To figure out what effects the drought will have on California’s economy, one must guess how California will respond. First, let’s review a few facts that were developed in the previous parts of this series: by sometime around mid-century, California will face an annual water deficit that averages 25.1 million acre-feet each year, which represents about 39% of the state’s current water supply (Part 3). Agriculture consumes roughly 28.3 million acre-feet of water per year, 76% of California’s total consumption, while urban users consume about 8.8 million acre-feet, 26% of total consumption (Parts 6, 7 and 8). One can therefore attribute 19.1 million acre-feet of the deficit to agriculture, and 6 million acre-feet to urban consumers.

Urban conservation and recycling have the potential to conserve 4.2 million acre-feet of water per year. That would represent only 17% of the total water deficit, but it would represent 48% of the urban deficit. The analyses I read suggested this amount of water could be conserved without materially affecting the economy or quality of life in California, but I thought otherwise. Looking at the strategies seemed to make it clear that urban conservation at this level would make California more costly, and it would degrade the lifestyle for which California is famous. The result is that California would become a less attractive place to live (Part 8).

The potential of agricultural conservation was controversial, ranging from only 500,000 acre-feet per year to well over 3.4 million acre-feet per year. I felt the reality lay somewhere between the extremes, but probably closer to the lower estimate than the upper (Part 7). One can only guess what will actually be achieved, therefore I will assume that California will be able to reduce agricultural water consumption 10% without affecting the economy or crop yields. Since California’s farms consume 28.3 million acre-feet per year, that would represent 2.8 million acre-feet, about 11% of the total projected deficit, and about 15% of the deficit attributable to agriculture.

I concluded that the only strategy that could provide meaningful additional water was desalination. Desalinating enough water to cover the entire deficit is conceptually possible, but it would involve a massive infrastructure project that would have to overcome many difficult hurdles. It would also be expensive, with an annual cost of $25.6 billion dollars. That is roughly equivalent to 23% of the state budget, or 1% of the state GDP. (Note that these costs are annual – they would occur every year. See Part 5 of this series.) (Parts 4 and 5)

Scenario 1: Economic loss = $800 billion (35% of gross state product), 6.6 million people unemployed (44% of the workforce).

If California does nothing, then the state will suffer a 39% deficit in water supply. That is roughly equivalent to the scenario explored in the Seitman Foundation Study. You may recall from Part 11 that this study explored the economic consequences of a loss of Colorado River water to the 7-county region that receives it (which I am calling the CRWR). The Colorado supplies about 62% of the total water in the region (92% of agricultural water and 37% of urban water). The size of the water deficit my analysis envisions is about 63% as large as the loss envisioned in the Seitman Foundation Study. The Seitman Foundation Study concluded that losing water from the Colorado River loss would result in an economic loss equivalent to 55% of all economic activity in the CRWR, and 70% unemployment. The analysis used a linear model, so it can be extrapolated to the state as a whole: California would suffer economic losses equivalent to 55% x .63 = 35% of all economic activity, and 70% x .63 = 44% unemployment. Given that the Gross State Product is $2.31 trillion (Part 12) and total state employment is 15.1 million (Bureau of Labor Statistics, May 2014) the loss would amount to $800 billion of losses and 6.6 million people unemployed. It would be an economic catastrophe!

Well, we know California will NOT do nothing. It is an unrealistic scenario, they are already taking action.

California’s economic output is concentrated in its urban areas, agriculture accounts for only about 1.5% of California’s GDP. The same is true for population – the bulk of California’s population is concentrated in its urban areas. Thus, California may simply divert water from agriculture to urban consumption. There are a couple of ways it might be done, which would have only slightly different effects.

Scenario 2: Economic loss = $44.2 billion (1.9% of gross state product), 280,000 unemployed, plus unknown effects of higher food prices.

California could simply take water away from agriculture and divert it to urban areas by fiat. California’s current water withdrawals are 37.1 million acre-feet, of which about 8.8 million acre-feet represent urban consumption and 28.3 million acre-feet represent agricultural consumption. But with a 39% reduction in water supply, withdrawals could only be 22.6 million acre-feet. Covering urban consumption completely would leave 13.8 for agriculture, or 49% of current supply. This would mean a loss of about 49% of California’s farms. Since agriculture represents about 1.5% of the California economy, this would represent a loss of about 0.74% of the total California economy.

Losses would exceed that amount, however, because agriculture is closely linked to many other industries – food processing, farm equipment and supplies, financial services, textiles, and transportation, for instance. The total value of agriculture to the California economy was estimated at $90.2 billion in 2009. A 49% loss would equate to $44.2 billion, or 1.9% of California’s economic output at the time. Employment in agriculture and agriculture-related industries was estimated at 1.4 million jobs. If we imagine that 20% of those would be lost, then it would represent a 0.28% increase in unemployment statewide. (Agricultural Issues Center 2009) Agricultural areas would be hit the hardest. Most likely they would depopulate.

I’m not able to estimate the effect that a 49% loss of California farm production would have on prices. Most likely, food production from other states would compensate for some of the loss, but not all of it. It is likely that food prices would increase, and the effects would be greatest on those food products for which California dominates national production (grapes, wines, nuts, several fruits and vegetables). Higher food prices would act as a break on economic activity by reducing the amount of money people have to spend on other goods and services. The effects could be disastrous for low-income families.

During the Great Recession, the U.S. economy contacted by about 3% (Federal Reserve of St. Louis 2015). Further, the effect was brief: after 3 months GDP began growing again, and within 7 months it had surpassed its previous high. The economic hit we are discussing here would be smaller in size (1.9% vs. 3%), but permanent.

A different way that California could obtain the same end result would be for farmers to sell their water allocations to urban areas. If this were to work, then farmers who were selling water to urban areas could not have their water cut off. Some sort of legal arrangement would have to be worked out so that they received first priority on water deliveries. Thus, it would require abolishing the system of water rights that has been in effect for over 100 years. The water delivery numbers would be the same as those in Scenario 2: urban areas would remain completely covered, and about 49% of the current water supply to farms would be lost. The difference is that the farmers would be compensated for it, though farm-related industries would not. Farm workers and workers in related industries would still suffer unemployment. Agricultural regions would still suffer, and most likely depopulate. Thus, the benefits would not really flow to the farm workers or the farming regions, but rather be concentrated in the owners. With no reason to be on their farms, the owners might even live elsewhere. Urban areas would foot the bill for the water, and in this sense they would pay twice. The loss in farm acreage would still result in food price increases similar to those discussed above, but in addition, urban consumers would pay increased costs for water – perhaps significantly increased. Thus, the inhibiting effect on the economy would be even greater, though not possible for me to quantify.

I think Scenario 2 is also unlikely to occur. It doesn’t take into account the potential to obtain additional water from desalination, it doesn’t take into account the effects that the loss of 49% of California’s agricultural production would have on the food supply in the United States, and it doesn’t consider issues of fairness – it is unfair to concentrate all the hardship into one sector of the economy. Supplying sufficient water to urban areas will still remain a top priority, but a mix of strategies will be used.

In the next post, I will develop a 3rd scenario that I think represents a reasonable guess at what California might actually do.

Sources:

Agricultural Issues Center. 2009. The Measure of California Agriculture. Chapter 5, Agriculture’s Role in the Economy. Davis, CA: Agricultural Issues Center, University of California, Davis. Downloaded 9/14/2015 from http://aic.ucdavis,edu/publications/moca/moca_current/moca09chapter5.pdf.

Bureau of Labor Statistics. May 2014. “May 2014 State Occupational Employment and Wage Estimates: California.” Occupational Employment Statistics. Viewed online 9/15/2015 at www.bls.gov/oes/current/oes_ca.htm#00-0000.

Federal Reserve of St. Louis. 2015. Gross Domestic Product. Downloaded 9/14/2015 from https://research.stlouisfed.org/fred2/series/GDP#. This is a web page and data portal. The data can be downloaded by selecting the Export tab, and “Graph Data.”