Review of Snowy Hydro Water Licence

Public submission to water market rules issues paper by the State Government of Victoria on 23 May 2008

Introduction

The Victorian Government is committed to ensuring that policies and administrative requirements of Victorian operators of irrigation infrastructure encourage free and open water markets and do not represent a barrier to trade. Water market rules are an important element of this framework and can have a significant impact on the ease, cost and timeliness of trade.

Victoria considered the following when addressing questions in the issues paper:

what should be the scope and role of water market rules;
are there any lessons from current practice in Victoria that could inform the development of these rules; and
given this framework are there any comments or insights Victoria can provide on the specific issues raised in the ACCC issues paper.

The role and scope of water market rules

As is recognised in the issues paper, water market rules are one component of the regulatory and administrative framework that covers water trading. The issues paper refers to the Water Act 2007 to note that:

Water market rules may relate to an act that an operator does, or fails to do, in a way that prevents or unreasonably delays transformation arrangements being made.

And defines transformation arrangements as:

Processes by which an irrigator permanently transforms their entitlement to water under an irrigation right against an irrigation infrastructure operator into a water access entitlement held by the irrigator (or any body else), thereby reducing the share component of the operator’s water access entitlement.

Victoria agrees with these definitions and believes that they should limit the scope of the water market rules. It should be noted that the process for transforming irrigation entitlements is conceptually distinct from subsequently trading that water entitlement (and any of the conditions on that trade) even though in some cases the two processes are managed concurrently by the same organisation.

Water market rules should, therefore, focus on the processes for transforming entitlements and any constraints or rules that affect those processes, but not the processes for trading a transformed entitlement or rules that may affect that trade. Victoria agrees that the purpose of water market rules is to ensure that entitlements can be traded, and considers that surety will be maximised through consistent arrangements across the Murray Darling Basin.

Given this definition of the scope of water market rules, Victoria considers that a number of matters raised in the issues paper, while important to effective water trading, are beyond the scope of water market rules. This is discussed in more detail below.

Transformed entitlements should be subject to the same trading rules as other entitlements. As such, general trading rules are not considered relevant to setting water market rules.

Victoria’s approach

Victoria supports national efforts to create a level playing field, and presents its framework of unbundled entitlements as an effective model for achieving this. Victoria’s commitment to (and success in) establishing an effective water market is illustrated by the following:

permitting trade out of water systems (with a yearly limit of 2%) when it was banned by other jurisdictions, with the attraction of such trade to water users illustrated by the increased limit of 4% being reached in most Goulburn-Murray areas in 2006-07 and 2007-08;
extensive transfer of water shares between Victorian authorities in 2007-08;
tagged trading of water shares (replacing the previous exchange rate method) established in 2007-08 between Goulburn and Murray water systems; and
significant allocation trade both intrastate and interstate.

Victoria already recognises the importance of resting water rights with individual irrigators, or other bodies, and the limitations when such rights are held jointly by infrastructure operators. This principle is already reflected in the rights applying in all major Victorian irrigation districts so there is no need for a further process to transform these entitlements in Victoria. This process has been facilitated by the unbundling of Victoria’s water entitlement framework, which, effective from July 2007 in northern Victoria, established a system whereby:

water entitlements are separate from delivery entitlements;
entitlements are held by individual irrigators rather than irrigation corporations or authorities and are publicly listed as such on the Victorian Water Register;
access fees and termination fees are in place (and no exit fees exist); and
transaction fees have been set in an open and transparent manner through a Regulatory Impact Statement.

Victoria believes that similar reforms should be adopted across the southern Murray Darling Basin. This would form the basis of a robust and transparent set of property rights that would provide clarity to water users and ensure that the potential gains from water trade are realised.

Comments on specific sections of the issues paper

The comments below are limited to a discussion of water market rules, noting the difference between water market rules and water trading rules outlined above. Based on the definition reflected in the issues paper, the Victorian submission focuses on rules that relate to transformation (i.e. permanent conversion of water rights into independent access entitlements) and does not comment on general rules, processes and constraints applicable to trading entitlements.

While it is important to have some understanding of trading issues in order to design effective water market rules, detailed questions relating to water trading should be reserved for discussion as part of the ACCC’s future consultation processes. In the discussion below Victoria focuses on issues relevant to the water market rules. It also notes, however, that issues that are relevant to water trading should not become a barrier to the transformation process.

Victoria, therefore, considers that the water market rules should specify those issues that an irrigator can take into account in making a transformation decision and prohibit the consideration of issues outside that list, including:

to whom the water can be sold;
compliance with or setting of constraints on the trade of water out of an irrigation district;
compliance with or setting of constraints on how and where water can be traded out of an irrigation district;
compliance with or setting of conversion rates for subsequent trades;
cut off dates and trading seasons; and
the use of specific brokers or exchanges to affect any subsequent trade.

All of the issues above are relevant to the rules that govern water trading but should not be considered by infrastructure operators when processing the transformation of an entitlement.

3Water market and trading objectives

There are two broad objectives that Victoria considers are important to effective water market rules: (1) well defined property rights; and (2) consistency in the treatment of operators in different jurisdictions, different irrigation districts and who hold different types of water rights (for example transformed and other individually held rights).

The issues paper correctly recognises the importance of well-defined property rights. These form the critical link between the market and trading objectives as well as desirable and effective water market rules, and are essential to providing appropriate protection of third parties. Victoria has achieved this through unbundling, where water entitlements are separate from delivery entitlements, and notes a clear need for similar action in other jurisdictions.

While it is possible to transform a bundled right, Victoria considers unbundling to be an important facilitator of effective trade processes and ideally would be dealt with at or before the transformation process. Therefore, Victoria considers that processes for separating water entitlements from delivery entitlements should form part of the market rules.

Unbundling separates the right of access to the infrastructure that delivers water from the right to a share of the available water. It allows the separation of concerns about infrastructure protection from decisions to rest the right to a share of the water in the hands of an individual. If these rights remain bundled several problems arise:

There is less clarity in the obligations of holders of these rights, for example it is difficult to retain clear terms and conditions on the delivery of water if the transformed right is subsequently traded.
The transformation process is significantly more complex and difficult because it must address changing the entitlement and infrastructure protection issues simultaneously. This adds to information requirements, complexity of the process and slows the process. It creates a barrier to easy transformation, which has flow on costs because it reduces the certainty and bankability of water rights, for example reducing its mortgageabilty.
Retaining bundled rights in some jurisdictions and unbundled rights in others has implications for the efficiency of trade. If trading decisions in only some jurisdictions are influenced by infrastructure protection issues, this would not only reduce trade overall but artificially distort the distribution of trade between jurisdictions.

Ideally these issues should be addressed for all entitlements regardless of whether transformation is sought. Where this is not the case, Victoria considers that water market rules should require the separation of water entitlements from delivery entitlements as an initial part of the transformation process. Consistency between jurisdictions is important for effective water trading, and not requiring consistency up front will only result in the need for ongoing bandaid solutions to address problems as they arise.

In addition, water market rules should ensure that once entitlements have been transformed they are treated in the same way as all other individually-held entitlements.

4.1Constraints on the parties to whom water can be sold

Restrictions on water use within an unbundled system are not an issue for the transformation of rights and do not impose a barrier to trade through the transformation process. There are good reasons to restrict water use on land (e.g. environmental and third party impacts) but this is best managed through water use licenses. Trade can proceed independently of such management controls.

While being a jurisdictional requirement that is not imposed at operators’ discretion (and is therefore beyond the scope of the issues paper), it is worth noting that Victoria considers it appropriate, at this stage of water market establishment, to prescribe a limit on who may hold water shares. Amendments to the Water Act 1989 (Vic) introduced in July 2007 set a limit on the amount of water shares that can be held by non-landholders, being 10% of a supply system’s entitlement. This was established in response to community concern that water market speculators could manipulate the price of water through purchase of large amounts of water shares. The 10% limit has only been in place for a short time, and has not been reached in any water system (levels are currently around 2-3%). The limit can be reviewed under the Water Act 1989 (Vic) if required.

4.2Constraints on water exports

Constraints on water exports affect water trading and should be excluded from any consideration of the transformation of water rights, as noted above. While the issues raised in this section of the issues paper should be reserved for discussion as part of ACCC’s forthcoming consultation process on water trading rules, Victoria notes that the 4% limit on permanent trade out of water systems is the subject of review by the Council of Australian Governments’ Working Group on Climate Change and Water.

Victoria has serious concerns regarding the imposition of exit fees, which are discussed in our response to Section 5.2 of the issues paper.

4.3Other constraints on trade and transformation

Victoria has set certain constraints on how and where water can be traded, not only for hydrological and environmental purposes but also to prevent third-party impacts. These constraints were developed by the Department of Sustainability and Environment in consultation with Goulburn-Murray Water in its role as resource manager for rivers in the Murray Darling Basin, and approved by the Minister for Water. They are a clearly documented jurisdictional requirement, having been set out in water trading rules available to the public via www.waterregister.vic.gov.au. The constraints are largely accepted by market participants as being necessary.

Victoria believes that all such constraints should be reviewed. Any new provisions should be developed and approved at the jurisdictional level, and not by individual operators. Constraints should also be reviewed periodically to ensure that they are still relevant or whether changing circumstances warrant their revision or removal.

Such constraints, however, should not impact on the decision to transform a water entitlement as they are again a trading issue not a transformation issue.

4.4Security for future payment of fees

While the appropriateness of requirements for security is a legitimate concern, these concerns can be satisfactorily addressed through proper adoption of the existing Schedule E Protocol for interstate trade, as well as development of principles consistent with that protocol for intrastate trade. Application of free market principles would suggest that security should only be sought when absolutely necessary.

Victoria considers that the water market rules should ensure that any requirement for security against future payments should be commercially balanced and the minimum needed to protect the legitimate business interests of the infrastructure operator. It should be possible to challenge the level of required security on the basis that it does not meet these principles.

4.5Administrative fees and charges

In Victoria, fees for transactions relating to water entitlements and the Victorian Water Register are based on cost recovery principles, and are prescribed in the Water (Resource Management) Regulations 2007 (Vic). These were set in an open and transparent manner through a Regulatory Impact Statement process.

Victoria considers that it is appropriate for charges in all jurisdictions to be based on cost recovery. Therefore, the water market rules should require governments or infrastructure operators to set such fees based on cost recovery principles. If the fee is set internally by the infrastructure operator it should also be possible for the fee to be challenged on the basis that it does not reflect cost recovery principles.

Transaction processes and fees should be regularly reviewed and best practice standards identified.

5.1Terms and conditions for transformation and/or trade

Terms and conditions should be straightforward and transparent so that individuals may quickly and simply obtain title to their entitlements. Victoria notes that a lack of clarity and availability of terms and conditions can contribute to low rates of entitlement transformation.

The water market rules should require that each infrastructure operator publish on its website the terms and conditions for transformation and that these terms and conditions should not present a barrier to trade. There should also be a mechanism to challenge those terms and conditions if they do not meet the above requirements.

5.2Enabling transformation separate to trade

Victoria agrees that transformation and trade are two distinct processes and that the process for transforming water entitlements should not be automatically linked to trading those rights. The holders of an irrigation right should be entitled to seek to have that right transformed as a separate process to trade, if they choose. This right should be reflected in the water market rules as an obligation on infrastructure operators to respond to all applications for transformation and apply the appropriate criteria to considering those applications. These criteria should not include issues related to any subsequent water trade.

Many of the matters raised in the issues paper about the practical difficulties of setting terms and conditions of delivery once the entitlement has been separated would be dealt with by requiring delivery rights to be separated from water rights.

In addition, the water market rules should specify that operators cannot apply different terms and conditions for either individual entitlement holders or for different classes of entitlement holder (i.e. transformed and untransformed). Likewise, operators should not be able to unilaterally vary terms and conditions.

Finally, exit fees should not form any part of terms and conditions. Exit fees are defined in the Schedule E protocol as a fee levied by an infrastructure operator on the transfer of a water entitlement out of the infrastructure operator's network or irrigation district (excluding any fee associated with the costs of processing that transfer). Exit fees remain a potent barrier to trade, and are still in use by some corporations and trusts. For example, the use of de facto exit fees can prevent water moving to its most economically-efficient use and, by seeking to protect one area from structural adjustment, will increase structural adjustment pressures for other areas. The water market rules should prohibit exit fees.