Physical Transfer of Water Versus Virtual Water Trade: Economic and Policy Considerations

This paper provides a comparative economics of physical water transfer and virtual water trade in India to deal with the problem of growing scarcity of water. This is based on a nuanced understanding of the difficulties in operationalizing the concept of virtual water trade from a regional perspective; a better appreciation of the differential economic value of water use of land-rich, water-scarce regions and land-scarce, water-rich regions; and a recognition of the various direct and indirect benefits of large water transfer projects as evident from recent empirical studies. We first attempt a comparative economics of physical water transfer (between water-rich regions of eastern India to water-scarce regions of peninsular India) and the “virtual water transfer” alternative, considering the anecdotal evidence of various direct and indirect costs and benefits. The direct costs included economic cost of infrastructure, and various damage costs and transaction costs. The indirect costs covered economic, social and environmental costs. These cost components are several and are also more pronounced for physical water transfer. The benefits considered in the analysis included direct economic benefits, and various indirect benefits that are social, economic and environmental in nature. These benefits are several and also more pronounced for physical water transfer. The analysis showed that the net benefits of physical water transfer outweigh virtual water transfer. Subsequently, the political transaction costs of executing water transfer projects were examined.