Two-Way Option Contracts that Facilitate Adaptive Water Reallocation in
the Western United States
Abstract
Many water markets in the Western United States (U.S.) have the ability
to reallocate water temporarily during drought, often as short-term
water rights leases from lower value irrigated activities to higher
value urban uses. Regulatory approval of water transfers, however,
typically takes time and involves high transaction costs that arise from
technical and legal analyses, discouraging short-term leasing. This
leads municipalities to protect against drought-related shortfalls by
purchasing large volumes of infrequently used permanent water rights.
High transaction costs also result in municipal water rights rarely
being leased back to irrigators in wet or normal years, reducing
agricultural productivity. This research explores the development of a
multi-year two-way option (TWO) contract that facilitates leasing from
agricultural-to-urban users during drought and leasing from urban-to
agricultural users during wet periods. The modeling framework developed
to assess performance of the TWO contracts includes consideration of the
hydrologic, engineered, and institutional systems governing the South
Platte River Basin in Colorado where there is growing competition for
water between municipalities (e.g., the city of Boulder) and irrigators.
The modeling framework is built around StateMod, a network-based water
allocation model used by state regulators to evaluate water rights
allocations and potential rights transfers. Results suggest that the TWO
contracts could allow municipalities to maintain supply reliability with
significantly reduced rights holdings at lower cost, while increasing
agricultural productivity in wet and normal years. Additionally, the TWO
contracts provide irrigators with additional revenues via net payments
of option fees from municipalities.