The Illiquidity of Water Markets
73 Pages Posted: 2 Oct 2015 Last revised: 1 Sep 2021
Date Written: April 5, 2021
We investigate the efficiency of a market relative to a non-market institution—an auction relative to a quota—as allocation mechanisms in the presence of frictions. We use data from water markets in southeastern Spain and explore a specific change in the institutions to allocate water. On the one hand, frictions arose because poor farmers were liquidity constrained. On the other hand, wealthy farmers who were part of the wealthy elite were not liquidity constrained. We estimate a structural dynamic demand model under the market by taking advantage that water demand for both types of farmers is determined by the technological constraint imposed by the crop’s production function. This approach allows us to differentiate liquidity constraints from unobserved heterogeneity. We use the estimated model to compute welfare under market and non-market institutions. We show that the institutional change from markets to quotas increased efficiency for the farmers considered.
Keywords: Market Efficiency, Dynamic Demand, Auctions, Quotas, Vertical Integration, Financial Markets
JEL Classification: D02, G14, L11, L13, L42, L50
Suggested Citation: Suggested Citation