C7 ECONOMIC INSTRUMENTS – Using value and prices for efficiency and equity
Economic instruments can complement the use of institutional, regulatory, technical and other kinds of tools used in the water sector. In general, economic instruments involve the use of prices and other market-based measures to provide incentives to consumers and all water users to utilise water carefully, efficiently and safely. Economic instruments may offer some advantages over other tools, by providing incentives to change behaviour, raising revenue to help finance necessary adjustments, establishing user priorities and achieving overall IWRM management objectives at least overall cost to society. For successful application, economic instruments need appropriate standards (e.g. for discharges or surface water quality), effective administrative monitoring and enforcement capabilities, institutional co-ordination and economic stability.
Economic instruments work best in combination with other supporting measures; they are unlikely to be effective acting alone. The adage "the market is a good servant but a bad master" applies here.
Water pricing is an increasingly common tool (C7.1), applied to recover costs, to give the right incentives to users, and to protect the environment. In practice, there is great variety in the type, level and structure of tariff systems observed both between and within countries in the water services sector, hence there is a rich variety of experience to draw upon. There is more limited experience with the active use of pricing for irrigation water. Pollution charges (C7.2) work in an analogous way, providing a disincentive for the anti social release of polluted wastewater.
The use of water for agriculture often illustrates a widespread problem that arises when water users have rights which are enshrined in law or custom, and cannot easily be revoked or amended. In such cases, the redistribution of water can sometimes be achieved by setting up markets (C7.3) in which rights can be traded, and holders are compensated through the market for surrendering their claims, either temporarily or permanently. Markets can also come to the aid of pollution prevention and control; the "right to pollute" within limits set by environmental regulators can be traded amongst firms, leading to abatement being achieved in the least cost manner.
The use of water is, however, affected not only by its own price, but also by the prices of goods and services that consume water or affect its use in other ways. These prices are often distorted, and produce wrong signals to water users. A balanced programme of reforms has to address corrections to prices in agriculture, industry and other areas that affect the use of water. Taxes and subsidies can also be used to reinforce "green" behaviour.