Australian urban water utilities face a significant challenge in designing appropriate demand management and supply augmentation policies in the presence of significant water scarcity and climate variability. This article considers the design of optimal demand management and supply augmentation policies for urban water. In particular, scarcity pricing is considered as a potential alternative to the predominant demand management policy of water restrictions. A stochastic dynamic programming model of an urban water market is developed based on data from the ACT region. Given a specification of the demand and supply for urban water state dependent optimal price and investment policies are estimated. The results illustrate how the optimal urban water price varies inversely with the prevailing storage level and how the optimal timing of investment differs significantly between rain dependent and rain independent augmentation options.

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Increased use of irrigation water has imposed stresses on groundwater systems. Declining groundwater levels and spring discharges have heightened water users' concerns about the sustainability of regional economies. Recently there have been initiatives toward groundwater regulation and restrictions on water use have either been implemented or now being proposed. This study investigates the costs imposed on irrigators by restricting groundwater use and the potential for more flexible annual extraction rules that will take account of seasonal variations in rainfall to reduce these costs. The dynamics of the decision‐making process on water use have also been accounted for when irrigators have some flexibility over annual extractions.

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