Water rights trading significantly boosts agricultural water use efficiency

A major policy initiative aimed at addressing China's growing water scarcity crisis has significantly improved agricultural water use efficiency (AWUE), according to a groundbreaking study published in Water.

The research, titled “Water Rights Trading and Agricultural Water Use Efficiency: Evidence from China,” evaluates the effectiveness of China’s water rights trading (WRT) policy, introduced as a pilot program in 2014, using a difference-in-differences (DID) model applied to data from 30 provinces spanning 2007 to 2022. The study found that AWUE in WRT pilot regions improved by an average of 48.1% compared to non-pilot areas. This substantial improvement underscores the potential of market-based reforms in enhancing sustainability within the agricultural sector.

How does water rights trading impact water efficiency?

China's WRT reform marked a shift from traditional administrative water allocation toward a market-based approach. Initiated in seven provinces, including Guangdong, Henan, and Ningxia, the pilot introduced formal trading mechanisms supported by water rights registration, tradable permits, and institutional frameworks.

The authors show that WRT improves AWUE by realigning water allocation through market incentives. In pilot regions, water users could buy or sell rights, creating economic incentives for conservation. As a result, water began flowing toward higher-efficiency uses. For example, in Ningxia, farmland irrigation efficiency increased by 10.1% over three years, while total water consumption dropped even as GDP continued growing.

The study also found that the gains from WRT were strongest in regions with higher levels of market development, abundant water resources, and greater agricultural dependence. In these areas, WRT enabled more flexible water reallocation across industries and among users, addressing structural inefficiencies embedded in China’s legacy irrigation systems.

To validate their findings, the study included extensive robustness tests, including placebo regressions and trend analysis, which confirmed that the observed efficiency improvements were attributable to the WRT policy and not external variables. Alternative efficiency measurements, such as Data Envelopment Analysis (DEA), corroborated the results.

Through what mechanisms does WRT enhance efficiency?

The study identifies three key pathways through which WRT policies improve AWUE: technological innovation, factor mobility, and cropping structure adjustment.

Technological innovation emerged as a primary driver. The ability to profit from unused water rights encouraged farmers to invest in water-saving technologies such as sprinklers and precision irrigation. Statistical analysis revealed that the number of patent authorizations and the density of sprinkler installations significantly increased in WRT pilot regions, indicating a policy-induced shift toward innovation.

Factor mobility, especially inter-sectoral water reallocation, also played a crucial role. WRT policies facilitated the movement of water rights from agriculture to industry, aligning with economic efficiency goals. Although inter-regional trading remained limited, likely due to administrative fragmentation, inter-industry transfers between farming and industrial sectors were more prevalent. This reallocation reduced inefficiencies in water usage across sectors.

Adjustments in cropping structure provided the third pathway. Farmers in pilot regions began transitioning away from water-intensive grain crops toward higher-value, less water-demanding alternatives. This was driven by the cost of acquiring additional water rights, which altered the profitability calculus and nudged land use toward crops with higher water productivity. The study found a statistically significant reduction in grain planting area ratios in WRT areas, indicating structural change at the farm level.

Where does the policy work best and what’s next?

The study’s heterogeneity analysis highlights significant variation in policy effectiveness across different regions. WRT policies had stronger impacts in:

• High-marketization provinces, where mature institutions and pricing systems facilitated transactions.
• Water-rich regions, where surplus allowed for trading without risking basic consumption needs.
• Agriculturally dependent areas, where efficiency gains were most economically consequential.

However, the authors note that inter-regional water trading remains constrained due to weak cross-province coordination and fragmented market platforms. Although the China Water Exchange (CWE) was established in 2016 to standardize national water trading, uptake remains uneven, and administrative barriers persist.

The study recommends expanding the successful elements of the national WRT pilot to other provinces, particularly those with high agricultural dependency. It calls for the creation of a unified national trading platform, greater integration of provincial exchanges into CWE, and targeted investments in water-saving infrastructure and crop transition subsidies.

The authors also caution that further reforms are needed to unlock its full potential. They advocate for complementary measures such as tiered pricing, environmental regulations calibrated for water conservation, and policy coordination across jurisdictions.