Tag Archives: agricultural water use

California’s water futures market slow to rise as it may not be meeting the real need

I wrote about potential problems with the NASDAQ Veles California Water Index futures market. The market is facing more headwinds as farmers are wary of participating in the cash-only markets that does not deliver physical water.

Their reluctance illustrates a deeper problem with the belief in and advocacy for relying on short-run markets to finance capital intensive industries. The same issue is arising in electricity where a quarter-century experiment has been running on whether hourly energy-only markets can deliver the price signals to maintain reliability and generate clean energy. The problem is making investment decisions and financing those investments rely on a relatively stable stream of costs and revenues. Some of that can be fixed through third-party contracts and other financial instruments but the structures of the short term markets are such that entering or exiting can influence the price and erode profits.

In the case of California Water Index futures market, the pricing fails to recognize an important different between physical and financial settlement of water contracts: water applied this year also keeps crops, particularly permanent ones such as orchards and vineyards, viable for next year and into the future. In other words, physical water delivers multi-year benefits while a financial transaction only addresses this year’s cashflow problem. The farmer still faces the problem of how to get the orchard to the next year.

Whether a financial cash-settlement only futures market will work is still an open question, but farmers are likely looking for a more direct solution to keeping their farming operations viable in the face of greater volatility in water supplies.

A new agricultural electricity use forecast method holds promise for water use management

Agricultural electricity demand is highly sensitive to water availability. Under “normal” conditions, the State Water Project (SWP) and Central Valley Project (CVP), as well as other surface water supplies, are key sources of irrigation water for many California farmers. Under dry conditions, these water sources can be sharply curtailed, even eliminated, at the same time irrigation requirements are heightened. Farmers then must rely more heavily on groundwater, which requires greater energy to pump than surface water, since groundwater must be lifted from deeper depths.

Over extended droughts, like between 2012 to 2016, groundwater levels decline, and must be pumped from ever deeper depths, requiring even more energy to meet crops’ water needs. As a result, even as land is fallowed in response to water scarcity, significantly more energy is required to water remaining crops and livestock. Much less pumping is necessary in years with ample surface water supply, as rivers rise, soils become saturated, and aquifers recharge, raising groundwater levels.

The surface-groundwater dynamic results in significant variations in year-to-year agricultural electricity sales. Yet, PG&E has assigned the agricultural customer class a revenue responsibility based on the assumption that “normal” water conditions will prevail every year, without accounting for how inevitable variations from these circumstances will affect rates and revenues for agricultural and other customers.

This assumption results in an imbalance in revenue collection from the agricultural class that does not correct itself even over long time periods, harming agricultural customers most in drought years, when they can least afford it. Analysis presented presented by M.Cubed on behalf of the Agricultural Energy Consumers Association (AECA) in the 2017 PG&E General Rate Case (GRC) demonstrated that overcollections can be expected to exceed $170 million over two years of typical drought conditions, with the expected overcollection $34 million in a two year period. This collection imbalance also increases rate instability for other customer classes.

Figure-1 compares the difference between forecasted loads for agriculture and system-wide used to set rates in the annual ERRA Forecast proceedings (and in GRC Phase 2 every three years) and the actual recorded sales for 1995 to 2019. Notably, the single largest forecasting error for system-wide load was a sales overestimate of 4.5% in 2000 and a shortfall in 2019 of 3.7%, while agricultural mis-forecasts range from an under-forecast of 39.2% in the midst of an extended drought in 2013 to an over-forecast of 18.2% in one of the wettest years on record in 1998. Load volatility in the agricultural sector is extreme in comparison to other customer classes.

Figure-2 shows the cumulative error caused by inadequate treatment of agricultural load volatility over the last 25 years. An unbiased forecasting approach would reflect a cumulative error of zero over time. The error in PG&E’s system-wide forecast has largely balanced out, even though the utility’s load pattern has shifted from significant growth over the first 10 years to stagnation and even decline. PG&E apparently has been able to adapt its forecasting methods for other classes relatively well over time.

The accumulated error for agricultural sales forecasting tells a different story. Over a quarter century the cumulative error reached 182%, nearly twice the annual sales for the Agricultural class. This cumulative error has consequences for the relative share of revenue collected from agricultural customers compared to other customers, with growers significantly overpaying during the period.

Agricultural load forecasting can be revised to better address how variations in water supply availability drive agricultural load. Most importantly, the final forecast should be constructed from a weighted average of forecasted loads under normal, wet and dry conditions. The forecast of agricultural accounts also must be revamped to include these elements. In addition, the load forecast should include the influence of rates and a publicly available data source on agricultural income such as that provided by the USDA’s Economic Research Service.

The Forecast Model Can Use An Additional Drought Indicator and Forecasted Agricultural Rates to Improve Its Forecast Accuracy

The more direct relationship to determine agricultural class energy needs is between the allocation of surface water via state and federal water projects and the need to pump groundwater when adequate surface water is not available from the SWP and federal CVP. The SWP and CVP are critical to California agriculture because little precipitation falls during the state’s Mediterranean-climate summer and snow-melt runoff must be stored and delivered via aqueducts and canals. Surface water availability, therefore, is the primary determinant of agricultural energy use, while precipitation and related factors, such as drought, are secondary causes in that they are only partially responsible for surface water availability. Other factors such as state and federal fishery protections substantially restrict water availability and project pumping operations greatly limiting surface water deliveries to San Joaquin Valley farms.

We found that the Palmer Drought Stress Index (PDSI) is highly correlated with contract allocations for deliveries through the SWP and CVP, reaching 0.78 for both of them, as shown in Figure AECA-3. (Note that the correlation between the current and lagged PDSI is only 0.34, which indicates that both variables can be included in the regression model.) Of even greater interest and relevance to PG&E’s forecasting approach, the correlation with the previous year’s PDSI and project water deliveries is almost as strong, 0.56 for the SWP and 0.53 for the CVP. This relationship can be seen also in Figure-3, as the PDSI line appears to lead changes in the project water deliveries. This strong relationship with this lagged indicator is not surprising, as both the California Department of Water Resources and U.S. Bureau of Reclamation account for remaining storage and streamflow that is a function of soil moisture and aquifers in the Sierras.

Further, comparing the inverse of water delivery allocations, (i.e., the undelivered contract shares), to the annual agricultural sales, we can see how agricultural load has risen since 1995 as the contract allocations delivered have fallen (i.e., the undelivered amount has risen) as shown in Figure-4. The decline in the contract allocations is only partially related to the amount of precipitation and runoff available. In 2017, which was among the wettest years on record, SWP Contractors only received 85% of their allocations, while the SWP provided 100% every year from 1996 to 1999. The CVP has reached a 100% allocation only once since 2006, while it regularly delivered above 90% prior to 2000. Changes in contract allocations dictated by regulatory actions are clearly a strong driver in the growth of agricultural pumping loads but an ongoing drought appears to be key here. The combination of the forecasted PDSI and the lagged PDSI of the just concluded water year can be used to capture this relationship.

Finally, a “normal” water year rarely occurs, occurring in only 20% of the last 40 years. Over time, the best representation of both surface water availability and the electrical load dependent on it is a weighted average across the probabilities of different water year conditions.

Proposed Revised Agricultural Forecast

We prepared a new agricultural load forecast for 2021 implementing the changes recommended herein. In addition, the forecasted average agricultural rate was added, which was revealed to be statistically valid. The account forecast was developed using most of the same variables as for the sales forecast to reflect similarities in drivers of both sales and accounts.

Figure-5 compares the performance of AECA’s proposed model to PG&E’s model filed in its 2021 General Rate Case. The backcasted values from the AECA model have a correlation coefficient of 0.973 with recorded values,[1] while PG&E’s sales forecast methodology only has a correlation of 0.742.[2] Unlike PG&E’s model almost all of the parameter estimates are statistically valid at the 99% confidence interval, with only summer and fall rainfall being insignificant.[3]

AECA’s accounts forecast model reflects similar performance, with a correlation of 0.976. The backcast and recorded data are compared in Figure-6. For water managers, this chart shows how new groundwater wells are driven by a combination of factors such as water conditions and electricity prices.




Is the NASDAQ water futures market transparent enough?

Futures markets are settled either physically with actual delivery of the contracted product, or via cash based on the difference in the futures contract price and the actual purchase price. The NASDAQ Veles California Water Index future market is a cash settled market. In this case, the “actual” price is constructed by a consulting firm based on a survey of water transactions. Unfortunately this method may not be full reflective of the true market prices and, as we found in the natural gas markets 20 years ago, these can be easily manipulated.

Most commodity futures markets, such at the crude oil or pork bellies, have a specific delivery point, such as Brent North Sea Crude or West Texas Intermediate at Cushing, Oklahoma or Chicago for some livestock products. There is also an agreed upon set of standards for the commodities such as quality and delivery conditions. The problem with the California Water Index is that these various attributes are opaque or even unknown.

Two decades ago I compiled the most extensive water transfer database to date in the state. I understand the difficulty of collecting this information and properly classifying it. The bottom line is that there is not a simple way to clearly identify what is the “water transfer price” at any given time.

Water supplied for agricultural and urban water uses in California has many different attributes. First is where the water is delivered and how it is conveyed. While water pumped from the Delta gets the most attention, surface water comes from many other sources in the Sacramento and San Joaquin Valleys, as well as from the Colorado River. The cost to move this water greatly varies by location ranging from gravity fed to a 4,000 foot lift over the Tehachapis.

Second is the reliability and timing of availability. California has the most complex set of water rights in the U.S. and most watersheds are oversubscribed. A water with a senior right delivered during the summer is more valuable than a junior right delivered in the winter.

Third is the quality of the water. Urban districts will compete for higher quality sources, and certain agricultural users can use higher salinity sources than others.

A fourth dimension is that water transfers are signed for different periods and delivery conditions as well as other terms that directly impact prices.

All of these factors lead to a spread in prices that are not well represented by a single price “index”. This becomes even more problematic when a single entity such as the Metropolitan Water District enters the market and purchases one type of water which they skews the “average.” Bart Thompson at Stanford has asked whether this index will reflect local variations sufficiently.

Finally, many of these transactions are private deals between public agencies who do not reveal key attributes these transfers, particularly price, because there is not an open market reporting requirement. A subsequent study of the market by the Public Policy Institute of California required explicit cooperation from these agencies and months of research. Whether a “real time” index is feasible in this setting is a key question.

The index managers have not been transparent about how the index is constructed. The delivery points are not identified, nor are the sources. Whether transfers are segmented by water right and term is not listed. Whether certain short term transfers such as the State Water Project Turnback Pool are included is not listed. Without this information, it is difficult to measure the veracity of the reported index, and equally difficult to forecast the direction of the index.

The housing market has many of these same attributes, which is one reason why you can’t buy a house from a central auction house or from a dealer. There are just too many different dimensions to be considered. There is housing futures market, but housing has one key difference from the water transfer market–the price and terms are publicly reported to a government agency (usually a county assessor). Companies such as CoreLogic collect and publish this data (that is distributed by Zillow and Redfin.)

In 2000, natural gas prices into California were summarized in a price index reported by Natural Gas Intelligence. The index was based a phone survey that did not require verification of actual terms. As part of the electricity crisis that broke that summer, gas traders found that they could manipulate gas prices for sales to electricity generators higher by simply misreporting those prices or by making multiple sequential deals that ratcheted up the price. The Federal Energy Regulatory Commission and Commodity Futures Trading Commission were forced to step in and establish standards for price reporting.

The NASDAQ Veles index has many of the same attributes as the gas market had then but perhaps with even less regulatory protections. It is not clear how a federal agency could compel public agencies, including the U.S. Bureau of Reclamation, to report and document prices. Oversight of transactions by water districts is widely dispersed and usually assigned to the local governing board.

Trying to introduce a useful mechanism to this market sounds like an attractive option, but the barriers that have impeded other market innovations may be too much.

Moving forward on Flood-MAR with pilots

The progress on implementing floodwater managed aquifer recharge programs (Flood-MAR) reminds me of the economist’s joke, “sure it works in practice, but does it work in theory?” A lot of focus seems to be on trying to refine the technical understanding of recharge, without going with what we already know about aquifer replenishment from decades of applications.

The Department of Water Resources Flood-MAR program recently held a public forum to discuss its research program. I presented a poster (shown above) on the findings of a series of studies we conducted for Sustainable Conservation on the economic and financial considerations for establishing these programs. (I posted about this last February.)

My conclusion from the presentations and the other publications we’ve followed is that the next step is to set up pilots using different institutional set ups and economic incentives. The scientists and engineers can further refine their findings, but we generally know where the soils are better for percolation versus others, and we know that crop productivity won’t fall too much where fields are flooded. The real issues fall into five categories, of which we’ve delved into four in our Floodwater Recharge Memos.

Benefits Diagrams_Page_5

The first is identifying the beneficiaries and the potential magnitude of those benefits. As can be seen in the flow chart above, there many more potential beneficiaries than just the local groundwater users. Some of these benefits require forecast informed reservoir operations (FIRO) to realize those gains through reduced flood control space, increased water supply storage and greater summertime hydropower output. Flood-MAR programs can provide the needed margin of error to lower the risk from FIRO.

FloodMAR Poster - Financing

The second is finding the funding mechanisms to compensate growers or to build dedicated recharge basins. We prepared a list of potential financing mechanisms linked to the potential beneficiaries. (This list grew out of another study that we prepared for the Delta Protection Commission on feasible options for beneficiary-pays financing.)

FloodMAR Poster Incentives

The third is determining what type of market incentive transactions mechanisms would work best at attracting the most preferred operations and acreage. I have explored the issues of establishing unusual new markets for a couple of decades, including for water rights transfer and air quality permit trading. It is not a simple case of “declaring markets exist” and then walking away. Managing institutions have important roles in setting up, running and funding any market, and most particularly for those that manage what were “public goods” that individuals and firms were able to use for free. The table above lists the most important considerations in establishing those markets.

The fourth assessing what type of infrastructure investment will produce the most cost-effective recharge. Construction costs (which we evaluated) is one aspect, and impacts on agricultural operations and financial feasibility are other considerations. The chart at the top summarizes the results from comparing several case studies. These will vary by situation, but remarkably, these options appear to cost substantially less than any surface storage projects currently being proposed.

The final institutional issue to be addressed, but not the least important, is determining the extent of rights over floodwaters and aquifers. California state law and regulations are just beginning to grapple with these issues. Certain areas are beginning to assert protection of their existing rights. This issue probably represents the single biggest impediment to these programs before attracting growers to participate.

All of these issues can be addressed in a range of pilot programs which use different variables to test which are likely to be more successful. Scientists and engineers can use these pilots to test for the impacts of different types of water diversion and application. Statistical regression analysis can provide us much of what we know without having to understand the hydrological dynamics. Legal rights can be assessed by providing temporary permits that might be modified as we learn more from the pilots.

Is it time to move forward with local pilot programs? Do we know enough that we can demonstrate the likely benefits? What other aspects should we explore before moving to widespread adoption and implementation?

Using floods to replenish groundwater

ALMOND  ORCHARD FLOODING

M.Cubed produced four reports for Sustainable Conservation on using floodwaters to recharge aquifers in California’s Central Valley. The first is on expected costs. The next three are a set on the benefits, participation incentives and financing options for using floodwaters in wetter years to replenish groundwater aquifers. We found that costs would range around $100 per acre-foot, and beneficiaries include not only local farmers, but also downstream communities with lower flood control costs, upstream water users with more space for storage instead of flood control, increased hydropower generation, and more streamside habitat. We discussed several different approaches to incentives based on our experience in a range of market-based regulatory settings and the water transfer market.

With the PPIC’s release of Water and the Future of the San Joaquin Valley, which forecasts a loss of 500,000 acres of agricultural production due to reduced groundwater pumping under the State Groundwater Management Act (SGMA), local solutions that mitigate groundwater restrictions should be moving to the fore.

Don Cameron at Terranova Ranch started doing this deliberately earlier this decade, and working with Phil Bachand and UC Davis, more study has shown the effectiveness, and the lack of risk to crops, from this strategy. The Department of Water Resources has implemented the Flood-MAR program to explore this alternative further. The Flood-MAR whitepaper explores many of these issues, but its list of beneficiaries is incomplete, and the program appears to not yet moved on to how to effectively implement these programs integrated with the local SGMA plans. Our white papers could be useful starting points for that discussion.

(Image Source: Chico Enterprise-Record)

 

 

 

Another finding of the obvious from academics…

361063-crop-field

This study published in the American Journal of Agricultural Economics seems to have a surprising finding, at least to academic economists, that farmers with riskier water supplies rely less on irrigation! What? If you’re uncertain about whether you will get water every year, you are less likely to count on that water to irrigate your crops? Who possibly would think that way?

Repost: Learn Liberty | Blame outdated rights for California’s water woes.

A good explanation of how regulation differs from litigation, and how California’s water rights differ from other systems.

Source: Learn Liberty | Blame outdated rights for California’s water woes.

Current winter setting a new California-wide record precipitation accumulation | Center for Western Weather and Water Extremes (CW3E)

Source: Current winter setting a new California-wide record precipitation accumulation | Center for Western Weather and Water Extremes (CW3E)

Economic Analysis of the 2016 California Drought for Agriculture | California WaterBlog

by Josué Medellín-Azuara, Duncan MacEwan, Richard E. Howitt, Daniel A. Sumner, and Jay R. Lund The drought continues for California’s agriculture in 2016, but with much less severe and widespread i…

Source: Economic Analysis of the 2016 California Drought for Agriculture | California WaterBlog

Maven’s Notebook: Fishing groups win lawsuit to overturn Delta water delivery contracts

This could have far reaching implications about how CVP contracts are renewed.

From the law offices of Stephan C. Volker: On July 25, 2016 the Ninth Circuit Court of Appeals ruled in favor of the Pacific Coast Federation of Fishermen’s Associations (“PCFFA”) and the San Fra…

Source: MAVEN’S NOTEBOOK – Water news