Katrina Jessoe, University of California-Davis

Abstract:
Groundwater externalities pose a critical threat to the future availability of water supplies. However, perceived long-run industry costs remain an impediment to regulation. This paper analyzes the industry impacts of a volumetric pricing program that was implemented to address water quality and quantity externalities arising from groundwater irrigation. We use panel data on farm-level land and groundwater use to identify the short and long-run effects of a pollution tax on groundwater use, crop choice, land fallowing, and land conversion. We find that farmers respond to a 21% price increase through a 17-22% decrease in input use, where the reduction in water use grows by 40% between the first and fifth year of the tax. In the longer-run, farmers also respond by retiring fallowed land and to a lesser extent irrigated acreage, margins that our short-run estimates do not detect. Groundwater pricing will reduce water use and contract industry size, but may have more limited impacts on agricultural output.