Financial contracting for hydro generators in a water market

Abstract

Markets for water are often regarded as the most promising method of managing storable surface water resource. Most of the focus of the existing water market literature is on physical trading arrangements. But financial property rights can be both conceptually and practically appealing, as a way to develop commercial and organizational arrangements to improve liquidity and ultimately increase efficient resource use. Different forms of contracts could help participants to deal with the issues such as second order effects of a market, risk, market power and incentivize holders to meet contract obligations. This paper explores some financial contracting ideas drawn from electricity market literature to develop financial contracts for water markets. However, intuitive understanding of such contracting can be difficult because the joint impact of bids determines market water flow, not gravity.