3. The need for new institutions to manage water in the 21st century

years (2003–2009 (Voss et al. 2013)). In Northwest Sahara (Richey et al. 2015) observe a 2.7 km3/yr decline over 2003–2012. Finally, parts of the Arabian’s Peninsula Paleogene and Cretaceous Aquifers are experiencing depletion of -2.8 ± 0.8 km3/yr (Sultan et al. 2019). To put these numbers in context, these losses in groundwater storage are equivalent to 7 percent of the region’s annual water withdrawals and a little more than the current installed desalination capacity in the region.

In short, at the present moment in time, MENA is facing a crisis of water scarcity. Whole communities of farmers are seeing water sources, on which they have relied for their livelihoods for generations, rapidly deteriorating or disappearing. Urban residents have turned to the streets to demand basic services, while water utilities are unable to cover costs of operations and raise the financing needed to improve water and sanitation services. The current policy regimes in MENA for managing the allocation of water within and across agriculture and WSS have become unsustainable because the availability of water as a resource is being outstripped by its consumption (World Bank, 2022).

States in MENA have been responding to demand for water from various constituencies and in effect deciding how to allocate water through highly centralized national government agencies. However, this system of allocation appears unable to cope with the increasing competition for water from constituents, alongside declining water resources and increasing cost of augmenting the resource, such as through desalination. The following sections now turn to how the social contract of a century ago needs to be redrawn to tackle this crisis.

3. The need for new institutions to manage water in the 21st century

The crisis of water scarcity in MENA, along with the global crisis of climate change, has revealed the inadequacy of prevailing economic institutions to obtain welfare optimizing outcomes. Beyond the fiscal problems of MENA’s states and water utilities, the problem of water in the 21st century is one of the global environment. Climate change has made water uncertain, unpredictable and dramatically scarce, revealing a massive market failure in decades of modern industrial growth which creates inescapable roles for the state.

In traditional rural societies where water for both household use and agriculture is drawn from a common property resource, such as a river, or a community owned well, or, from groundwater on privately owned land, water is “priced” by the rules and norms governing local behavior10. In classic studies of local institutions that govern the “commons”, selfgoverning irrigation institutions are described (Ostrom, 2011, 1993). However, the rapid depletion of water resources because of unsustainable use by growing populations, and climate change, may not have been factored-in by prevailing local institutions, perhaps because this information is not available until it is “too late”.

Lab experimental studies (conducted with educated subjects in the United States, and hence a group which would have access to news and information) suggest that individuals are cognitively constrained in figuring out the “equilibrium” effects that arise by aggregating all individual behaviors (Dal Bo et al, 2018). That is, the externality in the consumption of water is “hidden”, such that Ostrom-style institutions of local collective action to price water appropriately, to account for the externality in its consumption, may not have emerged in societies. The scale of the externality problem of water,

10 It is important to note that a resource can be priced both through a fee charged for its use, as well as through restrictions on the quantity of the resource that is used. A quantity constraint generates what in economics is called a “shadow” price. This is the price which users of water in effect pay through the constraint on the quantity of water they can use. Although this

“shadow price” does not generate an immediate revenue, it gets reflected in the value of the underlying property, such as the agricultural land, where water is being used, and thus shapes economic incentives to use water similar to how regular prices do.

and its links to climate change, are non-marginal and global, which also makes it difficult to apply the Coasian insight of establishing private property rights. The environment is a global public good over which private property rights cannot be defined. Information about environmental consequences of outcomes aggregated in markets is also a global public good with a role for national and international government agencies in its compilation. The challenge for countries and their international development partners is that there is no ready template for how to build these state institutions and combine them with market institutions, especially in irrigated agriculture, which is the largest consumer of water (accounting for 70 percent) globally.

Market institutions have been applied in a few countries, most prominently in Australia, which has the world’s largest water market in irrigated agriculture. Even in Australia, water trade between farmers is dependent upon state-owned and managed physical infrastructure (river basin systems, dams, and reservoirs) to overcome hydrological constraints to storing and moving water (Rafey, 2020). In addition to the need for physical infrastructure to enable water to be moved for gains from, trade, there is also a need for legal infrastructure to reduce transactions costs. In the United States, the legal rights over water have created huge transaction costs that have prevented the trade of water, within agriculture and between agriculture and cities (Ayres et al, 2018; Libecap, 2008). The problem of transaction costs can be traced to the legal structure of Irrigation Districts, a form of farmer water user associations, which were institutions created in the 20th century to encourage irrigated agriculture in the western United States. These institutions are now unsuited to tackling the problem of water scarcity, and the gains from trade of water away from agriculture to cities during periods of drought (now increasingly frequent because of climate change).

Finally, even if functioning water markets could be established by securing property rights, reducing transaction costs, and building the physical infrastructure to enable water to be moved, there remains a unique role for state institutions to regulate the quantity of water. For example, China has pursued a variety of reforms to enable water trade among local jurisdictions, under an overarching national policy of the Three Red Lines establishing quantity targets on water use, efficiency, and pollution. Compliance with the Three Red Lines is monitored through a detailed reporting system, with local officials submitting regular updates to higher-level officials, and verification through regular inspections and audits by central government officials (Moore and Yu, 2020).

From the experience of contexts as varied as traditional self-governing irrigation institutions, to the formal institutional practices of countries as varied as Australia, China and the United States, the following two fundamental ideas emerge:

• The role of legitimacy in establishing compliance with regulations, such as how much water can be consumed or polluted • The role of trust to adjudicate allocations from the perspective of fairness, such as how much water should be shared between agriculture and cities

Legitimacy is the ability of the state, or its leaders, to win voluntary compliance with laws or public orders, such as restrictions on the quantity of water that can be used, or the tariff that needs to be paid to cover the costs of delivering water services. States across MENA have tried to manage scarce water resources by regulating the amount of water that can be abstracted, for example in agriculture, but these regulations are difficult to enforce. Case studies of groundwater use in Morocco, for example, describe how farmers regularly flout public regulations because they do not believe the state should restrict their use of water, and they believe none of their neighbors in the community are following the rules. In Jordan, there are examples of water regulation officials being driven out of villages when they tried to tackle