Trading efficiency in water quality markets

A crucial factor in the success of any water quality trading market is its ability to cost-effectively reallocate nutrient allowances from initial holders to those users who find them most valuable; the market's trading efficiency. We explore causes of and solutions to trading inefficiency by assessing the impact on participant transaction costs and the tradeoffs that occur as a result of policy design decisions. Differing impacts of baseline-credit and cap-and-trade markets, the impact of trading rules and monitoring regimes are discussed in this endeavour. Possible solutions of increased information flows and regulatory certainty are also discussed. We then apply this framework to three existing water quality trading schemes; two from the US, and one from New Zealand. We use this experience to extract general recommendations for policy makers looking to maximise trading efficiency when designing future water quality trading markets.