This article provides the background to the water reform program in Australia's Murray-Darling Basin, with the aim of informing international policy practitioners. We focus specifically on the most recent efforts of government to redistribute water from agricultural users to an environmental water manager. The effectiveness of market-based approaches is assessed in this context, and generalized policy lessons are distilled. We conclude that water buybacks deliver positive outcomes, with farmers readily adapting to the opportunities afforded by this program. Accordingly, we conclude that agrienvironmental objectives can be enhanced by the use of market-based approaches of this form, at least in this context.
 Policy makers in Australia have become increasingly aware of the potential for market-based approaches to assist in resolving conflicts between resource users and to enhance the efficiency of resource allocation generally. However, implementing market-based approaches can prove problematic from a political perspective. This is especially the case in the context of water, and Australia has a history of ambitious market reforms now spanning back more than two decades from which to draw observations. While it is beyond the scope of this paper to detail all of these reforms, it is our ambition to highlight some of the salient features of market approaches that have been used to enhance agrienvironmental outcomes in the Australian water setting.
 At the outset it is important to acknowledge the difficulties of transposing policy responses between countries and across different cultures, especially when it comes to water. Hydrological differences matter as does the historical context. Nonetheless, there are some lessons that can be generalized and it is these that we attempt to focus on in this paper. In so doing we hope to add to the literature on water economics and institutional design which dates back several decades [see, e.g., Easter et al., 1998].
 The paper itself comprises five additional parts. In section 2 we provide a synoptic overview of the water reforms that have occurred in the Australian milieu since the early 1990s. In this section we also briefly outline the historic resource allocation approach and national hydrology. Section 3focusses on the most recent reform episodes in the Murray-Darling Basin (MDB), Australia's most productive agricultural zone.Section 4 is used to highlight the benefits and limitations of the market instruments deployed to date, while in section 5 we develop and present generic lessons for policy makers before offering brief concluding remarks.
2. Synoptic Overview of Water Reform in Australia, 1990s–2012
 It is important to understand that water reform is not restricted to a particular period of history and that policy makers seldom have the luxury of starting with a blank legislative or administrative canvas. In Australia's case, European settlement gave rise to several periods of water development throughout the 18th and 19th centuries and for most of the 20th century. In general these approaches were characterized by efforts to “harness” water resources with the ambition of achieving agricultural and economic outcomes [Musgrave, 2008]. This was intertwined with a range of social ideals; for example, the notions of using labor to “green the desert” or “conquer nature” were almost synonymous with religious and social values of the time.
 Australian hydrology is also complex and contrasts markedly with the European setting from which many early settlers had come. The northern parts of the nation enjoy a summer – dominant rainfall pattern and the tropics ensure heavy rainfall in many places, at least for part of this season. Nonetheless, there are relatively few opportunities to harvest and store water in the north, at least at reasonable cost. The southern parts of the nation have differing rainfall distributions, often winter dominant or spring dominant. In the development era there were many suitable sites identified for building water storages, notwithstanding that these needed to be very large to deal with the extreme interannual variability of rainfall. Groundwater access varies greatly across the continent in terms of both yield and quality.
 Despite these very significant differences, Australians generally view themselves as living in a dry continent [see, e.g., Cathcart, 2009]. A more accurate description is that Australia is a land of enormous water variability, in both spatial and temporal terms.
 The perceived and real water shortages during the early phases of European settlement, accompanied by the “development” ethos of the time, resulted in the establishment of a substantial water harvesting infrastructure, much of which was designed to service agriculture. Most of this infrastructure is located in the south of the continent. However, a major transformation in the approach to water and its use emerged in Australia in the late 1980s and 1990s.
 The driving forces behind these changes were twofold. First, the level of environmental degradation that attended “modifying” natural streams came into sharp focus. Accompanied by a broader enthusiasm for valuing natural environments, the deterioration of native wetlands, overt evidence of salinity and algal blooms resulted in a clear shift in the public psyche from “developing” water resources to preserving and improving them.
 Second, and perhaps more importantly, Australian policy makers in the late 1980s and early 1990s became concerned with the overall competitiveness of the Australian economy. In particular, a consensus emerged in policy circles that unless the Australian economy became generally more competitive, the long-term welfare of the citizenry would be at risk. While the catalyst for much of this discussion was declining international competitiveness, many of the responses focused on domestic competition in the provision of goods and services. The upshot from this policy shift was that governments were encouraged to rethink the extent to which they intervened in productive activities, including those that used water as an input. Irrigation, which until that point had been largely owned and in many cases subsidized by the state, came under greater scrutiny with serious questions raised about the efficacy of public subsidy for water infrastructure and state interference designed to favor particular groups of agriculturalists.
 The Water Reform Framework of 1994 resulted from these two policy drivers (i.e., a push for greater fiscal accountability in irrigation and environmental concerns). This framework also extended to urban water use and had several key elements: (1) the introduction of pricing practices aimed at recovering costs, being consumption based, and removing (or at least making overt) cross subsidies, (2) the development and implementation of a system of volumetric and tradeable water allocations that were separable from land and which recognized the needs of the environment, (3) the separation of regulation, water service delivery and resource management functions, (4) adopting two-part tariffs for urban water users, where practicable, and (5) requiring all future investments in water infrastructure to meet both economic and environmental sustainability criteria [Crase, 2009].
 This was a national reform agenda agreed by all state jurisdictions and rewarded with payments from the federal coffers. It might come as no surprise, given the enormous variability of hydrology, that progress against this reform agenda later proved to be mixed. Nonetheless, substantive progress was made, particularly in the context of activating a water market and especially in those jurisdictions that shared the water resources of the MDB.
 The MDB has attracted much national and international interest, especially for scholars interested in water policy and politics. The basin includes Australia's most expansive irrigation areas in addition to being the home to highly productive dryland agriculture. A very brief sketch of the basin is as follows: (1) total of 23 river valleys, (2) basin area over 106 km2, (3) 14% of total area of Australia, (4) annual average rainfall of 530,618 GL, (5) 94% of rainfall evaporates, 2% drains into the ground, and 4% ends up as runoff, (6) basin generates 39% of the national income derived from agricultural production, (7) produces 53% of Australian cereals grown for grain, 95% of oranges, and 54% of apples, and (8) supports 28% of the nation's cattle herd, 45% of sheep, and 62% of pigs (source is the Murray-Darling Basin Authority (MDBA),http://www.mdba.gov.au/explore-the-basin/about-the-basin). The geography is illustrated in Figure 1.
 The idea of developing water resources to serve agriculture and promote regional development was pursued most vigorously in the MDB. The consequence of these policy decisions, some of which date back a century or longer, is the establishment of communities within the basin that either rely heavily on irrigated agriculture or have strong social ties with these types of activities. While these communities have grown, the wider population of Australia has become more urbanized, with around two thirds now living in capital cities [Australian Bureau of Statistics, 2010]. Simultaneously, the general population has shown a preference for increased environmental amenity, evidenced by the formation of the Greens as a political party, a group that presently holds the balance of power (along with independents) in the federal parliament.
 These political and demographic trends have been accompanied by shifts in the relative economic prominence of agriculture. For example, agriculture now employs no more than 4% of the workforce and accounts for a similar portion of GDP. A significant portion of agricultural output is exported, constituting around one quarter of the nation's exports in some years [Productivity Commission, 2005].
 Against this background and given the mixed progress of the 1994 reform agenda, the Council of Australian Governments (CoAG), an entity that comprises the chief ministers (premiers) of each state and the prime minister of the national government, agreed to a stronger reform blueprint in 2004. This was knows as the National Water Initiative (NWI). The NWI represents a commitment to achieve a “nationally compatible, market, regulatory and planning based system of managing surface water and groundwater resources for rural and urban use that optimizes economic, social and environmental outcomes” (National Water Commission (NWC) at http:www.//nwc.gov.au/home/). Importantly and in the context of the thesis in this article, the NWI emphasizes the role of markets and prices, and effectively raises the stakes on environmental outcomes. More specifically, the NWI commits all jurisdictions (1) to prepare water plans with provision for the environment, (2) to deal with overallocated or stressed water systems, (3) to introduce registers of water rights and standards for water accounting, (4) to expand the trade in water, (5) to improve pricing for water storage and delivery, and (6) to meet and manage urban water demands (Department of Sustainability Environment Water Population and Communities (DSEWPC), http://www.environment.gov.au/water/australia/nwi/index.html).
 In the decade that passed between the Water Reform Framework and the NWI, jurisdictions in the MDB also agreed that it was no longer possible to expand water extractions. The response became known as the MDB Cap. In part this response was a realization that the environmental limits of the river system were being reached but it was also a reaction to concerns that the reliability of tradable water entitlements had been diminished by increasing the number of extractive rights.
3. Recent Agrienvironmental Reforms in the MDB
 The NWI and the earlier reforms were heralded by many analysts as being both a radical and sensible policy response to a complex and changing resource allocation challenge [see, e.g., The Economist, 2003]. On the one hand, the NWI had given environmental outcomes a clear priority, via binding water resource plans, and on the other hand the emphasis on markets and trade offered agricultural interest the opportunity for greater efficiency within these constraints.
 The sticking point for the NWI was the difficulty of dealing with what were termed “overallocated” systems, most of which lie within the MDB. Accompanied by an extended drought in the 2000s and, arguably, some political opportunism on the part of the then federal government, the objectives of the NWI came under greater scrutiny in 2007. More specifically, the national government pronounced that the overallocation problems of the MDB would be best dealt with at a national level. This stood in contrast to the cross-jurisdictional cooperative model that had been used for several decades.
 An important element of the shift to direct national government intervention in the MDB was that some of the market rigor that is implied in the NWI then lay at odds with the political ambitions of the federal government. For example, while the NWI insists that future infrastructure works must pass economic muster to receive support, the federal government of the day released a policy that openly encouraged increased government subsidy for irrigation infrastructure. In essence, this approach was seen as reducing the political costs that attended reining in overallocated river systems.
 The 2007 pronouncements by the Howard Liberal government were largely mirrored by the Labor government that took control later that year, albeit with greater scope for using buyback of water entitlements to address overallocation. The upshot was that the Water for the Future policy, that continues today, is an amalgam of the ambitions set down in the NWI and politically inspired responses to deal with overallocation.
 The roll out of the current reform agenda is encapsulated in the Federal Water Act 2007. Important elements of the act include (1) he appointment of a separate body knows as the Murray-Darling Basin Authority (MDBA) to manage the affairs of the basin and to report to the federal minister for water, (2) a requirement of the MDBA to develop a basin-wide plan that ensures that the environmental health of the river system and aquifers is maintained, and (3) the establishment of a level of water take (known as the sustainable diversions limit (SDL)) above which the ecological health of the basin would be compromised.
 Setting aside the scientific challenges of developing a plan of this form, there are substantive political quandaries associated with reassigning water in this context. As we noted above, irrigation is perceived as playing an important role in many communities in the basin, even if its economic significance has diminished. In addition, there is tension between maintaining the policy merits of the NWI's pricing and market reforms and dealing with some of the political fallout from resource reallocation.
 In attempting to reassign water to address overallocation, Australian state and federal governments have hitherto used three main policy approaches. First, there has been some attempt to divert water by administrative and legislative change. However, these changes have been relatively modest, at least at a basin scale. In part, the reluctance of governments to take this approach derives from concerns that arbitrary changes of this form represent an unacceptable sovereign risk and would undermine the property rights system in water markets, and other markets [Crase et al., 2004].
 Second, irrigation infrastructure has been presented as a policy panacea, largely under the guise of water use efficiency measures. Here, the argument has been that public investment in irrigation infrastructure can yield so-called water “savings” that can then be deployed to address the environmental objectives being sought.
 Third, governments have used markets to buy back water in order to address overallocation. This final approach has not gone without criticism from some quarters and we turn briefly to the merits and limitations of each of these approaches in the following section.
4. Benefits and Limits of Market-Based Approaches to Dealing With Environmental Water in the MDB
 In 2010 the MDBA released its first version of the basin plan for the purposes of public consultation. The headline message was that between 3000 and 4000 GL would need to be reallocated to meet the SDLs, as defined in the Water Act [MDBA, 2010]. Most of this was to come from agricultural users. The political reaction to the first iteration of the plan saw this volume reduced. In early 2012 the SDL embodied in the draft plan stood at 2750 GL of which 1468 GL has yet to be acquired or redistributed to the Commonwealth Environmental Water Holder (CEWH).
 As we noted earlier, governments could secure this volume of water for redistribution to an environmental manager by various means: legislative or administrative reductions in extractive rights, investments in infrastructure such that water could be saved and returned to the environmental manager, and use of water markets to purchase water rights from willing sellers.
 Legislative and administrative adjustments represent a low budgetary cost, at least prima facie. Governments have formerly taken this approach, but usually only with relatively small amounts of water rights or where the number of adversely affected right holders is modest. For example, a low-reliability water right was modified in Victoria with the intention of reassigning water to the environment, under an earlier program called the Living Murray (seeCrase for details). Similarly, what was termed “off-allocation” flow for some irrigators in New South Wales was adjusted downward by administrative means, rather than by using infrastructure or a market-based approach.
 When water markets were first activated in the 1994 reforms Australian governments generally opted to validate all water rights, regardless of whether those rights had previously been exercised. The overriding consensus at that time was that the market ramifications of unilateral administrative/legislative action would generate substantive efficiency losses that outweighed the budgetary gains [Quiggin, 2001].
 With the benefit of hindsight this remains a moot point. For example, it may have been possible for the state to simultaneously address overallocation and avoid the perception that rights were being weakened. This could have involved offering a modest payment or establishing a tender by which those who held underused or inactive rights could sell them back to the state, at a small price. The activation of previously unused water rights has undoubtedly contributed to the events that have led to this point, but the cost of alternative approaches remains an unresolved empirical question. In the current milieu, with a functioning water market and the need for redistributing water to an environmental interest, it seems likely the political costs of meeting the SDL via only administrative and legislative changes would prove unacceptably high.
 Employing infrastructure subsidies remains a popular policy choice for redistributing water between agricultural and environmental interests in this case. For example, about $A5.8 Billion is allocated under the Water for the Future policy along these lines [DSEWPC, 2011]. Regrettably, while politically expedient, this approach is problematic on two fronts. First, since the aim is to redistribute water at a basin scale, the task of measuring and delivering real water savings is daunting. This has resulted in many infrastructure projects claiming water savings that are largely illusory water that is “saved” by not allowing return flows from one irrigation district may do nothing more than deprive others, including potential environmental uses [Crase and O'Keefe, 2009]. The prospect of identifying projects that would deliver a volume approaching 1486 GL by this form of intervention is therefore remote and government agencies charged with assuring bona fide savings have thus been forced to delay progress.
 Second, infrastructure works of this form are usually subject to diminishing returns. Thus, not only are the water yields from this approach modest, the cost is high and likely to rise sharply. For example, the most recent funding announcements along these lines show a cost to the government of AU$5,600/ML (see http://www.environment.gov.au/minister/burke/2011/mr20111018.html). Even if we assume away diminishing returns, this represents a budgetary cost of over AU$8 billion to deliver the remaining water to reach the required SDL. A range of other legacy problems attend this approach, in addition to the scope for rent seeking and moral hazard.
 The third approach involves using market incentives to acquire the water rights necessary to achieve the SDL. In Australia this has become known as water buybacks. Water buybacks were always mooted as a means of redistributing water but were generally portrayed as the policy of last resort for much of the reform era described here [Turnbull, 2010]. Buybacks commenced in earnest around 2007 when it became clear that the modest gains from the alternative approaches and the worsening drought were placing many environmental assets at risk. Buyback activity peaked in 2009–2010 and the process has been deliberately slowed during the negotiations over the final structure of the final Basin Plan.
 The main buyback programs are operated by the CEWH and have mostly taken the form of calls for expressions of interest and an open tender. In essence, irrigators are able to offer their water rights to the Commonwealth at a price that they regard as acceptable. The approach by CEWH has been to assess each offer purportedly on the basis of “value for money.” This is complicated by the fact that not all rights will yield the same amount of water and the distribution of environmental assets in relation to rights determines its usefulness in meeting the objectives of the Basin Plan. For example, purchasing a water right held downstream of an environmental asset, like a wetland, will limit its usefulness, unless there are trading rules that allow that right to be transferred upstream.
 Interestingly, buyback activity has been fiercely resisted by some irrigation groups. The arguments presented generally fall into several categories, most of which deal with social concerns rather than economic (for a detailed analysis of the reaction to buybacks and the basin planning process, see Crase et al. ). First, those who are part of a communal irrigation network have expressed concern that the sale of water out of an irrigation district will unduly increase the cost faced by those who remain in irrigation. While this argument has gained some traction, its veracity is questionable. For example, farmers selling water access entitlements must continue to pay charges that relate to connection to the irrigation network. Recent analysis by NWC  found that almost 60% of farmers who sold water access entitlements, including those selling to CEWH, retained their delivery rights. Moreover, those farmers who are part of a communal irrigation system and choose to abandon their delivery rights must pay to do so. The termination payment is based on a multiple of the network connection fees [see Australian Competition and Consumer Commission, 2006], implying that any shortfall experienced by remaining irrigators is at least partly a function of deflated network charges. The upshot is that rationalization of communal irrigation is manageable within the existing administrative arrangements and predictions about the collapse of communal irrigation districts because of market-based transfers appear misplaced.
 Second, the sale of water entitlements has been linked to weakening the social fabric of rural communities. As noted earlier, this argument has some historical elements, as does the related argument that water markets will undermine food production. By and large these arguments have generated emotive responses that are difficult to verify empirically. For example, the decline of rural communities in recent years has been largely a function of changes in food production (being less labor intensive) and shifts in relative prices [see, e.g., Barr, 2009]. Moreover, any social consequences relating to a water transaction will depend on how the seller chooses to use the funds realized from the sale. Survey data assembled by NWC  is enlightening in this context. More specifically, these data show that 16% of those who sold water to CEWH had used the funds to retire debt, 18% had used the funds to purchase another property and 34% had opted to deploy the funds to buy new capital equipment. Importantly, all of these activities offer the prospect of funds being retained in rural communities, albeit in a different form. In effect, there is persuasive evidence emerging to suggest that water buybacks are offering the opportunity for agriculturalists to adjust to new production systems while achieving environmental ends.
 One final piece of evidence is also worth noting in this context. Water markets in Australia comprise two main products: entitlement trade (sometimes called permanent trade), which represents a long-term right to access water, and allocation trade (sometimes called temporary trade) constituting an amount of water available in an irrigation season and subject to climatic conditions. For example, a farmer or environmental water manager could hold a 100 ML access right in a particular river system but because of low dam inflows in a year have much less available to use. This structure of property rights served agricultural interests well during the extended drought at the beginning of the century [seeNWC, 2009, 2012]. Many farmers involved in annual agriculture opted to sell their water allocations during the drought and revert to dryland farming. The cash inflows helped offset reduced income. Simultaneously, perennial agriculture, which has fewer substitutes for water, largely survived the extended drought by purchasing allocations.
 Survey evidence collected by the NWC  shows that the entry of an environmental water manager into the water market, in the form of CEWH, has modified the behavior of farmers and provided additional opportunities to manage risks. Of those surveyed who had sold entitlements to CEWH from the Murrumbidgee and Murray River systems, 67% and 42%, respectively, reported subsequently repurchasing water allocations. In simple terms, this illustrates how farmers have used the market to their advantage by using buybacks to restructure their activities and to undertake more opportunistic practices. This is particularly the case with broadacre farming and, to a lesser extent, dairying. The NWC also reports instances where large horticultural concerns have opted to divest themselves of water entitlements and used the capital so released to source water from a range of options, including leases, allocation purchases and so on. Against this background, it is important to reflect on the benefits of market-based approaches in this instance and the policy lessons more generally. This is attempted in the following section.
5. Policy Lessons and Concluding Remarks
 At the outset we noted the necessity to treat policy lessons that span nations and cultures cautiously. Nevertheless, we contend that there are five important lessons worthy of discussion.
 The major challenge facing policy makers in the MDB has resulted from the overallocation of the resource and the enthusiasm of previous generations. This is not to say that this policy approach was flawed in the first instance. Policy makers of the time had legitimate concerns about food production and strategic and social reasons for wanting to populate such a large landmass. Notwithstanding these ambitions, water was held as state property for most of Australia's history. Under these arrangements it was always possible (and is still feasible) for the state to simply modify the conditions upon which individuals gain access to the resource.
 The point is that nations with similar property right regimes need to treat current resource allocations more cautiously and with an eye to the future. The political economy of water is such that there will always be strong forces at work encouraging an increased allocation in favor of particular individuals and away from the state. Once those resources have been allocated, it will generally prove costly to redistribute water away from individuals to the state [see, e.g., Horn, 1995]. While this observation has previously been made about water resources [see, e.g., Meinzen-Dick and Mendoza, 1996], it is not at all clear that governments in developed western economies perform any better on this front than developing nations, where the pressure on water resources is arguable more intense.
 Second, the evidence in Australia shows that the sequencing of reforms has a significant impact on the likelihood of success and the costs that attend change. As noted previously, there is at least some support for the view that full activation of the water market in the 1994 reforms was premature. In many cases unused irrigation rights were traded to other users who then sought to activate those rights, ultimately increasing the extent of overallocation. Had jurisdictions been required to seriously address overallocation in the first instance and then activate a market framework, the course of events would likely have been very different.
 Third, Australia's attempts to reshape the distribution of water resources suggest that rent seeking needs to be guarded against. This confirms earlier international observations made along similar lines [see, e.g., Gaffney, 1997]. In some instances, creating private water rights and water markets bestowed considerable advantages on a relative few. Perhaps not surprisingly, those interests remain keen to protect existing and future rents. This stands in contrast to the Coasian framework that argues that the original distribution is less important and that ultimately markets will assign resources to the highest value. While the buyback schemes discussed above are consistent with a Coasian philosophy this has not come without its costs to taxpayers. Governments are still subject to capture by irrigation interests claiming all manner of ill effects, even though the evidence from markets and buyback is generally positive.
 Fourth, invoking market-based solutions to deal with the environmental challenges in the MDB shows that many farmers are more than capable of adapting to and taking advantage of change. The switch from holding entitlements to opportunistic use of the allocation market is a case in point. The ongoing success of agriculture will depend on such adaptiveness and a functioning market can assist in this context. Dealing with the fallout from those less able to adapt remains a challenge, but it is important for policy makers not to confuse the efficiency objectives of the market with social objectives. The latter can be dealt with by a range of other policy instruments usually better suited to the task.
 Finally, it is worth noting that the market-based approaches described above do not guarantee an efficient outcome on the environmental front. CEWH and others have used the market to purchase water rights under the assumption of a “no regrets” outcome. In simple terms, the environmental manager has assumed that water is so seriously overallocated than any purchase will yield an environmental gain. While beyond the scope of this paper, there is mounting concern about the difficulty of scientifically mapping water purchases to environmental outcomes [see, e.g.,Crase et al., 2011]. This stems from the uncertainty pervading environmental responses and the significant gaps in scientific knowledge. Accordingly, purchasing water may produce the most efficient means of sourcing water but the delivery of that water to optimize environmental outcomes remains in the hands of government and is largely unresolved. Linking market allocation for resources to ecological outcomes is thus a significant and generalizable challenge for policy makers.
 In sum, water policy developments in Australia are of considerable interest to many analysts. In part this stems from the extent and detail of the reform program, especially in the past two decades and in the MDB. The principles embodied in the NWI continue to act as a useful blueprint in Australia and abroad with many of the market reforms providing significant enhancements and welfare gains. Nonetheless, the struggle to deal with overallocated systems remains.
 Governments have chosen to use a market-based approach accompanied by other techniques, like state investments in water-saving infrastructure. By almost any measure, the efficiency of the market-based response is substantially greater than the alternatives. There is also mounting evidence from the behavior of agriculturalists that the market-based system of dealing with overallocation offers individual advantages.
 As with any market framework there will be some interests who are disaffected by the outcome. In the case of water, there is also a prospect that some interests will perceive a disadvantage, even if it is illusory. The challenge for policy makers is to distinguish genuine disadvantage from rent seeking. It remains the task for economists to make known the efficiency gains from the market approach and to support appropriate intervention on the social front, hopefully reducing confusion between the two.
 Lin Crase was supported by a fellowship under the OECD Co-operative Research Program: Biological Resource Management for Sustainable Agricultural Systems.