An Economic Development Strategy for the Sustainable Use of Water in the Paso del Norte Region
The Value of Water
Prepared by: J. Thomas McGuckin, Ph.D.
and Ms. Donna M. Stumpf
Department of Economics
New Mexico State University
April 1997

The following report was prepared as part of a project called "An Economic Development Strategy for the Sustainable Use of Water in the Paso del Norte Region," funding for which was provided, in part, by the U. S. Department of Commerce's Economic Development Administration (EDA). The statements, findings, conclusions, recommendations, and other data in this report are solely those of the authors, and do not necessarily reflect the views of the Economic Development Administration.

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Water as a Limiting Resource in the Paso del Norte Region

        The Paso del Norte Region encompasses the section of the Rio Grande River known as the Rio Grande Project (Project), a reach of the river from the Elephant Butte Reservior, New Mexico to Presidio, Texas. This Project is the major physical asset for controlling surface water resources of the Paso del Norte Region. All other available water comes from groundwater resources. To understand the economics of water in the Paso del Norte Region is to understand the econmics and water allocation procedures of the Rio Grande Project.

        The Paso del Norte region encompasses the section of the Rio Grande River known as the Rio Grande Project (Project), a reach of the river from the Elephant Butte Reservoir, New Mexico to Presidio, Texas. This reach of the river contains the cities of El Paso and Las Cruces and many other smaller towns. The project is the major physical asset for controlling surface water resources of the Paso del Norte region. All other available water comes from groundwater resources. To understand the economics of water in the Paso del Norte region is to understand the economics and water allocation procedures of the Rio Grande Project.

The Rio Grande Project

        The supply of water to Elephant Butte Reservoir comes from the flows of the Rio Grande, one of the most appropriated rivers in the United States. Demand for diverted water off the river often exceeds supply, in effect drying up the river in some years. To insure that water at least reaches Elephant Butte Reservoir, the Rio Grande Compact (Compact) strictly limits water diversions above the reservoir. The Compact agreement between Colorado, New Mexico and Texas was intended to safeguard and perpetuate the allocation of Rio Grande water as it existed in 1929. The Compact stipulates the amount of flows to be allocated to each participant of the agreement. Deliveries are a determined percentage of actual flows, and thus, fluctuate based on the amount of annual runoff. The Compact requires that Colorado's allotment will not deviate from historical allowances, nor should New Mexico's portion for uses upstream of Elephant Butte Reservoir. Furthermore, an annual flow of 790,000 acre-feet (af), on average, should reach Elephant Butte Reservoir to secure downstream uses by southern New Mexico, west Texas and Mexico. It should be clearly understood that the Compact does not guarantee the delivery of this quantity of water due to the variable nature of Rio Grande flows. Upon the arrival of flows to Elephant Butte Reservoir, New Mexico and Colorado have fulfilled their obligation, not only to Texas under the Compact agreement but to Mexico as well, under the Mexican Water Treaty. The Compact apportions low-flow years according to a series of formulas based on upstream gauging (measurement) stations. Essentially the Compact insures that approximately 750,000 af of water reach Elephant Butte Reservoir (10 to 15 percent of this delivery amount is lost to evapotranspiration). Elephant Butte Reservoir can store up 2.1 million af. From this storage, approximately 620,000 af is released annually for down stream use in Paso del Norte region.

        From Elephant Butte, water is designated by historical contracts for three users: Mexico, Elephant Butte Irrigation District (EBID) in southern New Mexico, and El Paso County Water Improvement District No. 1 (EPCWID) in west Texas. After satisfying Mexico (60,000 af), water in Elephant Butte Reservoir is allocated to EBID (57%) and EPCWID (43%). Thus, once the water is released from Elephant Butte Reservoir, it is designated for use almost entirely by the agricultural sector. However continued urban growth in southern New Mexico and west Texas has greatly increased urban demand and this has created a serious economic constraint to future growth.

        When Elephant Butte Reservoir was designed and contracted (in conjunction with the Rio Grande Compact) the only use envisioned for the water was agriculture and limited hydroelectric power. The Compact stipulations were appropriate for circumstances in 1929, but they may not be appropriate for current or future conditions. This rigidity has created an economic catch 22.

Market Exchange for Water

        Economic efficiency requires that resources be allocated to their highest-valued use. Free markets of an exchange result in this allocation no matter who owns the resource. For water, urban uses typically have a higher value than those of agriculture, in that urban dwellers are willing to pay more per unit of water. (Within our discussion a unit of water is a thousand gallons, a common means of measurement among water utilities.)

        Assume that a farmer has 1,000 af of water rights that he diverts to 300 acres of land. Further assume he nets a profit of $60,000 annually for his farming operations. The entire $60,000 of profit cannot be attributed to water, but for argument sake, he estimates that the water has a value of approximately $60.00 per af/year. On a capitalized basis, assuming a 5% interest rate, the water right has a value of $1,200/af to the farmer. On the other hand, a growing city next to the farmer requires additional water to meet the needs of an expanding residential sector. After accounting for processing costs ($1.40 per thousand gallons) this water may have a value to residential consumers of $400 per af (this is in line with the price of water in many water short cities such as San Diego, Los Angeles, Santa Fe and shortly in El Paso). Assuming residential water users are willing to pay up to $8,000/af for the farmer's water right, the two parties will strike an agreement somewhere between $1,200 and $8,000 per af, allowing the water to be reallocated to its highest-valued use.

Downside to Market Exchange

        There are many arguments placed as obstacles against market exchange. These are discussed in the following points:

1. Impairment to other users. Other farmers may argue that by a farmer selling his water rights, he is impairing the delivery of water to the remaining water users. An argument can be made that irrigation ditches require a certain amount of water for efficiency. If water transactions reduce the flow of water in ditches, more will be lost to evaporation. This argument can be countered. The irrigation district can allocate funds to improve canal efficiency over time, counteracting this effect.

2. Reduction of the agriculture base and the resulting economy. It can be argued that eventually all land will go out of agricultural production as water is transferred between uses and the economy will suffer. This argument is flawed in several respects: 1) the vast majority of water is used in agriculture, only a small proportion of water needs to be transferred to fulfill urban demand; 2) the farmer does not need to go out of production, he can install water efficient irrigation systems (i.e., trickle) and only sell the "saved" water rights - his desire to sell is completely voluntary; and, 3) the economy is always strengthened by using water in its highest-valued use (there is more total income).

Market Equilibrium

        As water is transferred from agriculture to urban uses through market exchange, the additional water satisfies the urban demand to the point that willingness to pay for additional water decreases. At some point, the value of water in the city falls to $60.00 per af or less. Farmers have their minimum price, so farmers simply stop selling. If the city grows in the future, the value of water will increase, again precipitating exchange. This is a gradual natural process.

The Rio Grande Project and the Catch 22

        Water in the Rio Grande Project is almost entirely used for agriculture. Its value is about $60.00/af. As water becomes scarce in El Paso and Las Cruces due to increasing population and limited ground water supplies, the value of water in urban use will increase. Nevertheless, there is no incentive for market exchange; in fact there is almost a bunker mentality of hunkering down against any change at all. The reason is straightforward--it is unclear who owns the Project water - the farmers, the irrigation districts, the cities, the states or the federal government? All these parties are claimants.

        Consider the incentive for a farmer. Without ownership of the water right he does not receive any compensation for transferring the water to an alternative use. He is currently benefiting from water use, but a transfer would only destroy his livelihood without compensation. Politically and legally, he will fight any other mechanism of transfer. Other parties are unwilling to allow assignment of water rights to the farmer as they may potentially get water rights in some compromise allocation. It is a classic and dangerous dilemma.

        Ground water extraction has been used to make up the deficit of surface water for the urban sector, but this is not a sustainable policy and eventually the current rate of groundwater extraction will deplete major groundwater resources. As groundwater is reduced in its supplemental role (as it must), the competition of private and public water interests for Rio Grande flows will escalate into profound conflict.

POSSIBLE SCENARIOS

        Two alternative scenarios illustrate the dilemma of water allocation in the Paso del Norte region are: 1) no water exchange; and, 2) free-market exchange among all competing uses (this will require initial ownership rights being assigned to individual farmers).

        The two scenarios involve several calculations concerning the value of water. To simplify the analysis without any loss of generality, we use the value of water in the two major sectors, agriculture and single-family residential. The following sections more fully outline the value of water calculations.

Value of Water in the Agriculture Sector

        Value calculations per acre-foot of water were based on cost and return estimates for irrigated crops in the Rio Grande Valley of Dona Ana and Sierra Counties (Cost and Return Estimates, prepared by New Mexico Cooperative Extension Service, NMSU). These estimates are made for a 500-acre farm with above-average management operations. Dividing total net income by water use, results in an average value per af of water of $60.00.

        The marginal value per af would be the incremental price offered by EBID. In 1995 the marginal value per af of water was $14.00). In our scenarios we use $60.00 as the market price at which the agriculture sector would be willing to sell an af of water annually. Based on a 5% interest rate, the water right has a capital value of $1,200 per af.

        Because Rio Grande flows reaching EPCWID are generally of poorer quality than flows reaching EBID, and because farming in this district is comparably less intensive than operations in the Mesilla Valley, we assume that the average value per af of water in EPCWID is equal to, or less than, $60.00 per af.

Value of Water in the Single-family Residential Sector

        The value of water in single-family residential (SFR) use sector is based on estimates of a water demand equation (Effectiveness of Residential Water Conservation Price and Nonprice Programs, American Water Works Association, 1997). This empirical equation (based on the experience of seven southwestern cities over a 10-year period) calculates the willingness to pay of single-family residences for additional water based on how much water is available to the residence. Because raw surface water cannot be directly used by households, a $1.40/unit processing cost is subtracted from the willingness to pay estimates to derive the wholesale value of water to single-family residences.

Other Sectors

        Water demand of other urban sectors is assumed to be proportional to residential use. Thus, if the population of El Paso increases by a percentage (i.e., 20%) the number of single-family residences and the water use of other sectors are assumed to increase by the same percentage.

        We focus on agricultural and residential sectors for the following reasons. More than 80% of water in the western United States is allocated toward agricultural uses. Also, often the largest sector serviced by municipal water utilities is the residential sector -- 75% of Las Cruces Water Department’s total water use in 1994 and 48% of El Paso Water Utility’s total water use in 1995 accounts for SFR water use. (This sector will sometimes include multi-family dwellings such as duplexes and condominiums).

Water Allocation Scenario I - FIXED ALLOCATIONS

        Because water is a recognizable finite resource in southern New Mexico and west Texas, with a continuing growing population, it may be necessary for current distributions of ground and surface water to be reallocated among various water use sectors. Scenario I projects impacts of the consequence of fixing all water allocations at their current levels. There is no water exchange and there are no additional supplies. This is the current legal situation. Figures 1-6 shows why Scenario I is an untenable solution for El Paso and Las Cruces.

El Paso

        Figures 1-3 holds the following conditions constant for water users in El Paso: Hueco Bolson depletions 53,326 af/year; Mesilla Bolson depletions 23,666 af/year; Rio Grande surface water diversions 56,147 af/year. Figure 1 shows that average monthly water use decreases from 13,470 gallons in 1995 to 10,590 gallons in 2005, a 21% reduction. Average monthly use levels plummet by more than 60% to 4,780 gallons by the year 2050.

        As illustrated by Figure 2 the value of water in the SFR sector (measured in af ) increases quickly. The value per af of SFR water measured in 1995 dollars rises from $19.99 per af in 1995 to more than $900.00 per af in 2000. The value of water for the SFR sector surpasses that of the agricultural sector ($60.00/af) in 1995.

        Figure 3 displays that with population increasing each decade (between 2.10 and 1.26%) average monthly water bills quickly increases from $19.68 in 1995, to $113.78 ten years later in 2005. Rapidly after this point monthly water bills become untenable.

Las Cruces

        Similar relationships are exhibited by Figures 4 - 7 for Las Cruces while fixing ground water rights at 20,000 af/year. Presently Las Cruces does not divert any Rio Grande water to meets its municipal needs. Figure 4 shows that average monthly water use decreases from 17,110 gallons in 1995 to 13,550 gallons in 2005, a decrease of 20.8%. As depicted by Figure 4, average monthly use levels have dropped dramatically by more than 72.2% to 4,760 gallons by the year 2050.

        The value per af of water in the SFR sector increases significantly over the 55-year period. Figure 5 illustrates that the value per af of SFR water measured in 1995 dollars rises from $53.45 per af in 2002 to greater than $2,100 per af 10 years later in 2012. Figure 5 suggests that the value of water for the SFR sector exceeds the value per af of water in the agricultural sector early in year 2002.

        Figure 6 shows that with population increasing each decade by close to 20%, average monthly water bills grow from $8.90 in 1995 to $34.53 ten years later in 2005. After 2014 average monthly water bills increase dramatically annually.

        Figure 7 illustrates an approximation of the total annual gross value for the EPCWID. In Scenario I, no reduction to water occurs in the agricultural sector, thus total gross value is constant over the period analyzed.

Water Allocation Scenario II – FREE MARKET ALLOCATION

        Scenario II allows for the free market exchange of water between residential and agricultural sectors. This exchange occurs at the equilibrium price of $60.00/af.

        Under Scenario II Hueco Bolson depletions are held at 53,326 af/year and Mesilla Bolson depletions are held at 23,666 af/year. The key difference between Scenario I and II are that under the latter, surface water flows available for the SFR use sector increase from 57,873 af/year in 1995 to more than 300,000 af/year in 2050 allowing water availability for the SFR sector to remain constant even as population increases.

        The dynamics work in the following manner. Population increases in El Paso and Las Cruces and decreased groundwater mining cause water to become scarce, driving up the value of water. Water utilities must raise water prices to maintain demand at availability, but an increase in price will also raise collected revenue, allowing the utility to purchase additional water rights. These water rights are purchased from EPCWID, mainly because the value of water per af is lower here than for EBID, and EPCWID's acreage is already being diminished by land conversion for urban use.

        Figures 8 suggests the total annual gross value for EPCWID when surface water flows historically allocated to agricultural use are reallocated to the SFR sector. The declining total annual gross value for EPCWID occurs because water allocations for this district are reduced over the 55-year period.

        Under Scenario II, water supplies for EBID is assumed to remain fixed, resulting in a constant total annual gross value over the period analyzed.

RECOMMENDATIONS

1. Institutions governing the allocations of Rio Grande flows need to devise new laws that allow water rights owners to exchange their water rights among competing uses freely. It is imperative that stipulations written in 1929 to distribute water are revised to reflect present and future needs of the Paso del Norte region. In order for this to occur, water right ownership in all sectors must be clearly defined.

2. Water markets must be established in the Paso del Norte region, creating a forum by which state and local stakeholders can exchange information, voice concerns and trade water rights.

3. Municipal water utilities in the study area (primarily the El Paso Water Utility and the Las Cruces Water Resources Department) could generate monies critical for the exchange of water rights between themselves and the agricultural sector by raising the price of water. Even modest water rate increases will produce funds necessary to entice farmers to trade their water rights annually.

References

Jim Libbin

Michelsen, Ari M., J. Thomas McGuckin and Donna M. Stumpf. 1997. Effectiveness of Residential Water Conservation Price and Nonprice Programs. Final Report to the American Water Works Research Foundations and American Water Works Association.

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