Specific Objectives of the Project: The objectives of this project are to

1. Create an evidence based and detailed primer that characterizes supply and demand in the underlying market reflected by California’s Veles spot market water index (NQH20).
2. Use time series econometric methods to identify the determinants of spot water prices in the Veles water market.

Summary of Results:
Preliminary results provide the following facts about the market for water in California:

1. 82% of water trades are one-year leases, meaning that they are a temporary transfer of the right to extract either surface or groundwater that last for one year only. All the following stylized facts only apply in the market for one-year leases.
2. Most short-term water trades happen in the groundwater market, but most of the volume is traded in the surface water market. 75% of one-year leases are for groundwater in adjudicated basins, but these only represent 25% of the total volume traded.
3. The market for surface water responds to drought conditions, but the market for groundwater does not. Prices, price volatility, total volume traded, and number of trades increase in response to drought in the market for surface water but remains consistent in the market for groundwater.
4. In the groundwater market, virtually all transactions happen in May, and the price is constant over time at around $200. The limited number of transactions that take place during other times of the year generally have a higher price, and the price trends upward over time. Seasonality is also present in the surface water market, but it is less pronounced and less important.
5. Beyond seasonality, most of the price variation in the groundwater market comes from differences in location, specifically subbasin. Location and month fixed effects control for 92% of the variation in price for groundwater.
6. In contrast, most of the price variation comes over time in the market for surface water. During times of drought surface water prices can be five times higher than when there is no drought or less severe drought. In fact, during some months of the year when there is no drought the price of surface water can be close to zero. This wide range of prices reflects the dependence of the surface water market on drought conditions.