Price formation on the Northern Victorian water exchange

The opportunity cost of water in the irrigation industry is a contentious issue at present because of the commitment made by the State and Commonwealth governments to get water out of the irrigation industry for environmental flows. The estimated value of the opportunity cost will affect farmers' claims for compensation. Variation in the opportunity cost over space and the functioning of the spatial market will determine whether the efficiency costs of a simple across the board reduction in rights can be mitigated by trade or whether strategic buy back of water is required. The extent of variation in the opportunity cost of water according to seasonal conditions will affect the cost of flow policies that impact on the reliability of rights. To date, most economic advice on this opportunity cost of water has centred on gross margin analysis of the main irrigation uses of water and the compensation of these industries across space compared to the quantity of rights held. However, there has been a large volume of trade on temporary water markets in recent years and there is potential for using this data to better understand some of the characteristics of water demand and the market for water. This paper presents a preliminary analysis of market data from the last 5 years of trade on the Northern Victorian water exchange. The nature of bidding behaviours and spatial and temporal variations in water prices is illustrated, and the impact of water allocations and seasonal conditions on water prices is estimated.