigated area is about 81 000 hectares (IBGE, 2006[4]). Irrigators are the main water users (65.7%), followed by aquaculture (23.6%), human consumption (7.6%), industry (1.6%) and livestock (1.5%) (Figure 2.3).

Water pollution is a significant challenge for the Piancó-Piranhas Açu river basin due to insufficient sewage treatment and fertiliser runoff (ANA, 2014[5]; ANA, 2016[7]; IBGE, 2006[4]; IBGE, 2011[1]). About 96% of the urban population has access to drinking water in the State of Paraíba and 92% in the State of Rio Grande do Norte. However, sewage collection rates are much lower in the State of Paraíba (2.46%) and the State of Rio Grande do Norte (13.95%) (ANA, 2014[5]) (CBH PPA, n.d.[6]). The main cause of polluted water in the area is lack of proper wastewater treatment, which comes under the responsibility of municipalities. The municipalities face constraints (human, technical and financial) and despite their important role in managing sanitation, including environmental licensing and solid waste management, they seldom participate in river basin committee meetings. The poor engagement of municipalities in water resources management, a common feature in Brazil, hinders any strategic vision for the basin. In addition, the basin culture enables the use of rivers for liquid and solid waste dumping. There are programmes at federal level to support municipalities in the sanitation sector, which is their responsibility.

An ambitious infrastructure project

The São Francisco River transfer, known as the São Francisco Integration Project (PISF), will reduce uncertainty over water availability in the PPA. In 2007, Brazil launched the PISF and began building its infrastructure to boost economic development in the northeast of the country, including the PPA basin. The PISF is the most expensive Brazilian hydraulic infrastructure to date, expected to reach BRL 12 billion (USD 5.8 billion) (da Silva Santos, 2021[8]). Originally scheduled for completion by 2011, the project experienced several delays and cost overruns. Currently in the final phase of execution, the project aims to divert 1.4% of the largest river located exclusively in Brazil to the semi-arid zones of north-eastern Brazil, which are home to 29% of the Brazilian population but only have 3.3% of the country's water resources. It also aims to help the Northeast hydraulic network operate in a more synergistic way (hence the reference in the project name to integration rather than diversion).

The São Francisco River is set to provide water to some of the driest regions of its semi-arid Northeast region. Six river basins will benefit from the project: Jaguaribe (Ceará), Piranhas-Açu and Apodi (Rio Grande do Norte), and Paraíba, Moxotó and Brígida (Pernambuco). According to the Brazilian Ministry of Regional Development, the PISF will assure the supply needs of municipalities in the semi-arid Agreste Pernambucano and Fortaleza Metropolitan region, and would be the solution to the problems brought about by the scarcity of water and severe droughts.

The PISF consists of two independent systems of canals, pipelines and aqueducts (the north axis and the east axis) which extend for approximately 720 km (Figure 2.4). The north axis transfers the waters of the São Francisco River to the basins of the Jaguaribe (Ceara), Piranhas-Açu (Rio Grande do Norte) and Apodi-Mossoro (Rio Grande do Norte) rivers. The east axis connects to the basin of the Paraíba River (Paraíba) and to some basins of Pernambuco (via the Ramal do Agreste, the largest water infrastructure project in Pernambuco). The east axis was the first to come into service, in 2017, and currently supplies five reservoirs in the Paraíba River basin (de Lucena Barbosa et al., 2021[9]).

The project also creates momentum for taking action on pressing issues such as water pollution and freshwater contamination, to which water charges can contribute. The project is implemented by the Ministry of Regional Development with a USD 3 billion budget. Revenues from water charges could contribute to its operability and maintenance. However, with the progress of its implementation, addressing water governance issues in the PPARB becomes even more urgent as PISF will bring substantial changes in the water management landscape requiring the institutional development of government agencies, river basin organisms and operational institutions responsible for hydrologic monitoring, water use control and reservoir operations.

Towards successful implementation of the São Francisco Integration Project

The first phase of the PISF is now in place and starting to highlight issues relating to the operation and maintenance (O&M) of major water infrastructure. The federal government was responsible for financing and delivering the construction phase, establishing the management system and defining the operator at federal level. The states are responsible for O&M and water use. The idea was that the states would charge beneficiaries and provide funds for the operator. Under a contractual arrangement, state water agencies (AESA and IGARN, which are state operators) in both Paraíba and Rio Grande do Norte should pay the PISF federal operator (CODEVASF, Development Company of the São Francisco and Parnaíba Valleys) to receive bulk water from PISF. However, there is no legal provision allowing AESA and IGARN to recover these costs from end users. For federal reservoirs, the federal government (DNOCS, National Department of Works Against Droughts of the Ministry of Regional Development) fully supports O&M costs. Moreover, energy costs are a major operational expense. They vary over the year, making tariff setting very challenging. There is a need to look for operational efficiencies and cheaper sources of energy.

The successful implementation of PISF requires an institutional arrangement that allows for the coordination of federal and state roles, the effective management of the transferred resource, and an efficient and secure financing system. Full commercial operation has not yet commenced, so the resolution of outstanding issues is urgently needed.

Following several best practices (Box 2.1), the following should be considered:

  • Formalising institutional arrangements for decision making for the regulation and management of the PISF scheme, so that roles and accountabilities are clear and changes in demand and water availability are managed sustainably. The design and operation of schemes requires coordination across all levels of government, and the involvement of beneficiaries and other stakeholders. The example of the Société du Canal de Provence (SCP) in France provides an inspirational example of a possible governance arrangement for the PISF. The SCP is a semi-public company created in 1957 as a Regional Development Company, benefiting from a stable shareholding structure, with over 80% of shares held by local authorities. In 1963, the SCP signed a 75-year concession to build and operate the Provence Canal. Within the framework of the concession awarded by the Région Sud Provence-Alpes-Côte d’Azur, the SCP’s primary task was to manage and ensure a secure water supply for Provence. To do so, it designed a state-of-the-art network to guarantees access to water for all customers and uses, and continues to develop and maintain this network today. The Canal de Provence system was conceived to allow adaptation to demand, thus keeping water withdrawals to a minimum.

  • Clarifying the aims and objectives for the PISF, and setting up a communications and engagement programme for beneficiaries so that the basis for operation and funding is clear to all. The project’s objective is regional development, so it should aim to increase welfare by making water available to support economic growth. The PISF helped bring the various states together and closer to ANA. There are regular discussions about the problems, but these have so far not been able to resolve them, which suggests that the current format for dialogue needs to be reconsidered, perhaps through a think tank. In particular, the aims for the PISF need to be agreed in terms of priority beneficiaries and strategic objectives for the region. Ultimately, the dialogue should lead to contribute to the financial sustainability of the project, sharing costs and benefits across beneficiaries. Experience from overseas has shown that the operation of transfer schemes needs to be considered dynamically, so that it can respond to changes in demand, climate change, extremes of weather and environmental impacts. These issues make it imperative that the objectives for PISF should be reviewed, and flexible operational rules established that do not lock the system into rigid processes that may not be sustainable. In Colombia, behavioural change campaigns in the Valle de Cauca contributed to doubling the number of downstream water users implementing conservation measures. Fourteen staff of the local environmental authority trained community leaders in natural resource management, social marketing and campaign planning, while also building their capacity to create trust among different types of stakeholders. As a result, about 1 700 ha of forest are now protected voluntarily by landowners in the region. Valle de Cauca exceeded its annual conservation goal, deforestation rates sank well below the national average and the watersheds see positive trends in the forest and water quality indices.

  • Testing the PISF for risk, resilience and uncertainties using scenarios for different levels of demand and water availability under climate change over timescales compatible with the expected life of water infrastructure (i.e., at least 50 years). Consider how a more integrated portfolio of options, such as greater use of demand management, leakage reduction, effluent reuse, desalination or groundwater, could help manage risk and uncertainty. Like the Canal de Provence and associated infrastructure, the focus is on supply, with investments planned decades (if not centuries) ago, rather than demand (water efficiency, water use reduction). However, given the technical solutions available now and the increasing awareness, including in the agricultural sector, a shift from supply to demand management should be considered.

  • Initiating a programme of engagement and awareness-raising so that good practice for rules of access and charges are in place when full operation starts. The PISF will not offer unlimited free water. Discussions about what a perfect tariff structure should look like risk preventing the implementation of some form of charging. There is a perception that the communities who stand to benefit believe that the water is available to them at zero cost because they have had no communication about the aims and operation of the scheme.

  • Establishing rules for access to the resource, supported by a system of permits and compliance monitoring to encourage users to operate efficiently and minimise wastage. These issues are interlinked, and it is essential that there is a dialogue with all stakeholders in order to reach a resolution on the arrangements for governance and funding. If these matters are not resolved the result will be lack of funds for O&M, deterioration in asset condition, and a failure to deliver the intended welfare and economic benefits of this major scheme.

  • Using water charges to demonstrate that the water has value and there is a cost to making it available and maintaining the assets that provide it. There are fixed costs with all major schemes, and variable ones relating to fluctuations in demand, which ultimately should be funded by those who benefit from an increased security of supply, or from a new supply. The priority beneficiaries are the water customers in the municipalities, who should pay a realistic charge for their water service, subject to safeguards for those for whom affordability is an issue. The PISF will need to operate at capacity to reach all areas with irrigation potential, and there is a belief that users will appear when the water is available. Improved governance arrangements and transparency in tariffs could achieve the original objective of PISF (see next section).

  • Developing a programme for the technical monitoring of the performance of the PISF and other major schemes to review control rules as necessary and inform schedules and budgets for routine and preventative maintenance, so that losses are minimised and all parts of the transfer system operate as designed. Monitor the system on an ongoing basis for impacts, including environmental, hydrological, socio-economic and regional, so that operating rules can be modified to reduce adverse and unforeseen impacts. With all major schemes, it is essential that there is ongoing monitoring of performance so that control rules can be reviewed and revised as necessary to ensure that they are operating as intended, and so that routine and preventative maintenance can be scheduled efficiently. The scheme was constructed in the hope that increasing the security of water supplies would materialise demand to take advantage of the additional resource. An average flow of up to 26.4 m³/second is guaranteed for human and animal supplies. If not all of this is used, it can be allocated for other purposes. Depending on the level in the Sobradinho dam, up to 127 m³/s can be available. The distribution of flows between different user sectors and states, and the charges to be levied, are specified in the Annual Management Plan, which is approved by ANA. Without tight controls and regulation of formal allocation, and enforcement to minimise unlawful use, there is a risk that uncontrolled expansion of use will impact on contracted and priority use. However, increased use brings with it the potential to earn more revenue to cover costs, although this will be offset by increased operational (primarily energy) costs. The example of the Tagus-Segura transfer in Spain demonstrates that environmental impacts might only become apparent over long timescales, so there needs to be a comprehensive, long-term monitoring commitment to understand the effect on flows, water quality and ecosystems.

This section describes opportunities and recommendations based on normative OECD frameworks, studies and reviews on water governance and water management, and international best practices.

The PPA river basin cuts across the States of Paraíba and Rio Grande do Norte. As of 2009, a single River Basin Committee (CBH) governs the PPA river basin, as agreed by the federal level and the two states. The states of Paraíba and Rio Grande do Norte have a Water Resources Councils (CERH), State Secretariats and water agencies – the Paraíba State Water Management Executive Agency (AESA) and the Rio Grande do Norte State Water Management Institute (IGARN). Mapping who does what is the first step in representing the allocation of roles and responsibilities at different levels of government and across functions for water resources management within the basin (Figure 2.5).

Roles and responsibilities across levels of government are allocated as follows:

  • Federal level

    • The National Water Resources Council (CNRH) has deliberative powers, and is responsible for approving the National Water Plan and defining general directives for water management instruments, including water permitting and water charges.

    • The National Water and Sanitation Agency (ANA) is responsible for issuing water permits regarding federal waters. It is also in charge of hydrologic and reservoir monitoring, water use monitoring, control and enforcement, and water management projects at the federal level.

    • The National Department of Works Against Droughts (DNOCS) is a Federal Government department that manages 321 reservoirs in the Northeast of Brazil. Some of those reservoirs are in the Piancó-Piranhas-Açu River Basin and provide 70% of the basin’s surface water.

    • The Ministry for Regional Development (MDR) is the major water infrastructure provider, responsible for policy formulation and implementation. It finances new water systems and dams.

    • The São Francisco and Parnaiba Valleys Development Company (CODEVASF) is the current federal operator of the PISF.

  • State level

    • The State Secretariats for the Environment, Water Resources and Science and Technology of Paraíba and Rio Grande do Norte are responsible for water policy formulation and implementation, and for major water project financing at the state level. These secretariats also own reservoirs built by the state.

    • The Executive Agency for Water Management of the State of Paraíba (AESA) and the Water Management Institute of the State of Rio Grande do Norte (IGARN) are responsible for issuing permits for state waters. They are also in charge of hydrologic and reservoir monitoring, water use monitoring, control and enforcement, and water management projects at the State level. AESA also operates state-owned water systems.

    • The Water Resources Councils of the States of Paraíba (CERH/PB) and Rio Grande do Norte (CERH/RN) have deliberative powers, and are responsible for approving the State Water Plans and defining general directives for water management instruments, including water permitting and water charges at state level.

  • Basin level

    • The Piancó-Piranhas-Açu River Basin Committee (PPA-RBC) was created in 2006 and started operating in 2009. The PPA-RBC is a water parliament gathering 40 representatives from water use sectors, governmental agencies and civil society. It is in charge of fostering discussion regarding water issues, approving the River Basin Management Plan, setting water use priorities, approving water charge methodologies and the implementation schedule.

    • Since the end of 2016, a Technical Office contracted by ANA was established in the PPARB as part of the implementation of the river basin plan. This Technical Office has been developing several operational functions to support water management and governmental agencies.

The Piancó-Piranhas-Açu River Basin Plan is a reference for the River Basin Committee and water resources management bodies of Federal and State rivers (see next section). Approved in 2016, the plan has a budget of BRL 150 million for the first five years and foresees three types of action – management, complementary studies, and projects – targeted at enhancing water security and quality due to the low level of sanitation infrastructure. Actions will be implemented by the River Basin Committee, ANA, AESA and IGARN. The PPA River Basin Plan was extended until 2021 and a basin plan revision is in preparation for the 5-year period from 2022. The main constraints that hinder the implementation of the PPA River Basin Plan are: (1) the ANA budget is the only source of funding for the CBH in the absence of a funding mechanism based on basin water users, and (2) PPA basin measures must be aligned with water policies at state and municipal levels.

In this context, roles and responsibilities need to be clearly defined and allocated, and strong coordination mechanisms put in place. Multi-level governance requires robust articulation between actors and objectives. It also requires strong participation mechanisms to ensure all entities are actively involved. The weak involvement of municipalities in water resource management, which derives primarily from the “double dominion” situation whereby the Brazilian Constitution divides ownership and competences over water resources between the Union (for rivers which cross state boundaries) and federal states, hinders a strategic vision for the PPA river basin.

In the PPA river basin, the choice between relying on existing state agencies and creating a new water management institution (i.e., a PPA Water Agency) is being discussed. To some extent, the problem is not about the institutional structure but rather about efficiently fulfilling water management functions (water quantity and drainage, water quality, flood defence, sewage management and wastewater treatment, and drinking water supply). Thus, it is important to ensure that the governance arrangement chosen bears the functions and powers to exercise its mission at the appropriate scale. As such:

  • Making use of existing structures could be more efficient. In France, when creating the Water Agencies in 1964, these faced problems to hire competent and adequate personnel, hampering their capacity to fulfil their missions. These difficulties in building a new institution are already present in the PPA river basin as the lack of personnel in state water management and environmental agencies hinders operational capacity for inspections in the field. Creating a new institution could aggravate this situation. Moreover, the institutions in charge of water management in both Paraíba and Rio Grande do Norte States provide many levels of accountability, which can be considered positive.

  • Finding the smallest appropriate scale to fulfil water management functions could be a guiding principle. Although each country has its own particularities, following the principle of subsidiarity could be a reference point.

  • Evaluating whether catchment-based institutions are delivering on their mandate could identify gaps and strategically plan measures to overcome them. An example is the self-assessment tool used in the United Republic of Tanzania to evaluate the performance of the nine basin water boards that implement IWRM at basin level. The basin water boards are decentralised administrative units, which together with catchment committees and water users’ associations make up the institutional framework for water resources management. The Performance Assessment Framework is a self-assessment tool that supports basin water boards to regularly assess their performance against their institutional mandate. The tool was developed by the Ministry of Water and Irrigation with the support of the German Society for International Co-operation (Deutsche Gesellschaft für Internationale Zusammenarbeit, GIZ). The Ministry provides support to the boards when conducting the Performance Assessment Framework, which is also an excellent opportunity for the ministry to map the strengths and weaknesses of each (OECD, 2018[13]).

Strengthening stakeholder engagement at river basin level is key to fostering informed and outcome-oriented contributions to water policy design and implementation. Both formal and informal communications are important, and must occur regularly and consistently. In a tentative taxonomy, the OECD (2015[14]) describes some of the advantages and drawbacks that both formal and informal engagement mechanisms bring about (Box 2.2).

  • Formal mechanisms such as water associations and river basin organisations are based on the principle of representative democracy, which confers legitimacy. However, they can be perceived as single-minded when they focus solely on pushing the agenda of a single group of stakeholders. River basin organisations can present challenges in terms of lobbying and consultation capture when discussions and decisions are monopolised by the interests of certain groups. They can also generate principle-agent tensions by which the person sitting at the table voices his/her own concern rather than representing his/her broader constituency. This should be a concern when selecting stakeholders to participate in advisory boards, working groups or assemblies.

  • The informal nature of meetings and workshops can both foster deliberation and build a sense of community. They provide an open atmosphere that makes participants more willing to discuss issues and maximises dialogues that might not come to light through more structured mechanisms. For instance, meetings and workshops are flexible in timeframe and scale (from community meetings to international conferences) and can apply to a range of issues (e.g., from discussing a municipal sewer project to debating transboundary basin management agreements). They offer an opportunity for anyone to express concerns, access and share information, and gain better understanding. However, if tools to involve stakeholders do not have a minimum of structure and mediation, outcomes can be difficult to incorporate into decisions. Follow-up is also needed to turn views and concerns into contributions to decision-making beyond information sharing.

Involvement of underserved/disadvantaged communities requires and is receiving more attention. However, water management professionals need to do more outreach, especially regarding the historical and ecological knowledge of native communities that are sovereign, have rights, but are generally poorly consulted (Box 2.4).

Communication methods and tools are crucial to strengthen the dynamics of collectively agreed water management agreements. In Arizona, communication practices have improved over the last few years. A few years ago, meetings held at Central Arizona Project headquarters in North Phoenix started to be broadcast so that more stakeholders could watch and observe. The pandemic accelerated and improved this trend with the introduction of interactive and remote meetings. Most meetings are held by public bodies, which must share agendas, announce meetings, provide access to materials/resources, etc. Leadership is making much more of an effort to travel and talk to people. Good memos also proved important to convey and share information. It is important to have an accurate database to provide clear, harmonised data and information. Databases are useful especially when dealing with groundwater because modelling highlights evolutions that are otherwise invisible. Stakeholders can be sceptical, and it is important to be transparent about the models used.

Regarding water use compliance, the Annual Declaration of Water Use (DAURH) is an important self-reporting instrument that requires major Brazilian water users to report their annual water volume consumption. DAURH is required in basins and systems where there is pressure on water resources, and has improved the monitoring of water use in many river basins in Brazil. In the PPA river basin, it was required from users representing 75% of water demand met from the six major reservoirs. Other water use monitoring methodologies have been implemented, such as remote sensing of irrigated areas, water use data telemetry, and water use self-reporting using mobile apps. Moreover, the technical office contracted in 2016 executed several activities to support water use compliance assessment in both federal and state waters. Those activities included identification and registration of water users, flow measurement, monitoring of reservoir operations, identification of obstructions in rivers, and technical visits to dams. From 2017 to 2020, more than two thousand technical visits were carried out to check water use status and verify compliance with the rules of uses. In addition, satellite imagery has been used to remotely identify and monitor agricultural areas in the region, as well as irregular uses for which ANA coordinated removal of water pumps and the closure of irregular canals. The combination of field activities with intelligent remote technologies improved water use compliance and helped control water demand through the severe drought from 2013 to 2019. However, further improvements in the monitoring and assessment of water use across the basin are needed and under discussion. Such improvements include operational water management functions to support the implementation of the water allocation rules, like hydrologic and water demand monitoring and control, river dredging, reservoir operations, dam maintenance and safety, water use efficiency, and pollution control. Box 2.5 provides international examples.

The term “water allocation regime” is used to describe the process and tools involved in sharing water resources amongst different water users. This includes establishing water resource plans that define the availability of water and granting water permits to individual water users. It also includes allocating water resources over the long term, as well as seasonal adjustments to the amount of water available to different users, and the allocation of both surface water and groundwater. Several tools exist for translating allocation principles into concrete water management. They include water management plans, water permits, collective entitlements, and enforcement and monitoring tools.

OECD (2015[19]), shows that Brazil made remarkable progress in reforming its water sector since the National Water Law of 1997. However, economic, climatic and urbanisation drivers can increase tensions between water users in some regions and basins, such as the Piancó-Piranhas-Açu (PPA) river basin. The report recommends strengthening coordination between federal and state water policies and putting in place more robust water allocation regimes that can better cope with future risks of water shortage (Box 2.6).

All of Brazil’s water resources are in the public domain (federal or state). The National Water Act of 1997 stipulates that human consumption and livestock have priority over other uses in periods of water scarcity. Pursuant to Decree 3.692/2000, ANA should set minimum flows for state rivers that feed into federal rivers.

Depending on the estimated water supply/demand balance for the coming year, reservoirs and rivers can be subject to negotiated water allocations for that year (Alocação de Água, AA). A permanent water resource compact (Marco Regulatório, MR) is established for reservoirs and rivers with a chronic water deficit (having been the subject of several AAs). The aim is to set limits on the total volume of water available for allocation and establish rules for sharing water during periods of scarcity. Both instruments generally set out:

  • a quota for each use of water (human water supply, irrigation, etc.)

  • water use restrictions to preserve multiple uses in the event of water scarcity

Water allocation regimes in the PPA river basin were established through water agreements at local level. In 2018 and 2019, after an intensive discussion process, new MRs were discussed and implemented for the major reservoir systems of the river basin. In many cases, water allocation rules evolved into joint resolutions signed by ANA and state government agencies defining water use rule for both federal and state waters, thus addressing issues related to the double dominion. Such water allocation agreements usually establish a quota for each water use, considering water availability from the hydrologic system. There are also water use restriction rules associated with reservoir levels or river stream flows. However, further institutional development is needed to implement water allocation rules, both in local water systems and large river reaches.

Implementation of AAs and MRs in the PPA basin started in 2015. In 2021, seven (out of eleven) reservoirs located in the basin were under MR and two more are subject to an AA. In addition to AAs and MRs, compliance with the minimum levels of river flows and water in reservoirs set by the Water Act 1997 may lead to further restrictions on water use.

CBH leads the AA process. Ad hoc commissions ensure the proper implementation of the AAs and communicate on the state of water resources and the risks of water scarcity. MRs are enforceable by way of a resolution made by either the ANA or the relevant state water agency, or both. They comprise sets of rules defined in consultation with local governments and water users (e.g. reference flows at various points throughout the basin, as a basis for allocation decisions). Where they are in force, any water permits must include conditions requiring the water user to comply with the rules set by the MR.

Table 2.2 summarises the key features of Brazil’s water allocation regime.

However, the National Water Resources Policy (PNRH) does not provide clear guidance on how water allocation between sectors should be resolved in times of water scarcity. To manage the risk of scarcity, water allocation in the PPA basin is based mainly on agreements negotiated between users on an annual basis (AAs), which can turn into statutory regulation (MR) if the risk of water shortage in a river or reservoir persists.

Pricing instruments can allocate water among users more cost-effectively. This is the case with abstraction charges provided for in the National Water Law of 1997, as introduced to some extent in the state of Paraiba, provided that they reflect the risk of scarcity and that the rates are not differentiated between users. Cap-and-trade systems would be the most cost-effective by setting (1) an abstraction cap and (2) a price for the water permit, implicitly taxing the abstraction according to the water demand, thus improving water use efficiency. Abstraction charges and cap-and-trade systems (water markets) are discussed below, as well as the combination between them or with direct regulation.

Water allocation is, in essence, a means to manage the risk of shortage and to adjudicate between competing uses. When setting up water allocation regimes, reference flows should involve consideration of non-consumptive water demands, including environmental flows (e-flows), which indicate the flow regime required to sustain ecosystem services at the required level (Box 2.7).

Environmental flow is a very technical subject (with minimum rate, maximum rate, rate of flow over time). A large piece of the environmental flow determination focuses on minimum water flows in relation to water scarcity, with the objective to preserve ecosystems downstream (Box 2.7). Different methodologies can be used. One is based on historical data which are used to analyse historical minimum flows. Through historical data modelling, a minimum flow regulation is determined. Another method is using biological studies to determine the preferences of fish and the associated minimum flow requirements. This method is performed with the support of academics and researchers from universities. In addition, there is important hydrological work and planning done with electricity suppliers to adapt the flows.

In Spain, the vision of environmental requirements has changed a lot. In the past, the dominant vision was very much utilitarian with the purpose of using water and environment to create wealth. The focus started to change in the 1990s when an important drought compromised urban water provision. Later, the Water Framework Directive helped develop and strengthen the concept of ecological flow of rivers. There is still a need to increase these flows but it is sometimes difficult to make users understand that maintaining some ecological conditions is necessary. This will become more and more important in the future, especially to adapt to climate change with increasing water temperature becoming a problem. The importance of environmental flows is now widely recognised, and failure to provide adequate environmental flows can lead to a wide range of negative, and often unexpected, impacts (Box 2.8).

In the US, environmental needs and demands for water are decentralised and vary across jurisdictions. Dealing with environmental flow is key to keep the aquatic ecosystems in good state as this increases sustainability and improves water quality. Nevertheless, environmental flows and needs are hard to value.

The priority given by law to human consumption and livestock over other uses in times of water scarcity can lead (and has) to depriving farmers of their acquired rights to water, with economic consequences due to the absence of a financial compensation mechanism. To compensate farmers faced with this situation, or to prevent this situation from occurring, three options could be considered: (1) a federally guaranteed insurance or reinsurance scheme could be combined with the current AA/MR quota scheme, (2) the generalisation of abstraction charges could replace direct regulation (i.e., the AA/RM regime) with a system of cross-subsidisation in favour of farmers as described above, or (3) auctioning of AA/MR quotas could be allowed, but grandfathering the original rights of farmers.

In Brazil, the large public banks (Banco do Brasil, Banco de Amazonia) cover crop insurance premiums (to an extent) for poor farmers. There is no irrigation insurance. It is indeed more cost-effective to cover the risk of non-production instead of covering the risk of lack of irrigation water. The latter could be considered as a subsidy of agricultural inputs and fall under the subsidy discipline of the WTO.

Multi-risk insurance (pests, droughts, damage caused by wildlife to crops, etc.) would increase the basis for insurance premiums and reduce the rate. The same reasoning applies to insurance at the basin level to pool the risk between all the farmers in the basin. Multi-year insurance contracts would allow better recovery of premiums (by spreading the risk). Defining a drought risk threshold (an “acceptable” level of drought risk) would improve transparency in setting insurance premiums.

To avoid moral hazard, instead of subsidising the insurance premium of some (poor) farmers, it would be more cost-effective to apply a floor premium for all farmers, introduce an additional premium for the rich and redistribute income to the poorest to help them pay the floor premium.

Water pricing instruments could usefully complement crop insurance. In the event of drought, water markets compensate (in part) for the loss of agricultural production with a higher value of water rights, especially long-term entitlements (market adjustment). The generalisation of abstraction charges according to the risk of scarcity would require setting an acceptable scarcity risk threshold, thus improving the implementation of crop insurance. Box 2.9 provides an overview of the functioning of agricultural risk management instruments in OECD countries and emerging economies.

International experience shows that information and stakeholder engagement are key to resolving conflicts in the absence of compensation mechanisms. In California, the role of the state is to create a common water accounting system so that all stakeholders have access to and use similar data and information. Having data and a common basis for technical understanding is crucial for agreement over time. State or local governments can then organise discussions on water allocation using the information from the water accounting system. This is commonly done in California around the issue of water rights. Discussions occur locally before the drought, as the pressure of emergency during the drought increases political sensitivity. Most water decisions are made locally where water demand lies and where land-use and other water demand drivers occur. In addition, this brings more direct accountability and power to water users. In Spain, urban water supply is considered a priority water use. Hence, there is normally no compensation of other users when water use is restricted or cut in case of droughts. However, during the 2005-2006 drought, a public offer was made to sell rights to groundwater use to maintain ecological flow. This successfully reduced pumping. Furthermore, in the Spanish Mediterranean coast, traditional tribunals are in charge of settling water use conflicts between irrigators (Box 2.10).

Three major economic challenges arise in the PPA basin. The first is O&M funding for bulk water storage and transport infrastructure, which is critical to this semi-arid area. It is even more important given that the inter-basin transfer of the São Francisco River raises hopes for socio-economic development in the basin. The PPA basin is sorely lacking in money for O&M of the basin’s small reservoirs. There is seemingly no provision to cover the O&M of these infrastructures in the pricing of water and sanitation or irrigation water services. The second challenge is the implementation of the principle of water pays for water, consisting of allocating the proceeds of abstraction charges to IWRM (to CBH). The third challenge is water allocation and demand management to promote efficient water use and cost-effectively manage the risk of scarcity.

Pricing instruments (water charges, water markets) are relevant to address the three challenges. They create incentives to reduce water demand and allocate water costs effectively. They collect funds to finance infrastructure and integrated water resources management (IWRM). A conceptual framework is proposed to set up pricing and financing instruments in the PPA basin (Figure 2.6). User charges (known in Brazil as “serviço de adução de água bruta”) and abstraction charges (known in Brazil as "cobrança", as stated in the National Water Law of 1997) have different objectives. The first aims to recover the costs of water supply services (requited payment). The latter aims to manage water resources and should contribute to the general budget (unrequited payment). Although limiting flexibility in the use of public funds, but improving the public/political acceptability of abstraction charges, the application of the principle of water pays for water. The principle could also apply in the case of a cap-and-trade system of water use rights at auction, by allocating the proceeds of the auction to IWRM.

Bulk users must finance the O&M of storage and transport infrastructure (reservoirs and PISF) via user charges (serviço de adução de água bruta), according to the very definition of user charges (payment in return for services) (Figure 2.6). User charges can be passed on to the water bill of end users (i.e., water tariffs). As a rule of thumb, as with urban water supply infrastructure, any recourse to public funding for the O&M of bulk water infrastructure should be considered temporary, with user charges eventually recovering all costs to ensure the financial sustainability of infrastructure operators.

Financing the O&M of large water storage and transport infrastructure (bulk water) is essential for the security of water supply in the PPA basin. The federal government bears the capital costs of all major federal bulk water infrastructure projects but is not expected to bear the O&M costs. In practice, however, payments from state water agencies (AESA and IGARN) to the operator of federal reservoirs (DNOCS) for bulk water only cover a portion of the O&M costs of federal reservoirs. DNOCS (that is, the federal public treasury) fills the gap. The Ministry of Regional Development (MDR) recently submitted a bill to Congress to require users to cover the costs of operating and maintaining federal reservoirs.

The same principle should apply to cover the O&M costs of the PISF as it goes into service. In other words, water users in the four states served by PISF (Ceará, Paraíba, Pernambuco and Rio Grande do Norte) should pay its federal operator (CODEVASF) enough to fully fund O&M. ANA (as regulator of water supply and sanitation since 2020) plans to revise the user charge structure to allow the recovery of the O&M costs of the PISF (estimated at USD 53 million per year for the four states served by the PISF). The new structure would consist of two components: a standing charge (USD 0.05/m3) to cover the fixed costs of O&M of the PISF and an additional volumetric charge (USD 0.09/m3) to recover the cost of pumping water from the PISF (mainly electricity costs). The same structure and charge rates would apply to the four states served by PISF. Financing of the O&M of other bulk water infrastructure (non-federal) is at the discretion of state water policy.

The lack of an explicit policy on cost recovery for the O&M of bulk water supply infrastructure threatens the sustainability of the bulk water supply. A simple solution is that wholesale water users pay the full cost of operating and maintaining the wholesale water supply infrastructure. In other words, AESA, IGARN and any other large water users (e.g., cities, irrigation associations) should pay a user charge to CODEVASF and DNOCS covering the costs of O&M of reservoirs and PISF. Likewise, for non-federal bulk water supply infrastructure, O&M costs should be fully recovered from users. In addition, user charges create an incentive to reduce water consumption (improve water use efficiency), encouraging behaviour change.

All large water users should share O&M costs equally (similar volumetric rates for all) to improve feasibility (e.g., public acceptability) and send the same water conservation signal to all. To maintain the conservation signal for all, any cross-subsidy between bulk water sectors (e.g., between cities and irrigation associations) should be sought separately, for example by introducing an additional levy on the user charge of cities whose revenues would be redistributed to irrigation associations.

Public financial support for collective irrigated perimeters amounts to subsidising the costs of providing water for irrigation in agricultural production, which is subject to the subsidy discipline of the World Trade Organization (WTO) (Kibel, 2014[24]). It distorts water use by encouraging irrigation at the expense of other water uses. Managing irrigation water resources would be more cost-effective by directing public money to direct payments that help farmers purchase on-farm water-saving technologies (e.g., drip irrigation).

An argument in favour of public financing for the O&M of storage and transport the infrastructures for bulk water is their public benefits, such regulation of the flow of rivers, supplement of water to natural environments, etc. Debate over the impacts and benefits of bulk water supply infrastructure should be documented with technical and scientific arguments to inform policy making. If such public benefits are demonstrated, this could justify the coverage of O&M costs by the CBH, as part of its role as IWRM authority for the PPA basin. This involves financing the CBH by allocating revenue from abstraction charges in accordance with the principle of water pays for water implemented in Brazil. In France, for example, in 2021, the Adour-Garonne water agency earmarked EUR 4 million to support local communities in bringing their dams into compliance with the objective of "restoring the volumes initially available and improving their management for the benefit of natural environments". Typically, the CBH could provide financial assistance for O&M if the infrastructure has an environmental benefit and not just an economic benefit. By enhancing their environmental benefits, the “greening” of bulk water infrastructure (for example by seeking biodiversity or climate co-benefits with the planting of trees along canals or upstream of reservoirs) would increase eligibility for CBH support.

Making more room for green water infrastructure would allow the beneficiary-pays principle to be applied. This would involve asking the beneficiaries (cities, economic activities) of the PPA basin to remunerate the services of regulating the flow of rivers provided by ecosystems. The CBH could still provide financial assistance to O&M of green water infrastructure (e.g., wetlands, floodplains, alluvial forests) as they provide environmental benefits. The U.S. Army Corps of Engineers created Engineering with Nature: An Atlas, a compilation of 118 constructed projects around the world that show the benefits and diversity of nature-based solutions and how they can be implemented.

Floating solar panels are developing rapidly and massively in the PPA basin (in the state of Paraiba), impacting water resources. Possible effects of covering a reservoir with floating solar panels include, but are not limited to: reduced mixing by wind of the reservoirs, and changes in flora, fauna and related organisms (birds, fish, aquatic plants, mussels, insects, algae, bacteria, viruses, etc.) present in or around the reservoir (Mathijssen et al., 2020[25]). The solar panel operator should provide financial compensation to the water infrastructure operator for side effects on aquatic life and water quality. The amount of compensation should be used to protect and restore aquatic life and water quality. However, part could be allocated to financing the O&M of bulk water infrastructure, which would amount to applying a kind of “electricity pays for water” principle.

Even if it has been used mainly to promote urban development (the “city pays for the city” principle), value capture could be considered as a tool for financing bulk water infrastructure (Inter-American Development Bank, 2016[26]). In other words, the increase in the value of land served by bulk water infrastructure could be taxed over a specified period and the tax proceeds allocated to the O&M of such infrastructure (principle of “land pays for water”). Brazil has a tax system linked to the value of land, both in urban areas (Building and Urban Territorial Tax, IPTU) and in rural areas (Rural Territorial Tax, ITR). These taxes can partially capture the increase in land and property value resulting from the building of water infrastructure. However, the allocation of revenue is not earmarked and depends on the local executive. The collection competence is municipal (IPTU) and federal delegated to municipalities (ITR).

All these sources of financing could be mobilised to facilitate the transition to full recovery of O&M costs through bulk user charges and, for green infrastructure, payments for ecosystem services (Figure 2.7).

Financing the O&M of bulk water supply infrastructure through user charges applied to large water users, as required by the "principle of user-pays", raises the issue of water pricing for the end users to whom these charges will be passed. Tariffs alone should be sufficient to recover the costs of operating and maintaining retail water infrastructure. Relying on the public budget to supplement tariff revenues would make it easier to obtain repayable aid (loans, bonds, shares). However, this “sustainable cost recovery” approach should be seen as an intermediate step towards the ultimate goal of “full cost recovery” (Cox and Börkey, 2015[27]).

The 2006 agreement (Termo de Compromisso) between the Federal and States Government established that the States would cover the PISF operational and maintenance costs. While the States agreed to establish water tariffs, the agreement does not specify that only households would pay. Two States in the PISF region (Ceará and Paraíba) already charge for water use and that affects all sectors including irrigation. Nevertheless, revenues are not enough to cover PISF O&M costs. Beyond the PISF case, irrigators in collective, public irrigated districts can pay a water tariffs to cover irrigation O&M costs. In those cases, water tariffs are an obligation set by the irrigation district operator, the public company CODEVASF, but they would not cover the additional costs related to PISF.

By setting a low-rate consumption cap, increasing block tariffs (IBT) send a stronger conservation signal than simple volumetric tariffs, but they entail higher administrative costs. User charges that cover the full costs of operating and maintaining bulk water (reservoirs and PISF) will increase the water bill for end users. Affordability issues need to be addressed. Social pricing of retail water could be considered by differentiating volumetric tariff or first block size (cheap block), or both, with lower tariff/larger block size for poorer households (e.g. those who have access to social benefits). The water conservation signal would however be better preserved by setting the same volumetric tariff/block size for all, but adding an additional levy on the water bill of the rich and redistributing the income to the poorest to help them pay the water bill (cross subsidy between rich and poor). The same reasoning applies to irrigators.

The low standard of living (in GDP per capita) in the PPA basin should not be an obstacle to recovering the costs of operating and maintaining bulk water infrastructure through user charges (and ultimately, water bills) considering the benefits of a well-maintained water infrastructure on the well-being of the population of the basin, such as increased irrigated area or productivity gains from improved health. The risk of power outage that Brazil has experienced in past years due to insufficient water levels in hydropower dams should sensitise stakeholders in the PPA basin to the need to ensure adequate O&M for bulk water infrastructure in the basin.

The principle of water pays for water consists of allocating the proceeds of abstraction charges collected in the PPA basin to PPA basin management. OECD (2017[28]) assesses the system of water abstraction charges in Brazil and suggests possible improvements (Box 2.11). OECD (2017[28]) also provides a checklist to help Brazil implement water charges (Box 2.12).

The National Water Law of 1997 introduced charging for water abstractions (cobrança) and provided for the allocation of revenue from charges to water management projects in the basin where they were collected.2 But feasibility issues (public/political acceptability) have slowed the introduction of abstraction charges in Brazil. Only some states apply them, such as Ceara and Paraiba.

Since 2015, three river basins in the state of Paraíba have introduced abstraction charges (cobrança). However, their implementation is slow, with a recovery rate of less than 10% in 2017 (OECD, 2017[28]). AESA collected USD 890 000 in “cobrança” in 2020. This amount was entirely allocated to projects for the reuse of wastewater in agriculture in the three basins and for the O&M of state reservoirs. In the State of Rio Grande do Norte, drought has made it politically difficult to introduce such abstraction charges (OECD, 2017[28]).

Discussions are underway to introduce abstraction charges in the PPA basin and allocate a portion of the revenues to finance the O&M of the PISF. This could be justified if the public benefits of PISF were demonstrated. In the meantime, the absence of abstraction charges in the PPA basin seriously compromises the financing of the river basin plan (assuming implementation of the water pays for water principle). Indeed, the financial sustainability of CBH is essential in the search for synergies between the allocation of water and integrated water resource management (IWRM) (Figure 2.8).

Abstraction charges aim to protect waterbodies from which the water was withdrawn against the risk of scarcity. In France, for example, the Adour-Garonne water agency has different abstraction charge rates depending on the nature and fragility of the water resource withdrawn. Likewise, the allocation of the charge revenues to CBH (in application of the principle of water pays for water) must firstly aim to prevent the risks of water shortage through IWRM.

The charge rate should not vary according to the category of user, as is often the case in OECD countries, where farmers and sometimes industry benefit from preferential rates. As is the case with water tariffs, the water conservation signal would be better preserved by setting the same floor rate for all abstractors, but adding an additional levy on rich abstractors and redistributing income for the poorest to help them pay the floor rate (cross-subsidy between abstractors). Another way to cross-subsidise between rich and poor abstractors without compromising incentives to save water would be to allocate more charge revenues to the poor than they pay out. This is what the Adour Garonne water agency does for the agricultural sector (“principle of solidarity”).

Rather than a simple volumetric charge, as put in place by the Adour-Garonne water agency, abstraction charges with an increased block structure could be considered, with a reduced first block size for the water bodies with a high risk of shortage. Any electricity subsidy to abstractors must be removed before introducing an abstraction charge. Box 2.13 provides an overview of the functioning of abstraction charges in France.

In the PPA river basin, there are major water quality problems. In some planning units within the basin, about 85% of sewage is not treated. Municipalities oversee sanitation, but they have limited financial resources to set up proper sanitation. This issue is common to many countries throughout the world, and aggregation of services can be a way forward. In Spain, sanitation is generally done at inter-municipal level thus allowing for a financial solidarity mechanism between large and small municipalities. Small villages that are not able to afford the cost of treatment take part in the planning and water management at inter-municipal level. Some municipalities work with private operators through public-private partnerships for concession or lease contract (for example, in Valencia). In France, water pollution charges are differentiated according to water users, such as households, agriculture and industry – although they can be the same between users. Charges for pollution with domestic origin are based on the water consumption of the household. Table 2.5 compiles the pollution charge for domestic users for the Adour-Garonne River Basin (one of the six river basins in France) and Table 2.6 those for non-domestic users. These charges contrast with those for livestock and pollution with non-domestic origin in agriculture and industry, which are based respectively on number of livestock (above a certain level) and discharged pollutants.

Tradable permit systems can cost-effectively manage the risk of water scarcity. Water trading refers to the process of buying and selling water rights. The terms of the trade can be either permanent or temporary, depending on the legal status of the water rights. Some economists argue that water trading can promote more efficient water allocation because a market-based price acts as an incentive for users to allocate resources from low-value activities to high-value activities. There are debates about the extent to which water markets operate efficiently in practice, what the social and environmental outcomes of water trading schemes are, and the ethics of applying economic principles to a resource such as water. Water trading markets have been set up in a few countries around the world, including Australia, Chile or the United States. In Arizona and California, these markets are used to re-allocate water rights between farmers and municipalities especially during droughts. These markets provide farmers with revenues while it is cheaper for municipalities to pay farmers not to use water rather than building expensive new water assets.

A bill to introduce water markets was submitted to Congress in 2017, but the text has not been examined yet. In Brazil, rights to use water can be granted to both public and private parties. Water rights do not transfer ownership of water, but allow the use of water for a specific period of time, under specific conditions (OECD, 2017[28]).

Establishing a water market requires setting an abstraction cap that is acceptable to all stakeholders, including the environment and local communities. The most cost-effective approach to do this is to build a “risk matrix” that helps manage trade-offs between water uses while protecting the integrity of the water resource. It is also the best way to avoid conflicts of use and to develop a “water culture”. The first step is to identify and define (on a scientific basis) the pool of water resources. Second, the risks to water-dependent environmental, cultural and social values (“in situ values”) must be assessed as well as the opportunity cost of not taking water for economic development (“development risk”). Third, the acceptable level of water abstraction is set by weighting in situ risks against development risks (the risk matrix). The sophistication of this approach depends on the level of risks incurred (value of the investments envisaged, number of populations dependent on water resources, presence of protected natural areas, etc.).

The geographic scope of a water market should ideally be at the scale of the PPA basin, with the basin being the natural hydrologic unit. However, it is common to organise water markets at the sub-basin (catchment) level, as in Australia, or even at the irrigation district level, as in Chile, for practical (presence of gauges) or administrative feasibility reasons. The greater the number of market participants, the more cost-effective the market is in allocating water. Ideally, all the water in the basin should be involved in the market to preserve the hydrological logic.

The period of validity of water rights should be differentiated according to the risk of water scarcity, as mapped in the PPA basin, with annual allocations for areas at risk and longer-term entitlements for areas well provided with water. The latter would obtain higher quotations on the markets because they offer greater security of supply.

Part of the proceeds from the auction of water rights would cover the operating costs of the market (brokers, etc.) but the majority would be allocated to financing IWRM. Public funds for the rural development policy could partially offset the impact on local communities of permanent transfers of water rights to another region. However, if unregulated permanent transfers would be allowed, there is a risk of concentrating water in the hands of a few wealthy water users, who could buy off all the water from numerous small water users. This can have consequences on the local and regional social dynamics, unemployment rates and demographic migrations. Therefore, a proper framework to access the costs and benefits of water market is recommended, as proposed by Wheeler et al. and Grafton (2017[31]; 2019[32]). According to that framework, the existing governance and institutional arrangements and the costs and benefits from trade should be evaluated before the water market implementation. Then, institutional and policy changes should be implemented, including water rights registration and monitoring and enforcement capabilities. Finally, externalities should be continuously monitored and market changes should be implemented as required.

Arrangements should be made to prevent hoarding – such as through 'use it or lose it' policy – and regulatory capture by the market operator. Satellite monitoring combined with modelling of stream flow could help monitor and enforce water rights to surface waters. Boxes Box 2.14and 2.15 provide an overview of the functioning of water markets in the western United States and in the Murray-Darling Basin, Australia.

Instrument combinations may increase cost-effectiveness and public acceptability against the use of an economic instrument alone in meeting PPA basin management objectives. Here, we look at three combinations of instruments: (1) abstraction charges and water markets; (2) abstraction charges and direct regulation; and (3) water markets and direct regulation.

Applied to the same target group, the effect of introducing abstraction charges in the presence of a water market (cap-and-trade of water permits) differs according to the rate of the charges. Charges set at a rate lower than the initial market price do not change the overall level of abstraction set by the cap but reduce the demand for water permits; the market price will gradually align with the charge rate (if all abstractors are obligated under both instruments). If the charge rate is higher than the market price, the incentive for marginal abatement (water saving) is increased, the abatement then exceeding the cap set by the water market. The demand for water permits, and therefore their price, would then drop to zero, with abstraction charges being the only active instrument.

Despite such apparent incompatibility in terms of effectiveness, the combination of instruments could improve cost-efficiency when abstraction charges are used to secure a minimum market price ("floor price"), again if all abstractors are obligated under both instruments (i.e., if the two instruments apply to the same abstraction units). While a floor price can reduce static efficiency in situations where the water market would otherwise produce permit prices below the floor value, such an effect, as well as the relative price certainty it engenders, usually increases dynamic cost-efficiency compared to a "pure" tradable permit system (TPS). The use of a floor price would also help capture windfall rents created by free permit allocation. Abstraction charges could also be used to secure a “ceiling price” (or “safety valve price”) by allowing abstractors to withdraw water for which they do not hold a permit in return for an abstraction charge at a ceiling rate. However, if a ceiling price provides TPS participants with certainty about the costs of compliance, it reduces certainty about the environmental outcome and can reduce dynamic incentives.

Abstraction charges and water markets can lead to creating water scarcity geographically, sectorally and temporally (i.e., creating a “hot spot” of scarcity). Applying an additional charge to participants in a water market located in a sub-basin where withdrawal creates higher marginal scarcity than in other sub-basins can resolve this problem. Figure 2.9 illustrates this concept. Abstractor B, whose abstraction produces much higher marginal damage to water scarcity than other abstractors, is subject to both the water market and the abstraction charge, which increases its incentive to save water. If the charge rate is equal to the differential between the permit price and the total marginal damages on water scarcity of the abstraction concerned, as illustrated, then total static cost-efficiency is maintained and the overall efficiency is increased (although the prices of the permits decrease if the water market cap is not adjusted to compensate).

Although the combination of price and quantity-based instruments may produce greater welfare than either one alone, very few of these combinations have been used in practice. Applying an abstraction charge alongside a water market increases the administrative burden on participants and relevant authorities. The transaction costs associated with implementing and administering a water market increase with the use of price floors and ceilings. However, hybrid price-quantity instruments improve flexibility to deal with uncertainties. A floor price in a cap-and-trade system provides a continued incentive to save water if the marginal costs of saving water are overestimated (as well as minimal revenue generation), while a price ceiling prevents excessive costs if the marginal costs of saving water are underestimated (along with maximum compliance cost certainty). Likewise, a cap provides the certainty of water saving that an abstraction charge alone cannot provide (thus reducing the aversion to the charge).

When both instruments target the same abstractors, direct regulation helps overcome market failures (e.g. principal-agent problems) and information failures that hamper the effectiveness of pricing instruments. Conversely, abstraction charges can reduce the “rebound” effect that direct regulation can induce.3 Direct regulation combined with a pricing instrument can also reduce the occurrence of water scarcity hot spots; while pricing instruments influence total water withdrawal, direct regulation can influence the location of abstraction and its timing.

In terms of cost-efficiency, the addition of direct regulation to an abstraction charge would seem superfluous if the marginal cost of water savings implied by the regulation is lower than the value of the charge. Indeed, abstractors would have already complied with such regulation to achieve water savings at a cost lower than the charge. Figure 2.10 illustrates this for a given abstractor for which water savings are required or incentivised by regulation. But in the real world, static efficiency is increased if the regulation requires or induces water savings with marginal costs less than the value of the abstraction charge (e.g., stringency level A to level C in Figure 2.10) that would not have been achieved due to market failures. However, if the water savings levels required by regulation have a higher marginal cost than the value of the abstraction charge, then the charge will not result in any additional water saving (e.g., stringency levels D and E in Figure 2.10).

Generally, for a given level of water savings, combining a pricing instrument with direct regulation would often be more cost-efficient than using direct regulation alone, as the pricing instruments equalise the marginal incentive of water savings where direct regulation cannot. In addition, a predictable (pre-planned) increase in the stringency of regulatory requirements and abstraction charge rates increases dynamic cost-efficiency.

By combining a pricing instrument and direct regulation to tackle the occurrence of scarcity hot spots, static cost-efficiency is maintained, with potential overall efficiency increased if the additional marginal cost of water savings from the secondary instrument is equal to the difference between the marginal cost of the primary instrument and the marginal damage to water scarcity.4 As discussed above, this is also the case with the combination of an abstraction charge and a TPS (Figure 2.9).

A well-designed combination of direct regulation and abstraction charges would be more publicly and politically acceptable than resorting to a high charge rate or stringent regulation to achieve a given level of water savings. Using regulation to supplement an abstraction charge can reduce uncertainty about short-term and longer-term actions to save water, especially if the charge rate is set too low (compared to water saving costs).5 However, the flexibility of this combination is likely to decrease as the stringency of regulation increases.

Direct regulation can be used to supplement a water market to prevent water scarcity hot spots. However, supplementing a water market with direct regulation of any design, scope and level of stringency will not reduce the total volume of water abstracted, which, ceteris paribus, will remain on aggregate at the level of the cap. Likewise, the use of water markets to support direct regulation does not reduce the aggregate water savings beyond what would be expected from the use of regulation alone (because once each abstractor meets its regulatory requirements, the demand for and the price of water permits drops to zero).

A water market (an aggregate limit imposed by a cap-and-trade system) can be used to increase flexibility and reduce the cost of complying with regulation specific to subgroups (e.g. sector, irrigation district, type of industry). Abstractors that outperform regulation can generate credits that the underperformers can buy to fill their deficit. This is the essence of a baseline-and-credit system.

Using direct regulation to supplement a water market has a positive impact on static and dynamic cost-efficiency if regulation reduces market and information failures that limit the influence of the price signal produced by the water market. However, the regulation must require or incentivise the use of technologies or behaviours with a marginal cost of water savings below that of the permit price to maintain static cost-efficiency. Otherwise, total compliance costs are increased with permit demand and prices likely reducing in response, diminishing the efficiency benefits of a water market.

An exception to this is when a direct regulation attempts to address water scarcity hotspots, with marginal costs of water savings imposed that are equal to the difference between the permit price and the total marginal damages on water scarcity of the abstraction concerned. In such cases, static cost-efficiency is maintained, and overall economic efficiency is increased.

Using a water market in addition to regulation can achieve a given level of water savings more cost-efficiently (both statically and dynamically) than using direct regulation alone. This is because pricing instruments equalise the marginal incentive to save water when direct regulation cannot. However, to maintain cost-efficiency the cap or baseline of the TPS must be set considering the water savings expected from the regulation.

Political acceptability is likely to differ depending on which instrument is primary and which is secondary. Using direct regulation to resolve hot spot issues in a water market is likely to increase the total costs of compliance, thereby reducing acceptability compared to a single water market. The same applies to more general regulations (e.g. broadly applicable minimum performance or technology standards), even if the measures or behaviours induced have marginal costs lower than that of the permit price, the reduction in flexibility that this represents may reduce acceptability. Additionally, the nature of a water market means that permit prices are likely to vary over time - perhaps substantially. While it can lead to inefficiencies and reduced feasibility, a supplementary direct regulation can help address uncertainties and ensure a minimum level of environmental effectiveness in the short (and potentially long) term. On the other hand, by adding a water market to a regulatory instrument, increasing flexibility and the possibility of reducing compliance costs, acceptability and the ability to deal with uncertainties can be increased.


[30] Adour-Garonne Water Agency (2021), Homepage, https://www.eau-grandsudouest.fr/ (accessed on 10 December 2021).

[7] ANA (2016), Background report on setting and governing economic instruments for water policy in Brazil.

[2] ANA (2016), “Plano de recursos hídricos da bacia hidrográfica do rio Piancó-Piranhas-Açu - Resumo executivo”, Agência Nacional de Águas, http://piranhasacu.ana.gov.br/produtos/PRH_PiancoPiranhasAcu_ResumoExecutivo_30062016.pdf.

[5] ANA (2014), Cobrança pelo Uso de Recursos Hídricos, Cadernos de capacitação em recursos hídricos, Vol. 7., https://arquivos.ana.gov.br/institucional/sge/CEDOC/Catalogo/2014/CadernosdeCapacitacaoemRecursosHidricosVol7.pdf (accessed on 4 January 2022).

[6] CBH PPA (n.d.), Relatorio, http://cbhpiancopiranhasacu.org.br/docs/relatorio/tdrplanopiranhasacu_final-1.pdf.

[16] City of Cape Town (2019), Cape Town Water Strategy, https://resource.capetown.gov.za/documentcentre/Documents/City%20strategies%2c%20plans%20and%20frameworks/Cape%20Town%20Water%20Strategy.pdf.

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The tables summarise the main actions presented in Chapter 2.


← 1. Homogeneity of geomorphological, hydrographic and hydrological factors characterises the Hydrological Planning Units (UPH). UPHs include subdivisions of the river basin, sub-basins of tributary rivers, or segments of main rivers with spatial continuity.

← 2. Article 22 of the water law caps administrative costs at 7.5% of the total collected.

← 3. The rebound effect occurs when increasing water use efficiency reduces the cost per unit of agricultural or industrial goods produced (or per unit of water supplied to end users), increasing water consumption according to the price elasticity of demand for those goods or services.

← 4. A ‘primary’ instrument provides the general incentive or requirement for water savings, with a broader scope than the 'secondary' instrument with which it is combined.

← 5. A regulation requiring the adoption of a given technology (e.g. drip irrigation) often induces a more permanent change than the water-saving incentives that a pricing instrument can induce, which can be reversed after the price signal is reduced or removed.

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