Report No: . World Water and Climate Economics Research and Analytics Guidelines of Economic Analysis . This Version June 15, 2024 . Water . . 1 © 2024 The World Bank 1818 H Street NW, Washington DC 20433 Telephone: 202-473-1000; Internet: www.worldbank.org Some rights reserved This work is a product of the staff of The World Bank. The findings, interpretations, and conclusions expressed in this work do not necessarily reflect the views of the Executive Directors of The World Bank or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgment on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. Rights and Permissions The material in this work is subject to copyright. 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The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgment on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. Rights and Permissions The material in this work is subject to copyright. All queries on rights and licenses, including subsidiary rights, should be addressed to {client provided ADDRESS, FAX, EMAIL} 2 Preface Climate change and demographic trends in the 21st century are placing unprecedented stresses on the water resources sector. This evolution raises the potential economic value of well-designed interventions but also complicates their evaluation. To gauge the benefits of projects that reduce future climate risks, such as flood control infrastructures, the severity and intensification of future climate impacts, and the growing vulnerability of future populations, must be characterized. When climate risks have the potential to undermine the performance of projects, such as those that supply agricultural or urban water, an analysis of resilience to future climate shocks becomes essential. Assessments of water availability and demand under uncertain climate futures will also be necessary to measure the economic value of water-sector capacity expansions. The analytical methods, tools, and data required to meaningfully characterize fundamentally uncertain climate futures are not common in project evaluation, necessitating an adjustment to standard practice. The scope and design of project interventions must also reflect evolving social norms that emphasize environmental concerns, sustainable development goals, the need for stakeholder engagement, and normative views in favor of distributive justice. These norms encourage an expansive concept of project designs and interventions. Such interventions might include the use of nature-based water management solutions as a complement to gray infrastructure, or the recycling and reuse of water or other demand side management practices to increase the efficient use of existing water supply infrastructure, while reducing the optimum size of new capacity. Broader normative goals also widen the evaluation lens for project appraisal and encourage a holistic approach to conceptualizing project outcomes. Watershed protection programs can be connected to carbon emissions, soil erosion, and the welfare of hillside residents, for example, and ultimately traced to changes in downstream flooding and associated risks to agricultural production, urban economic activity and infrastructures, and to impacts on urban residents. How to conduct economic analysis in this complex setting is the general subject of this important monograph. It contains ten chapters authored by veteran analysts with deep expertise in their subject areas. The intent is to provide guidance for World Bank Task Team Leaders who face the challenge of producing economic and financial analyses such as those required in project appraisal documents. But the survey of novel methods and applications in the monograph will also be informative for a broader community of applied analysts working in the water resources area, including those situated in think tanks, government departments, development organizations, and academic institutions. The monograph starts with an overview and then turns to a chapter that addresses uncertainty evaluation for water resources decision-making when uncertainties are deep or fundamental. This chapter emphasizes the utility of innovative robustness-based methods for assessing the value of water projects facing uncertain climate change. The following chapter develops the concepts and tools for evaluating nature-based solutions, such as wetland restoration. Nature-based solutions can be complementary to other policies for mitigating or adapting to the effects of climate risks. The focus then shifts to stakeholder representation in project development and implementation. This chapter provides the tools and methods for stakeholder analysis, emphasizing the 3 importance of stakeholder value orientations and the necessity of stakeholder engagement for successful project performance. These three chapters are primarily methods oriented but use practical examples and case studies to illustrate concepts. The next part of the monograph details methods and guidance for economic analysis in specific water resource areas, including flood protection and drought risk management, urban water supply and sanitation, multipurpose hydropower projects, and climate resilient water use in agriculture. These chapters provide comprehensive evaluation frameworks and use case studies to illustrate them, providing essential guidance to practitioners conducting economic analysis of projects in these areas. Some themes that emerge are the utility of hybrid models of flood risks calibrated using both local and global data, and the use of multi-faced interventions that address more than one management practice, such as improving irrigation efficiency while planting drought resistant crops. Others include the importance of interdisciplinary collaboration and stakeholder engagement throughout the project development cycle, and the desirability of integrating climate risk and resilience measures at early stages of project designs where design flexibility is greatest. An early identification of tradeoffs not only increases the net-value of water resources investments but allows a more fruitful analysis of the tradeoffs among competing objectives, including those that include distributional effects and impacts on sustainable development objectives. The final chapter concludes that benefit-cost analysis in the water resources sector must be adapted to address five key challenges: the construction of dynamic baselines in an era of climate change; the use and evaluation of multi-objective policy mixes; the valuation of improved health and environmental quality in low- and middle-income countries, the desirability of assessing the distributional consequences of water policy interventions, and need to develop new policy instruments, tools, and data to address these evaluation challenges. This is not familiar terrain for economic analysts, but new competencies are necessary to address the complexities of water resources management in the present era. Kerry Krutilla Professor, O’Neill School of Public and Environmental Affairs Indiana University 4 Cover Note Why is economic analysis becoming more important? Macroeconomic policies are one of the first tools countries consider when they want to increase economic growth. Countries that succeed in this endeavor are often focused on improving government productivity and creating a competitive business environment that incentivizes companies to improve their productivity as well (Madgavkar et al., 2019). Economic analysis is used to microeconomically evaluate the costs and benefits of projects. It starts by ranking projects based on the economic viability to assist the allocation of resources, with the main goal to estimate changes in the welfare of beneficiaries and to address each of the following questions (Edomah, 2018): • Should the project be undertaken by the public or private sector? • What will be economic performance of the project? • How can we ensure the efficiency and equity of cost recovery? • What will be other indirect impacts of the project? An economic analysis consists of three main components: the identification and estimation of costs related to an investment, the identification and estimation of benefits to be obtained from an investment, and the use of specific parameters that compare economic costs with the benefits to determine the appropriateness and economic viability of the investment (Edomah, 2018). Financial and economic costs are major considerations in the analysis as they can impose additional challenges to be factored into the implementation of a project. Why do governments need to better inform on their economic performances? Governments are a key player in intervening and confronting existing barriers by changing legislation, adopting policy instruments, providing additional resources, and building institutions and knowledge exchange (IPCC, 2019). By understanding institutional barriers, governments increase their familiarity with the path-dependent nature of institutions that manage natural resources and public interests, bureaucratic structures that undermine horizontal and vertical integration, and lack of policy coherence (IPCC, 2019). By doing so, governments can identify inequalities of wealth and power that allow processes of corruption and elite capture where public resources are used for the benefit of a few individuals and mitigation actions from the local to the global level that can create risk and unjust outcomes (IPCC, 2019). 5 Why are economic assessments becoming more relevant as financial resources become scarcer and projects become more exposed to risks? Economic evaluations rely on modeling techniques to estimate costs and outcomes of alternative interventions over time. Economic assessments are becoming more essential as projects become exposed to more risks, the need for immediate action may help reduce risks and losses while generating benefits to society. This is why appropriate time horizons are becoming more relevant as projects become more exposed to risks (Henrikson and Skelly, 2012). Delayed action can lead to changes of the structure of costs and benefits. In the water sector, delays of water management interventions can affect project’s efficiency in the implementation of land-based adaptation options, for instance. This can result in a decreased potential for the array of management options and restrict their current and future effectiveness (IPCC, 2019). Infrastructure systems will be affected by the physical impacts of climate variability but will also play an essential role in building resilience to those impacts (OECD, 2018). Therefore, decision makers need to have access to high quality information, consistent data, and the capacity to use this information to improve planning and efficiency of investments. Any costs or uncertainties should be clearly outlined and valued; the tools needed to support this decision- making under uncertainty should be provided (OECD, 2018). Why is the water sector one that is increasingly vulnerable to the impacts of climate change and becoming an increasing issue for government projects? The impacts of climate change are projected to lead to increases in investments necessary for infrastructure, particularly water storage, flood defenses, and water supply and sanitation in some regions (OECD, 2018). By accessing the tools necessary for decision-making under uncertainty, governments can reduce the need for costly retrofitting while reducing upfront costs. Global studies have found that the benefits of investing in resilience outweigh the costs with high benefit-cost ratios. For example, a coastal city’s investment in flood defenses reduces the cost of subsequent floods beyond the cost of the investment. Unless governments require project developers to consider the increasingly severe impacts of climate change expected later in the design life, developers will neglect to account for them during the design stage. Public policies that promote resilience include public procurement processes which consider climate resilience when comparing competing bids. By accounting for costs over the asset’s lifetime, the effects of alternative scenarios can be weighed (OECD, 2018). 6 References Edomah, N. (2018). Economics of Energy Supply. Reference Module in Earth Systems and Environmental Sciences. https://doi.org/10.1016/b978-0-12-409548-9.11713-0 Henrikson, N. B., & Skelly, A. C. (2012). Economic studies part I: basics and terms. Evidence- Based Spine-Care Journal, 3(4), 7–11. https://doi.org/10.1055/s-0032-1328137 IPCC, 2019: Summary for Policymakers. In: Climate Change and Land: an IPCC special report on climate change, desertification, land degradation, sustainable land management, food security, and greenhouse gas fluxes in terrestrial ecosystems [P.R. Shukla, J. Skea, E. Calvo Buendia, V. Masson-Delmotte, H.- O. Pörtner, D. C. Roberts, P. Zhai, R. Slade, S. Connors, R. van Diemen, M. Ferrat, E. Haughey, S. Luz, S. Neogi, M. Pathak, J. Petzold, J. Portugal Pereira, P. Vyas, E. Huntley, K. Kissick, M. Belkacemi, J. Malley, (eds.)]. In press. Madgavkar, A., Seong, J., & Woetzel, J. (2019). How governments in emerging economies can help boost and sustain growth. McKinsey & Company. https://www.mckinsey.com/industries/public-sector/our-insights/how-governments-in- emerging-economies-can-help-boost-and-sustain-growth OECD. (2018). Climate-resilient Infrastructure. OECD Environment Policy paper NO. 15. Policy Perspectives. ISSN 2309-7841. https://www.oecd.org/environment/cc/policy-perspectives- climate-resilient-infrastructure.pdf 7 Chapter 1: Summary of Guidance Notes: Economic Analysis of Water Projects Methods and examples for assessing economic viability, externalities, and climate uncertainties Dale Whittington and Christian Borja-Vega 8 1. Introduction Water is essential to life. It sustains life and healthy environments when enough water (in quantity and appropriate quality) is in natural habitats. Accessing clean water and improved sanitation services also preserves human health and economic productivity. Existing literature documents the benefits of access to safe and stable sources of water on a range of economic, environmental, and social outcomes. Research has examined the role of water in issues such as economic activity (Damania et al. 2017, 2019), migration (Zaveri et al. 2021), welfare (Sekhri, 2014), women’s work (Koolwal and Van de Walle, 2013), labor unrest (Almer et al., 2017), and poverty reduction (Duflo and Pande, 2007). At the same time, a growing strand of literature highlights how climate change, through its impacts on the availability of water, negatively affects economic and social development (Thurlow, Dorosh and Yu, 2012; Yu et al. 2013; World Bank, 2016). Economic analysis of water programs and investments is conducted to assess the costs and benefits of different types of interventions. The tools that economic analysis use evaluate the economic efficiency of water management programs and inform decision-making by water managers and policymakers. Economic analysis is indispensable to evaluate the feasibility of investments in the water sector based on a) the potential economic returns of external investment support, b) the effectiveness of water tariffs available to improve drinking water service and quality, c) the efficiency of investing in water solutions to make the environment resilient against climate change and poverty reduction. The data generated by economic analysis tools assist with policies and regulations for water pollution, targeted and trading water programs, and evaluate institutional alternatives for recovery of water services costs. Additionally, economic analysis can help in determining the economic efficiency of environmental management and assessing the risks of economic and environmental failure associated with traditional approaches to water infrastructure development and promote more cost-effective solutions. 2. Why Water Matters for Development and Climate Resilience? Water is essential for both development and resilience since it is a vital resource for many economic, social, and environmental activities. Some key reasons why water matters for development and resilience are: 1. Health and sanitation: Access to clean water and sanitation is fundamental for good health. Lack of access to clean water can lead to the spread of water-borne diseases, which can be particularly harmful to children, the elderly, and people with weakened immune systems. Proper sanitation also relies on adequate access to water. 2. Agriculture, water, and food security: Water is essential for agriculture and food security. Irrigation systems that rely on water sources can help farmers grow crops year-round, increase yields, and provide a stable source of food for local communities. 3. Hydropower production: Water is used in the production of hydroelectric power, which is a renewable energy source that can provide energy security and reduce dependence on fossil fuels. 4. Industry and economic growth: Many industries rely on water for production and as a key input. Access to water can also support economic growth and job creation, particularly in rural areas. 9 5. Resilience to climate change: Water management is essential for building resilience to the impacts of climate change. This includes managing water resources to adapt to changing precipitation patterns, reducing the risk of floods and droughts, and ensuring access to water during times of scarcity. Moreover, Water is a necessary condition for the achievement of the Sustainable Development Goals (SDGs). Water is the connector with nearly every SDG. Water supplies are vital to produce food and will be essential to attaining food security (SDG 2); clean and safe drinking water and sanitation systems are necessary for health (SDGs 3 and 6); and water is needed for powering industries and creating the new jobs (SDGs 7 and 8). Moreover, water contributes to the mitigation agenda (emissions reduction and adoption of renewables) (SDG 7), and to combat the effects of climate change (SDG 13). Water is also an essential condition to make cities and human settlements sustainable and resilient (SDG 11) and contributes to sustainable consumption (SDG 12). None of this is achievable without adequate and safe water to nourish the planet’s life-sustaining ecosystem services (SDGs 13, 14, and 15). If the water-related aspects of climate change are not addressed, it can negatively impact progress towards all the SDGs. Cost–benefit analysis (CBA) is a common instrument in the decision-making process on how to allocate financial resources. In this context, economic analysis plays a critical role in understanding the performance of investments and their returns. There are several ways in which economic analysis can inform decision-making and help ensure the long-term sustainability of water projects: • Maximizing efficiency: Economic analysis can help ensure that water projects are developed and implemented in the most efficient and cost-effective manner possible. This can help ensure that resources are used wisely and that projects are sustainable over the long term. • Identifying financing options: Economic analysis can help identify potential sources of funding for water projects, as well as assess the financial feasibility of different project options. This can help ensure that projects are financially viable and sustainable. • Balancing competing needs: Economic analysis can help balance competing needs for water resources, such as between agriculture and urban areas. This can help ensure that water resources are allocated in the most efficient and equitable manner possible. • Assessing economic impacts: Economic analysis can help assess the economic impacts of water projects, including the creation of jobs, increased economic activity, and potential cost savings from reduced water scarcity. This can help ensure that projects are aligned with broader economic development goals. • Managing risk: Economic analysis can help identify and manage risks associated with water projects, such as the risk of drought or water scarcity, and help identify strategies to mitigate these risks. • Resilience planning: Economic analysis can inform resilience planning for water projects, including identifying potential vulnerabilities and assessing the economic impacts of different resilience strategies. All these can help ensure that water projects are sustainable over the long term and contribute to broader economic development goals (Jiang et al 2021). Therefore, economic analysis plays an important role in the design and performance assessment of water projects. For this reason, it is indispensable that WBG’s Task Team Leaders and Staff, as well as country’s counterparts and of the Water Global Practice have the necessary tools to be able to conduct this type of analysis . The idea of preparing this volume arises from this reasoning; that of providing Water GP Task Team Leaders (TTLs)/staff with guidelines to be able to conduct effective economic analysis in water projects. Guidelines for economic analysis for water projects are important for several reasons: 10 • Ensuring consistency: Guidelines help ensure that economic analysis is conducted in a consistent and standardized manner across different water projects. This can help ensure that project assessments are comparable, and that decision-making is based on consistent criteria. • Ensuring quality: Guidelines help ensure that economic analysis is conducted to a high standard and is based on best practices. This can help ensure that project assessments are accurate, reliable, and transparent. • Promoting transparency: Guidelines help promote transparency by setting out the criteria and assumptions used in economic analysis. This can help stakeholders understand the basis for decision-making and promote accountability. • Encouraging participation: Guidelines can encourage participation by stakeholders in the economic analysis process, such as through public consultations. This can help ensure that diverse perspectives are considered and that decisions are informed by a range of viewpoints. • Facilitating communication: Guidelines can facilitate communication between different stakeholders, such as project developers, government agencies, and affected communities. This can help ensure that economic analysis is conducted in a collaborative and constructive manner. Therefore, having these guidelines of economic analysis for water projects can help ensure that water projects are developed and implemented in a way that is sustainable, equitable, and meets the needs of all stakeholders. 3. Description of the scope of the guidelines The updated Water GP guidelines are broadly classified in two distinct chapter groups: 1) Methodological issues and 2) Evaluation for specific water problems or challenges. Part 1 of the guidelines includes the methodological issues chapters, and it is comprised of water projects that allow for a better explanation of the development of relevant methodological issues of incorporating climate uncertainties, nature based solutions and stakeholder analysis to assess project’s economic performance. Part 2 of the volume includes chapters with guidelines for evaluating specific water problems or challenges and includes water projects specific to these problems or challenges to illustrate how to best analyze and evaluate them, with case studies. An explanation of the relevance of each chapter in the volume follows below. Figure 1 The scope and content of the guidelines Part 1: Methodological issues 11 Chapter 2 – Guidelines for economic analysis of water infrastructures under climate uncertainties (Jia Li, Neven Fuckar, Homero Paltan). The economic analysis of water infrastructure under climate uncertainties is particularly relevant because climate change is expected to have significant impacts on water resources, such as changes in precipitation patterns, increased frequency of droughts and floods, and changes in the timing and magnitude of streamflows. Under these circumstances, economic analysis is important because it can help decision-makers understand the costs and benefits of different infrastructure investments, identify potential trade-offs between different approaches, and manage risks and uncertainties associated with climate change impacts on water resources. Chapter 3 – Guideline for measuring NBS parameters values for discount rates, value of time, cost of illness, VSLs, and equity—Market vs non-market (Boris Tot Van Zanten, Radhika Sundaresan, Christian Borja-Vega). Measuring Nature-Based Solutions (NBS) parameters values is relevant for a range of economic analysis metrics, including discount rates, value of time, cost of illness, Value of statistical life (VSL), and equity - market vs non-market. Measuring these parameters can help inform the economic analysis of NBS projects and ensure that decision-making is based on accurate and reliable data. Chapter 4 – Guidelines for conducting stakeholder analysis to inform economic analysis of projects (Georgia Mavrommati, University of Massachusetts). Stakeholder analysis is relevant for informing economic analysis of projects by identifying stakeholder perspectives, interests, and motivations; building stakeholder engagement; improving project acceptance; and enhancing project sustainability. Stakeholder analysis can help ensure that the economic analysis reflects the diverse perspectives and priorities of stakeholders and is perceived as legitimate and credible by them (Figure 2). Figure 2 Example of a simplified process of the economic analysis of soil sediment water intervention Part 2: Guidelines for evaluating specific water challenges Chapter 5 – Floods: Guidelines for economic analysis of flood risk management: damage cost curves (Mark Bernhofen and Mark Trigg—Oxford University/University of Leeds). The economic analysis of flood risk management is important for determining the most cost-effective strategies for reducing flood damage and increasing resilience. Damage cost curves are a tool used in this analysis to estimate the potential costs of flooding and the benefits of different flood risk management strategies. The 12 relevance of damage cost curves in economic analysis of flood risk management lies in their ability to provide decision-makers with valuable information about the expected costs and benefits of different strategies. For example, damage cost curves can help identify the most cost-effective flood risk management strategies by comparing the expected annual costs of each strategy to the expected annual damages that would occur without any intervention. Overall, damage cost curves are a valuable tool for economic analysis of flood risk management because they provide decision-makers with a clear understanding of the potential costs and benefits of different flood risk management strategies. They can help prioritize investment in cost-effective strategies and ensure that limited resources are allocated efficiently to reduce flood risk and increase resilience. Chapter 6 – Droughts: Guidelines for economic analysis for drought risk management: (Emmanuel Asinas—Chief Economist, California Department of Water Resources) . Like flood risk management, damage cost curves are a tool used in this analysis to estimate the potential costs of drought and the benefits of different drought risk management strategies. Damage cost curves for drought risk management plot the expected damages from a drought event against the probability of that event occurring. This information is used to estimate the expected annual damage and the expected annual cost of drought risk management strategies, such as water conservation measures, crop insurance, or groundwater management. Just like in flood risk management, damage cost curves are a valuable tool for economic analysis of drought risk management because they provide decision-makers with a clear understanding of the potential costs and benefits of different drought risk management strategies. They can help prioritize investment in cost-effective strategies and ensure that limited resources are allocated efficiently to reduce drought risk and increase resilience. Chapter 7 – Guidelines for economic analysis of investments based on climate resilience and circularity for urban water infrastructure. (David Fuente, University of South Carolina). Economic analysis of investments to improve the resilience of urban water infrastructure is important to determine the most cost-effective strategies for increasing resilience and reducing risks. Circular water management and non-revenue water (NRW) reduction are two such strategies that can help improve the resilience of urban water infrastructure. Circular water management refers to the practice of reusing and recycling water within the urban water system. This can involve the use of recycled wastewater for non- potable purposes such as irrigation or industrial processes, as well as the capture and reuse of rainwater. Economic analysis of circular water management strategies can help decision-makers evaluate the costs and benefits of these approaches, including the potential savings from reduced demand for freshwater, lower treatment costs, and reduced environmental impacts. NRW reduction refers to the reduction of water losses in the distribution system, which can occur through leaks or unauthorized use. Economic analysis of NRW reduction strategies can help decision-makers evaluate the costs and benefits of measures such as leak detection and repair, pressure management, and metering. This analysis can help identify the most cost-effective approaches to reducing NRW and increasing the resilience of the urban water system. Circular water management and NRW reduction are two examples of strategies that can be evaluated using economic analysis to inform decision-making and ensure that limited resources are allocated efficiently. Chapter 8 – Guidelines for multipurpose hydropower project economic analysis: sustainability and resilience (Julio Gonzalez World Bank, Peter Meier International Expert). Multipurpose hydropower projects (MPPs) are those that generate electricity while also providing other benefits such as flood control, irrigation, and water supply. Economic analysis is important for MPPs because it helps decision- makers to evaluate the costs and benefits of the project and identify the most economically viable approach. Economic analysis can help to assess the financial feasibility of the project by estimating the costs of construction, operation, and maintenance, and comparing them to the expected benefits, such as revenue from electricity sales and other project benefits. It can also help to identify the most cost- effective approach to project design and management, taking into account factors such as energy demand, water availability, and environmental and social impacts. In addition, economic analysis can help to evaluate the potential risks and uncertainties associated with MPPs, such as changes in energy demand or water availability due to climate change. By identifying potential risks and uncertainties, decision-makers can take steps to mitigate them, such as by investing in backup power sources or developing contingency plans. Overall, economic analysis is crucial for ensuring the financial viability 13 and sustainability of multipurpose hydropower projects. By evaluating the costs and benefits of different project designs and management approaches, decision-makers can identify the most economically viable and sustainable strategies for generating electricity while also providing other benefits to society. Chapter 9 – A review of guidelines for climate-smart and resilient irrigation. Irrigation projects involve the construction and management of systems to deliver water to crops, which can have significant economic and social benefits, including increased crop yields and food security. A previous WBG Water GP guideline established the principles and steps for monetizing the value added of irrigation infrastructure1. Based on those guidelines, new methodological options for economic analysis of climate smart and resilient irrigation were developed. Economic analysis in the most recent irrigation guidelines not only assess the financial feasibility of irrigation projects by estimating the costs of construction, operation, and maintenance, and comparing them to the expected benefits, such as increased crop yields and income for farmers. They also identify cost-effective sensitivities with climate change and different resilience mechanisms that affect project design and management, considering factors such as water availability, soil quality, and environmental and social impacts. In addition, economic analysis can help to evaluate the potential risks and uncertainties associated with irrigation projects, such as changes in water availability due to climate change or competing demands for water resources. By identifying potential risks and uncertainties, decision-makers can take steps to mitigate them, such as by investing in water conservation measures or developing contingency plans. By evaluating the costs and benefits of different project designs and management approaches, decision- makers can identify the most economically viable and sustainable strategies for delivering water to crops, increasing agricultural productivity, and promoting food security. Part 3 Chapter 10 Conclusions and Road Ahead. The best use of cost-benefit and economic analysis for water projects in countries with limited public funding is to identify the most efficient and cost-effective investments in water infrastructure. By conducting a thorough economic analysis, policymakers can evaluate the potential benefits and costs of different water projects and select the projects that offer the highest return on investment. This approach helps to prioritize investments that generate the most benefits while minimizing costs, ensuring that limited resources are allocated effectively. In addition to identifying the most cost-effective investments, economic analysis can also help policymakers to evaluate different financing options for water projects. By comparing the costs and benefits of different financing mechanisms, such as public-private partnerships or concessional loans, policymakers can choose the financing options that are most appropriate for their country's economic and political context. This approach can help to maximize the impact of scarce public funding, by ensuring that it is used in the most effective way possible. 4. Other guidelines of economic analysis of water-related investments There are various resources from stakeholders that evaluate economically water programs and investments in developing countries. These resources include: 1. Research studies: Research studies, such as those referenced in this task, provide valuable information on the economic impacts of water programs and investments in developing countries. These studies use various economic analysis methods to evaluate the costs and benefits of water programs and investments. 2. Economic analysis tools: There are various economic analysis tools available to evaluate the economic impacts of water programs and investments. These tools include cost-benefit analysis, cost-effectiveness analysis, and multi-criteria analysis. 3. International organizations: International organizations, such as the World Bank and the United Nations Development Program, provide technical assistance and funding for water programs and investments in developing countries. These organizations also provide guidance on economic analysis methods and tools. 4. National and local governments: National and local governments in developing countries often have 1 See the World Bank Guideline (2017) “Monetizing drops for Crops�. Washington D.C. [ Link to Publication] 14 departments or agencies responsible for water management. These departments or agencies may conduct economic analysis of water programs and investments and provide guidance on economic analysis methods and tools. 5. Non-governmental organizations (NGOs): NGOs working in the water sector in developing countries may conduct economic analysis of water programs and investments and provide guidance on economic analysis methods and tools. These organizations may also provide technical assistance and funding for water programs and investments. There is a strong rationale for increasing and targeting public and private investments in the water sector, as evidenced by the following reasons. Firstly, private investment in the water sector can increase accessibility and use of water and sanitation. A study by Al-Hmoud and Edwards (2005) found that increasing the amount of private investment in the water sector can increase accessibility and use of water and sanitation. This can have significant benefits for public health and economic development. Secondly, public and private investments in water infrastructure can generate socio-economic and environmental benefits. Increasing investment in the water sector generates benefits in socio-economic and environmental aspects. This can include improved water quality, increased agricultural productivity, and job creation. Thirdly, investment in water infrastructure is essential for achieving national development agendas and the Sustainable Development Goals (SDGs) calls for integrating ecological infrastructure investment across numerous development and sustainability issues, including food security, water provision, and poverty alleviation. A strategic and multi-sectoral approach to investment is essential for allocating scarce public and private resources for achieving economic and social- ecological priorities. 15 Table 1 Guidelines of infrastructure and water investments, with climate adaptation, uncertainty, and distributional impact modeling Year of Institution Method Topic Summary Reference Publication Water is valued based on related goods and Food and services where water is used intensively to inform Stakeholder Water resources qualitative Agriculture analysis valuation and equity issues sharing and allocation decisions. It covers both use 2006 [LINK] Organization and non-use values, extractive and in situ consumptive and non-consumptive use values CPAT country Determines carbon pricing specific tax and Guidance to the user on how to use and navigate scenarios and green OECD/UN spending CPAT and details the various climate policies WIDER multipliers using multipliers (transport, available and how they affect the macroeconomy 2020 [LINK] energy, agriculture, land- macro- dynamic via the sustainable development multipliers. water) modelling Adequate wastewater collection, treatment, and safe use or disposal can lead to significant Mixed methods for environmental and health benefits. From a valuing avoided business perspective, valuation of the costs of no Economic valuation of UNEP costs and direct wastewater action in wastewater management is necessary to 2015 [LINK] benefits of health justify suitable investment in this subsector. and environment Economic analysis provides the information needed for public policy decisions that improve wastewater management and investments. Analysis of the impacts by sector and sub-sector Integrated energy- Assess energy/water for an effective implementation of NDCs and system economic World Bank-GIZ modeling with SSP economic outcomes for possible alternative pathways potential co-benefits 2022 [LINK] renewable energy transition with other policies and SDG dimensions, (e.g. and CO2 scenarios affordable and clean energy, water integration) Institute for Cost benefit, and Evaluate the costs and benefits of flood Environmental unit cost accounting Multi-country cost estimates Studies (IVM) with environmental for flood adaptation adaptation, with information regarding the cost of 2018 [LINK] different flood adaptation measures. Netherlands valuation Cost-benefit analysis, complemented by the Cost-Benefit Economic Principles for analysis of distributional effects, is used to Analysis with Macro Integrating Adaptation to prioritize adaptation programs as well as all other IMF Risks and Deep Climate Change into Fiscal development programs (energy, water, 2022 [LINK] Uncertainty Policy agriculture) to promote an efficient and just transition to a changed climate. 16 While economic analysis is useful in justifying the World Bank- Bank’s intervention in terms of economic viability, Least cost and Handbook of economic Asian it should also be considered as a major tool in Development Benefit Cost analysis of water projects designing water supply operations. There is a 1999 [LINK] Financial Analysis with PPPs. Bank scope for better integrating social and economic considerations in the overall project design. Guidelines for Calculating The second guideline of the WBG to formalize how Mixed methods of Financial and Economic to estimate and evaluate the economic and World Bank market-oriented Rates of Returns of DFC financial performance of investments done in 1984 [LINK] valuation projects sensitive industries, including water sector. Mixed method Economic Analysis of Investment Operations presents general principles and methodologies that are World Bank hedonic prices, cost Guidelines for multiple WB (WBI) benefit and discrete sectors applicable across sectors, including quantitative risk 2001 [LINK] analysis; provides both theory and practice about how to choice models evaluate projects. The guideline takes stock of what has happened to Cost benefit cost-benefit analysis at the Bank, based on analysis analysis with new Retrospective analysis of World Bank of four decades of project data, project appraisal (IEG) approaches and infrastructure investments' documents and Implementation Completion and 2010 [LINK] methodological effectiveness Results Reports from recent fiscal years, and valuations interviews with current staff at the Bank. The first guidelines of the WBG that focused on Public sector investments in production of consumer goods and public services Economic analysis sustainable development, as against investment in infrastructure, industry, World Bank of projects (basic basic economic analysis of agriculture, or other sectors of the economy) in 1975 [LINK] economic models) public finances such a way that the net benefit to society is as large as possible. WRM interventions positive and negative Mixed methods and externalities are accounted CBA, to monetize the Benefit Water Management World Bank identification and Interventions tradeoffs of various bundles of environmental 2018 [LINK] benefits and shed light on which alternatives make monetization the best uses of scarce resources. The guidance presents a range between 2 and 10 Marginal value percent (average 6 percent) of discount rate estimation of cost of depending growth trajectories and economic World Bank capital and growth Social discount rate performance of countries. The approach is based 2016 [LINK] (social discount on values for the pure rate of time preference and rate) the elasticity of the marginal utility of consumption. 17 A guide for policymakers with recommendations Mixed methods on a variety of climate related policies, the WBG with models like Climate informed modeling has a diverse and complementary set of models. MFMod, ENVISAGE, approaches for poverty and The analytics range from evaluating the aggregate, World Bank CPAT, EIRIN, FSAP, distributional impacts of sectoral, and welfare effects of mitigation 2021 [LINK] UNBREAKABLE, infrastructure investments measures to assessing country-specific adaptation GIDD needs, considering the impacts of extreme weather events. Source: Own elaboration. 18 5. Discount rates for infrastructure, water inclusive Discount rate is the rate used to determine the present value of future cash flows. In economic analysis of water infrastructure investments, the discount rate is used to evaluate the feasibility of the investment. The standard conversion factors incorporating sustainability and resilience of water infrastructure investments are used to ensure that the investment is sustainable and resilient in the long run. According to Nahwani, A., and Husin, A. (2021)., economic analysis was carried out to determine the investment feasibility of corrective actions for leakage of clean water network infrastructure. Ruiters and Amadi- Echendu (2022) developed a PPP framework to identify PPP investment models for water infrastructure and determine key categories, criteria, and characteristics for cost-effective PPP investment models to ensure the sustainability of the water infrastructure value chain in South Africa. Dangui and Jia (2022) investigated the drivers and impact of water infrastructure performance on economic growth in Sub- Saharan Africa. They found that an increase in water infrastructure performance due to a 1% increase in per-capita income growth and trade openness was 0.2% and 0.03%, respectively, and the constraint on water infrastructure performance due to a 1% increase in population density was 0.76%. The emergence of infrastructure green and resilient investments as a separate asset class and highlighted its guaranteed sustainability as an asset class driven by several factors, including its resilient characteristics against downturn economic situations and the increasing involvement of the private sector in infrastructure investment. A recent study 2 estimated that a 10% increase in infrastructure provision increases long-term economic output by 1%-5%. The need for ecological infrastructure (EI) investment across numerous development and sustainability issues, including water provision, and poverty alleviation are economically more efficient. They argued that a strategic and multi-sectoral approach to EI investment is essential for allocating scarce public and private resources for achieving economic and social-ecological priorities. The discount rates decrease when investing in natural and nature-based infrastructure because they increase resilience and provide critical services to local communities in a cost-effective way, and thereby help to sustain a growing economy. Another recent study (2022) 3 analyzed the impact of infrastructure (including water infrastructure) on economic growth in the US. It was found that infrastructure investment has a positive impact on economic growth. According to the Global Infrastructure Hub 4 developed countries usually through the Ministers of Finance, Central Banks or Ministries of Infrastructures use a discount rate for infrastructure projects that range between 3-7 percent. The discount rate for developing countries ranges between 5-16 percent (Table 1). Multi-lateral development banks, international organizations normally advise a discount rate in the range of 10-12 percent. The World Bank’s minimum recommended discount rate for investment operations is 6 percent. Table 1 Distribution of commonly used discount rate for economic analysis of infrastructures and public sector investments Country Discount Rate Source EAP China 5-8% Asian Development Bank (2010) Indonesia 8-12% World Bank (2013) Philippines 8-12% World Bank (2016) Vietnam 10% Asian Development Bank (2010) LAC 2 See https://www.icevirtuallibrary.com/doi/10.1680/jcien.15.00075 3 See https://systems.enpress-publisher.com/index.php/jipd/article/view/1419 4 See https://www.gihub.org/cost-benefit-analysis-of-bus-transport-projects/cost-benefit-insights/do-we-need-an-appropriate- social-discount-rate-for-transformative-infrastructure-projects/ 19 Brazil 6-10% Ministry of Economy (2022) Colombia 7.5-10% World Bank (2016) Costa Rica 10% Inter-American Development Bank (2015) Jamaica 10-12% Caribbean Development Bank Mexico 8-10% World Bank (2016) Trinidad and Tobago 10-12% Caribbean Development Bank (2015) MENA Egypt 10-12% International Journal of Water Resources Development Iran 12-16% Journal of Economic Cooperation and Development Jordan 7.5-10% World Bank (2010) Morocco 7-10% World Bank (2013) Saudi Arabia 5-10% King Fahd University of Petroleum and Minerals (2017) United Arab Emirates 5-8% Abu Dhabi Government SAR Bangladesh 12-15% World Bank (2016) India 7-12% Ministry of Finance Nepal 10-12% Asian Development Bank (2017) Pakistan 12-15% Pakistan Engineering Council (2011) Sri Lanka 8-12% Central Bank of Sri Lanka (2014) ECA Armenia 8-12% Central Bank (2012) Azerbaijan 8-10% Ministry of Finance (2015) Kazakhstan 8-12% World Bank (2010) Kyrgyzstan 12-15% Asian Development Bank (2017) Tajikistan 12-15% European Bank for Reconstruction and Development (2016) Uzbekistan 10-15% World Bank (2010) AFR Ethiopia 10% World Bank (2016) Kenya 10% World Bank (2016) Nigeria 12% African Development Bank (2018) South Africa 8.50% Department of Water and Sanitation (2019) Tanzania 10% World Bank (2016) 6. Recent Reviews of Water and Sanitation Infrastructure Impacts A Bibliography of Systematic Reviews on WASH-related Issues This bibliography lists most recent systematic reviews on a range of WASH issues. They are often considered the highest level of evidence in the hierarchy of evidence-based practice. Effects and significance of groundwater for vegetation: A systematic review. Glanville K, Sheldon F, Butler D, Capon S. Sci Total Environ. 2023 Jun 1;875:162577. doi: 10.1016/j.scitotenv.2023.162577. Epub 2023 Mar 9. Impact on childhood mortality of interventions to improve drinking water, sanitation, and hygiene (WASH) to households: Systematic review and meta-analysis. Sharma Waddington H, Masset E, Bick S, Cairncross S. PLoS Med. 2023 Apr 20;20(4):e1004215. doi: 10.1371/journal.pmed.1004215. eCollection 2023 20 What are the barriers and facilitators to community handwashing with water and soap? A systematic review. Ezezika O, Heng J, Fatima K, Mohamed A, Barrett K. PLOS Glob Public Health. 2023 Apr 19;3(4):e0001720. doi: 10.1371/journal.pgph.0001720. eCollection 2023. Effects of water, sanitation, and hygiene interventions on detection of enteropathogens and host- specific faecal markers in the environment: a systematic review and individual participant data meta- analysis. Mertens A, Arnold BF, Benjamin-Chung J, Boehm AB, Brown J, Capone D, Clasen T, Fuhrmeister E, Grembi JA, Holcomb D, Knee J, Kwong LH, Lin A, Luby SP, Nala R, Nelson K, Njenga SM, Null C, Pickering AJ, Rahman M, Reese HE, Steinbaum L, Stewart J, Thilakaratne R, Cumming O, Colford JM Jr, Ercumen A. Lancet Planet Health. 2023 Mar;7(3):e197-e208. doi: 10.1016/S2542-5196(23)00028-1. Drinking water and the implications for gender equity and empowerment: A systematic review of qualitative and quantitative evidence Author links open overlay panelKimberly De Guzman a, Gabriela Stone b, Audrey R. Yang, et al. International Journal of Hygiene and Environmental Health Volume 247, January 2023, 114044 Medical Household Waste as a Potential Environmental Hazard: An Ecological and Epidemiological Approach. Benítez-Rico A, Pérez-Martínez A, Muñóz-López BI, Martino-Roaro L, Alegría-Baños JA, Vergara- Castañeda A, Islas-García A. Int J Environ Res Public Health. 2023 Apr 3;20(7):5366. doi: 10.3390/ijerph20075366. Spatial and temporal distribution of Taenia solium and its risk factors in Uganda. Ngwili N, Sentamu DN, Korir M, Adriko M, Beinamaryo P, Dione MM, Kaducu JM, Mubangizi A, Mwinzi PN, Thomas LF, Dixon MA. Int J Infect Dis. 2023 Apr;129:274-284. doi: 10.1016/j.ijid.2023.02.001. Epub 2023 Feb 16. Prevalence and Risk Factors of Soil-Transmitted Helminthic Infections in the Pediatric Population in India: A Systematic Review and Meta-Analysis. Chopra P, Shekhar S, Dagar VK, Pandey S. J Lab Physicians. eCollection 2023 Mar. A systematic review of frequency and geographic distribution of water-borne parasites in the Middle East and North Africa. Eastern Mediterranean Health Journal, 29 (2), 151 - 161. Sameh Abuseir. 7. References Almer, C., Laurent-Lucchetti, J., and Oechslin, M. 2017. “Water scarcity and rioting: Disaggregated evidence from sub-Saharan Africa�. Journal of Environmental Economics and Management , 86:193–209. Damania, Richard, Sébastien Desbureaux, Marie Hyland, Asif Islam, Scott Moore, Aude-Sophie Rodella, Jason Russ, Esha Zaveri. 2017. Uncharted waters: the new economics of water scarcity and variability. World Bank, Washington, DC. Damania, Richard, Sébastien Desbureaux, Aude-Sophie Rodella, Jason Russ, and Esha Zaveri. 2019. Quality Unknown: The Invisible Water Crisis. Washington, DC: World Bank. Dangui K, Jia S. (2022) Water Infrastructure Performance in Sub-Saharan Africa: An Investigation of the Drivers and Impact on Economic Growth. Water. 14(21):3522. https://doi.org/10.3390/w14213522 21 Duflo, E. and Pande, R. 2007. “Dams.� The Quarterly Journal of Economics, 122(2):601–646. Jiang, W., Marggraf, R. (2021) The origin of cost –benefit analysis: a comparative view of France and the United States. Cost Eff Resour Alloc 19, 74. https://doi.org/10.1186/s12962-021-00330-3 Koolwal, G. and Van de Walle, D. 2013. “Access to water, women’s work, and child outcomes.� Economic Development and Cultural Change, 61(2):369–405. Nahwani, A., and Husin, A. (2021). Water Network Improvement Using Infrastructure Leakage Index and Geographic Information System. Civil Engineering and Architecture, 9(3), 909 - 914. DOI: 10.13189/cea.2021.090333. Ruiters, C., and Amadi-Echendu, J. (2022) Public–private partnerships as investment models for water infrastructure in South Africa. Infrastructure Asset Management Journal. Volume 9 Issue 4, pp. 180-193 https://www.icevirtuallibrary.com/doi/10.1680/jinam.21.00013 Sekhri, S. 2014. Wells, water, and welfare: the impact of access to groundwater on rural poverty and conflict. American Economic Journal: Applied Economics, 6(3):76 –102. Thurlow, James: Paul Dorosh, and Winston Yu. 2012. “A Stochastic Simulation Approach to Estimating the Economic Impacts of Climate Change in Bangladesh.� Review of Development Economics. 16(3): 412-428 World Bank Group. 2016a. High and Dry: Climate Change, Water, and the Economy. World Bank, Washington, DC. World Bank 2016b. Discounting Costs and Benefits in Economic Analysis of World Bank Projects, OPSPQ, http://intresources.worldbank.org/INTOPCS/Resources/380831- 1360104418611/Discount_Rate_TechnicalNote.pdf. Yu, Winston. Yi-Chen Yang, Andres Savitsky, Donald Alford, Casey Brown, James Wescoat, Dario Debowicz, and Sherman Robinson. 2013. The Indus Basin of Pakistan. The Impacts of Climate Risks and Water and Agriculture. World Bank. Zaveri et al. 2021. Ebb and Flow, Volume 1: Water, Migration, and Development. World Bank Publication. 22 Chapter 2: Guideline for economic analysis of water infrastructures under climate uncertainties Jia Li (World Bank)5, David Groves (World Bank), Neven Fuckar (University of Oxford), Homero Paltan (World Bank) 5 Corresponding author: Senior Economist (SCCFE Unit) World Bank. jli21@worldbank.org 23 Table of Contents 1. Managing water resources and infrastructure investment decisions in a changing climate 25 1.1 Role of CBA in water resources and infrastructure decision-making ....................... 25 2. Climate change and other factors are increasingly introducing new uncertainty into estimate of future costs and benefits .......................................................................................... 26 3. Climate change uncertainty is difficult to characterize statistically .................................. 30 4. Water Resources CBA under deep uncertainty .................................................................. 31 4.1 Overview of DMDU ........................................................................................................ 31 4.2 Approaches for different problems with different levels of complexity .................. 32 4.3 Iterative robust analysis using RDM and variations .................................................... 34 4.4 Challenges: Incorporating multi-criteria evaluations [score card and MORDM] .... 35 4.5 Interlinks across disciplines and other modelling barriers. ....................................... 36 5. Case study examples (identification of costs and benefits) [potential text boxes] ......... 37 5.1 Climate and disaster risk stress testing (RiST) in economic analysis ........................ 37 5.2 Diagnosing and embracing uncertainty with participatory approaches: The case of Angola ......................................................................................................................................... 41 5.3 Modelling uncertainties in water systems: The case of Mexico ................................ 42 6. Conclusion .............................................................................................................................. 49 7. References: ............................................................................................................................. 54 24 1. Managing water resources and infrastructure investment decisions in a changing climate 1.1 Role of CBA in water resources and infrastructure decision-making The sustainable development of water resources and infrastructure is critical to supporting humanity, and the need is particularly acute for lower income countries. Developing water management infrastructure and instituting sound water management practices are essential to sustaining communities, agriculture, industry, and hydropower generation. The management of water resources also protects communities from extreme hydrologic events, such as intense storms, flooding, and droughts. Extreme events can lead to increased water and food scarcity, displacement of entire communities, and increased conflicts among competing water users and those affected by water-related disasters. Water resource managers, governments and international finance institutions managing and investing in water resources face complex tasks and decisions. Water related development and investments are diverse, ranging from service provisions (drinking water, sanitation, wastewater treatment, energy generation), to productive activities (e.g., irrigation in agriculture), natural resources management (watershed management, coastal zone management), disaster risk management (such as using nature based green infrastructure for flood control), and environmental conservation and restoration (e.g., riverbeds, lakes, and other water bodies). These projects require significant investments and are expected to improve services and provide economic and social benefits to beneficiaries and communities. Governments and international finance institutions have a long tradition of applying economic analysis to evaluate water sector projects and investments. In the U.S., for example, the federal government is required by law to conduct economic analysis for establishing water quality standards and to provide best practice guidance for economic analysis when developing stormwater management plans.6 International finance organizations also require that investment projects undergo cost benefit analysis or cost-effectiveness analysis to ensure the investments are economically viable and provide social and economic returns while achieving development objectives (World Bank 1996, 2018, date?; MCC 2019). Cost benefit analysis is often used to evaluate water projects to inform project designs to deliver the most economic, social and environmental benefits. Water planners and engineers have dealt with climate variability and disaster planning as part of the design process for many years, and to account for variability in hydrology, water planners generally use probabilistic assessment methods as part of a cost benefit analysis. For instance, flood and drought risks are often considered in water infrastructure 6 See for instance https://www.epa.gov/sdwa/sdwa-economic-analysis 25 projects, and some projects stress test the project economic analysis or include sensitivity or scenario analysis7. The likelihood, intensity and length of an events are derived based on the hydro-meteorological relationships, assuming known probability distribution or functional form. However, the changing climate conditions pose significant challenges to the performance of existing water infrastructure and future planning, and it is critical to go beyond stationary assumptions of climate hazards in project analysis to inform robust project design decisions. The sections below present further information on the changing climate conditions, discuss the implications for water sector project evaluation and design, and provide information on the methodology development and examples of approaches to incorporate considerations of climate risks and associated uncertainties in project economic analysis and appraisal. 2. Climate change and other factors are increasingly introducing new uncertainty into estimate of future costs and benefits The global climate system is going through unprecedented, widespread and complex changes due to human activities. Industrial emissions of greenhouse gasses (GHG) and land use and land use change have been the primary drivers of climate change since the beginning of industrial revolution (IPCC 2014; 2021). With continued population growth, socioeconomic and technology development, and changes in consumption and preferences, these changes will continue as GHGs accumulate in the atmosphere and the climate system re-equilibrates. However, how the changes manifest is complex and deeply uncertain: there is considerable uncertainty in both the magnitude of GHG emissions as economies work on transitioning to low-carbon and the sensitivity and responses of the climate system to future emissions. For example, depending on the evolution of the socioeconomic systems and technology and policy actions by governments and non-state actors to reduce emissions, the global mean temperature increase can range from 1.4oC [with a very likely range of uncertainty between 1.0oC and 1.8oC] under the most optimistic scenario of SSP1-1.9 to 4.4oC [3.3oC and 5.7oC] under the most pessimistic scenario of SSP5-8.5 (IPCC 2021; AR6 WGI TS). Climate change is increasing the frequency, intensity and duration (i.e., variability) of many extreme events in most parts of the globe (Seneviratne, et al., 2021). Many of the harmful weather and climate extremes - heatwaves, droughts, heavy precipitation, floods, tropical cyclones, and wildfires – are related to hydrological cycle. A warmer climate increases moisture content in the atmosphere which makes wet seasons and events wetter; while warming over land drives an increase in evapotranspiration to atmosphere and the severity of droughts (Douville, et al., 2021). As climate changes – likely to a warmer state later this century than anytime during the existence of humans 7 The sensitivity analysis will allow determining the switch off points when variables (costs and benefits) are increased or decreased. The scenario analysis will allow adding additional consideration of risks to assess effects to the costs and benefits. 26 (Burke, et al., 2018) – extreme hydrological events such as droughts and floods are occurring at increasing frequency and intensity in many parts of the world (Rhode, 2023). Overall, since 1950 observations show that precipitation has increased over most of extratropical Eurasia, North America, Southeast South America, and Northwest Australia, while it has decreased over most of Africa, eastern Australia, the Mediterranean region, the Middle East, and parts of East Asia, central South America, and the Pacific coasts of Canada (Dai, 2021). Hydrological or water cycle variability and extremes are projected to increase faster than average changes in most regions of the world and under all future emissions scenarios. Global warming is projected to cause substantial changes in the water cycle at the global, continental and regional scales, without substantial reductions in greenhouse gases. Besides substantial spatial heterogeneity of surface air temperature and precipitation response to global warming, Figure 2 also shows that water cycle changes significantly differ between the wettest season and the wettest day in a year. The response of tails (i.e., extreme values) of distributions of hydrological variables can harbor true surprises (rather different behavior from the response of the mean value) and have outsized socio-economic impacts. For example, the frequency and intensity of heavy precipitation events have increased since the 1950s over most land regions for which observational data are sufficient for trend analysis. Figure 1. Observed, simulated, and projected future global mean surface air temperature (upper panel) and land precipitation (lower panel) changes (relative to the 1995-2014 period mean) through 2100 showing different Shared Socio-economic Pathways (SSP) scenario (IPCC 2021; AR6 WGI TS) Source: IPCC AR6 WG1 (2021) 27 The detected and projected changes in the water cycle are also driven by direct human activities: surface and subsurface water manipulation. Increased GHGs and aerosols emissions, land use (e.g., changes due to deforestation and urbanization), and water management and groundwater extraction primarily for irrigation (Rodell and Li, 2023) have caused significant changes in water cycles at global, regional and local scales. At the same time, human-induced climate change has contributed to increases in agricultural and ecological droughts in some regions due to increased land evapotranspiration. The rapid changes in the climate, water cycle and regional hydrological systems interact with socioeconomic development and management decisions at various levels, impact water availability, water quality, and water infrastructure integrity and reliability to deliver services. Substantial and widespread changes in the water cycle, in combination with widespread heterogeneous human interventions, affect options for sustainable, economically efficient and equitable allocation of water resources. Rising temperatures (e.g., Ha, et al., 2022) and changing precipitation patterns (e.g., Balting, et al., 2021) will alter water availability and water quality, requiring reassessments of sustainable water uses and practices. Meanwhile, adaptive capacity and resilience of systems are critical to mitigate climate and disaster risks. Figure 2: Global maps of future changes in surface temperature (upper panels) and precipitation (lower panels) for long-term averages (left panels: the warmest and the wettest three-month seasons) and extreme conditions (right panels: the hottest and the wettest days in a year) based on Coupled Model Intercomparison Project Phase 6 (CMIP6) ensemble median for a scenario with a global warming of 4°C relative to 1850–1900 temperatures (Seneviratne, et al., 2021). Source: IPCC AR6 WGI (2021) 28 The rapid changes in the climate, global water cycle and hydrological systems interact with socioeconomic development and management decisions at various levels, impact water availability, water quality, and water infrastructure integrity and reliability to deliver services. Substantial and widespread changes in the global water cycle, in combination with widespread but non-uniform human-caused interventions, affect options for sustainable, economically efficient and equitable allocation of water resources. Rising temperatures (e.g., Ha, et al., 2022) and changing precipitation patterns (e.g., Balting, et al., 2021) will alter water availability and water quality, requiring reassessments of sustainable water uses and practices. Meanwhile, adaptive capacity and resilience of systems are critical to mitigate climate and disaster risks. Climate change and climate extremes can impose significant economic costs with cascading impacts to infrastructure and communities. Global warming likely has increased compound events. The severe winter storm that hit Texas in February 2021 revealed vulnerability of the infrastructure systems in the face of climate extremes. The winter caused power shortages, significant damages to the state's water infrastructure, leading to widespread water shortages, health impacts and food security impacts. The 2015 floods that hit Chennai, India caused significant damage to the city's water supply infrastructure, including the disruption of water treatment plants and the contamination of water sources. In Niger, droughts have characterized its climate since 1968, which have affected over 3 million people in 2000 and 2001, and over 7 million in 2002. Agricultural production has been in a deficit since the late 1970s/1980s, with particularly poor crop production from 1989-1996. Between June to September 2022, however, the prolonged rainfall and flooding in Niger, especially in the southern region of Zinder and Maradi, resulted in nearly 200 deaths and 327,000 people affected. For example, the frequency of extreme precipitation events in the future has critical uncertainty, and significant regional and local heterogeneity. Figure 3 shows that high sensitivity and uncertainty of high precipitation events to different level of global climate change is not only limited to the tropics (e.g., western and central Africa), but also is manifested under different warming scenarios in many densely populated regions in mid-latitude. Climate change and climate extremes can impose significant economic costs with cascading impacts to infrastructure and communities. Global warming likely has increased occurrence of compound events (Zscheischler, et. Al., 2018, AghaKouchak, et al., 2020). For example, if we would ignore cooccurring extremely high surface air temperature along with 2014 California drought (compound aspect), that also led to widespread wildfires (cascading aspect), we would severely underestimate the risk of such extreme events (AghaKouchak, et al., 2104). The 2015 floods that hit Chennai, India caused significant damage to the city's water supply infrastructure, including the disruption of water treatment plants and the contamination of water sources (van Oldenborgh,et al., 2016). 29 Figure 3. Projected changes in the frequency of extreme events under 1C, 1.5C, 2C, 3C, and 4C global warming levels with respect to the 1850-1900 baseline. The focus is on the annual maximum daily precipitation that was exceeded on average once during a 10-year period (blue bars) and a 50-year period (orange bars) over the global land, different continents and the AR6 regions. The box represents the median and 66% uncertainty range of the frequency changes over the CMIP6 multi-model ensemble. The ‘whiskers’ extend to the 90% uncertainty range (Seneviratne, et al., 2021). In Niger, intense droughts have characterized its climate since 1968, which have affected over 3 million people in 2000 and 2001, and over 7 million in 2002. Agricultural production has been in a deficit since the late 1970s/1980s, with particularly poor crop production from 1989-1996. Between June to September 2022, however, the prolonged rainfall and flooding in Niger, especially in the southern region of Zinder and Maradi, resulted in nearly 200 deaths and 327,000 people affected (UN OCHA Services).8 3. Climate change uncertainty is difficult to characterize statistically How changing climate conditions will affect individual watersheds is impossible to predict, and it is even difficult to assign broadly accepted probabilities. While one could explore the range of possible outcomes using a climate model and attempt to assign probabilities to different future scenarios, such assessments would be based on untestable assumptions of model parameters and uncertainty about complex dynamics inherent in the models. As a result, any probabilities would be speculative. 8 https://reliefweb.int/disaster/fl-2022-000271-nga 30 This requires traditional cost benefit analysis (CBA) to be retooled to accommodate this future ambiguity and identify robust decisions that can deliver intended development goals in the face of uncertain trends and extremes. Uncertainty about how hydrologic conditions will change in the coming decades can complicate assessments of the costs and benefits of needed water resources development projects. Traditional CBA methods do not consider “deep uncertainty� surrounding future conditions, which are further exacerbated by climate change. Deep uncertainty is uncertainty that occurs when parties to a decision do not know or cannot agree on models relating the key forces that shape the future, the probability distributions of key variables and parameters in these models, or the value of alternative outcomes. 4. Water Resources CBA under deep uncertainty Methods for Decision Making Under Deep Uncertainty provide means to address climate and other deep uncertainties that can be applied to improve economic analysis and ensure analysis and the resulting project design and investment decisions are robust under uncertain, future conditions. 4.1 Overview of DMDU Decision making under deep uncertainty (DMDU) is an approach to decision making that acknowledges and accounts for the complex and uncertain nature of many real-world problems and provides a means to address climate and other deep uncertainties in water resources planning. This approach recognizes that the future is highly uncertain and that there may be multiple plausible scenarios or pathways that could unfold. DMDU methods provide a means to explore this uncertainty and identify robust strategies that are resilient to a range of possible future scenarios. In the context of water resources management, DMDU can be applied to address a range of challenges, such as climate change, population growth, land use change, and environmental degradation. Water resources systems are highly complex and dynamic, and decisions made today can have long-term impacts on water availability, quality, and ecosystem health. DMDU methods can help decision-makers to better understand and manage these uncertainties, allowing them to identify strategies that are robust to a range of future scenarios (Figure 4). Some specific DMDU methods that are commonly used in water resources management include Robust Decision Making (RDM), Decision Scaling, Multi- Objective Robust Decision Making (RDM), and Dynamic Adaptive Policy Pathways (Marchau et al 2019). • Robust decision making (RDM) is a method for making decisions under deep uncertainty, where the future is highly uncertain and difficult to predict. RDM provides a structured and iterative process for making decisions under deep uncertainty, allowing decision-makers to identify robust strategies that are resilient to a range of possible future scenarios. 31 • Decision Scaling is a similar approach to DMDU as RDM but focuses on climate change uncertainty. It typically relies on weather generators or other models to produce many timeseries of hydrological conditions against which to evaluate a proposed project. It uses results from • Multi-objective robust decision making • Dynamic adaptive policy pathways Figure 4. The Decision three for DMDU Source: Water Partnership Program (WPP), Water Security for All: The Next Wave of Tools. Annual Report 2013/2014. World Bank Group 4.2 Approaches for different problems with different levels of complexity Building on state-of-the-art DMDU approaches, principally Decision Scaling, in 2011 the World Bank in partnership with institutions such as SIWI, the U.S. Army Corps of Engineers, and the University of Massachusetts-Amherst developed the Decision Tree Framework (DTF). This tool permits a hierarchical and stepwise approach to address climatic and non-climatic uncertainties in water resources projects. This means that at each phase of the framework, relevant outputs could be obtained to already 32 inform vulnerability and risk levels of water systems, thus the continuity of the process could be assessed by stakeholders. Similarly, such an approach permits the interaction and dialogue with stakeholders in each of the stages to mainstream uncertainty and climate. The DTF consists of four main phases, as shown in the figure below and elaborated on in the paragraphs below. The DTF consists of four main phases. Phase 1 an initial diagnostic which evaluates whether climate is relevant for a project. Critically, in this Phase the characteristics and interlinks of a water system or project are diagnosed. Question such as, what are the performance objectives of my water system? How resilience could be understood? What are the boundaries and main elements of my water system? Who are the users? What are the main drivers of change in my water system? How much do we know about them? are asked in this stage. Phase 2 aims understanding drivers of risks and characteristics of the system . This phase performs an initial diagnostic of the characteristics of the water systems being evaluated. Here a rapid sensitivity analysis is done to understand the level of response of the water system against initial scenarios of climate, demographics, land use, and others. The main of this Phase is to identify those main drivers of influence of change which in turn deserve a deeper evaluation. In a qualitative application of the DTF in two municipalities in Angola, the characterization of their water supply system as well as their main drivers of risk were agreed with stakeholders. The result showed schemes where those key characteristics interact with the main potential drivers of disruption and risk (Figure 5). Such an exercise, in turn lead to identifying those conditions climatic and non-climatic which may lead to inadequate performance of water supply systems. Figure 5. Scheme representing the Water Supply System of Municipality in Angola 33 Phase 3 performs a stress test to those identified main drivers of change. This Phase the level at which water systems and investments and key performance indicators are vulnerable to an uncertain future and change; this step is in fact at the core of DMDU type of analyses. Stress testing evaluates if a system or a project would be able to achieve intended performance outcomes and economic objectives or keep economic losses below some critical threshold across a wide range of hydro-climatic conditions. The RiST stress test case study provides an example of a simplified stress test on a World Bank water project. The Cambodia stress test case study illustrates how a stress test can be performed for water infrastructure systems in a country. Phase 4 looks at interventions which may in turn reduce such vulnerability and increase resilience levels. Robust Decision Making (RDM) is a widely used approach for DMDU, originally developed at the RAND Corporation. RDM asks “How can we make good decisions without first needing to make predictions?� RDM asks and answers these questions in an iterative process of “deliberation with analysis� (National Research Council, 2009). That is, stakeholder deliberation informs the kinds of analysis that are needed to answer key questions about the policy problem, and the analysis provides information over which stakeholders deliberate. This kind of approach is critical for solving complex and deeply uncertain real-world policy problems. RDM follows the following iterative steps (Figure 6): Figure 6 Iterative steps for decision scenarios and robust strategies under climate uncertainties 4.3 Iterative robust analysis using RDM and variations Robust Decision Making (RDM) is a widely used approach for DMDU, originally developed at the RAND Corporation. RDM asks “How can we make good decisions without first needing to make predictions?� RDM asks and answers these questions in an iterative process of “deliberation with analysis� (National Research Council, 2009). That is, stakeholder deliberation informs the kinds of analysis that are needed to answer key questions about the policy problem, and the analysis provides information over which 34 stakeholders deliberate. This kind of approach is critical for solving complex and deeply uncertain real-world policy problems. RDM follows the following iterative steps: Decision Framing: Develop the scope of the analysis through structured engagements with stakeholders and decision makers. The scope is often summarized using an XLRM matrix, which lists the measures M, a performance used to evaluate decisions, the levers L, or actions that could be taken by policymakers the key, uncertain factors X, that might affect the ability of the decisions to meet objectives, and the mathematical relationships are among these factors are usually combined in one or more models. Evaluate strategies across futures: Different sets of decisions represent strategies which are then evaluate it across many plausible futures, where each future reflects one set of assumptions across the uncertainties Vulnerability analysis: Statistical tools are used to identify the future on certain conditions that would lead the strategies to perform poorly Decision-relevant scenarios: Concise descriptions of the future in which strategies perform poorly. These scenarios are decision- relevant; they would necessitate a different strategy to achieve acceptable performance New futures and strategies: Using the vulnerability and trade-off analysis, new features are defined to either expand the range of uncertainties or focus more on specific combinations of uncertainty set a relevant to the choice of strategy. Strategies can also be refined to be more robust using lessons from the vulnerability analysis. Trade-off analysis: Interactive visualizations are used to highlight performance and cost trade-offs among different strategies that supports a selection of a final rub a strategy or provides information for the finding additional features or strategies Robust strategies: A robust strategy is one that perform sufficiently well over a wide range of plasma. Futures iteration through all the steps in the audience framer can help develop more robust strategies. 4.4 Challenges: Incorporating multi-criteria evaluations [score card and MORDM] While DMDU approaches have led to the successful design of climatic robust and resilient policies, their wide application in decision making still faces several challenges. Developing scenarios for stress-testing involves a series of steps and use of the right tools. Developing scenarios for stress-testing 35 Traditional tools to develop scenarios for stress testing rely on stochastic approaches. In the climate field, this is typically done with weather generator. These are mathematical algorithms that generate time series of synthetic weather data at desired spatial and temporal resolution. These new time series aim to emerge the characteristics of the historical weather which otherwise may not be captured by downscaling approaches or by using single scenario. So, these tools produce new climate realizations which show similar characteristics to the historical observations. Weather generators are in turn used to perform exhaustive evaluations of the vulnerability of a water (and other) systems to natural variability as well as climate change. Nonetheless, the application of these tools requires sophisticated technical abilities to manipulate models as well as advanced climatological knowledge to be able to understand the proposed changes. Similarly, as stress testing a system requires to run hundreds or even thousands of simulations, the process necessities high computational power and resources. Thus, their application in developing contexts may be limited. As response, the World Bank in partnership with Deltares have developed a HydroClimatic Stress Testing Tool. The aim of the tool is to simplify the generation of hydro-climatic stochastic time series for any global location while also representing vulnerability conditions. The tool is built upon available data sources and services which connect hydro climatological databases and suite of models (including a weather generator and a distributed hydrological model) for stress testing. As such, this tool permits the exploration of the range of hydroclimatic uncertainty in any geographic location of choice by resampling natural variability, in such a location, and perturbing the statistics of weather variables. Users are also able to analyze and inspect results on user- defined threshold and hydrological performance metrics which dictate their sensitivity to climate. This HydroClimatic Stress Testing Tool is displayed over a Graphical User Interface which facilitates rapid and easy navigation for users with limited climatic, hydrological, and programming skills. 4.5 Interlinks across disciplines and other modelling barriers. An additional barrier of DMDU approaches and the generation of stochastic time series corresponds to the integration of other drivers of risk to water investments, apart from climate and hydrology. As reviewed, changes in land cover and use, demographics, economic variables, technology, and others affect the expected performance of water investments. However, the generation of multiple scenarios which adequately capture their variability and identify their plausibility still remain limited. Particularly, their integration into water sector modelling protocols still requires major coordination with specialists in the field previously mentioned (and others). Similarly, the integration of how multiple mitigation and energy transition scenario may affect the response of water systems and investments is still not included in DMDU- approaches. Here the complexity of models used to this end still limits their application 36 for wide stress-testing purposes. Also, the generation of scenarios which capture interactions of climate on for example, water quality still requires refinement. Including mitigation and transition scenarios, water quality 5. Case study examples (identification of costs and benefits) [potential text boxes] 5.1 Climate and disaster risk stress testing (RiST) in economic analysis In project design, to select the best projects and ensure they deliver as expected it is important to ensure that all project appraisal and assessment processes—including economic analyses— properly consider all risks. Climate and disaster risk stress testing can help highlight risks to project outcomes over long time horizons (Figure 7), accounting for changes in average climate conditions, impacts from natural disasters with current frequency and intensity, and changes in the intensity and frequency of natural disasters due to changes in average climate conditions, particularly for the water sector (Table 1). Figure 7: Climate related impacts on project costs and benefits Flow of bene t 1 (e.g., monetary) emperature increase Changes in average condi ons Bene ts Flow of bene t 2 Water stress atural disasters (e.g., me or health) Climate risk stress tes ng ( iS ) method Change in precipita on pa erns et resent alue is to account for risks along three Bene tCost a o dimensions Changes in average climate C E eat waves condi ons mpacts from natural disasters, with current fre uency and Droughts Costs O E intensity Changes in the fre uency of disasters due to changes in Storms and cyclones Other costs average climate condi ons Source: Own elaboration. 37 Table 1: Example of water-related projects Sector Project type Benefits Climate Impacts Infrastructure/urban Water supply Increased CAPEX and OPEX development Sanitation income/consumption for repair and improved health outcomes maintenance; time savings lower service Disruption of costs services; health Improved education impacts; reduced outcomes consumption Avoided cost of averting behavior Wastewater Improved health outcomes management Better environmental quality Agriculture Irrigation Improved productivity Reduced crop Higher incomes yields or productivity; reduced revenue; higher OPEX Energy Hydropower Electricity supply Reduced energy Flood control production; higher Irrigation cost; flood damage Clean drinking water Environment, Watershed Increased revenues Biodiversity management Job creation Flood control Environmental services Stormwater Higher property value management Avoided asset damages Decreased flood damages Improved water quality Groundwater Improved water quality management Environmental benefits Source: Own elaboration. This example illustrates a simplified climate risk stress testing to project economic analysis. The stress testing was applied to a World Bank water project: Niger Integrated Water Security Platform Project. With a total finance of 400 million USD, the project aims to strengthen the management of water resources, increase access to water services and improve the resilience to climate-induced water variability in select areas of Niger, including small-scale irrigation, improved access to drinking water and sanitation services with low-carbon and resilience considerations. 38 As part of the West Africa Sahel region, Niger faces significant risks from increasing temperatures, with a clear shift in the center of the distribution, by an average of 2 degrees C by midcentury and by 5 degrees C by the end of the century under the most extreme scenario (SSP5-8.5). Under a more moderate climate scenario (SSP2-4.5), mean temperature is expected to increase by 1.5 degree C from today’s level by midcentury and increase by 2.5 degree C at the end of this century in Niger (Figure 8). Droughts are projected to increase in frequency in the coming century. The rainfall pattern is also changing in Niger, with less frequency and shorter duration but more intensity. As a result, floods are a recurrent natural hazard in Niger and are projected to increase in frequency in the future, especially in the southern part of the country. There is also significant spatial variability in climate conditions, northern Niger is significantly dryer compared to the southern part of the country, therefore requiring differentiated considerations of drought impacts on the project components. Figure 8. Changes in historic and projected mean temperature in Niger The stress test results summarized in table 2 shows the adjusted NPV values under no/low and high climate change impacts and optimistic and pessimistic baseline scenarios. Table 2. Risk stress test summary results CLIMATE CHANGE IMPACT no/low Adjusted NPV (USD, millions) high impact impact Optimistic 228.8 96.6 BASELINE SCENARIO Pessimistic 201.0 68.8 Note that the optimistic baseline scenario is defined as the project’s baseline NPV at 6% discount rate and 30 year project time horizon, while the pessimistic scenario incorporates a 10% increase in capital expenditures, as defined by the project economic analysis. 39 Under low climate change impact and an optimistic baseline scenario, the adjusted NPV would be 229 million USD, compared to the project economic analysis’s original NPV of 216 million USD. Interestingly, this analysis shows that when low climate change impacts are taken into account, the adjusted NPV increases due to the favorable increase in crop yields and producer prices, which outweigh the other negative climate impacts in this assessment, like increases in production costs and the impacts from disasters. When high climate change impacts are assumed, the estimated project NPV drops by 60%, to 96.6 million USD. When a pessimistic baseline scenario is considered in addition to high climate change impacts, the adjusted NPV drops further, to 69 million USD. However, when high climate change impacts are assumed, the estimated project NPV drops by 60%, to 96.6 million USD. When a pessimistic baseline scenario is considered in addition to high climate change impacts, the adjusted NPV drops further, to 69 million USD. Figure 0 below illustrates the sensitivity of the various factors in driving the differences in NPV and shows that climate change and climate extremes can have significant impact on the project’s economic return. Figure x. Sensitivity analysis: change in NPV when going from 0 to 100% in climate impact/baseline pessimism 140 120 NPV (USD, millions) 100 80 60 40 20 0 Quantity Price Input and Magnitude Change in Magnitude All climate Baseline operating of extreme extreme of extreme impacts scenario costs event event event impacts frequency impacts [Flood] [Flood] [Drought] The economic analysis considering climate risks and uncertainty shows that climate change and related disasters can significantly affect the project’s expected economic return, but the project remains to have positive NPV when considering climate impacts and uncertainties for selected project components. However, the analysis may also be underestimating the economic impacts of climate change and other hazards, due to data limitations and exclusions of other impact channels. For instance, Niger’s changing heat profile and more intense extreme heat dynamics create significant implications for human health, with likely severe consequence. Additionally increased temperature could lead to an increase in pathogens in the water 40 supply and impact water quality, requiring higher operating and maintenance costs for providing clean drinking water. To build the resilience of the project to climate change and climate extremes, resilience measures (such as climate proofing infrastructure, drought-resistant crop varieties, nature-based green infrastructure) can be considered and evaluated in project design to support robust project that meets its development objectives. 5.2 Diagnosing and embracing uncertainty with participatory approaches: The case of Angola Planning of security in the southern parts of Angola is challenged by drought conditions which not just directly impact water availability, but also alter water demand patterns in municipalities that receive population displaced from drought-stricken vulnerable areas. At the same time, constant population growth and vulnerabilities in the economic landscape of the region threaten water service aims. This situation is more aggravated considering that West Africa is also characterized by the important discrepancies among climate projections which difficult the understanding of the future hydroclimatic context at the catchment scale [Conway et al., 2008; Sylla et al., 2013]. Considering these circumstances, uncertainty-based approaches offered the opportunity to reconcile water security, metrics of resilience as well as vulnerabilities of water supply systems in two municipalities of Angola. To this end, a simplified and qualitative version of the Decision Tree Framework was applied to define metrics which would increase the resilience and robustness of water supply systems deep-uncertainty contexts (Figure 10). Figure 10. The Resilience Framework used to identify risks and uncertainties that can affect system performance and develop measures to mitigate them to increase the resilience of the system. 41 The initial step was aimed to understand the elements of the analyzed water supply systems, their connections, characteristics, and aspects which later would determine the uncertainties of them. The schematization of the water supply model followed a stepwise approach where stakeholders represented the characteristics of their system in three dimensions i) Physical Infrastructure, ii) Water Users and Community, iii) Institutions and External Society (See figure 11). These three levels of analysis in turn were used to define the risks, uncertainties, and performance metrics which were of interest of stakeholders. Figure 11. Three levels utilized to conceptualize the Water Supply Systems and resilience. The next step consisted of discussing and agreeing the performance metrics of water utilities. The risk and uncertainties defined previously were then assigned a qualification of the possible impact that each risk and uncertainty, should it occur, may have in their objectives. Next, during this implementation, Phase 2 looked to discuss and agree with stakeholders on performance metrics for their Water Utility. Also, the plausibility of events to occur was discussed with stakeholders defining the chance that they might occur in a given year. This information was used to generate a matrix which ranked events by their potential impact and implications should they occur. These scenarios were also informed by experiences of stakeholders from previous events while also using reports and articles to guide the discussion. From here, strategies were defined in specific areas of the system which in turn may help to alleviate potential impacts while increasing metrics of resilience and robustness. 5.3 Modelling uncertainties in water systems: The case of Mexico Additional work from the World Bank has also supported the design of climate-robust and resilient water strategies using uncertainty-based approaches. For example, the resilience of the water supply system of Mexico City was evaluated against a wide range of future climate change and shifting demand patterns scenarios on water supply. While about 99% of Mexico City’s population has access to improved water sources, there are still questions about the reliability and adequacy of supply, particularly during periods of drought and dryness. The support of the World Bank consisted in the improvement of the resilience of Mexico’s City’s water system via the development of models following a bottom-up approach. This 42 initially corresponded to the development of a modelling scheme which integrates the hydraulic sub-systems of the Mexico City (Figure 12). The evaluation of the future performance of the system required the generation of stochastic traces of precipitation and temperature which reflected both historic characteristics of climate as well as future projections. In this examination, also the influence of allocation decisions between Mexico City, and neighboring states that may also drive water extraction levels in key parts of the sub-system. This stage helped to unveil, that for example, a 30% decrease in historic rainfall produces total shortfalls equivalent to an increase in demand of approximately 10% uniformly applied throughout the city. Additional steps were then followed to assess the interventions which may increase the resilience of the water supply system vis-a-vis other stakeholders-defined performance metrics. Figure 12. Schematic of Mexico City’s external water supply systems and corresponding models. Stress-Testing a Water System As mentioned, stress-testing remains at the core of bottom-up approach. The functionalities of the Hydroclimatic Stress Testing Tool were used in the context of the Country Climate Development Report of Cambodia. The tool was used to estimate the vulnerability levels of key water infrastructure of the country to future climate. This analysis was done by stress testing historical inflow conditions of selected key infrastructure (reservoirs and hydropower plants) against 126 hydroclimatic simulations. Results in turn showed differences in vulnerability levels of evaluated infrastructure to changes in hydroclimatic conditions. This examination also permitted the identification of hotspot areas where vulnerability levels are greater, and thus, deeper examination is required. For example, results of the analysis indicated that in just 18% of future climate projections the inflow to the 30 September Dam (San Sep Kanha) would meet historical mean annual 43 flows (Figure 13). On the other hand, almost all climate models suggest that historical peak flows will be met and cross in the future. Such poor robustness to climate change of the dam in turn flags the need to design and evaluate strategies which would increase the resilience of the dam over the next years. Figure 13. The mean (left) and peak flow conditions (right) of the inflow to the San Sep Kanha reservoir (black line in the figure) were stressed-tested against 126 hydroclimatic simulations. The simulations, or plausible climate scenarios, were derived from combining: 6 plausible temperature changes spanning from no change a 5 degC increase over historical averages; 7 plausible precipitation changes spanning from –30% to +30% of historical average; 3 natural climate variability simulations of the historical climate conditions. The way by which combinations of temperature and precipitation changes translate into river flow are represented in the figures with the color bar. The dots represent CMIP5 multimodel results. Dots in the red zone indicate climate projections which suggest that the historical thresholds will not be met in the case of mean annual flow conditions or that will be surpassed, in the case of peak flows. RDM (Monterrey) Monterrey is the economic capital of northern Mexico and plays an important role in the economic industrial cluster across Mexico’s border with the United States. But the economic success of Monterrey has also led to increased environmental and social challenges, including water security and future equity. In response to these challenges, the water-policy community of Monterrey decided to develop the first long-term water plan for the region in 2016—the Monterrey Water Plan (MWP). To support this effort, the Fondo de Agua Metropolitano de Monterrey (FAMM) sponsored Tecnológico de Monterrey and the RAND Corporation to perform an analysis of the current water 44 management system and how it would perform across a wide range of plausible futures and then suggest an adaptive and robust management strategy using RAND’s Robust Decision Making (RDM) methods. The study was carried out in close collaboration with Monterrey’s water-planning community. Tecnológico de Monterrey convened three workshops in 2016 and 2017 to elicit from key stakeholders what the key aspects of the analysis should be. The first set of workshops, during the first phase of the project, focused on discussing at length all available options for expanding water supply to the city. The second set addressed the key uncertainties, options, performance measures, and available data and modeling tools for developing the water plan. In the third set of workshops, we reviewed interim results with stakeholders to collect feedback and also gathered suggestions for expanding the scope of research. A final engagement was to brief FAMM’s technical committee on key findings, fundamental trade-offs, and the performance of the candidates for the robust adaptive plan. This feedback is reflected in the analysis presented in this report and in the MWP. The study team built an integrated assessment model (IAM) to simulate future water management–system performance with and without various augmentation strategies. The IAM integrates several models within an optimization framework to determine optimal water-management adaptation strategies—sequences of policy or investment options implemented over time. An econometric demand model yields demand projections. Hydrological projections are generated using a Markov autoregressive hydrological model (MARHM). These projections—combined with other assumptions about groundwater yield, desalination costs, and the list of available options—are the inputs to a dynamic optimization engine that estimates for individual scenarios the optimal investment sequence that meets Monterrey’s water planners’ reliability objective while minimizing investment costs. The resulting database is a rich set of cases showing how different assumptions about uncertain future conditions trigger the implementation of different project combinations. These data are then used to identify near-term tradeoffs and develop long-term adaptive strategies. The initial survey of future vulnerabilities showed that the current capacities of Monterrey’s water system are not sufficient to guarantee current delivery reliability levels over the near, medium, or long terms. These results show that relatively small increases in water demand will certainly reduce the reliability of the system below the current levels. This confirms the intuition and previous analyses by local stakeholders of the need to expand supply capacities. This does not mean the city faces an imminent water crisis if it fails to expand the system. The finding reveals that, in the absence of any augmentation or efficiency enhancement, the reliability of Monterrey’s water system will erode in response to increases in water 45 demand, especially if adverse climate conditions (e.g., runoff decline, higher losses because of evapotranspiration) affect current sources. If these stressors materialized, they would likely lead to more frequent pressure losses or temporary cuts to water supply (Figure 14). Both could have long-term consequences for Monterrey’s attractiveness as a place for investment or residence. Figure 14. Groundwater demand in Monterrey and water stress for different time horizons The decision to expand Monterrey’s water-supply infrastructure must balance the trade- off between two metrics: water-supply reliability (the probability of satisfying demand at any given time) and cost (i.e., investment plus operational costs). If water-system investment is too heavy, then reliability will likely be high; however, some investments may likely lie idle, thus becoming an unnecessarily expensive burden. Of course, investing too little may mean frequent availability shortfalls. In this respect, the goal of this study is not to dictate a solution, but instead to provide decisionmakers with better strategic insight into both their near-term options and how to modify its adaptation strategies for the medium and long terms. To respond to these challenges, we use the RDM framework to develop a robust, adaptive strategy that includes a set of low-regret, near-term options that represent good foundational investments for future adaptation. Accompanying the portfolio of near-term options is a set of medium- and long-term signpost conditions and associated medium- and long-term contingent options. Using the IAM to estimate the optimal strategy for each future included in the scenario ensemble, we first identify a Pareto frontier—the strategies that represent the best trade- 46 offs between cost and reliability. Our results show that near-term portfolio options fall into three groups. The first, with low cost-regret levels but high reliability regret, are portfolios that rely on small-scale and low-cost projects. The second group, with high reliability but high cost regret, includes portfolio alternatives combining two medium-scale projects—La Libertad Dam and WW Injection Well—with several of the small-scale projects. The third group of portfolios display medium levels of regret in both cost and reliability. These portfolios either combine a set of small-scale projects with La Libertad Dam (the efficiency and groundwater options) or rely only on the Cuchillo II Dam (Figure 15). Figure 15 Monterrey Dams project decision timeline and demand situations We then run the IAM as a scenario generator across the entire experimental design for each of the portfolio alternatives identified as lying on the Pareto frontier. This generates a new database that describes the optimal expansion of the system, now into the medium and long terms as well, for each of the futures considered in the experimental design. In 47 the final analytical phase, this database is analyzed using classification algorithms for scenario discovery such that a specific adaptive strategy may be identified for each of the near-term options along the Pareto frontier. This analytical framework highlights the medium- and long-term implications of investment decisions made in the near term. First, the potential vulnerability to different uncertainties (i.e., stressors) in the medium and long terms will change depending on the decision made in the near term. If the first period portfolio (2016–2026) relies significantly on groundwater resources, then groundwater availability will be critical for triggering contingent actions. If the first period portfolio relies primarily on surface water, then hydrological changes in the medium and long terms at the serving basins will be more relevant than groundwater conditions. Second, although all adaptive plans stipulate contingent actions for meeting system reliability objectives, each strategy’s capacity for tolerating different combinations of water demand and availability of groundwater and surface water before triggering a full- scale system expansion varies greatly. Therefore, different adaptive strategies display varying capacity to accommodate demand growth before launching a full expansion of the system. This fundamental performance difference shows that the medium- and long- term resilience of the system (i.e., its capacity to assimilate stressors) is greatly determined by near-term actions. Finally, the implementation costs estimated at each decision node for the adaptive plans defining the Pareto frontier reveal the economic opportunity afforded (i.e., potential investment savings) by effective water-demand management. For instance, the difference in expansion costs between the scenarios under which water demand is lower than 14.6 cubic meters per second (m3 /s) and the scenarios under which water demand is higher than 19.1 m3 /s is US $4 billion. This reinforces the message that significant savings may be achieved if water demand is managed to prevent rapid growth. Using these findings, we designed an adaptive plan for expanding Monterrey’s water infrastructure that significantly reduces the vulnerabilities that could arise from the current system. The plan consists of two elements: • a set of selected near-term infrastructure projects (through 2026) that moderate exposure to both excess cost and insufficient reliability and so appear robust to plausible ranges of uncertainty • an adaptive strategy for future additional projects in the medium (2027–2038) and longer (2039–2050) terms that build on the near-term infrastructure expansion. These two elements represent a coherent framing for planning Monterrey’s water system through 2050. This approach proposes a set of projects to be developed in the near term for which water planners will not regret their implementation. These projects are likely to meet the reliability objectives under the majority of circumstances and will avoid 48 excessive infrastructure spending. For the medium and long terms, our plan establishes optimal adaptation strategies for responding to different future water-demand conditions, as well as combinations of groundwater and surface-water availability. This adaptive strategy’s performance significantly reduces system vulnerability across all decision periods and proposes a strategy of expansion and improvement of the current system that is cost-effective. 6. Conclusion To maximize development benefits, projects, investments must consider climate change and disaster risks in their design and appraisal. Making investments more resilient and investing in adaptation and resilience measures haves been found to yield significant economic, social and environmental benefits. Ensuring that all new infrastructure assets include resilience best practice would incur a small incremental cost (3% of total investment needs) while yielding large benefits: an average of $4 in benefit for every $1 invested (Hallegatte et al., 2019). The large, positive economic benefits of resilience measures are similarly demonstrated in early warning systems, climate-smart agriculture, water resources management, and nature-based solutions (Global Commission on Adaptation, 2019). Integrating climate risks in water project appraisal and BCA that considers climate uncertainty ensures robustness of projects. Projects can be simultaneously vulnerable to several such risks, in most cases, it is possible to design and implement projects that are resilient to future climate change and natural risks. Doing so, however, requires these risks to be considered at each step of the project cycle, including in the economic analysis during project appraisal. It is important to integrate climate risk assessment and resilience considerations in the earliest stage of project identification, appraisal and design. When risks and resilience are considered only at the later stages, the options tend to be more costly and the best options are often not available anymore. Climate expertise is critical and needs to be integrated in project teams and throughout the project cycle. To achieve resilient water sector planning and investment, it requires close engagement among economists, climate scientists, engineers, and decision makers from the beginning. It also requires more boundary expanding activities that synthesize, translate and transfer the growing knowledge base to benefit different decision needs. Better economic analysis and project design can support more and better climate adaptation and help achieve alignment with the goals of the Paris Agreement. Climate modeling is used to assess the potential impacts of climate change on water resources, including changes in rainfall patterns, water availability, and temperature. By incorporating climate modeling into the economic analysis, decision-makers can identify 49 water projects that are not only economically viable but also incorporate the best climate adaptation strategies. One example of a water project that used economic analysis and climate modeling is the "Green Infrastructure for Climate Resilient Water Resources Management in Peru" project. This project aimed to increase the resilience of the Peruvian water sector to the impacts of climate change. The project used economic analysis to identify the most cost-effective adaptation strategies, such as rainwater harvesting and improving irrigation efficiency. Climate modeling was used to assess the potential impacts of climate change on water resources in Peru and to evaluate the effectiveness of different adaptation strategies. Another example is the "Water Supply and Sanitation Investment Program" in Bangladesh, which used economic analysis and climate modeling to identify sustainable water projects that are resilient to climate change. The project identified cost-effective strategies, such as constructing rainwater harvesting systems and improving water use efficiency, that could help the country cope with the impacts of climate change on its water resources. 50 Annex. Summary of Climate Risk for Water Infrastructure A final summary of the process for incorporating climate risks in water projects is summarized with three steps: climate screening, climate assessment, and decision- making flowchart. The first step is developing a clear climate screening profile in the context where the project is being implemented. This profile helps to identify the potential climate risks and opportunities associated with the project, assess its climate resilience, and evaluate the effectiveness of different adaptation strategies. These risks may include changes in precipitation patterns, increased temperatures, and sea-level rise, among others. involves evaluating the project's ability to withstand, adapt to, and recover from the impacts of climate change. The assessment should consider the project's design, location, and operation, as well as the resilience of its supporting infrastructure, such as water supply systems and transport networks. Also, this first step could contribute by identifying potential adaptation measures that could be implemented to mitigate the climate risks, with economic data and information that can be used to assess project’s cost-effectiveness. Another important reason to do a climate screening is that it can help determine in detail greenhouse gas emissions associated with the project. This includes emissions from construction, operation, and maintenance of the project. This information can be used to evaluate the project's potential contribution to climate change (Figure A1). Figure A1 First step: conducting climate screening of water projects The second step involves collecting and obtaining relevant information to assess the vulnerabilities under climate uncertainties where water projects are exposed to. Collect and review climate data and projections for the project's location. This includes temperature, precipitation, and sea-level rise projections. The data can be obtained from reputable sources, such as the Intergovernmental Panel on Climate Change (IPCC), national weather services, and local climate experts (Figure A2). 51 Figure A2 Second step: analyzing climate data and assess its impacts on the project The third step is choosing the right decision-making tools help identify, assess, and manage these risks and uncertainties within the entire lifetime of the project. Develop decision alternatives that consider different climate scenarios and adaptation measures is a critical activity under this step. These alternatives should be assessed for their effectiveness, feasibility, and cost-effectiveness. The decision-making tool provides a set of different alternative scenarios that can be further incorporated in the sensitivity analysis, in Monte Carlo simulations, decision tree, and real options analysis to verify any changes in the project’s economic performance and the climate scenarios that modify these economic parameters over time (Figure A3). 52 Figure A3 Third step: Decision making based on best project alternatives under climate uncertainties 53 7. References: AghaKouchak, et al., 2020, Climate Extremes and Compound Hazards in a Warming World, Annu. Rev. Earth Planet. Sci. 48:519–48, https://doi.org/10.1146/annurev-earth-071719- 055228 AghaKouchak, A., Cheng, L., Mazdiyasni, O., and Farahmand, A. (2014), Global warming and changes in risk of concurrent climate extremes: Insights from the 2014 California drought, Geophys. Res. Lett., 41, 8847– 8852, doi:10.1002/2014GL062308 Arias, P.A. et al. 2021: Technical Summary. 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Lonnoy, J.B.R. Matthews, T.K. Maycock, T. Waterfield, O. Yelekçi, R. Yu, and B. Zhou (eds.)]. Cambridge University Press, Cambridge, United Kingdom and New York, NY, USA, pp. 1767–1926, doi:10.1017/9781009157896.014. Rodell, M., Li, B. Changing intensity of hydroclimatic extreme events revealed by GRACE and GRACE-FO. Nat Water1, 241–248 (2023). https://doi.org/10.1038/s44221-023-00040-5 Rohde, M.M. Floods and droughts are intensifying globally. Nat Water1, 226–227 (2023). https://doi.org/10.1038/s44221-023-00047-y Seneviratne, S.I., et al., 2021: Weather and Climate Extreme Events in a Changing Climate. In Climate Change 2021: The Physical Science Basis. Contribution of Working Group I to the Sixth Assessment Report of the Intergovernmental Panel on Climate Change [Masson-Delmotte, V., et al., (eds.)]. Cambridge University Press, Cambridge, United Kingdom and New York, NY, USA, pp. 1513–1766, doi:10.1017/9781009157896.013. van Oldenborgh, G.J., Otto, F.E.L., Haustein, K. and AchutaRao, K. (2016) The heavy precipitation event of December 2015 in Chennai, India. Bulletin of the American Meteorological Society, 97(12): 87–91. doi: 10.1175/BAMS-D-16-0129.1 World Bank (date?). Monetizing Drops for Crops: A review of best practices for conducting cost benefit analyses of irrigation projects. World Bank. 2018. Benefit Identification and Monetization for Cost Benefit Analysis in the Water Resources Management Sector. World Bank. Economic analysis of multipurpose water projects (English). AGREP Division working paper,no. AGP 96 Washington, D.C. : World Bank Group. http://documents.worldbank.org/curated/en/277611468914664867/Economic- analysis-of-multipurpose-water-projects Zscheischler, J., Westra, S., van den Hurk, B.J.J.M. et al. Future climate risk from compound events. Nature Clim Change 8, 469–477 (2018). 55 tps://doi.org/10.1038/s41558-018-0156-3 Chapter 3: Guideline for measuring economic values discount rates, value of time, avoided illness, and social equity based on Nature-Based Solutions Boris Tot Van Zanten9 (World Bank), Radhika Sundaresan (World Bank) 9 Corresponding author: Disaster Risk Management Specialist, GFDRR. World Bank. bvanzanten@worldbank.org 56 Table of Contents 1. The rise of Nature based Solutions in Water Interventions: .......................................................... 59 2. Why does NBS matter in water interventions: ............................................................................... 59 3. Moving beyond pitching green solutions against gray infrastructure ............................................ 60 4. Valuing benefits and costs of NBS for water interventions ............................................................ 61 4.1 Benefits of Nature based Solutions in the water sector ............................................................... 61 5. Constraints to measuring benefits:................................................................................................. 63 5.1 Cost of NBS in the water sector: ................................................................................................... 64 6. NBS and equity:............................................................................................................................... 65 7. Selecting a decision support framework ........................................................................................ 66 8. Cost Benefit Analysis of Nature Based Solutions ............................................................................ 67 9. Understanding the base case and sensitivity analysis .................................................................... 69 10 Valuing benefits of NBS in the water sector: ..................................................................................... 69 11. Alternative monetary valuation approaches to quantity risk reduction benefits ...................... 73 11.1 Market prices .............................................................................................................................. 74 12. Discount rate............................................................................................................................... 75 12.1 Selecting a Discount Rate ........................................................................................................... 75 13. Addressing uncertainty in cost-benefit analysis ......................................................................... 75 13.1 Social Cost of Carbon .................................................................................................................. 76 14. Case Study: Valuing benefits of Shenzen Futian River Ecological Restoration ........................... 76 57 CHECKLIST FOR CONSIDERING SCENARIOS WITH AND WITHOUT PROJECT This list of questions can help practitioners of benefit -cost analysis (BCA) determines whether deliberations of the with- and without-project scenarios are sufficiently clear and comprehensive. Practitioners can think about the questions on this checklist before quantifying the project’s benefits on the benefit parameters sheet or the custom benefits sheet. 1. Types of effects and expected outcomes’ variations with NBS • What conditions or outcomes are likely to change because of the project? (Examples include availability of a public good, sale of a commercial product, probability of a risky event, severity of a risky event if it does occur, and delay or reduction in a cost.) • What is the chain of events from the project to the outcomes? 2. Effectiveness of project at delivering changes in behavior or water management • What barriers prevent the desired changes in behavior or management? To what extent does the project address these barriers? • Given the mechanisms used in the project (for example, education, information, subsidies, and regulation), how many people or businesses will adopt the desired changes in behavior or management? • What is the chance that the desired behavior change will occur anyway, without the project? • To what extent will essential partner organizations come on board with the project? 3. Effectiveness of changes in benefits • What difference will the actions resulting from the project (including changes in behavior or management) make to the desired outcomes? • How responsive is the benefit to the actions being promoted? (For example, if one of the benefits is increased urban wildlife making use of new habitat, to what extent will the new habitat result in increased populations of wildlife?) • Would the project generate new benefits that would not have otherwise occurred, or does it propel forward in time benefits that would have occurred eventually? Or some combination thereof? • Will conditions worsen before the benefits from the project start to emerge? 4. Effects in second round • Will the project create incentives or opportunities that lead to effects in the second round? 5. Without-project scenario • What is the current trajectory of change, and how would that evolve without the project? Would it stay on the same trajectory or not? Things that may change in the without-project scenario include income, population, government policy, technology, other facilities or infrastructure, climate, developments, demand for recreation, and demand for water. 58 1. The rise of Nature based Solutions in Water Interventions To address three central challenges of the Anthropocene: mitigating and adapting to climate change, protecting biodiversity, and ensuring human wellbeing, a low-cost solution is provided by nature-based solutions. The International Union for the Conservation of Nature defines nature- based solutions (NBS) as “actions to protect, sustainably manage, and restore natural or modified ecosystems, that address societal challenges effectively and adaptively, simultaneously providing human well-being and biodiversity benefits�. NBS can help uptake and store carbon; manage floods, droughts, and extreme weather events; restore watershed and ecosystem health; increase biodiversity; improve agricultural production; and provide a wide range of socio- economic benefits.10 NBS is an ‘umbrella concept’ for other established ‘nature-based’ approaches such as ecosystem-based adaptation (EbA) and ecosystem-based mitigation, eco-disaster risk reduction and green infrastructure. 11 The World Bank has increasingly emphasized the benefits of nature based solutions (NBS) in its strategies and priorities, through its Climate Change Action Plan 2021-2025. The Global Program on Nature-Based Solutions for Climate Resilience (GPNBS), a thematic area under the World Bank’s Global Facility for Disaster Reduction and Recovery (GFDRR), provides support to incorporate NBS in projects to address a range of natural hazards while building resilience to climate change. GPNBS provides rapid assessment tools such as the NBS Opportunity scan and Ecosystem Services Assessment. The added emphasis on climate co-benefits creates an opportunity for the Water Global Practice (GP) to actively integrate green and gray infrastructure in the GP’s projects, from an adaptation and mitigation perspective. 2. Why does NBS matter in water interventions? Effective design of NBS can help achieve the water quality targets or water supply requirements set by relevant legislations and policy to achieve Sustainable Development Goal 6. Globally, climate change and depletion or exhaustion of natural capital are an alarming threat to water security and human health.12 Preserving or restoring natural features at scale has the potential to address the loss of nature and climate change. NBS can advance the management of water and deliver multiple benefits to add to climate mitigation and adaptation goals through – restoration or rehabilitation of ecosystems; carbon sequestration; coastal resilience; conservation and enhancement of biodiversity; improvements in air quality; urban regeneration; increased participation of stakeholders; social cohesion; recreation; improvements in public health and well-being. NBS (including green infrastructure) can be more flexible, resilient, and cost-effective than conventional engineered solutions (gray infrastructure). The effectiveness of NBS is contingent on careful problem identification. Often, NBS projects are approached solution first; whereas what is needed is ‘root-cause analyses’, followed by systematic identification of interventions that can address the critical issues. Based on the problem identified, Task Team Leaders (TTLs) and project managers can map any NBS activities 10 https://ceowatermandate.org/NBS/ 11 Seddon et al., 2019, Understanding the value and limits of nature-based solutions to climate change and other global challenges 12 https://www.ncbi.nlm.nih.gov/pmc/articles/PMC9168647/ 59 into the following categories as shown in table 1. Table 1: Nature-based solution activity categories and sub-categories Activity categories Sub-categories/examples Harvest and store Build retention/detention ponds, rain gardens, swales, diversion rainwater channels; rainwater harvesting Construct treatment Constructed wetlands systems Recharge aquifers Build retention/detention ponds, infiltration ponds; dig wells; remove hard surfaces; undertake artificial recharge Re-establish Re-wet historical wetlands; undertake flood-plain inundation, hydrologic channel reconnection; install bioswales and permeable surfaces connection Remove hard Remove roads, pavements, canals surfaces Remove hard Remove berms, seawalls, weirs, dams structures/barriers Restore/improve soil Increase organic matter, carbon content; enhance earthworm health populations, microbial activity; increase plant diversity; improve soil chemistry/pH Restore/improve/ Fix erosion; add natural structures; stabilize slopes, sand dunes; stabilize substrates provide substrate for marine ecosystems Dredge substrate Remove sediment to improve flow/local hydrology; improve exchange or connectivity between surface water and groundwater; remove contaminated sediments; drain wetlands Restore/plant/sustain Plant trees and buffer zones; undertake successional planting; native vegetation restore habitats (restore agricultural lands to natural areas) Remove invasive Remove foreign flora and fauna (including reducing species evapotranspiration by alien vegetation). Avoid/limit habitat Implement conservation easements; purchase land for conservation conversion Reduce/avoid Implement legal and financial transactions/mechanisms resource abstraction Implement terraced/ Follow natural gradients of landscape/no levelling of slopes contour planting Plant vegetation Plant cover crops, grass strips, hedge rows, riparian buffers, trees in buffers croplands Undertake mulching Distribute animal manure, biochar, organic matter; build compost and fertilizing pits; undertake conservation tillage Source: Gregg et al., Benefit Accounting of Nature-Based Solutions for Watersheds: Guide United Nations CEO Water Mandate and Pacific Institute. 3. Moving beyond pitching green solutions against gray infrastructure Emerging evidence from various initiatives suggests that NBS, provides low-cost solutions to many climate change-related impacts and offers key advantages over engineered solutions in certain contexts. NBS are reported to deliver a wider range of ecosystem services, especially to 60 more vulnerable sectors of society, to protect humankind against multiple impacts and to be deliverable at lower cost. Many of these observations are increasingly backed up by research, although there remains a lack of scientific synthesis and there are several knowledge gaps, around how the cost-effectiveness of NBS compares to alternatives (www.naturebasedsolutionsevidence.info). Instead of framing NBS as an alternative to engineered approaches, there has to be an increased focus on finding synergies among different solutions. For example, constructed wetlands is an established green multi-purpose option for water management and wastewater treatment13. The task team can incorporate green infrastructure in its design to achieve the same development objective(s) within the specific country and project circumstances considering technical, financial, economic, and commercial considerations. An example can be found in implementation of a green-gray wastewater treatment project in Latin America where a cost-benefit analysis shows how reduced expenditure can still result in good results for projects in wastewater treatment. 4. Valuing benefits and costs of NBS for water interventions NBS has the potential to complement gray infrastructure while providing other important benefits as described above. Valuation of benefits and costs will be crucial to support the project preparation, implementation, impact evaluation and operation of NBS projects. Valuing these benefits and identifying their beneficiaries will aid in: i) identifying locations where NBS can be effective. ii) inform design of the NBS to ensure optimal outcomes. iii) identify indicators to evaluate impacts. iv) raise awareness among stakeholders14. After the benefits and costs of NBS have been identified, it is important to compare the costs and benefits against the use of traditional gray infrastructure. The note will go over detailed steps of a cost benefit analysis (BCA) for NBS in a later section. First step will be to identify the benefits and costs separately. 4.1 Benefits of Nature based Solutions in the water sector Hydrologic processes act at various scales and operate in many different settings – crest and trough formation in the headwaters of a watershed, slow moving groundwater, surface water flow in creeks and rivers, and tidal exchange in estuaries. Hydrologic benefits can be characterized using metrics and tools that are based in hydrologic sciences, to provide ways to observe, measure and record the way water flows through natural systems. 15 Additionally, estimates suggest that nature-based solutions can provide 37% of the mitigation needed until 2030 to achieve the targets of the Paris Agreement. 16 13 https://www.mdpi.com/2071-1050/11/24/6981 14 Assessing the benefits and costs of nature-based solutions for climate resilience: A guideline for project developers, World Bank 2023 15 Benefit Accounting: NBS for Watersheds 16 Assessing the benefits and costs of nature-based solutions for climate resilience – A guideline for project developers, World Bank 2023 61 Different types of NBS provide benefits at various scales and from a climate change perspective, NBS in water sector can regulate hazards as a first step. Table 2 captures climate co-benefits that a project might generate from the interventions listed in it. Table 2: Processes by which key NBS types regulate hazards Type of NBS Flooding Erosion Drought Heat Landslides (Coastal and riverine) Forests Reduce Root network Water Shading, Root network runoff, stabilizing soil storage and evapotranspir stabilizing slowing water flow ation soil, delaying, flow, regulation, and reducing reducing Evapotranspir runoff wave height ation, shading Terraces and Delaying Stabilizing Infiltration, Shading, Root network slopes runoff soil evapotranspir evapotranspir stabilizing ation, ation soil, delaying shading, runoff water storage Rivers and Storing water, Rebalancing Infiltration, Shading, heat Stabilizing Floodplain slowing water of sediment evapotranspir absorption, riverbanks restoration flow, supply and ation, evapotranspir infiltration processes shading, ation water storage Urban Green Storing water Root network Evapotranspir Shading, Root network areas stabilizing soil ation, evapotranspir stabilizing soil shading, ation water storage Ponds, Storing water Regulation of Water Heat N/A Lakes, and sediment storage absorption, Small Water flows evaporation Bodies Source: Assessing the benefits and costs of nature-based solutions for climate resilience: A guideline for project developers, World Bank 2023. The benefits will have to be quantified using an indicator. Before we look at the metrics and tools to quantify hydrologic benefits, it is important to identify the primary benefits that can be provided by NBS. Table 3 lists the benefits of NBS across five themes to capture work done under various themes of the Water GP. Table 3: Primary benefits of NBS categorized across five themes Theme Benefits or Ecosystem services Water quantity • Reduced/avoided surface runoff and associated erosion • Improved/maintained surface water storage • Increased/maintained groundwater recharge and storage • Improved/maintained flow regime 62 •Improved/maintained flood protection and mitigation (inland and coastal) Water quality • Improved/maintained surface water quality • Improved/maintained groundwater quality Carbon • Improved/maintained carbon sequestration • Reduced carbon emissions Biodiversity and • Improved/increased terrestrial or aquatic habitat availability and environment quality • Improved/maintained terrestrial or aquatic habitat connectivity • Improved/maintained support for local pollinators • Increased/maintained abundance and diversity of native plant species or animal species Socioeconomics • Improved/maintained climate adaptation and mitigation • Improved/maintained livelihood opportunities • Improved/maintained human health • Improved/maintained agriculture/agricultural output • Enhanced/maintained microclimate regulation • Improved/maintained opportunities for education/scientific study • Increased/maintained food security • Improved/maintained recreation/tourism opportunities • Increased/maintained property/land value Source: Gregg et al., Benefit Accounting of Nature-Based Solutions for Watersheds: Guide United Nations CEO Water Mandate and Pacific Institute. Measuring benefits in economic terms can be helpful to mainstream NBS in infrastructure planning. Identifying the key benefits of a project involving NBS can be done in several different ways, including through consultation with experts (with knowledge of NBS implementation) and stakeholders. Once the benefits have been identified, the next step is to quantify the benefits. Given most benefits of NBS are qualitative in nature, ecosystem service assessments are relied upon to quantify the benefits accrued. Ecosystem service assessments translate an action) into impacts on valued ecosystem services through an ecological or physical production function. 5. Constraints to measuring benefits: This guidance note identifies 16 types of NBS in water interventions across 5 themes. The lack of quantitative evidence on most benefits provided by NBS is one of the key barriers to implementation at scale. The ability to model the effectiveness of NBS to substitute or complement gray infrastructure’s services is difficult given there is a requirement to quantify non- market benefits provided by NBS. This includes equity and social inclusion in addition to other ecological non-market benefits. Traditionally, the economic viability of dikes, dams and drainage systems is modeled comparing expected impacts of natural hazards with and without project intervention. Use of tools such as process-based models to assess the capacity of NBS to adapt to sea-level rise and reduce runoff have improved greatly in recent years. Despite these advancements, some knowledge gaps remain, and successful modelling and valuation approaches have not yet fully 63 permeated throughout the industry. 5.1 Cost of NBS in the water sector: In the current scenario of global macroeconomic uncertainty, investments in NBS would represent “good value for money� because of their multiple benefits.17 In order to make a case for the implementation of NBS, it is crucial to evaluate the cost of the intervention. Costs that capture expenditures across the life cycle of an NBS project for a water management project are listed in the table below. Table 4: NBS Cost Components CAPEX (capital OPEX Transaction Opportunity Cost Disservices expenditure) (operational Costs expenditure) -Design & - Monitoring labor -Scoping studies -Value of using land -Negative planning & technology & other technical for other purpose impacts -Securing permits - Tree & vegetation assistance such as agriculture from NBS -Land acquisition maintenance -Community or (e.g., -Community - Invasive species engagement / residential/commer mosquitoes resettlement removal stakeholder cial development , pests -Site preparation - Land use (e.g., outreach -Opportunity cost of -Construction rent or other -Goal setting and local labor and -Tree planting payments to prioritization materials used for landowners) implementing NBS - Land protection, project including managing and controlling access Source: Assessing the benefits and costs of nature-based solutions for climate resilience: A guideline for project developers, World Bank 2023. Although these cost components are similar to those for gray infrastructure projects, there are some key distinctions between cost profiles of NBS and gray infrastructure alternatives. The costs of NBS investments differ from costs associated with traditional gray infrastructure in the distribution of capital and operational expenditures over time as shown (Figure 1). 17 UN Environment Programme (UNEP) 64 Figure 1: Illustrative Cost and Benefit Timelines for NBS and Gray Infrastructure Solutions. Adapted from: Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China Gray infrastructure solutions have relatively long construction periods and high up-front capital expenditures, and low or no operational expenditures in the first years of operation. In contrast, NBS may have lower CAPEX during installation and will require sustained operational expenditures to manage restoration efforts over time and protect areas from encroachment. 6. NBS and equity: After benefits and costs have been identified, it important to incorporate the equity perspective in the cost benefit analysis. Given that NBS anchors green-gray interventions in local communities and when upscaled, it makes a great case for Glocal solutions. TTLs can translate the benefits accrued through local interventions and aggregate them based on their externalities to the environment to build a case for Global Public Goods. Incorporating NBS: • increases information and data available (important in data-poor environments, local knowledge). • improves the authorizing environment and consequently reduces implementation and maintenance costs. Considering the effects of a project on different groups of people, it may also be appropriate to consider (but not double count) the institutions affected by the costs and benefits of different options of a project. This will include comparing gray infrastructure projects with green-gray infrastructure projects. This step may be important in working through who should finance and fund implementation of different combination of green and gray infrastructure options. 65 The costs and benefits to all people are added without regard to the individuals to whom they accrue: a one dollar gain to one person cancels a one-dollar loss to another. This “a dollar is a dollar� assumption separates resource allocation from distribution effects—or efficiency from equity effects. It does not mean that distributional considerations are unimportant or should be neglected. Rather, they should be considered a separate part of the analysis. Some BCA specialists advocate weighting the various benefits generated by a project, depending on the groups to whom they accrue and judging how appropriate or important it is for those groups to receive benefits. If the information is available, a BCA can identify potential winners and losers and the magnitude of their gains and losses. It is then up to decision makers to decide whether distributional effects or equity issues are important and need to be addressed. Based on the nature of potential benefits and beneficiaries identified, different financing mechanisms could be adopted. For instance, if the benefits are retained locally, land value capture vehicles may be considered. If the benefits are generated somewhere else other than the location of the NBS interventions, arrangements of inter-jurisdictional compensation may be explored. • Completeness: Decision makers should consider all direct and indirect benefits and costs as well as all winners and losers. They should also consider a wide range of options. • Consistency: Data, methods, criteria, and assumptions should allow for meaningful and valid comparisons with similar decisions. • Consultation: Decision makers should undertake meaningful consultation and engagement so that decisions reflect stakeholder and community values and preferences. The level of engagement should reflect the significance of the decision. • Collaboration: Decisions should be collaborative: they should involve close cooperation with other relevant decision makers. • Transparency: Analysis should provide clear and sufficient information for reviewers to assess the decision’s credibility and reliability. • Compliancy: Decisions should comply with relevant national and state legislation, policies, and guidelines.18 7. Selecting a decision support framework Decision support frameworks will need to be used to maximize net benefits, labor and employment considerations and factor in distributional climate justice considerations. Potentially measured in different units, decision objectives may span across – organizing, gathering, comparing, and aggregating information on such a complexity of impacts – and subsequently choosing between alternative options with different impact profiles – benefits from a structured approach for evaluating alternatives. Physical and biological processes of the different services and the spatial distribution of affected stakeholders lead to costs and benefits of a project to vary across space and time. This section provides an overview of methods to evaluate project alternatives and scenarios that are commonly used across a range of decision contexts. 18 Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China 66 The most applied decision support frameworks include Cost-Effectiveness Analysis (CEA), Benefit-cost analysis (BCA), spatial prioritization, Multi-Criteria Analysis (MCA), and Decision Making under Uncertainty (DMU). BCA provides a means of comparing different options to ensure the right mix of interventions to address the specific challenges. To apply BCA effectively, the benefits and costs associated with different options need to be described and, ideally, assigned a monetary value. A summary of these frameworks and their applicability for evaluating NBS is provided in Table 5. Table 5: Decision support frameworks Decision Application Strengths Challenges support framework Cost- Identify lowest cost NBS Does not Limited applicability given Effectiveness options to achieve a given require the multi-benefit nature of Analysis risk level assessment of NBS and challenges benefits and is establishing identical risk analytically less levels across options complex Cost-Benefit Estimate the societal net Rigorous Requires that all costs and Analysis (BCA) benefit of NBS options in framework for benefits are quantified in monetary units directly monetary terms; important comparing other objectives (non- benefits and monetary) may be omitted costs Spatial Maps the spatial Enables spatial GIS expertise required prioritization distribution of objectives prioritization of (could be monetized or NBS benefit relevant indicators) Source: Assessing the benefits and costs of nature-based solutions for climate resilience: A guideline for project developers, World Bank 2023. The guidance note will delve in detail into BCA methods that can be used to evaluate the NBS component in a project. 8. Cost Benefit Analysis of Nature Based Solutions The concept behind BCA is simple: compare the benefits of a project or policy with its costs to assess whether it is worthwhile. A BCA “is primarily about organizing available information in a logical and methodical way�. BCA of NBS using a framework can inform policy, business cases, and investment decisions. Examples of its application in green-gray projects include managing wastewater in Sri Lanka, constructing the Three Gorges Dam in China, and building a Bridge across River Jamuna in Bangladesh. A BCA prioritizes three decision criteria: the net present value (NPV), the benefit-cost ratio (BCR), and the economic rate of return (ERR). Every project will involve non-market benefits and social benefits which are more difficult to quantify than quantifiable market-benefits. Estimating the non-market benefits of a project requires two types of information: the additional quantity of the 67 benefit that results from the project and the monetary-equivalent value of that additional quantity of the benefit. Information about the additional quantity of the benefit from NBS may come from technical experts such as scientists and engineers or from community members (for example, through a survey or focus group). Furthermore, BCA can be conducted through a participatory process enabling equity through stakeholder involvement and consultation on cost -benefit identification and valuation.19 Box 1: VALUATION TOOL FOR NONMARKET BENEFITS OF WATER SENSITIVE SYSTEMS The Cooperative Research Centre for Water Sensitive Cities (CRCWSC) has developed a database tool known as the Investment Framework for Economics of Water Sensitive Cities (INFFEWS) Value tool. The core of the tool is a comprehensive database of Australian nonmarket valuation studies. Each study in the database contains a dollar value estimate of the nonmarket benefits generated by water sensitive systems and practices. To populate the database, a comprehensive search-and-review process was used. The design of this tool has been informed by industry stakeholder consultation, and industry experts have provided feedback on the design and functionality of the tool. The INFFEWS Value tool contains more than 2000 nonmarket benefit values covering all benefit types from 76 Australian studies specifically related to investment in water sensitive systems and practices. The INFFEWS Value tool consists of the following components: •Excel-based spreadsheets that constitute a comprehensive set of information about nonmarket valuation studies with useful filter and search options. • Guidelines that outline the features and functions of the value tool and provides demonstrated examples on how to conduct benefit transfer using values from the database. • The INFFEWS Benefit-Cost Analysis (BCA) tool is another tool developed to support balanced and systematic decision making about water sensitive investments and to provide evidence for use in business cases. • Values from the INFFEWS Value tool can be used as inputs to the INFFEWS BCA tool. • For more information, including access to the tool, please visit the CRCWSC website: https://watersensitivecities.org.au Source: Cooperative Research Center for Water Sensitive Cities. https://watersensitivecities.org.au 19 Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China 68 Box 2: SUPPORTING PRACTICAL APPLICATION OF PRINCIPLES OF BENEFIT-COST ANALYSIS20 Many tools and resources support practical application of the principles of benefit-cost analysis (BCA). After extensively reviewing existing BCA tools in Australia, the Cooperative Research Centre for Water Sensitive Cities (CRCWSC) developed a user-friendly BCA tool tailored to water sensitive cities’ investments. The Investment Framework for Economics of Water Sensitive Cities (INFFEWS)1 BCA Tool was developed in close consultation with stakeholders and tested by developers in case studies. A number of trials were conducted to ensure that its usability and features align with industry needs. Updated versions will be released as the tool develops. The INFFEWS BCA Tool consists of the following components: • BCA Tool and Guidelines—a multi-sheet Excel spreadsheet and a detailed user guide • Rough BCA Tool—a simplified spreadsheet and set of guidelines to enable a quick and rough BCA • BCA Comparison Tool—a spreadsheet to compare and rank BCA results from multiple projects or different versions of the same project • BCA for Strategic Decision Making—a document outlining the BCA basics, guidance on strategic issues related to BCAs, and use of economic information in strategic decision making. 9. Understanding the base case and sensitivity analysis The “with versus without� principle is possibly the most important idea behind BCA. Applying it incorrectly results in worthless BCA results. The benefit of a project is the change in values generated only by the project. It is the difference between the welfare generated with the project and without the project. The assessment of benefits from an NBS project requires comparison to a without-project scenario, or to a scenario where an alternate project pathway has been chosen. Sensitivity analysis is the formal term for “what if� analysis and is a strength of economic models. The benefit and cost estimates used in any BCA are uncertain, and factors affecting those estimates will mostly vary over time. Thus, sensitivity analysis can be used to get useful information and insights from the analysis. The possible uses of sensitivity analysis include: Sensitivity analysis can test the stability of results. For realistic changes in the parameters, how widely do the results—net present value (NPV) and benefit cost ratio (BCR)—change? • Identifying sensitive or important variables. By comparing the sensitivity analysis results for different individual variables, the analyst can determine which variables have the biggest influence on results. The analyst can then focus on those variables and collect the best available data about them.21 10. Valuing benefits of NBS in the water sector: 20 Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China 21 Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China 69 Drawing from the Volumetric Water Benefit Accounting (VWBA): A Method for Implementing and Valuing Water Stewardship Activities (Reig et al., 2019), the direct volumetric benefit of an intervention can be estimated or measured using the calculation methods listed below. The methods can be applied when the improved habitat is fully functional. As an example, when activities to reduce runoff or enhance storage are undertaken, the baseflow may be improved by activities that are implemented in upland areas. Most restoration activities are not of sufficient spatial scale to improve baseflow in a stream, and there are many other factors such as climate and other watershed activities that increase or reduce the magnitude, timing, and duration of baseflow. But the calculation methods can be applied to estimate the volume of water that does not run off the land or that is captured and stored as a direct result of the activity when the project is fully functional. TABLE 6: Water quantity benefits and associated activities, indicators, and calculation methods Benefit Habitat Activity Indicator Calculation intervention Method Reduced/avoided Land Avoided habitat Avoided runoff Curve number surface runoff protection Conversion method and (forests, associated grassland) erosion Land Plant/restore native Reduced runoff Curve number Improved flood restoration Vegetation method protection (inland and and coastal) Management Agricultural Agricultural NBS Reduced runoff Curve number management (e.g. plant method vegetation buffers including cover crops) Improved surface Wetland Construct treatment Volume treated Volume treated water storage creation systems (wetland method (artificial or treatment systems, introduced) rain garden treatment systems) Urban Store rainwater Volume captured Volume captured greenspace/ (retention/detention method wetland ponds, rain creation gardens, etc.) Land and Remove invasive Reduced Evapotranspiration wetland and evapotranspiration* method Restoration aggressive indigenous species Improved flood Wetland, Re-establish Increased Inundation protection (inland river and hydrologic inundation method and coastal) lake connection (flood- volume 70 restoration plain and inundation, management rewetting of historical wetland) Increased Wetland Avoided habitat Maintained Recharge method groundwater protection conversion recharge recharge and (wetland) storage Urban Capture rainwater Increased recharge Capture and greenspace and infiltration creation, recharge aquifers method or agricultural recharge creation method Improved flow River Reduced/avoided Reduced Withdrawal or regime restoration resource withdrawal or consumption abstraction consumption method River, Remove hard Improved flow Hydrograph wetland, structures regime method lake, (in-stream barrier mangrove removal) and estuary restoration Land and Remove invasive Reduced Evapotranspiration wetland and evapotranspiration* method Restoration aggressive indigenous species *Where site-specific modeling or monitoring data are available to support the analysis Source: Volumetric Water Benefit Accounting (VWBA): A Method for Implementing and Valuing Water Stewardship Activities (Reig et al., 2019) Table 7: A brief description of each calculation method listed in Table 6 is provided below. Method Description Curve Number This method, as implemented in the Soil and Water Assessment Tool Method (SWAT) model (Neitsch et al., 2011), is an empirical method for estimating runoff quantities based on land cover, land use, soil type and slope, and accounting for temporal changes in precipitation and soil water content. This method can be used to calculate the change in runoff due to land protection and land restoration activities, as well as agricultural NBS. The method calculates the potential average annual VWB based on the project design, but in the case of restoration, there can be a time lag between the time the site is planted and the time it is fully restored. Withdrawal and The Withdrawal method calculates the long-term average annual reduced Consumption volume of water withdrawn for use. Withdrawal volume may be calculated Methods as volume of water diverted from the source (i.e., surface water or 71 groundwater) based on the duration of the diversion and the diversion flow rate over that time. Withdrawal volume may also be based on the volume leased or purchased through transactions involving water rights, where the reduced volume withdrawn is reassigned to keep the water in stream. The Consumption method applies to agricultural water demand reduction measures, although in some cases the Withdrawal method will be more appropriate. Capture and This method is applied to calculate the volume recharged to groundwater, Infiltration based on available supply (i.e., volume draining from catchment), the Method: volume captured by these activities and losses associated with evaporation (if any), and use (i.e., withdrawal). First, the method calculates the volume captured as the minimum of available supply and storage potential. Storage potential is based on the design storage capacity of the activity and the number of times it fills to capacity. Recharge volume is calculated by subtracting evaporation and usage losses. Volume Captured This method can be applied to stormwater management activities through Method a two-step approach. The first step is to calculate the volume of stormwater directed to a stormwater BMP using the Runoff Reduction method (Hirschman et al. 2018). This supply volume is calculated by considering annual average rainfall and runoff coefficients that correspond to the site land cover conditions. The proportional area of pervious (forest, turf, etc.) and impervious (concrete, metal, etc.) surfaces and their corresponding runoff coefficients are considered in the supply volume calculations. The next step is to calculate the volume captured by multiplying the supply volume estimated by a runoff reduction factor corresponding to the best management practices (BMP). Volume Treated This method applies to constructed treatment wetland systems that Method improve water quality. While the focus is on water quality, a water quantity benefit reflects a volume of water that is purified and made available for other uses (through increased storage). The approach can be applied to constructed wetland treatment systems that are designed to capture and treat non- point source runoff. It can also be applied to wastewater treatment plants (point sources). This method involves: • Selecting local water quality target(s) relevant to the pollutant(s) of concern and tied to the recognized uses of the receiving water (e.g. designated or actual uses) • Confirming that the influent water does not meet the water quality target (before treatment) • Confirming that the treated discharge meets the appropriate target(s). • Estimating the volume of water treated annually. Recharge Method: This method typically enables estimation of the volumetric benefit for wetland activities. Wetlands capture rainfall and runoff, and the water infiltrates the substrates, which may recharge an aquifer. Where recharge occurs, this method estimates the volume infiltrated based on ponded surface area and 72 infiltration rate, accounting for time that water is retained in the wetlands. The volume recharged is equal to the product of the wetland surface area, the infiltration rate based on soil texture and the duration of time the wetland is inundated. This method is applicable for wetland types that provide recharge function. In addition to enhancing recharge, wetlands provide surface water benefits, including flow attenuation, hydroperiod regulation and aquatic habitat benefits. If recharge is not the objective or the primary hydrologic function provided by the project wetland, an alternative approach for quantifying the VWB may be warranted. Alternative approaches may include evaluation of inundation volume, increased storage volume or hydroperiod restoration, depending on the primary objective of the project Hydrograph This method evaluates the change in the hydrograph that results from Method removal of an in-stream barrier or due to dam reoperation. A hydrograph shows the rate of flow versus time past a specific point in a river. This method requires hydrographs for the time of ecological significance, from before and after the dam or barrier removal or dam reoperation. Hydrographs can be obtained from (a) a flow time series derived from stream flow monitoring; or (b) a hydraulic model that simulates the baseline (without-project conditions) and with- project conditions. Second, the with-project hydrograph is subtracted from the baseline daily. This will likely result in both positive and negative differences, both of which can represent a return to a more natural flow regime. The absolute value of the difference in the two hydrographs is calculated daily and then summed over the period of interest. The benefit is calculated as the volume difference between the two hydrographs. Evapotranspiration When invasive plants are removed and replaced with native vegetation, less Method water may be lost to evapotranspiration (ET). This can increase the volume of water storage in a wetland, increase water availability for native plants, increase infiltration, or have other beneficial impacts (Le Maitre et al., 2020). The Evapotranspiration method relies on published studies of ET for the invasive and native species. The ET value (in mm) is multiplied by the surface area (accounting for density) to estimate the volume lost to ET. The difference in ET between the pre-project condition (with invasive vegetation) and post-project condition (native plants) is equal to the volumetric benefit. Inundation This method calculates the volumetric benefit of a flood-plain Method reconnection project, which can be derived from the increased inundation volume: increased inundation area multiplied by average depth, multiplied by the average number of inundations per year. A similar approach is appropriate for a project that involves rewetting of a wetland, where the primary objective is to increase the storage volume for habitat improvement (rather than to increase recharge). Source: Volumetric Water Benefit Accounting (VWBA): A Method for Implementing and Valuing Water Stewardship Activities (Reig et al., 2019) 11. Alternative monetary valuation approaches to quantity risk reduction benefits 73 As an alternative to calculating avoided damages as the valuation method, other valuation approaches include stated preference, hedonic pricing; averting expenditure; and benefit transfer. Their application for quantifying risk reduction benefits is briefly described in the table below: Table 8: Monetary Valuation Approach Stated preference When prices and quantities of a good or service are unavailable due to the absence of direct exchange for the good or service, stated preference method is an approach that relies on survey questions by asking individuals to make a choice between scenarios (choice experiments) or state (contingent valuation) what they would be willing to pay for specified changes in non-market goods or services. For example, a survey would ask households about their willingness to pay for risk reduction benefits of NBS and, potentially, other benefits. Hedonic pricing The method estimates value based on adjacent markets and ecosystem characteristics. The canonical example uses data on house prices and house attributes to value each attribute’s marginal value – this can be for an additional bathroom but can also extend to adjacent environmental (dis)amenities such as neighborhood air quality, ocean views, flood risk, and more. Averting Risk reduction can be proxied based on expenditures to mitigate damage expenditures and incurred by a change in environmental conditions. These averting replacement costs expenditures, such as flood proofing roads, improving drainage capacity, raising the foundation of a house to avoid flooding or digging a deeper well to prepare for drought conditions, can be considered a lower bound of the change in value, as people would not spend more on the averting behavior than the expected damage itself. A closely related approach estimates value using the replacement costs for non-marketed goods and services, assuming that these can be replaced by manufactured goods and services. Source: Assessing the benefits and costs of nature-based solutions for climate resilience: A guideline for project developers, World Bank 2023. 11.1 Market prices Market prices can be used to value NBS benefits that are directly traded in markets. This approach is particularly relevant for valuing provisioning of food, such as fish catch, raw materials, and global climate regulation. The most straightforward and commonly used method for valuing any good or service is to look at its market price, i.e., how much it can be bought or sold for. In a competitive market without distortions, price is determined by the relative demand for and supply of the good or service and reflects its marginal value (the value of a small change in the provision). The major advantage of using this valuation method is that it is relatively easy to apply since it makes use of generally available information on prices and only requires simple modelling of quantities. A major disadvantage is that many ecosystem services are not traded directly in well- functioning markets and so readily observable prices for them are not available. If markets for ecosystem services do exist but are highly distorted, the available price information will not accurately reflect economic values and cannot be used. The main sources of market distortion 74 are taxes and subsidies, non-competitive markets; imperfect information; and government- controlled prices. 12. Discount rate Discount rates are used to compress a stream of future benefits and costs into a single present value amount. Thus, present value is the current value of a stream of payments, or costs occurring over time, and discounted using an interest rate. The selection of a discount rate is crucial when weighing the benefits and costs of environmental projects. The discount rate is the rate at which a society is willing to trade off present benefits for future benefits. When weighing the decision to undertake a project with long-term benefits (e.g., wetland protection programs) versus one with short-term benefits and long-term costs (e.g., logging forests near aquatic ecosystems), the discount rate plays an extremely important role in determining the outcome of the analysis. Several reasonable decision measures (e.g., net present value, benefit-cost ratio, internal rate of return, return on investment) depend critically on the chosen discount rate. 22 12.1 Selecting a Discount Rate The real question is, "What discount rate best reflects the time preference, productivity, and risk of this project?" Regardless of the discount rate chosen, it is imperative that a single rate be used to discount all benefit and cost elements. The traditional approach for choosing the discount rate has been to look for observed market rates of return to see how people make trade-offs over time. For projects with very long-life cycles and lasting effects, which is often the case with NBS, discount rates can be reduced over time to account for uncertainty about future growth. For instance, in France, the official social discount rate is 4 percent for the first 30 years, and then it decreases toward 2 percent beyond 30 years. Future benefits and costs must be discounted to the same base year, and the number of years included in the analysis must be consistent. The easiest way to approach this is a sensitivity analysis to determine the effects of different variations. 13. Addressing uncertainty in cost-benefit analysis Given the climate is changing rapidly, typical climatic conditions at the beginning of a project design may not serve as a realistic baseline by the end of the project. Even if uncertainties driven by both, climate, and socioeconomic conditions, play an important role in the assessment of benefits and costs of NBS, many projects do not apply them in their valuation methods or decision frameworks. The application of climate scenario modeling to NBS cost-benefit analysis can support project design, identifying expected changes in local climate that may affect project implementation and impact, as well as evaluation, serving as a baseline scenario against which the effects of the intervention can be compared. Equally important is to take into consideration the long-term nature of these green interventions and the fact that benefits may take time to be fully realized. There is a general need to strengthen the calculations of benefits and costs over time and to incorporate recommendations for addressing future projections of benefits and costs into the analysis. However, these require rigorous data collection, before and after project 22 http://www.sfu.ca/~heaps/483/discounting.htm 75 implementation, and appropriate comparison groups, which may not be feasible or desirable for every project.23 13.1 Social Cost of Carbon Climate change has unequal impacts to different sections of the society. Every project that incorporates different aspects of adaptation or mitigation to tackle climate change, will have a social cost of carbon (SCC) involved with it. The “price� involving reduction of carbon emissions is called the social cost of carbon (SCC). If the SCC is high, there are many things that the project should act on to reduce emissions, but far fewer if it is low. If the SCC is set too low, that means the level of carbon emissions, and climate change, will be greater than it otherwise would have been. In addition to its use as a shadow price in government cost-benefit analysis, SCCs can be used as internal prices by private firms and, where possible, as a carbon tax, acting as a market price. It is thus very important for SCC to be calculated correctly.24 To factor in SCC in water interventions, there are two ways – one is to look at the future damage from emitting an extra unit of carbon and second is to look at the prices that could guide the economy towards limiting temperature rise to 1.5 -2 degrees Celsius. In principle, any action undertaken to remove carbon from the atmosphere must be able to reduce the marginal damages of CO2 emission. Estimates of marginal damages from climate change can be obtained from standard Integrated Assessment Models (IAMs). The expected marginal social utility associated with expenditures today to reduce climate risks faced by future generations can be very high. To quantitatively understand the contribution of NBS in these terms, once can calculate the social cost of carbon (SCC). There is little empirical evidence concerning the effectiveness of different land re-naturalization pathways (such as converting wetlands to forests or agricultural lands to grasslands), and it also remains unclear how NBS alternatives (i.e., land-use conversions resulting in negative CO2 emission) could affect the SCC. NBS can be incorporated into the dynamic integrated climate-economics (DICE) model to quantify their impacts on the SCC. SCC for NBS is typically obtained from computational Integrated Assessment Models (IAMs) that simulate a causal chain of socio-economic structures (and associated CO2 emissions) and potential climate change/damage. The potential impacts of different NBS on the SCC, for which DICE-2016R, one of the canonical and highly influential IAMs, is used.25 14. Case Study: Valuing benefits of Shenzen Futian River Ecological Restoration In 2009, the Shenzhen Water Bureau initiated the ecological renovation of the Futian River to address several urban water issues, including urban flood control, pollution reduction, water quality improvement, and so forth, in an integrated manner. The project interventions included reconstruction of embankments, installation of stormwater collecting systems, creation of a park landscape, construction of wetlands and artificial lakes and an advanced water treatment facility. 23 Source: Assessing the benefits and costs of nature-based solutions for climate resilience: A guideline for project developers, World Bank 2023. 24 Stern et al, The social cost of carbon, risk, distribution, market failures: an alternative approach, https://www.nber.org/papers/w28472, 2022 25 Han et al, Embedding nature-based solutions into the social cost of carbon, 2022 76 Located in the Pearl River Delta on the southeast coast of China, adjacent to Hong Kong, Shenzhen is the first special economic zone (SEZ) in China. The zones were designed to boost foreign investments and overall economic growth. the Futian River is in the central area of the Shenzhen municipality and connects two of Shenzhen’s major municipal parks: Bijiashan Park and Central Park. The area surrounding the Futian River is densely populated, and the river offers one of the main leisure and sightseeing sites for residents. The Futian River has suffered from ecological degradation caused by rapid urbanization and economic development, which have exacted a heavy toll on the environment.26 Project Interventions The project involved construction in two phases between mid-2009 to early 2010. Major construction works in phase 1 included the following: • Reconstruction of all 4,181 meters of embankment • Installation of initial stormwater collecting system, including 5,032 kilometers of pipelines and three • Stormwater storage ponds with a total capacity of 60,000 cubic meters • Creation of Futian’s Central Park landscape • Construction of artificial lakes and wetlands with a total area of 67,000 square meters • Development of a pumping station with the capacity of 30,000 cubic meters per day • Creation of a lake water circulation system with the capacity of 15,000 cubic meters per day and a vertical wetland system equipped with the capacity of 4,000 cubic meters per day. The major construction works in phase 2 (from the middle of 2010 to early 2011) included the following: • An advanced water treatment facility with the capacity of 30,000 cubic meters per day • Reclaimed water pipeline work with a total length of 5,617 meters.27 Specifically, the project used planting ditches and detention ponds to transport, purify, and retain rainwater to reduce flood peaks. An underground reservoir was constructed to collect and use all rainwater, reducing drainage pressure on the municipal rainwater pipeline downstream. The parking lot was transformed into a biological infiltration belt with a landscape effect that extends to the edge of the street to collect rainwater, slow down the water flow, clean the rainwater, and filter the rainwater. Although the Futian River suffers from a dry season during the winter, this project uses treated water as well as water transferred to the upper stream as river base flow to enhance the water environment and water quality. Costs of the project: Table 8: Costs of the Project Cost Phase Cost Payment Period Category (million mode RMB) 26 Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China 27 Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China 77 Design Phase 1 56.5 One time 2009 Phase 2 6.1 One time 2010 Construction Phase 1 359.9 One time 2009 Phase 2 36.8 One time 2010 Maintenance • Embankment 0.9 Annual 2012-50 maintenance • Dredging costs for 1.6 maintenance • Pipeline maintenance 1.6 • Sewage pump station 1.2 Maintenance • Green land 2.4 maintenance 1.9 • Water Treatment Facility Maintenance Project 2.2 One time 2011 working Liquidity Source: Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China Benefits of Futian River Ecological Renovation Project To calculate comprehensive benefits listed in table 9, the following methods were used to capture various benefits provided by the project: • Reduced flood risk – The flood control benefit calculation uses the frequency method. The difference between flooding losses before and after the project is completed is taken as the flood control benefit of the project. It is assumed that the flood control benefit increases by 8 percent annually along with development of the economy. • Reduced water consumption – The benefits of reduced water consumption are calculated as the product of the amount of water supplied to the upstream Futian River from the wastewater treatment plant and the price difference between water supply and wastewater treatment cost in Shenzhen. • Improved air quality – The benefits of improved air quality include increasing negative ions in the air and dust absorption, which are calculated respectively using the market price for a negative ion generator and expenses avoided for industrial dust treatment. • Carbon fixation – The benefit relative to carbon fixation is calculated by carbon tax and afforestation cost. Literature estimates on carbon prices in China and afforestation costs are used in the calculation. • Sediment transport – The benefit of river sediment transport is calculated using the alternative engineering method based on the dredging expenses that are avoided because of this project. • Increased tourism – The benefits of increased tourism are calculated based on the designed annual visiting capacity and ticket price of similar parks in Shenzhen. • Reduced investment in water storage infrastructure – Renovation of the Futian River provides the capacity to restore water both for the surface and groundwater, which avoids the expense of developing water storage infrastructure. 78 • Water quality improvement – According to water quality monitoring data, implementing the project caused the chemical oxygen demand (COD) to drop dramatically from 74 .34 mg/L to 29 .79 mg/L, and ammonia (NH3-N) to decrease from 11 .87 mg/L to 7 .2 mg/L. Such benefits are calculated based on avoided wastewater treatment costs. • Increased property prices – To quantitatively measure the effect of the project on property prices, the value tool from INFFEWS was used. This tool provides changes in percentage in property prices from proximity to the Shenzhen Central Park based on relative studies. • Residual value of fixed assets after designed service period – After the 40-year designed service period, residual values for the project’s fixed assets are estimated by the initial investor. Table 9: Comprehensive Benefits of Futian River Ecological Renovation Project Type of benefit Benefit (million RMB) Period Reduced flood risk 4.28 2011 Reduced water consumption 6.94 2011 Improved air quality 0.006 2011 Carbon fixation 4.75 2011 Sediment transport 0.19 2011 Increased tourism 10 2011 Reduced investment in 1300 2011 water storage infrastructure Water quality improvement 1.4 2011 Increased property prices 234 2011 Reduced flood risk 8.56 2012-50 Reduced water consumption 13.87 2012-50 Improved air quality 0.013 2012-50 Carbon fixation 9.5 2012-50 Sediment transport 0.37 2012-50 Increased tourism 20 2012-50 Water quality improvement 2.8 2012-50 Residual value of fixed 167 2012-50 assets after retirement Source: Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China Project Net Present Value and Benefit Cost Ratio According to the INFFEWS BCA tools explained earlier, the Futian River Comprehensive Project shows an expected NPV of negative 6.34 million RMB overall for the investment. The project has achieved a benefit-cost ratio (BCR) of 0.99, which indicates that it has generated considerable benefits from the investment. According to the sensitivity analysis of different cost-benefit parameters, the expected NPV range runs from the worst-case scenario of negative 484 million RMB to positive 510 million RMB, corresponding to BCR ratios of 0.38 to 2.21. Specifically, applying different discount rates (4%, 7% and 10%) results in a low discount rate the NPV increases to 347 million RMB with BCR of 1.44.28 28 Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China 79 Cost and Benefit Distribution among Different Stakeholders The project costs were fully funded by the Shenzhen Water Bureau, and the analysis shows that the benefits are distributed to different beneficiaries. According to an initial assessment on cost reductions for different Stakeholders Shenzhen Water Bureau is the primary beneficiary, sharing 42.58 percent of the total benefits, followed by real estate developers (16 percent), Shenzhen Public Works Bureau (14.57 percent), surrounding residents (13 percent), Shenzhen Housing Bureau (12.00 percent), Shenzhen Tourism Bureau (2.47 percent), and Shenzhen Environmental Bureau (0.01 percent). For the Shenzhen municipal government, the NPV of this project investment was negative 143.39 million RMB with a BCR of only 0.76, indicating that it was an unrecoverable investment.29 However, quantifying the comprehensive benefits demonstrates the rationale of such an investment. Furthermore, beneficiary analysis enables the identification of potential investors and contributes to leveraging other financial options, such as the private sector and community resources. 15. References: Becker, Douglas A., Matthew H.E.M. Browning, Ming Kuo, and Stephen K. Van Den Eeden. 2019. “Is Green Land Cover Associated with Less Health Care Spending? Promising Findings from County-Level Medicare Spending in the Continental United States.� Urban Forestry and Urban Greening. https://doi.org/10.1016/j.ufug.2019.02.012. Bowler, Diana E., Lisette Buyung-Ali, Teri M. Knight, and Andrew S. Pullin. 2010. “Urban Greening to Cool Towns and Cities: A Systematic Review of the Empirical Evidence.� Landscape and Urban Planning. https://doi.org/10.1016/j.landurbplan.2010.05.006. Brauman, Kate A. 2015. “Hydrologic Ecosystem Services: Linking Ecohydrologic Processes to Human Well-Being in Water Research and Watershed Management.� Wiley Interdisciplinary Reviews: Water. https://doi.org/10.1002/wat2.1081. Emerton, Lucy, Lucy Iyango, Phoebe Luwum, and Andrew Malinga. 1999. “The Present Economic Value of Nakivubo Urban Wetland, Uganda.� And National Wetlands, no. September: 1–30. https://doi.org/10.2307/2234529 Van Zanten, Boris Ton; Gutierrez Goizueta, Gonzalo; Brander, Luke Mckinnon; Gonzalez Reguero, Borja; Griffin, Robert; Macleod, Kavita Kapur; Alves Beloqui, Alida Ivana; Midgley, Amelia; Herrera Garcia, Luis Diego; Jongman, Brenden. 2023. Assessing the Benefits and Costs of Nature-Based Solutions for Climate Resilience: A Guideline for Project Developers. © World Bank. http://hdl.handle.net/10986/39811 UN (2021). Economics of Nature-based Solutions: Current Status and Future Priorities. New York. https://www.un.org/sites/un2.un.org/files/2021/01/economics_of_nbs.pdf World Bank. (2021) Nature-Based Solutions for Climate Resilience in the World Bank Portfolio. Washington D.C. https://documents1.worldbank.org/curated/en/099201003172340531/pdf/P1768250d0db6f0c80bb5b0 8c648e4d0f18.pdf 29 Marcus et al., 2021, Valuing the Benefits of Nature Based Solutions: A Manual for Integrated Flood Management in China 80 Chapter 4: Guidelines for the identification of economic parameters of Water Projects using Stakeholder Analysis Georgia Mavrommati30 30 Corresponding author: Assistant Professor. School for the Environment. University of Massachusetts Boston. Georgia.Mavrommati@umb.edu 81 Table of Contents 1. Stakeholder analysis scope and definitions 83 1.1. Introduction and Definitions ............................................................................................ 83 1.2. Cost-Benefit Analysis and Stakeholders' Role ............................................................... 84 2. Methods for Identifying Stakeholders and their Interests 88 2.1 Snowball Sampling............................................................................................................... 88 2.2 Focus Groups ........................................................................................................................ 90 2.3 Semi-structured Interviews ..................................................................................................... 91 2.4 Deliberative Valuation............................................................................................................. 92 2.5 Mixed Methods Approach ..................................................................................................... 93 2.6 Stakeholders' Interest and Influence Matrix ......................................................................... 94 2.7 Stakeholder Analysis in Conflict-affected Areas .................................................................. 95 3. A mixed methods example 96 4. The stakeholder engagement plan: Moldova Water Security and Sanitation Project 100 5. References 104 82 1. Stakeholder analysis scope and definitions 1.1. Introduction and Definitions Stakeholders are an integral part of the decision-making process since their perceptions and values could influence, directly or indirectly, the outcome of a project or business. Stakeholder analysis is defined as an iterative process that seeks to assess and understand stakeholders from the perspective of an organization such as the World Bank or to identify their role in a proposed project (Brugha & Varvasovszky, 2000). Therefore, stakeholder analysis is more effective when it is built into the evaluated practices rather than viewed solely as a method and is essential for the successful implementation of water projects. Several definitions of the term stakeholders have been proposed. Freeman (2010) defines a stakeholder as “any group or individual who can affect or is affected by the achievement of the organization's objectives� (pg. 46). In an attempt to make this definition broader and more appropriate for various projects, Bourne and Walker (2006) see stakeholders as “the individuals or groups who have an interest or some aspect of rights or ownership in the project and can contribute to, or be impacted by, the outcomes of the project.� For this project, we will use the latter definition because it is more appropriate for the new generation of water projects related to adaptation and resilience. This section briefly overviews key concepts and benefits related to stakeholder analysis in environmental decision-making. Stakeholders analysis could enhance the quality of decision-making and improve environmental decision-making outcomes by (i) identifying the environmental and social risks associated with a proposed project; (ii) mapping the potential conflicts emerging from the proposed project; (iii) eliciting additional values that need to be integrated into CBA whenever this is possible; (iv) allocating resources to educate stakeholders about the proposed project; (v) building social learning in the community; (iv) increasing social equity and fairness by including diverse voices (Allen et al., 2021; Gray et al., 2018; Kujala et al., 2022; Mok & Shen, 2017; Reed, 2008). They have proposed different methods and approaches to conducting stakeholder analysis depending on the purpose of the study. For example, van Bussel et al. (2022) propose a structured process for stakeholder engagement that aims to reach a 83 consensus by encouraging clear communication and relationship building to ensure effective engagement throughout the meeting process. Guerrero et al. (2017) investigated ways to integrate stakeholder values while being considerate of time to meet environmental goals. The authors found that utilizing a mixture of workshops and stakeholder surveys within a structured decision-making framework helped to promote the inclusion of various stakeholder values and time frame goals to set environmental restoration goals. The structured decision-making framework comprises a system of analytical tools that minimize conflict by enabling a shared understanding of problem difficulties and hidden values. Because environmental decision-making is often filled with conflict, identify that interactions that promote mutual learning among stakeholders can reduce conflict and improve outcomes (Megdal et al., 2017). Mok and Shen (2017) propose a value-oriented stakeholder approach and highlight the urgency to model the interrelationships between the stakeholders. Creating value for stakeholders was found to establish allegiance and ownership among various stakeholders. Integrating the values and perspectives of stakeholders leads to well- informed environmental regulation and promotes the project’s sustainability (Prpich et al., 2019). While welfare economics provides a framework for evaluating economic value and efficiency, stakeholder analysis acknowledges that value is socially constructed and varies across different stakeholders. It highlights the importance of considering the interests and values of all relevant stakeholders and incorporating their perspectives into decision-making processes. Stakeholder analysis recognizes that value is context-specific and can differ based on social, cultural, and environmental factors. Towards this direction, several frameworks have been developed to assist in designing stakeholder engagement processes that improve outcomes of environmental decision- making and in developing a research agenda (Reed et al., 2018; van den Broek et al., 2020). The outcomes of stakeholder engagement can be strengthened by prioritizing stakeholder voices and promoting social learning to remove barriers of competing interests while generating confidence in the decision-making process. 1.2. Cost-Benefit Analysis and Stakeholders' Role Cost–Benefit Analysis (CBA) is a method that assists in evaluating the net social effects of government policies or projects such as water-intervention projects. Stakeholder analysis is an integral component of CBA since the successful implementation of a project depends not only on the positive net present but on the stakeholders' willingness to support it (Kinell et al., 2012). CBA can be combined with other decision-making criteria, including Environmental Impact Assessments and community-acceptability criteria, to ensure that the most efficient course of action is chosen (Arena et al., 2014; Cordes, 84 2017). Table 1 outlines the seven stages of a Cost Benefit Analysis (CBA) and the potential role of stakeholders in each stage (Hutton et al., 2007; Cordes, 2017; Harris & Roach, 2018) Table 1: Stages of Cost Benefit Analysis # Cost Benefit Description Stakeholders Role Analysis Stages 1. Defining the What is the goal of the CBA? How Stakeholders can actively help to this stage problem is the CBA related to the question to identify the problem to be solved (e.g. or problem? Identify the flood control) and additional stakeholders socioeconomic and environmental (e.g. downstream resident). impacts and stakeholders. 2. Defining the What is the current state of Assist in identifying the current benefits and base case management? What are the costs. scenario current benefits and costs? 3. Identify and What are the impacts? What are Stakeholders can assist in identifying the value the the costs and the benefits? What benefits and cost. Analysts need to focus on benefits and are the externalities? both on market and non-market valuation costs of the techniques. proposed project 4. Estimate the net Sum up all the benefits and costs, Apply a range of discount rates to test the present value then determine a proper discount validity of decision and be transparent to over time and rate to convert future benefits and stakeholders. Social discount rates (SDR) are the benefit cost costs. chosen for environmental projects that ratio typically are low. Low discount rates value future benefits higher. Communicating the concept of SDR with stakeholders is important. 5. Conduct a Address the uncertainties and risks Communicating to stakeholders’ sensitivity in the project and scenarios such uncertainties and risks. analysis future climate change impacts. 6. Consider the Who benefits from the project? Allocate the externalities across the distribution of Who loses? stakeholders. Analysts could feed this impacts process with the stakeholder analysis output. 7. Draw How does this project’s BCR Reach a recommendation and share it with Conclusions compare to other projects? What policymakers. are the other aspects to consider about this project? Where do we go from here? 85 Within CBA, stakeholders could be engaged in various steps directly or indirectly. Direct engagement means that stakeholders actively can provide knowledge related to a specific question (e.g., stakeholder identification, foregone benefits related to the project). Indirect engagement means that the outcomes of various steps may be communicated to stakeholders if this is considered important for the implementation of the project. Box 1: Understanding different meanings of value Value is a concept that is critical to estimate the economic costs and benefit of a water project. However, this concept changes depending on the scope of analysis that is being conducted. In Chapter 3, Nature Based Solutions are described as ways to improve efficiency and effectiveness for reaching different types of water outcomes. In those contexts, the concept of value is linked to environmental economics. From an environmental economics point of view, value refers to the worth or significance assigned to natural resources, ecosystems, and environmental services1. It recognizes that the environment has inherent value beyond its utility to humans, to emphasize the importance of valuing and conserving the environment for the sake of sustainability and long-term well-being. Welfare economics focuses on assessing the well-being or utility of individuals and society. It primarily analyzes the allocation of resources to maximize societal welfare or utility. Welfare economists evaluate the value of goods and services based on their contribution to overall welfare or utility, in terms of people's willingness to pay or willingness to accept compensation. While both environmental economics and welfare economics recognize the value of the environment, their perspectives and approaches differ. Environmental economics emphasizes the intrinsic value of the environment and the need for its preservation, considering various non-market values. In contrast, welfare economics treats the environment as one component among many in the overall welfare calculus, focusing on efficiency and maximizing aggregate utility. From a stakeholder analysis perspective, the term "value" takes into consideration the diverse interests, preferences, and perspectives of different stakeholders involved in a particular decision or project. It recognizes that value is not solely determined by monetary considerations but also by the specific needs, desires, and priorities of various stakeholders. Stakeholder analysis examines the impacts and outcomes of a decision or project on different individuals, groups, or organizations that are directly or indirectly affected. It seeks to understand how these stakeholders perceive and assign value to different aspects of the decision or 86 project, including economic, social, environmental, and cultural dimensions. 1 Pirgmaier, E. (2021) The value of value theory for ecological economics, Ecological Economics, Volume 179,106790 https://doi.org/10.1016/j.ecolecon.2020.106790 An essential aspect of the stakeholder engagement process is identifying the individuals or groups that should be involved to get better outcomes for the project. Based on our definition, we need to address three questions: (i) Who has an interest or some aspect of rights or ownership in the project's outcomes? (ii) Who can contribute to the outcomes of the projects? (iii) Who can be impacted by the outcomes of the project? Responding to these questions is an iterative process and requires investing resources. Generally, stakeholders can be grouped into two primary and secondary stakeholders (Barreto Dillon & Buzie, 2008; Clarkson, 1995). The primary stakeholders are those (individuals, groups or organizations) who are directly affected by a project and are engaged in transactions with the organization. Examples of primary stakeholders include beneficiaries, service providers, and creditors. Secondary stakeholders are those stakeholders that are indirectly affected by a project and do not have direct transactions with the organization, such as NGOs and media (Table 2). They may be affected by the project’s activities in other ways, such as through the impact on the environment, the community, or society. Examples of secondary stakeholders include the media, government agencies, non-governmental organizations (NGOs), and local communities. While they may not have a direct stake in a company's profits or operations, secondary stakeholders can still be impacted by the company's actions and decisions and may have an interest in ensuring that the company acts in a responsible and ethical manner. Table 2: Stakeholders Categories Category of stakeholders Examples Primary Stakeholders: the project cannot Community; Creditors; Community leaders or activists; survive without them. Beneficiaries (e.g., residents, industry, farmers); Service providers; Businesses and suppliers. Secondary Stakeholders: the project can National authorities (e.g., local or/and national governor, survive without them but they can affect high commissioners), NGOs, Media, opinion leaders (e.g., the public. chief of the village); Education (e.g., university institutes, professional training schools); Deconcentrated government services (e.g., health centers inspections) The most important step in stakeholder analysis is to list all the stakeholders and use existing networks to engage. Here, we will briefly describe stakeholder analysis of five methods relevant to water projects that share the same starting point: the analyst(s)/ 87 water project managers should identify an initial list of potential stakeholders based on their experience and networks. For example, the initial list of stakeholders can include customers, community leaders, project leaders, and government agencies. 2. Methods for Identifying Stakeholders and their Interests To expand this list and identify specific interests associated with a proposed project for different stakeholder groups, three methods have been widely used in the literature alone or together (Reed et al., 2009; Yang et al., 2011). Here we briefly describe snowball sampling, focus groups, semi-structured interviews, deliberative valuation, and mixed methods approach (Table 3). To assess which method is more appropriate for stakeholder engagement, analysts should consider the culture and the context besides the specifics of each method listed on table 3 (Varvasovszky & Brugha, 2000). 2.1 Snowball Sampling Snowball sampling is a method in which individuals from an initial list of stakeholders representing various categories are interviewed and are identifying additional contacts that should be included in the study (Kirchherr & Charles, 2018). This method is often used when a hard-to-reach population is studied (Cooke & Jones, 2017). For example, snowball sampling could be used in cases where the World Bank is designing a project in a country in conflict, and it is hard to engage various stakeholders in a different setting. One of the main advantages of this method is that interviews allow for in-depth interaction between the researcher and the interviewee, eliciting rich qualitative information. Interviews could be transcribed and analyzed qualitatively. This method has been criticized for its ability to ensure sample diversity since it depends on the initial list that identifies the various categories of stakeholders and individuals. For instance, the method tends to benefit potential interviewees with larger networks as it is more likely to be referred for an interview (Cooke & Jones, 2017). Sample diversity is an issue that demands special attention, given that stakeholder analysis's ultimate goal is to represent various interests and perspectives in decision-making. We usually combine the snowball sampling method with other methods to identify stakeholders and their interests. 88 Table 3:Summary of stakeholder identification methods Method Explanation Level of Advantages Disadvantages resources/time required Snowball It is a sampling Interview Easy to secure It is hard to Sampling method in which guide; interviews; ensure sample individuals from an interview time referrals from diversity; does initial list of (including other participants not promote stakeholders transportation increase trust; in- social learning. representing various from one place depth interviews categories are to the other); result in rich interviewed and notebooks; qualitative data. identify additional voice-recording contacts that should device. be included in the study. Semi- It is a data collection Interview In-depth Time consuming, structured method that is the guide; interviews result limited sample Interviews stakeholder directly interview time in rich qualitative size does not interacts with the (including data; anonymity promote social interviewer transportation can be secured; learning. (researcher) with the from one place participants feel aid of a set of open- to the other); more comfortable ended questions notebooks; expressing their related to the topic voice-recording views. under consideration. device. Focus Group A small group Facilitator, Collecting diverse Stakeholder Discussions comprised of the initial room, opinions and rich groups may not list of the stakeholders meals/snacks, data; interaction represent the that discuss the issue audio between broader under consideration recording stakeholders; population; and identify critical equipment and conflicts participants may issues of concern video camera; mapping; feel facilitation efficient data uncomfortable to materials (e.g., collection. express their visual, flip- views in front of charts), other people; stipends group dynamics; count for no shows. 89 Deliberative Deliberative valuation Facilitator, Builds social Requires a Valuation methods use a small room, audio knowledge on substantial group of citizens or recording subjects; resolves amount of time, stakeholders acting as equipment and conflicts by resources and a focus group or a video camera; engaging skills in valuation; “citizens� jury to facilitation multiple replicability of deliberate to reach a materials (e.g., stakeholders; the method. consensus about the visual, flip- promotes social value of public goods charts), learning. and services such as stipends ecosystem services. Mixed Methods Combining various Depend on the Depend on the Depend on the Approach methods depending chose methods. chose methods. chose methods. on the issue under See above See above See above consideration, resources and case area. 2.2 Focus Groups A focus group is a small group comprised of the initial list of stakeholders that discuss the issue under consideration (Yang et al., 2011). Focus groups typically consist of 6 to 8 participants, and a trained moderator usually facilitates the discussion. The idea behind focus group discussions is that the group environment allows participants to exchange views, discuss in depth their interests at stake, and appreciate each other's views (Mavrommati et al., 2021; Wakeford, 2002). This method provides the appropriate framework for bringing several stakeholders together to discuss and interact, resulting in rich data that can be used to (i) identify additional stakeholders; (ii) gather diverse perspectives; (iii) explore the role of different stakeholders in the community. Focus groups allow for collecting various opinions and perspectives from different stakeholders, including those who may not have been included in previous discussions. This can provide a more comprehensive understanding of stakeholder interests and concerns. Focus group participants can interact and engage with one another, sharing and building upon each other's ideas. This can encourage more in-depth and nuanced discussions and reveal underlying beliefs, values, and attitudes that analysts may explore further. For example, stakeholders may identify cultural dimensions related to the willingness of the public to support specific water projects. Depending on the issue under consideration, focus groups can also be used as a tool for 90 resolving conflicts among stakeholders. By bringing together different parties and facilitating discussions in a safe and controlled environment, focus groups can help to identify common ground and find solutions to issues that may have previously caused conflict or tension. In addition, focus groups can be an efficient method of data collection compared to the other methods. Focus groups can generate a lot of data in a relatively short amount of time. Like the snowball sampling method, qualitative methods could be used to analyze the transcripts from the focus group discussions. On the other hand, focus groups typically involve small groups of participants, which may not accurately represent the broader population or diverse stakeholder groups, and thus analysts need to account for this as they examine the workshop outputs. There are cases where if the topic is sensitive or controversial, it may be difficult to recruit participants for a focus group discussion. In addition, ensuring effective facilitation is essential as facilitators encourage everyone to talk and prevent certain individuals from dominating the discussion (group dynamics). Furthermore, organizing a focus group discussion can be time-consuming as it requires significant planning and preparation, and there are cases in which invited stakeholders will not show up, resulting in a waste of resources and a non-representative workshop output. 2.3 Semi-structured Interviews A semi-structured interview is a data collection method that is the stakeholder directly interacts with the interviewer (researcher) with the aid of a set of open-ended questions related to the topic under consideration. Unlike a structured interview, where the interviewer asks a set of pre-determined questions, semi-structured interviews allow for flexibility in the conversation and allow the interviewer to ask follow-up and probing questions (DeJonckheere & Vaughn, 2019). By allowing for flexibility in the conversation, semi-structured interviews can reveal a range of insights and opinions from stakeholders that may not have been anticipated. As a result, the discussion between the two parties may take various directions until the point that the issue under consideration is covered. Collecting information through semi-structured interviews provides the appropriate framework for having an in-depth discussion with the stakeholders, given that the one- to-one interaction allows stakeholders to express their perspectives and values and explain the reasoning behind their choices (Reed et al., 2009). At the same time, the format of semi-structured interviews allows the interviewer to gain the trust of the stakeholders resulting in sharing their views without feeling uncomfortable, as they can keep their anonymity. Stakeholders who are less educated or do not have the capacity to participate traditionally in decision-making may feel more comfortable with this method compared to a focus group discussion. In addition, a semi-structured interview allows the analyst to modify the survey questions depending on the direction of the 91 discussion and the specific stakeholder. However, semi-structured interviews are time-consuming as it takes a significant amount of time to design the interview, recruit participants, conduct the interviews, and analyze them (Melissa & Lisa, 2019). For example, if an analyst conducts twenty interviews that last 40 minutes each, then a large amount of qualitative data (approximately 800 minutes) must be transcribed and analyzed. Due to this reason, semi-structured interviews are usually conducted with a small sample size, which may not represent the broader stakeholder group. In addition, analysts need to have interpersonal skills to gain the participant's trust without imposing personal biases into the discussion. 2.4 Deliberative Valuation A deliberative valuation is a new approach that actively engages citizens and/or stakeholders in decision-making and promotes social learning through reasoned dialogue and deliberation (Mavrommati et al., 2021; Raymond et al., 2014). Deliberative valuation methods use a small group of citizens or stakeholders, acting as a focus group or a “citizens� jury. Participants deliberate to reach a consensus about the value of public goods and services such as ecosystem services (Howarth and Wilson 2006). In this respect, deliberative valuation methods use stakeholder engagement methods and combine them with various valuation techniques to inform CBA by eliciting social values. Deliberative valuation could be applied by combining deliberation with monetary (e.g., stated preferences) and nonmonetary (e.g., multicriteria decision analysis) valuation techniques(Lennox et al., 2011; Mavrommati et al., 2017; Proctor & Drechsler, 2006; Wanek et al., 2023). In the past few decades, there has been a consistent use of deliberative valuation to map stakeholders' interests and assess their values and communicate them efficiently to improve policy advice (Guerry et al., 2015; Kenter et al., 2016; Schaafsma et al., 2018). One of the main advantages of deliberative valuation is that it provides the appropriate framework for building social learning and improves communities' capacity to make informed decisions. In this context, social learning is defined as the process through which individuals acquire new knowledge, attitudes, and behaviors by observing and interacting with others through social interactions (Reed et al., 2010). Social learning is achieved within the deliberative process by: (i) communicating project outcomes in layman's language; (ii) creating space for an in-depth discussion about stakeholders’ priorities, interests, and values (Irvine et al., 2016; Mavrommati et al., 2020). Stakeholders start with their individual values that shift to shared social values during the deliberative process through social learning (Fig.1). Discussion among participants can be voice and video recorded to analyze the deliberative process qualitatively. For example, applied thematic analysis can be used to trace the reasoning behind participants’ 92 choices, or social network analysis can be applied to identify the group dynamics (Guest et al., 2012). Utilizing the outcomes of the deliberative valuation workshops to produce reliable and transparent results requires advanced transcription practices and at least two analysts to explore the data and develop reproducible codebooks (Mavrommati et al., 2021). In addition, the fact that this method combines stakeholder participation with non-market valuation implies that a valuation assessment task needs to be developed beforehand, and analysts need several workshops to breakdown the process into smaller stages (e.g., stage 1: identify priorities and interests; stage 2: assessing non-market goods). Deliberative process • Expert knowledge • Participant ’s knowledge • Participant ’s values, beliefs and norms Social Learning Individual Values Value Socialization Shared Social Values Figure 1: Moving from individual to shared social values within the deliberative process. Participants hold a predefined set of individual values that may be transformed through the deliberative process resulting in shared social values, reproduced by Mavrommati et al. (2021). 2.5 Mixed Methods Approach Analysts may find it more helpful to employ a mixed methods approach to conduct stakeholder analysis depending on the country's conditions and project context. Box 1 above provides our suggestions. Analysts could employ various tools to gather the required information related to the project to inform various steps of the CBA. For example, if quantifying non-market benefits is critical for the specific project and a Choice Experiment (CE) survey instrument needs to be developed, then the analyst should identify all project outcomes relevant to the stakeholders (steps 1, 2 and 3). The analyst will use the output of this process to develop a CE survey instrument that includes potentially relevant environmental, health, cultural, and economic outcomes and use it to quantify nonmarket project outcomes (Table 4). 93 Table 4 Steps of Mixed methods approach Step 1: Start with the snowball sampling based on existing networks. Expected outcome: Identification of stakeholders (names and categories). Step 2: Organize focus group discussions. Expected outcome: List of stakeholder interests and additional stakeholders that need to be involved. Step 3: Conduct semi-structured interviews. Expected outcome: List of stakeholder interests and additional stakeholders that need to be involved Step 4: Repeat steps 2 and 3 if it is necessary. 2.6 Stakeholders' Interest and Influence Matrix The stakeholders’ interest and influence matrix is a tool used to classify stakeholders regarding their power to affect (influence) a project and the level of their interest (Reed et al., 2009). Figure 2 depicts an example of an interest–influence matrix. Developing this matrix can be an activity that stakeholders can do collectively during a focus group discussion or as individuals. The outcome of this process can provide analysts with helpful information related to communication and relationships between stakeholders that could potentially affect the project and its implementation (Olander & Landin, 2005). In practical terms, to classify the stakeholders in the influence/interest matrix, both their relative influence over the project and their interest in imposing their interests on the project have been assessed on a scale from 0 to 10. Analysts can use the interest and influence matrix to understand the relative importance of stakeholders and prioritize them for inclusion in the CBA. The interest-influence matrix may change during the course of the project development, so it is suggested to use it with caution and may repeat it several times, given that a topic that is not important today may attract stakeholders' interest tomorrow (Kivits, 2011). Measuring interest and influence can be challenging and it is proposed the analyst to define the terms in the context of the proposed project. We can identify four clusters of stakeholders (Eden & Ackermann, 1998): (i) the players are the stakeholders that have high interest and influence and need to be managed closely; (ii) the context setters are the stakeholders who have low interest at stake but have the power to influence the project and thus they need to be kept informed; (iii) the subjects are stakeholders who have low power and high interest to influence the project but do not have the power to do so and (iv) the crowd are stakeholders who are not 94 important for the stakeholder analysis. Stakeholder Map 10 Community Leader 9 Subjects 8 Players NGO_1 Beneficiaries 7 Indigenous Level of Interest Education Population Leader 6 5 NGO_2 Media Farmers 4 Crowd 3 Context Setters 2 1 0 0 1 2 3 4 5 6 7 8 9 10 Level of Influence (power) Figure 2: An example of an Interest-influence matrix. 2.7 Stakeholder Analysis in Conflict-affected Areas Working in conflict-affected areas is challenging for analysts. In this case, stakeholder analysis methods need to be modified before applying them at the operational level. Here we summarize key lessons learned from a previous project led by the World Bank in Liberia (Ofori-Atta, 2008) that took place in conflict-affected areas. The report suggests that stakeholder analysis in conflict-affected areas could benefit by the following: 1. Conducting a communication needs assessment: this assessment will allow analysts to identify stakeholder information needs and develop appropriate responses. 2. Identifying alternative methods of information exchange. Traditional mass media, such as television, radio, and newspapers, have limited reach and are vulnerable, usually only able to cover major cities and towns in conflict-affected areas. 95 3. Developing relationships with trusted representatives. NGOs or religious authorities could reach out to refugees in a camp and provide information related to the project. 4. Building local capacity to implement stakeholder analysis. Conducting a stakeholder analysis could be strengthened by hiring and mentoring local communication staff. 5. Establish local ownership for the water project. One way to promote local ownership is to develop strategies that encourage local champions of the project to facilitate the discussion with the public and raise public awareness. 3. A mixed methods example In this section, we will briefly describe a case study that combines elements of various methods to better understand stakeholders’ ecosystem services perceptions across Massachusetts Bays. Although the case area of this project is in the United States, the methods are transferable with appropriate modifications to less developed countries. We followed several steps to conduct a stakeholder analysis and combine it with valuation: 1. Recruitment of stakeholders. For this project, we decided to include only local experts with specific knowledge surrounding the ecosystem services in question. This project was conducted during the COVID-19 period, and we were limited to working only with stakeholders with internet connection and computer literacy. We acknowledge that for different reasons, it may be difficult for the analysts to include all the stakeholders listed in Table 2 alike this case resulting in making similar choices. Approximately 30 local experts were contacted during the recruitment process for each of the 4 workshops with the assumption that approximately 10 contacts would agree to take part. After an initial round of outreach, non-respondents were contacted a second time. Contacts were identified through internet searches for various titles along with a city, town, or location in a given category. When reaching out to a body such as a town council or a nonprofit, an invitation was extended to nominate a suitable representative for the organization (snowball sampling). A researcher not personally familiar with established networks of environmental science professionals conducted outreach procedures to reduce selection bias. In some cases, participants were contacted based on previous relationships with researchers – specifically the recruitment of indigenous peoples. Table 4 details the groups of people we aimed to recruit and how we felt their perspectives could be valuable to the deliberative process. 96 Table 2: Stakeholder groups and their perceived value for inclusion in the project. Reproduced by Lyon-Mackie et al. (2023) Title Position description Perceived significance of inclusion Chamber of A voluntary member of a town or city's Chamber of Commerce members Commerce Member chamber of commerce, which is defined generally have knowledge regarding as a body of businesses and the economic dynamics of their professionals working together to build a community through communication healthy economy and improve a with local businesses and community's quality of life. enterprises. Conservation Agent Performs technical inspection work Thorough understanding of including field visits, inspections of site applicable regulations and current work, drafting of Orders of Conditions, condition of local wetlands. Probable attending Commission meetings. previous understanding of ecosystem Ensures compliance with applicable services specifically in an estuarine federal, state, and regulations and context. bylaws. Conservation A member of a nonprofit chartered These organizations self-identify their Organization Member institution, corporation, foundation, or commitment to the protection of a association founded for the purpose of community's natural resources and promoting environmental conservation. often have direct communication with the public. Conservation Planner Assesses possible environmental A conservation or Administrator repercussions of development on a given planner/administrator’s ability and area of land in order to permit or deny skill set to determine whether the proposed projects. land is worthy of special consideration is an important skill set in policymaking. Indigenous Leader Members of indigenous groups in each Indigenous leaders bring their local area who engage in educational knowledge and understanding of activities promoting knowledge about cultural values and ESs to discussions indigenous culture, history, traditions, and advocate for the continued and more. health of their communities. Shellfish Constable Responsible for the protection of a Has knowledge of the state's local town's shellfish through the enforcement and environmental laws as well as the of established environmental laws and conditions of the local environments regulations. that support shellfish. Researcher/Specialist Individuals operating within the A researcher or specialist generally professional sphere or academia who has extensive knowledge on their conduct research or have extensive subject of study along with years of knowledge and education regarding a relevant experience. given topic. In this case, those recruited had a focus in one or more scientific disciplines within the natural or social sciences. 97 Tourism Board A voluntary member of a town or city's Have a comprehensive Member tourism board, which is defined as a understanding of services and group responsible for marketing their aesthetics that promote tourism. town's tourist attractions and businesses to attract visitors for the benefit of the town and industry. Yacht Club/Marina A marina is a structure containing Marina officials have knowledge of Official docking facilities located on a navigable regulations that regulate boat waterway. Some marina official positions sewage, pollution, health and fire could include office administration regulations, etc. They also have positions as well as maritime office contact with residents who use these positions. ecosystems for recreation or conducting business. 2. Workshop logistics and assessment tasks We run four workshops in which present at were the local experts, group researchers, a moderator, and scientific experts. The presence of the facilitator and experts were essential to the smooth running of deliberations; the same facilitator and experts were present at each workshop to ensure consistency. The role of the facilitator was to encourage respectful and productive deliberative discussions as well as keep the group focused on their goal of representing the interests of their local communities. Our two experts, both involved with this project, were scientists deeply familiar with the ecosystem dynamics in question. Their role was to answer local experts' questions during the workshop so deliberation could promote social learning (Figure 3). Before the workshops, the research group implemented the following activities: • Prepared a video explaining the purpose of the workshop and the environmental indicators under consideration. • Prepared surveys that the participants had to fill out individually. • Prepared group activities. It is out of the scope of this report to explain the specific assessment task, and for this reason, we will give only a snapshot of the valuation task. We developed the assessment task (Figure 3) by employing the multi-attribute value theory (MAVT). MATV uses a value that aggregates the degree to which a particular state of the world satisfies multiple objectives to assess the relative desirability of alternative states of the world (Keeney & Raiffa, 1993). 98 Participants were asked to arrange cards representing five alternatives31 and place the cards on a scale from 0 to 100, where 0 represented the least preferred state and 100 the most preferred state. The order represents preference ordering, and relative spacing represents the relative difference in preferences. In the deliberative framework, preferences are not personal but are socially constructed. Figure 3: An example of decision option cards used for group assessment tasks in a deliberative valuation experiment. Reproduced by (Lyon-Mackie et al., In review). 3. Workshop Outcomes We estimated tradeoff weights that represent the relative importance of the attributes inferred from the participant ratings using the swing weighting method (Gregory et al., 2012)32. The tradeoff weights (Figure 4) can be used to assess the desirability of various scenarios. In the case of water projects, environmental, health, cultural, and economic attributes will be included in the decision problem. The idea behind structured decision- making is to be able to develop alternatives that stakeholders can evaluate through a process that promotes social learning and, thus, an informed decision-making (Mavrommati et al., 2017). In addition, we transcribed the audio recordings of the workshops, and we used applied thematic analysis to identify common themes discussed by participants during deliberations. The output of this analysis could help analysts understand areas of 31 n this case cards are representing different “bundles� of ecosystem service levels. n water projects, we expect alternatives to represent various environmental, social, economic and health attributes. 32 Swing weighting method is a intuitive method used in structured decision making to make tradeoffs. 99 convergence and divergence amongst participants as well as assist in justifying decisions relating to investments. Example of Tradeoff Weights Water Quality Blue Carbon Scallop Landings Fish Abundance 0 0,05 0,1 0,15 0,2 0,25 0,3 0,35 Fish Abundance Scallop Landings Blue Carbon Water Quality Figure 4: Tradeoff weights for four environmental attributes using the deliberative multicriteria evaluation method. The figure presents the output of one group activity. 4. The stakeholder engagement plan: Moldova Water Security and Sanitation Project In this section, we briefly describe the stakeholder engagement plan for the Moldova Water Security and Sanitation Project (MWSSP) and place it within the framework proposed in this document (World Bank, 2021). The plan was created following the laws of the Republic of Moldova and the Environmental and Social Standard (ESS) 10 of the World Bank, both of which emphasize the role of stakeholders in decision-making. This project employed a mixed methods approach, including focus group discussions and surveys with the involved stakeholders. In addition, it's worth mentioning that the engagement plan also employs electronic and digital media alongside more traditional media channels. Problem Definition: The MWSSP project aims to enhance access to secure water supply and sanitation services in rural areas and small towns while also improving the capacity of national and local institutions to deliver these services. Table 6 describes the project’s components. Table 3: Project Components of the Moldova Water Security and Sanitation Project Project components Purpose 1 Access and Quality of Water Supply -To improve access and quality of 100 and Sanitation (WSS) Services in WSS services Small Towns and Rural Areas -To enhance water supply, sanitation, and hygiene facilities in public institutions 2 WSS Sector Development and To improve the institutional Modernization capacities at the national level -To increase capacities of WSS operators to improve service delivery performance 3 Project Management and - To finance various aspects of the Coordination project such as operational costs, management costs, and communication costs. 4 Contingent Emergency Response -To allow for rapid reallocation of Component credit/loan proceeds from other components to cover emergency response and recovery costs Identification of Stakeholders This project divides stakeholders into three groups according to the definitions provided in section 1.1: affected parties, other interested parties, and vulnerable/disadvantaged groups. The team developed a list of stakeholders that belong to the aforementioned categories (Table 7). Special attention was given to the vulnerable/disadvantaged groups and the list will be expanded with the assistance of the local public administrations. Table 4: Stakeholder categorization Stakeholders Categories Stakeholders’ Sub-categories Affected Parties Ministries and government agencies Local Public Administrations Water and sanitation service providers Other Interested Parties Ministries and government agencies Civil Society Organizations Academic Institutions International Financing Institutions Disadvantage and vulnerable groups Low-income households Elderly people Households with people with disabilities Families with 3 or more children Single-parent families Ethnic minorities Stakeholder Interest and Influence 101 The stakeholders involved in the MWSSP project are classified in Table 8 based on their level of interest and power to influence. For a more detailed description, please refer to section 2.6. The output of this table will assist in managing stakeholders and planning consultations with them. Priority will be given to stakeholders with High Interest and High Influence to keep them informed about any changes related to the project. Stakeholders with High project interest and Low influence will still be involved in the project’s activities to ensure that their views are considered in the project design and implementation. Table 5: Analysis and prioritization of stakeholder groups based on the level of interest in and influence over the project. Categories of Stakeholders Role Level of Analysis (H=High, M=Medium, L=Low) Interest Influence Affected parties MARDE Lead in implementation PIU H H Regional Development Agencies The residents of communities/ water Information H M and sanitations consumers Beneficiaries of investments Health centers and schools Information H M Beneficiaries of investments Local Public Administration (LPA) Engagement/ Distribution of information related to the Project. H H Representing interests of locals. Water and sanitation operators Engagement/ Distribution of information related to the H H Project implementation Businesses located in the project area Information H M Beneficiaries of investments Interested parties Ministry of Internal Affairs (for Coordination and component 4 CERC)33 implementation of the H H emergency activities ANRE and other National Authorities Regulation, approvals, H H implementation AMAC WSS Plan development H M LPA Engagement/ Distribution of information related to the Project. H H Representing interests of locals. Mass media and CSOs Communication/public M M information Financial institution/donors Funding, technical assistance H M 33 if CERC is triggered or projects with extraordinary contingency funds for emergencies. 102 Consultants and Contractors Collaboration, implementation H M Academic institutions Collaboration H H Vulnerable groups Households with low-income Beneficiaries of investments H L Elderly people Beneficiaries of investments H L Households with people with Beneficiaries of investments H L disabilities Families with 3 or more children Beneficiaries of investments H M Single-parent families Beneficiaries of investments H M Roma people Beneficiaries of investments H M Gagauz people Beneficiaries of investments H M A Mixed Methods Approach to Engage Stakeholders The WB group employed a mixed methods approach to involve project stakeholders in this particular case. Responding to COVID-19 challenges with in-person interactions, the project used electronic and digital media to communicate with the stakeholders. Table 8 summarizes the proposed methods and the expected outcomes by the end of the stakeholders' analysis. Proposed Method Description Target Stakeholders Expected outcome Online Platform The platform will All Information related provide to the project would information about be easily accessible the project and it and the provided will be used to feedback by the publish related stakeholders will be documents and used to improve the support face-to- project. face consultations. Public and virtual Consultations will All Receive feedback consultations be help on an from the ongoing basis stakeholders. and will provide the opportunity Workshops Active Experts and citizen Raising awareness participation of stakeholders and inform project experts and implementation citizens in project design and implementation Surveys through the Surveys will be National authorities; Assess online Platform, conducted every NGOs and the general environmental and focus groups, six months public. social impacts of the telephone, and proposed project; virtual media (e.g. assess satisfaction Zoom) with the project In-depth interviews Understanding Experts Inform the gender 103 specific issues assessment and related to the other components of project the project Leaflets/informative Present Schools representatives Raise awareness notes information and parents; related to the Health centers; General project public Information boards Present General public from Raise awareness information localities involved in related to the the project; Vulnerable project people; People residing in project area; Schools representatives and parents; Health centers Letters Facilitate the All Provide background project information about implementation the project Reports Monitor the All Keep stakeholders project and informed inform the stakeholders Emails Communication All Keep stakeholders between involved informed entities Grievance Redress Stakeholders All Improve project Mechanism and could raise impact and respond Grievance Log grievances to concerns anonymously that they would be examined and resolved through a database 5. 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Ecological Economics, 208, 107820. World Bank. (2021). Moldova Water Security and Sanitation Project, Stakeholder Engagement Plan (SEP). Yang, J., Shen, G. Q., Bourne, L., Ho, C. M.-F., & Xue, X. (2011). A typology of operational approaches for stakeholder analysis and engagement. Construction management and economics, 29(2), 145-162. https://doi.org/10.1080/01446193.2010.521759 (Construction Management & Economics) 107 Chapter 5: Guidelines for economic analysis of urban flood risk management Mark V. Bernhofen1 Mark A. Trigg2 1 Corresponding author Smith School of Enterprise and the Environment, University of Oxford, Oxford, UK mark.bernhofen@smithschool.ox.ac.uk 2 School of Civil Engineering, University of Leeds, Leeds, UK 108 Table of Contents Summary ........................................................................................................................ 110 An Introduction to Flooding .......................................................................................... 111 Estimating the Economic Impacts of Floods ................................................................. 111 Flood Risk Management: Green and Grey Interventions .............................................. 113 Box 1 - United Kingdom ........................................................................................................ 114 Green – Sustainable Urban Drainage Systems ............................................................... 114 Green and Grey – Leeds Flood Alleviation Scheme ...................................................... 115 Box 2 – China .......................................................................................................................... 115 Green and Grey – Sponge Cities ...................................................................................... 115 Box 3 – United States of America ......................................................................................... 116 Green – New York City’s green stormwater solutions .................................................... 116 Grey – Houston’s Project Brays ......................................................................................... 117 Global vs. Local Data ..................................................................................................... 117 A Hybrid Approach ........................................................................................................ 119 Case Study: Belo Horizonte ........................................................................................... 122 Rationale ................................................................................................................................. 122 Rapid Assessment – Global Flood Risk Data ...................................................................... 123 Detailed Flood Risk Assessment – A Hybrid Local and Global Model ............................ 124 Use of the data by the Government of Belo Horizonte ..................................................... 128 Conclusions .................................................................................................................... 128 References ..................................................................................................................... 130 109 1. Summary Climate change and urbanization are increasing flood risk globally. Flood risk management is essential to adapt to these increasing risks. Implementing effective flood risk management necessitates an understanding of the economic impacts of flooding. Only by knowing the economic impacts of flooding, can you begin to calculate the costs and benefits of flood risk management interventions. The economic impacts of flooding are calculated using flood risk models. This report details the approaches and data that can be used to build a flood risk model. It focusses on a new type of modelling approach, a hybrid model, that combines global and local data to produce locally relevant flood risk information in regions lacking the data to produce a detailed local flood risk model. This report details the components of flood risk models, the local and global data typically used for each model component, and the components of a hybrid model that would benefit the most from the incorporation of local data. A case-study is then presented where a hybrid model was developed in the city of Belo-Horizonte, Brazil, to assess the benefits of proposed flood mitigation measures. 2. Checklist of Economic Analysis The checklist below summarizes the important considerations to bear in mind based on different approaches to evaluate economically a flood risk management intervention. The economic analysis or cost-benefit assessments provide more options to assess the vulnerabilities and risks that are described in the next section. 110 3. An Introduction to Flooding Flooding is the inundation of land that is normally dry. Types of flooding include the overtopping of rivers (fluvial), extreme rainfall (pluvial), and coastal storm surges. If flooding occurs in areas of human and economic activity, it can lead to substantial losses. Global flood losses in the first two decades of the 21st century summed over $650 billion (CRED and UNDRR, 2020). Recent events have reminded us of the devastation a single flood event can have. Flooding in western Europe in the summer of 2021 led to the deaths of over 240 people and damages exceeding $50 billion (the most damaging natural disaster in Europe for decades) (MunichRE, 2023). Similarly, the 2022 Pakistan floods caused widespread devastation in the country, impacting over 30 million people, killing 1739, and leading to losses greater than $30 billion (World Bank, 2022). There is evidence that climate change has already made recent flood events more likely (Kreienkamp et al., 2021) and intense (Otto et al., 2022). Modelling studies suggest that future flooding will become even more frequent and intense for much of the globe, if we continue along current emissions trajectories (Hirabayashi et al., 2021, Alfieri et al., 2017). Equally important (and in some regions even more important) for changes in future flood risk are changes in future exposure. Humans have historically settled near rivers and along coasts (Di Baldassarre et al., 2013) and these flood-risk prone areas continue to be developed: from 1985 – 2015 the urbanized area in the 1in100 year floodplain nearly doubled, globally (Andreadis et al., 2022). This trend is projected to continue. By 2050, 68% of the world’s population is projected to live in cities, up from 55% in 2017 (Ritchie and Roser, 2018). The urban population of the world will bear the brunt of pluvial flooding, as its impacts are disproportionately felt in cities, where extreme rainfall is exacerbated by impervious surfaces and inadequate drainage systems (Rosenzweig et al., 2018). As our climate changes and our population grows, there is an increasing awareness that we need to adapt to these future changes, either by limiting our exposure to these events or by reducing our vulnerability to them (Pörtner et al., 2022). 4. Estimating the Economic Impacts of Floods Flooding can have enormous economic impacts. Flood risk management measures are introduced to reduce the economic impacts of flooding. However, flood risk management measures can often be expensive, and it is important that they are implemented in a cost-effective manner (their benefits outweigh their costs). Estimating the economic impacts of floods is a vital component of flood risk management cost- benefit analyses. The economic impacts of floods can be estimated using flood risk models. Flood risk models are typically made up of three components: a hazard component, an exposure component, and a vulnerability component (Figure 1). These three components align with the IPCC’s definition of risk (Field et al., 2012). 111 Figure 1. The three components of flood risk models: hazard, exposure, and vulnerability The hazard component of a flood risk model will typically be a flood map. There are two types of flood maps which are commonly used in risk assessments. The first is an event- based map. An event-based map will attempt to replicate a historical (or sometimes hypothetical) flood event. Event-based maps can be derived using either observational data (in the case of a historical event) or through flood hazard modelling (for either historical or hypothetical events). The second type of flood map is a probability flood map. These are the types of flood maps typically seen at the national scale and are often used for planning purposes (e.g. FEMA’s national flood maps in the US or the EA’s national flood maps in the UK). Probability flood maps are not representative of a single flood event, instead, they assume that a certain “design� probability flood occurs everywhere, at the same time. Flood maps will typically focus on flooding from a specific source, such as rainfall (pluvial), river (fluvial) or coastal. Although, there is growing awareness that in certain regions it is important to consider the compound effects of multiple flood sources (Eilander et al., 2023b). Flooding is a relatively uncommon occurrence, as such, flood hazard maps will typically have a probability associated with them. These probabilities are communicated either through return periods (a flood one might expect to happen once every hundred years is a 100-year return period flood) or through their inverse: annual exceedance probabilities (a 100-year return period flood has an annual exceedance probability of 0.01 or 1%). In addition to extent, flood maps will often contain additional flood variables that can be useful for calculating risk such as flood depth, flood velocity, and flood duration. The exposure component of a flood risk model will depend on the type of risk assessment being carried out. Exposure can be anything that might be exposed to a flood hazard such as people, land, buildings, or infrastructure. It is important to note, if none of these things are exposed to the flood hazard then there is no flood risk to them. Vulnerability is the susceptibility of exposure to experience loss or damage. It can be measured a number of different ways, depending on the type of risk assessment being 112 carried out. When carrying out a risk assessment to quantify economic damages, the vulnerability measure most frequently used is an impact function. An impact function will translate some measure of the hazard into a level of impact for the exposure. Depth- damage curves are a commonly used impact function in flood risk assessments. These curves translate the flood depth at a given location into a degree of damage for the exposure. If the replacement costs of the exposure are known, then these curves can be used to calculate the economic damage of the flood. Not all exposure will be equally susceptible to flooding. Take a building for example, an adobe hut constructed out of mud will likely be more susceptible to flooding than a fifteen-story reinforced concrete apartment block. As such, flood impact functions will be different for different types of exposure. The shape of a building’s flood impact function can be influenced by factors such as the age of the building, the construction material, its primary use, its geographical location, or the design standards it was built to. In the US, FEMA has developed over 900 depth-damage functions for different exposure types as part of their HAZUS-MH risk assessment software (Scawthorn et al., 2006). 5. Flood Risk Management: Green and Grey Interventions Within the context of increasing flood hazard, more frequent events, as well as equally important challenge of changing exposure and vulnerability, there is a need within society to limit the impacts of flooding. Flood management over that last decades has evolved from a naive desire to control and stop floods to a more holistic management approach, whereby we try and minimise the worst effects of floods while accepting that flooding is a natural process and that we can influence it in both negative and positive ways. All flood management starts with an understanding of the hazard itself, mapping the location and frequency of flood hazard, quantifying water extent, depths, and velocities. This information can then be used to assess what people and infrastructure are exposed to the hazard and to what extent they are vulnerable. This critical assessment process can then guide decision makers as to what the most effective set of strategies might be when addressing a specific location. Even though there are many flood management strategies that can be used, knowing which ones will be most effective and if society is willing to invest in them based on the avoided damages is very site specific. The two main approaches to flood management are to; (i) reduce water levels and velocities in the flood location, and (ii) cope better with high water levels and velocities, lessening their impact. To address the first approach, mitigation measures include: flood storage reservoirs, upstream land management, channel modifications. Measures for the second approach include: floodplain zonal planning, flood walls, flood proofing infrastructure. Flood mitigation measures have traditionally been large-scale, engineered solutions and structures strategically placed in areas of high flood risk. Often referred to as “grey� infrastructure, examples include flood walls and dikes for river and coastal flooding and stormwater drainage systems for pluvial flooding. The reliance on exclusively grey 113 infrastructure measures to reduce flood risk is increasingly being seen as an unsustainable approach in the face of climate change and rapid urban growth. In recent years, there has been a move towards more sustainable flood mitigation measures referred to as “green and blue� infrastructure or GBI (a subset of nature-based solutions). Such measures can include (but are not limited to): green roofs, bioretention basins, riparian vegetation, and upstream land management. An advantage of GBI measures is that they have numerous co-benefits; in addition to reducing the risk of flooding, they can also reduce vulnerability to climate change, enhance the local environment, and benefit the local community (World Bank, 2017). For flood mitigation measures to be most effective, they need to be location specific and designed with an understanding of the local catchment. In Box’s 1- 3, below, we highlight several international examples of both green and grey flood intervention measures. Box 1 - United Kingdom Green – Sustainable Urban Drainage Systems Sustainable Urban Drainage Systems (SUDS) have been around in the UK since the 1980s and there is extensive published guidance on best practice for the implementation such systems (Woods Ballard et al., 2015). The premise of SUDS is to reduce runoff by replacing impermeable surfaces with natural features to increase infiltration. The implementation of SUDS in the UK has been largely limited to new builds, due to the high initial costs associated with retrofitting existing drainage systems (Lamond et al., 2015, Lashford et al., 2019). Their widespread uptake has been limited by questions of long- term maintenance responsibilities and challenges related to the implementation of measures at a large enough scale to have noticeable impacts (Andoh and Iwugo, 2002). See Figure 2 for an example of SUDS measures introduced in a housing development in Hamilton, Leicester. Figure 2 - Sustainable Urban Drainage Systems constructed in a new housing development in Hamilton, Leicester. Source: Lashford et al. (2019) 114 Green and Grey – Leeds Flood Alleviation Scheme The city of Leeds in the UK suffered severe flooding in December 2015 resulting in huge economic losses. As a result, a two-phase flood alleviation scheme is being implemented, the second phase of the scheme is due for completion at the end of 2023. The scheme includes both grey and green approaches to flood management, with traditional flood walls, large storage reservoirs (Figure 3), innovative movable weirs and extensive upstream basin-wide nature-based solutions (known in the UK as natural flood management) (Taylor and Pinn, 2019). Figure 3. Construction of traditional flood walls along the river Aire in Leeds, UK Box 2 – China Green and Grey – Sponge Cities In 2015 and 2016, the Chinese government launched pilot projects in 30 cities to create what are known as “sponge cities�. The sponge city design philosophy is to develop urban areas to be flood resilient, while protecting the local ecosystem, conserving water, and improving water quality (Li et al., 2017). Sponge cities combine green, blue, and grey infrastructure to form an interconnected system that collects storm water during the rainy seasons and stores it for use during dry seasons. This is done through the construction of rainfall absorbing urban green infrastructure such as green roofs or urban parks, water storing blue infrastructure such as constructed wetlands and urban ponds, and traditional grey infrastructure to link these systems to form an “urban sponge� (Chan et al., 2021) . Figure 4 4 illustrates the pathways of precipitation in a sponge city compared to a conventional urban environment. 115 Figure 4 - Schematic illustrating a sponge city approach compared to a conventional urban approach. Source: Lashford et al. (2019) Recent large-scale flood events in China have raised questions about the effectiveness of the sponge cities, which are only designed to withstand a 1 in 30 year event (Chan et al., 2021). There are also concerns about China’s “one size fits all� design approach, which doesn’t account for the various regional and climatic factors that govern the effectiveness of GBI measures. For example, the green roofs and permeable pavements proposed in Baicheng, a cold and arid city located in north-east China, increase evaporation, which could exacerbate the water shortages already affecting the city (Li et al., 2017). Box 3 – United States of America Green – New York City’s green stormwater solutions Increasing rainfall due to climate change coupled with federal regulations on water quality highlighted deficiencies in New York City’s existing combined stormwater- sewage system, which frequently overflows during rainfall events causing significant pollution (De Pippo et al., 2017). In 2010, the city of New York agreed to invest over 5 billion USD in upgrading the city’s stormwater drainage system. Nearly half this amount was dedicated to green solutions such as rain gardens, infiltration basins, green roofs, pervious pavements, and stormwater green streets (Figure 5). In addition to reducing the likelihood of stormwater-sewage overflow, the city’s investment in hybrid grey-green infrastructure has numerous co-benefits including reducing CO2 emissions, improving air quality, increasing real estate values, and reducing energy demand (Figure 5). A cost- benefit analysis conducted on behalf of the city estimated the incorporation of green infrastructure in their storm water management plan saved approximately 1.5 billion USD compared to using just grey infrastructure measures (Depietri and McPhearson, 2017) 116 Figure 5 - Stormwater greenstreet in the borough of Queens, New York City. Source: https://www.nycstreetdesign.info/landscape/stormwater-greenstreet Grey – Houston’s Project Brays In August 2017, Hurricane Harvey caused record-breaking rainfall in the city of Houston with estimated return intervals between a 1 in 3,000 years and 1 in 20,000-years (Lindner and Fitzgerald, 2018). Over 200,000 homes were flooded with estimated damages in the Houston Metropolitan Area nearing $200 billion (Hicks and Burton, 2017). Significant resources are dedicated to flood risk management in Houston. Roughly $20 million of the county budget is committed to urban flood risk management projects in the Houston metropolitan area each year. Larger, federally funded projects flood risk management projects are also being carried out in the city. Completed in 2022, Project Brays was a 20-year, $550 million, federally funded engineering project that consisted of 75 projects to reduce flood risk in the Brays Bayou watershed in Houston. Flood risk management solutions in the watershed included the replacement or modification of over 30 bridges, the widening of 21 miles of the Brays Bayou, and the construction of 4 floodwater detention basins that would store a collective volume of 3.5 billion gallons of stormwater (Greater Houston Flood Mitigation Consortium, 2018, National Academies of Sciences and Medicine, 2019). 6. Global vs. Local Data Flood risk modelling has historically been a local endeavor. Flood risk models were developed for specific use-cases, by experienced modelers, using the best available local data. This has led to an observable bias in local flood risk information towards regions of the globe with the necessary data and capacity to develop these local models (Bernhofen et al., 2022). The last fifteen years has seen the rapid development of global flood risk models. These models, which initially began as academic research experiments (Yamazaki et al., 2011, Dottori et al., 2016, Winsemius et al., 2013, Pappenberger et al., 2012, Sampson et al., 2015), have developed into commercial products used by a wide array of corporates, insurers, governments, and development institutions (Hirabayashi et al., 2022). Global flood risk models rely on globally consistent datasets (often derived 117 from space data) to model flood hazard everywhere in the world. This globally consistent approach has been useful to international organizations that want to assess risk consistently across their operating geographies and also for stakeholders in regions that previously lacked any existing local flood risk information (Ward et al., 2015). The global nature of these models has also meant that they can be coupled with the outputs of general circulation models to provide globally consistent estimates future flood risk (Winsemius et al., 2016, Alfieri et al., 2017, Hirabayashi et al., 2013). Despite the growing development and market for global flood risk models, they are still markedly different from local flood risk models – and are used for different purposes. Global flood risk models are used for large-scale top-down analyses of risk and for highlighting regions and sectors where flood risk is greatest. Local flood risk models are used for specific purposes, such as designing flood adaptation measures or understanding detailed local flood risk profiles. In Table 1, we summarize the key characteristics of a flood risk model and highlight how these differ between local and global flood risk models. Table 1 - Characteristics of Global vs. Local Data used in Flood Risk Models (adapted from Trigg et al. (2020)) Characteristic Global Model Local Model Hazard Geographical Coverage Global Typically, up to tens of kilometers Terrain Data Globally consistent DEM Best available (LiDAR) Hydrology Regional growth-curve Led by hydrologist, using best- methods or large-scale runoff available local data modelling Hydraulics Limited equation base Fully hydrodynamic Defenses Generally undefended Full representation Resolution 1 km – 30 m ~5m or less Catchment Size All large rivers, smallest river Down to ~1 km2 for fluvial, model dependent (50-5000 smaller for pluvial km2) Flood source Typically fluvial, some pluvial Fluvial, coastal, surface water; and coastal sometimes dam break, groundwater, natural flood management, urban drainage systems Exposure Identification Satellite based population Cadastral data 118 density maps or building footprints Local land-use data detailing Rough estimates based on Typology land parcels by occupation land-use type Vulnerability Estimates based on country Construction cost databases Replacement Costs GDP and exposure type Global (continental) curves for Synthetically or empirically different exposure types or derived damage curves Damage Curves repurposed curves from specific to building type countries such as US 7. A Hybrid Approach As global datasets and global approaches to flood risk modelling continue to develop, they are being used at increasingly smaller scales (Bernhofen et al., 2022). However, there are limits to the scale at which global datasets can be used and the types of questions they can be used to answer. The desire to move from global to local has led to the emergence of hybrid modelling approaches (Eilander et al., 2023a, Fleischmann et al., 2019). These hybrid methodologies supplement global data and approaches with locally available data (where available) to make flood risk assessments more locally relevant. The local data substituted for global data in these hybrid approaches is flexible and will be dependent on the data available in the local modelling domain and the purpose of the hybrid flood risk model. In the following paragraphs we highlight certain risk model components and some of the shortcomings of global datasets (noting here that this is a non-exhaustive summary) and how these may be improved through the incorporation of local data. In Table 2, we summarize the characteristics of a risk model that would benefit most from the incorporation of local data (based on the authors’ own experiences and referenced studies). Table 2 - Criticality of Hybrid Risk Model Component Local Improvements Risk Model Criticality of Local Data [Low, Medium, High] Characteristic Hazard Terrain Data [High] the granularity of terrain elevation data have been shown repeatedly to have a major impact on the accuracy of flood models at all scales. 119 Rainfall / River Flow [Medium] global datasets have some skill in estimating these data and models moderately sensitive. River Channels [Low to Medium] major channels could be important, but all channels are implicitly included in good terrain data Defences [Low to Medium] many river reaches do not have defences, but where they are present they may be important for a specific study. Exposure Identification [Low] global exposure data is now quite granular and rivals locally available data Typology [High] to get any more information on exposure typology beyond residential / non-residential, local data is needed Vulnerability Replacement Costs [Medium] national level estimates for different exposure classes available globally, but would benefit from local information if available Damage Curves [High] local damage curves are critical for a locally relevant flood risk model, but may be difficult to come by Global flood hazard models are reliant on globally consistent terrain data. The terrain data used in most existing models is based on SRTM data, which has a resolution of ~90 m at the equator (Yamazaki et al., 2017). We note the recent release of a global ~30 m resolution terrain dataset for flood modelling (Hawker et al., 2022), which has not yet been widely incorporated into the models, but points to the future resolution of global flood hazard models. At the city scale, a 90 m resolution flood map (and to a certain degree, even a 30 m flood map) remains relatively coarse if impacts are to be assessed at the building level. Incorporating higher accuracy local elevation data—such as LiDAR (< 5 m)—where it is available can significantly improve flood risk estimates (Archer et al., 2018) Similarly, the methods used to generate extreme rainfall or extreme river flow in global flood hazard models may not translate well locally. Regionalized pooling of global gauge data will not pick up local river flow extremes and could therefore underestimate or overestimate water in the model. Similarly, the global rainfall intensity-duration- frequency curves used to estimate pluvial flooding are very general and will not be resolved enough to accurately reproduce the precipitation extremes common in many high-risk urban catchments. Locally gauged rainfall and river data will generally provide 120 better estimates of local extremes. However, long records for probability estimates and a short recording interval will be required for short duration high intensity events, e.g. flash flood and high intensity rainfall. Sometimes local studies provide area/region specific flood growth curves or rainfall IDF curves that are more locally relevant than global derived ones. The representation of river channels in global flood hazard models is of limited detail. Most global models assume channels to be rectangular with dimensions based on relatively crude geomorphological relationships and with no flow obstructions such as bridges and culverts. At the city scale, local channel capacity can be very important in order to represent local flood extent, as it is often modified from a river’s natural behavior, thus making general relationships less effective for dimensioning. Local data collection should focus primarily on the main river channels and their general conveyance dimensions and any structures that are known to inhibit or obstruct flow. Finally, global flood hazard maps are pre-run model outputs. Essentially, they are products that allow little to no modification of the underlying model. This limits their effectiveness in studies investigating the impact of local flood mitigation measures, as these will not be included in the model. Most global flood hazard models do not include information about flood defenses and those that do rely on rough estimates of flood design standards at the scale of the administrative unit (Scussolini et al., 2016). While global flood hazard maps can be useful as a first-order tool to identify risk hotspots, in order to explicitly quantify the impact of flood mitigation measures, a tailored local flood model needs to be developed. A local flood model offers the flexibility of tweaking model inputs and explicitly incorporating and modelling the relevant local flood mitigation measures. The availability and granularity of global exposure datasets has improved significantly over the last decade. Population data with near-global coverage is now available at ~30 m resolution (Tiecke, 2017). Large technology companies (such as Google and Microsoft) that own ultra-high resolution satellite imagery and have enormous computing capacities have recently employed AI models to extract building footprint data from satellite imagery. Coverage is not yet global but is growing. Google Open Buildings (https://sites.research.google/open-buildings/) has mapped over 800 million buildings in Africa and Bing building footprints (https://github.com/microsoft/GlobalMLBuildingFootprints) has mapped over 1 billion buildings in 5 continents. These initiatives complement existing community mapping initiatives such as OpenStreetMap. Global building footprint data, where available, rivals locally available building footprints in granularity. The challenge lies in classifying these buildings by their use, which is a key step in a flood risk assessment. Global landcover datasets do not yet distinguish between urban land-use classes. Previous flood risk assessments at the global scale have applied constant global estimates of urban sector split (Alfieri et al., 2017, Dottori et al., 2018), which has been shown to be a significant assumption (Bernhofen et al., 2022) and does not translate well to the city scale. Recently released data from the JRC distinguishes global buildings between residential and non- residential (Schiavina et al., 2022, Pesaresi and Panagiotis, 2022) but to get truly granular 121 classifications of urban land-use (such as industrial, commercial etc.) locally sourced data is vital. The final essential component of a risk model is the vulnerability component. Data on vulnerability is the most uncertain of all components of risk (Winter et al., 2018), and a component that is of high local relevance. We limit our discussion here to the use of depth-damage functions, noting that the use of other vulnerability approaches (such as indices) is also widespread. Depth-damage functions are data-intensive and can be constructed either empirically or synthetically (Merz et al., 2010). As such, the availability of damage functions in many countries is limited (Prahl et al., 2016). Certain regions such as the US (Scawthorn et al., 2006) and the UK (Penning-Rowsell et al., 2013) have invested significant time and funds into developing nationally applicable damage functions; and although these are often applied ‘off-the-shelf’ in other countries, questions remain about their transferability to other contexts. Globally consistent depth-damage curves have been developed that bring together local vulnerability data where it is available and use statistical analyses to produce generalized depth-damage curves at the continental scale (Huizinga et al., 2017). However, these generalized continental curves will not capture the heterogenous vulnerabilities between countries or even between urban areas within countries. If local depth-damage curves are available, these will be critical in developing a locally relevant flood risk model. However, in many circumstances there will be no local vulnerability data to draw upon. Then, the flood risk modeler will have to draw on generalized continental damage curves or curves from other regions. If this approach is taken, it is important to sense-check the resultant risk estimates using data on the damages of past flood events in the local model domain. In the preceding section, we have highlighted various components and inputs to flood risk models, the limits of global datasets in each of these components, and how local data might be incorporated into a hybrid model to make the flood risk model more locally relevant. The local data available for incorporation into a hybrid model will be dictated by where the hybrid model is being developed. Which of these local datasets are actually incorporated into the model is at the discretion of the flood risk modeller and will be dictated by the intended use of the flood risk model and time available. In the final section of this report, we outline a case study in the city of Belo Horizonte, Brazil and detail how global and local data were combined to produce a hybrid flood risk model to rapidly evaluate the effectiveness of flood mitigation measures proposed in the city. 8. Case Study: Belo Horizonte Rationale The World Bank is supporting the Government of Brazil through specific investments and knowledge generation to mitigate the impacts of floods in urban areas. In the state of Minas Gerais, the city of Belo Horizonte is pushing the agenda of flood risk management to understand the magnitude and distribution of flood damages throughout the city. The ultimate objective of understanding these damages is to produce evidence for designing and implementing policies and interventions that effectively and efficiently mitigate 122 those flood impacts in various sectors of the economy. The World Bank commissioned a study to investigate flood risk in Belo Horizonte using an efficient city scale flood risk modelling approach that combines local and global data and methods. The aim of the study was to assess the benefits of proposed flood storage interventions in terms of avoided damages. Rapid Assessment – Global Flood Risk Data Flood risk was first assessed for the greater metropolitan area of Belo Horizonte using only global datasets of flood hazard, exposure, and vulnerability. These results provided an initial understanding of the city’s flood risk and were used as the basis for developing a more detailed hybrid flood risk model for the city. The data inputs for the rapid assessment are outlined in Table . Table 3 – Global Datasets for Rapid Flood Risk Assessment Data Type Details Source Global flood Fluvial and pluvial flood maps for 10 return periods (5-1,000 Fathom Global 2.0 maps years) (fathom.global) Land use maps Land use maps of urban and agricultural areas. GlobCover 3.2 Urban split Constant urban sector area split assumption (56% residential, Alfieri et al. (2017) 20% commercial, 16% industrial, 8% infrastructure) Vulnerability data Sectoral (4x urban 1x agriculture) damage curves with Huizinga et al. (2017) corresponding maximum values. The results of the rapid flood risk assessment found that the average annual damages for the greater metropolitan region of Belo Horizonte for combined fluvial and pluvial flooding were just over 850 million USD (see Table ). The majority of damages by value (over 99.99%) were classed as urban. The residential sector was the worst impacted urban sector, followed by the commercial sector, the industry sector, and finally the infrastructure sector. Pluvial flooding was responsible for 53% of the total damages in the metropolitan area and much of the damages in the region were concentrated in the central districts where urbanization is higher (see Figure ). Table 4 - Expected annual damage (in 2020 USD) for each economic sector in the Belo Horizonte greater metropolitan area. Flood Agriculture Commercial Industry Infrastructure Residential Urban Process Pluvial 66 788 164 528 978 117 974 815 3 512 437 184 269 815 488 354 267 Fluvial 88 979 154 021 928 108 456 969 3 858 383 143 220 076 436 993 577 Combined 134 528 283 279 390 201 404 067 6 544 885 323 629 949 859 431 940 123 Figure 6 - (a) Distrito level urban expected annual damage (EAD) for combined fluvial and pluvial flooding. (b) Distrito level agricultural expected annual damage (EAD) for combined fluvial and pluvial flooding. Detailed Flood Risk Assessment – A Hybrid Local and Global Model Building on the findings of the rapid flood risk assessment. A detailed flood risk model was developed for the Isidoro basin of Belo Horizonte to assess the benefits (in terms of avoided flood damages) of four proposed flood storage reservoirs (Figure ). The rapid flood risk assessment using global data also identified four key priorities for the detailed flood risk model that would require local data and expertise: 1. A more detailed local flood hazard model to capture the urban complexities. 2. A flood hazard model that is able to represent mitigation options. 3. A local land-use map to distinguish different areas of urban land use. 4. Building footprint data to assess building level damages. 124 Figure 7 – Location of four storage interventions within Isidoro basin [P] In collaboration with the Government of Belo Horizonte and researchers at the Federal University of Minas Gerais, available local data were identified to address the four key detailed flood risk model priorities outlined above. The data inputs for the detailed flood risk model are outlined in Table 5, differentiated by each component of risk: hazard, exposure, and vulnerability. Table 5 - Local and global data inputs for the Isidoro Basin detailed flood risk model. Data Source [local] [global] Hazard Module Topography Local LiDAR (1 m resolution) Location and detail of watercourses Provided by the local government Land use (for friction values) ESA WorldCover (10 m resolution) SCS curve numbers (for infiltration) Provided by the local government Rainfall Obtained from a local journal published study Mitigation Options Provided by the local government Validation Data (flood hazard maps and Provided by the local government observed gauge data) Exposure Module 125 Building footprint data Microsoft Building Footprints Urban land use map (for classifying building Provided by the local government types) Road data OpenStreetMap Validation Data (drone derived building Provided by the local government footprints) Vulnerability Module Urban object maximum damage values Huizinga et al. (2017) global database Sector-specific depth-damage curves Huizinga et al. (2017) global database The local flood hazard model was developed in the 2D flood modelling software HEC- RAS (v6.1). The model used a 2D rain-on-grid domain area with explicit representation of the conveyance capacity of the two main channels in the basin. All minor channels were implicitly represented in the LiDAR topography. The model was calibrated and validated by using rainfall and water levels recorded during two extreme flood events and historically observed flood extents. Flood hazard scenarios were then run for four different return probability flood events: 1 in 10 years, 1 in 25 years, 1 in 50 years and 1 in 100 years. Two different mitigation scenarios were run, a baseline scenario (considering no flood mitigation measures) and an intervention scenario (considering the influence of all four proposed flood storage reservoirs). In total, risk in the basin was modelled for 8 total flood scenarios. Figure details a schematic of the entire flood risk modelling process for the Isidoro basin including data inputs and data outputs. 126 Figure 8 – Schematic of risk assessment framework combining local and global data and approaches [P] From the results, flood risk in the Isidoro Catchment is significant. For the 1 in 100 year baseline flood, 7,229 residential buildings were exposed to flooding (13% of all residential buildings); 906 commercial buildings were exposed to flooding (19% of all commercial buildings); 61 industrial buildings were exposed to flooding (29% of all industrial buildings); and 80 km of roads were exposed to flooding (out of 913 km of roads within the basin). Direct economic damages for the city ranged from 250 million USD to 311 million USD depending on the return period of flooding considered. Damages were greatest for the residential sector, followed by the commercial sector, the industrial sector, and roads. Buildings with the most damage were concentrated in the middle of the basin, where the intensity of flooding was greatest. Modelling the proposed intervention measures in the Isidoro basin resulted in avoided damages ranging from 15.4 million USD to 19.3 million USD, depending on the return period considered. Over 60% of the mitigated damages were for the commercial sector. This was due to the placement of the intervention measures, which had the greatest flood risk reduction impact in the middle of the basin where most of the commercial activity in the basin is concentrated (see Figure ) 127 Figure 9 – Isidoro Basin (a) Map of flood depths, 1 in 100-year flood. (b) 1 in 100-year flood building damages. (c) Reduction of downstream flood depths for 1 in 100-year flood due to interventions. (d) Reduction in 1 in 100-year flood building damages due to interventions. Use of the data by the Government of Belo Horizonte The results of the flood risk assessment proved extremely useful for the Government of Belo Horizonte. They were used as evidence in local meetings to justify investment in the engineering schemes. They were also used in a cost-benefit analysis of the proposed interventions that was used to gain support from the federal government to loan the money for the schemes. 9. Conclusions Investing in flood risk adaptation necessitates an understanding of the risks flooding presents and the effectiveness of proposed adaptation measures. This report has introduced the concept of flood risk models for understanding the economic impacts of flooding. Historically a local endeavour—limited to regions with the necessary data and expertise to develop a local flood model—the emergence of global data has enabled flood risk to be assessed everywhere in the world. Global data has been especially useful in regions that previously lacked any flood risk information. However, the use of global data in flood risk assessments requires trade-offs (primarily related to accuracy and granularity) when compared with local flood risk models. Certain questions, such as the impact of specific adaptation measures, cannot be answered using global data alone. 128 These questions can be answered using a new type of modelling approach—a hybrid model—that supplements global data and approaches with local data, where it is available. We presented a case-study detailing how a hybrid flood risk model was developed for the city of Belo Horizonte, Brazil, and how the results of the flood risk assessment were used by their local government as evidence for the cost-effectiveness of proposed flood adaptation measures. Although the hybrid modelling approach detailed in this report focused on urban flooding, the same approach could be applied to rural flooding too. The only constraint is the local data available in the modelling catchment. Hybrid modelling approaches have emerged as useful tools that sit between local and global flood risk models, drawing data and methodologies from both approaches. The three modelling approaches are useful for different purposes and can be thought of in terms of the order of risk assessments. Global flood risk models should be used for first- order risk assessments, across large spatial domains, and can be useful for identifying risk hotspots. Hybrid flood risk models can then be developed in the identified risk hotspots and used as second-order risk assessments. The flexibility of hybrid models makes them useful for cost-benefit analyses of potential adaptation measures. To actually inform the design of adaptation measures, a local flood risk model should be developed. This third-order risk assessment would be more akin to an engineering-grade flood model and is beyond the scope of this report. 129 10. 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Any inaccuracies, errors, or omissions in the document are the sole responsibility of the author. 135 Table of Contents Summary ........................................................................................................................ 137 Checklist of Economic Analysis of Droughts ................................................................. 137 Introduction: Droughts and Their Impacts .................................................................... 138 Droughts in California and the US Western States ..................................................................... 138 Drought Risk Management: Components and Importance .......................................... 139 Structural and Non-Structural Measures ........................................................................................ 141 Nature-Based Solutions ................................................................................................. 142 Water Pricing, Water Marketing, and Water Markets .................................................... 143 Managed Aquifer Recharge........................................................................................... 144 Drought Risk General Guidelines .................................................................................. 145 World Bank Drought Guidelines ..................................................................................................... 145 Global Water Partnership Drought Guidelines ............................................................................ 145 California Drought Risk Management Guidelines ....................................................................... 146 Economic Analysis Steps for Drought Risk Management ............................................. 148 What is Economic Analysis in the context of droughts? ............................................................ 148 Guiding steps for DRM economic analysis ................................................................................... 151 Decision Criteria for Analysis ......................................................................................... 156 Methods, Models and Tools for Drought Risk Management ........................................ 158 Climate Risk Informed Decision Analysis (CRIDA) ......................................................... 160 Water Evaluation And Planning (WEAP) Model ............................................................ 162 Integrated Valuation of Ecosystem Services and Tradeoffs (InVEST) ............................ 164 Multi-Criteria Analysis (MCA) ......................................................................................... 164 References ..................................................................................................................... 168 136 1. Summary Droughts pose significant challenges to societies, economies, and ecosystems worldwide, and their increased frequency and severity due to climate change have intensified the need for effective drought risk management strategies. This chapter offers a comprehensive set of guidelines to support decision-makers, stakeholders, and practitioners in assessing the economic implications of various drought risk management approaches. These guidelines aim to facilitate informed decision-making by providing a framework to evaluate the costs, benefits, and trade-offs of different risk management options in a systematic and transparent manner. The economic analysis guidelines presented in this document emphasize the importance of considering both direct and indirect costs associated with droughts, as well as the potential benefits of implementing various risk management measures. By addressing the economic, social, and environmental dimensions of drought risk management, these guidelines contribute to a holistic approach for tackling the complex challenges posed by droughts. 2. Checklist of Economic Analysis of Droughts The checklist below summarizes the most important contributions of cost-benefit and economic analysis to assess drought impacts, in comparison to other approaches that compare alternatives or make the business case of interventions. There are cost- effectiveness and cost-efficacy parameters that the analysis of alternatives or business case analysis provide, but with limitations on impacts and distributional analysis that cost- benefit and economic analyses offer. 137 3. Introduction: Droughts and Their Impacts Drought is a natural climatic anomaly characterized by a prolonged period of insufficient precipitation, leading to a shortage of water resources in a particular region. It occurs when the rate of evaporation and transpiration exceeds the rate of precipitation over an extended period, resulting in an imbalance in the water cycle. Droughts can have significant adverse impacts on agriculture, ecosystems, water supply, energy production, and socioeconomic conditions. Droughts can vary in duration, ranging from short-term dry spells to multi-year events, and can affect local, regional, or even global scales. Given the significant economic, social, and environmental impacts of droughts, effective drought risk management strategies are essential for mitigating their adverse consequences and enhancing the resilience of affected communities. Droughts can have a wide range of impacts on various aspects of the environment, economy, and society. These impacts can be direct, such as reduced agricultural productivity, or indirect, such as increased food prices or loss of livelihoods. The severity and extent of drought impacts often depend on the duration, intensity, and geographical extent of the drought event, as well as the vulnerability and adaptive capacity of the affected communities and ecosystems. Drought impacts are multifaceted and interrelated, often triggering cascading effects across different sectors and regions. Effective drought risk management requires a comprehensive understanding of these impacts, as well as the development and implementation of strategies to mitigate their adverse consequences and enhance the resilience of affected communities and ecosystems. According to the United Nations Office for Disaster Risk Reduction, over 90% of the world’s natural disasters and climate impacts, encompassing droughts an d associated events, are related to water (UNDRR 2020). Between 2000 and 2019, water-related disasters claimed around 1.23 million lives and affected 4.2 billion people, resulting in an estimated global economic loss of nearly US$2.97 trillion (UNDRR 2020). Droughts in California and the US Western States Persistent droughts in California and the Western States of the United States have been a longstanding concern. Several factors contribute to the occurrence and severity of droughts in this region, including natural climate variability, climate change, and human activities. The climate in California and the Western United States is primarily influenced by oceanic and atmospheric circulation patterns, such as the El Niño-Southern Oscillation (ENSO), and the Pacific Decadal Oscillation (PDO. These patterns affect the distribution and intensity of precipitation in the region, leading to wet and dry periods. Human-induced climate change is exacerbating drought conditions in the Western United States. Global warming has led to increased evaporation rates, causing soil to dry out faster and reducing the amount of available water in rivers, reservoirs, and aquifers. Furthermore, rising temperatures have resulted in more precipitation falling as rain rather than snow, 138 which reduces the snowpack that serves as a vital water source for the region during the dry season. Population growth and increased demand for water resources have put additional stress on the water supply in California and the Western United States. Agriculture, urbanization, and industry are all competing for limited water resources, often leading to unsustainable water use and withdrawal of groundwater. Characterized by a Mediterranean climate with wet winters and dry summers, California is inherently prone to droughts. Droughts in the state can have far-reaching impacts on various sectors, including agriculture, water supply, environment, and the economy. The precipitation patterns in California are influenced by large-scale climate phenomena, such as the ENSO and the PDO. The state experiences wetter conditions during El Niño events and drier conditions during La Niña events. The PDO can also lead to extended dry periods when it is in its negative phase. Human-induced climate change has been linked to more frequent and severe droughts in California. Warming temperatures have led to increased evaporation, reduced snowpack, and earlier snowmelt, which contribute to water scarcity during the dry season. Rapid population growth and urbanization in California have increased the demand for water resources, exacerbating water scarcity during droughts. Agriculture is a major water user in the state, and unsustainable water management practices can further deplete available resources. The next sections delve into the importance and components of drought risk management, the variety of measures for handling drought risks, comprehensive and economic analysis guidelines for drought risk management, and suggested economic methodologies, models, and related tools. The succeeding sections cover the importance and components of drought risk management, the various measures for managing drought risks, drought risk general and economic analysis guidelines, and economic methods, models, and related tools. 4. Drought Risk Management: Components and Importance Drought Risk Management (DRM) is a systematic approach to managing the risks associated with droughts, which are periods of abnormally dry weather that can have severe impacts on communities, ecosystems, and economies. The goal of DRM is to reduce the vulnerability of communities to droughts, minimize the potential damage, and help them adapt to changing climatic conditions. DRM involves several key components, including monitoring, early warning systems, vulnerability assessments, mitigation measures, and planning and preparedness strategies. Regular monitoring of climate variables such as precipitation, temperature, and soil moisture helps in identifying the onset, duration, and severity of droughts. Monitoring systems can provide valuable information to decision-makers for timely response to drought conditions. Early warning systems for droughts aim to provide reliable and timely information about potential drought events before they occur. These systems typically use climate data and predictive models to forecast drought conditions, allowing decision-makers to take proactive measures to mitigate the impacts. Understanding the vulnerability of communities, ecosystems, and economies to drought is crucial for DRM. Vulnerability assessments identify the areas, populations, and sectors most at risk from 139 drought, which can help guide targeted interventions and resource allocation. Drought mitigation measures are actions taken to reduce the potential impacts of droughts. These may include promoting drought-tolerant crops, implementing water-saving technologies, improving irrigation efficiency, and enhancing water storage and supply infrastructure. Planning and preparedness strategies aim to improve the capacity of communities and governments to respond to and recover from droughts. This may involve the development of drought response plans, enhancing coordination among stakeholders, and improving public awareness and communication about drought risks and management strategies. Effective DRM requires collaboration among various stakeholders, including governments, non-governmental organizations, research institutions, and local communities. By integrating these components, DRM can help minimize the negative impacts of droughts on the environment, economy, and society, and foster resilience in the face of changing climatic conditions. The importance of DRM lies in its ability to reduce the adverse impacts of droughts on human populations, the environment, and economies. Droughts are a natural hazard that can have wide-ranging and severe consequences. Implementing DRM is crucial for protecting livelihoods, ensuring water security, safeguarding ecosystems, reducing economic losses, enhancing resilience to climate change, preventing social unrest and conflict, and fostering cooperation and collaboration. Droughts can have severe impacts on agriculture, livestock, and fisheries, which are the primary sources of income and food for millions of people worldwide. By managing drought risks, DRM helps protect livelihoods, maintain food security, and prevent extreme poverty and hunger. Water scarcity during droughts can lead to inadequate water supplies for domestic, agricultural, and industrial uses. DRM helps optimize water resources and promotes sustainable water use practices, ensuring water security for various sectors and reducing competition for limited resources. Droughts can degrade ecosystems by altering the water cycle, causing loss of biodiversity, and increasing the vulnerability of flora and fauna. DRM helps to preserve ecosystems and the services they provide, such as water purification, climate regulation, and carbon sequestration. Droughts can result in significant economic losses due to reduced agricultural yields, increased food prices, and disruptions in energy production, among other factors. By minimizing the impacts of droughts, DRM can reduce the economic burden on affected communities and help maintain economic stability. Climate change is expected to increase the frequency and intensity of droughts in many regions. Implementing DRM strategies helps communities better adapt to changing climatic conditions, increasing their resilience to future drought events. Water scarcity and food insecurity caused by droughts can lead to social unrest, migration, and conflicts over resources. DRM can mitigate these risks by ensuring adequate access to water, food, and other essential resources, thereby promoting social stability and peace. DRM requires collaboration 140 among various stakeholders, including governments, research institutions, NGOs, and local communities. This cooperation can facilitate knowledge exchange, promote innovation, and strengthen the capacity of communities to manage drought risks effectively. Drought Risk Management Measures and Strategies Structural and Non-Structural Measures DRM involves a combination of structural and non-structural measures that work together to reduce the impacts of droughts and increase the resilience of communities, ecosystems, and economies. Structural measures include physical infrastructures and engineering solutions designed to reduce the impacts of droughts or increase the availability of water resources. Non-structural measures include government policies, regulations, planning, and capacity-building strategies that aim to reduce vulnerability and enhance resilience to droughts. Structural measures include dams and reservoirs, water transfer infrastructures, desalination plants, and water efficient irrigation systems. Dams and reservoirs store water during periods of excess flow, which can be released during times of drought to maintain water supply and support agriculture, industry, and domestic use. Water transfer facilities involve the construction of pipelines or canals to transport water from areas with surplus water to drought-prone regions, helping to balance water distribution. Desalination plants convert seawater or brackish water into freshwater, increasing the availability of potable water in regions with limited water resources. Water-efficient irrigation systems, such as drip irrigation or sprinkler systems, help minimize water loss and optimize water usage in agricultural areas. Non-structural measures include drought-monitoring and early warning systems, water allocation and pricing policies, water markets, drought contingency plans, public awareness campaigns, capacity-building programs, financial assistance, and nature- based solutions. Drought monitoring and early warning systems track and predict drought conditions, allowing for timely response and mitigation efforts. Water allocation and pricing policies can promote efficient water use by allocating resources based on priority needs and encouraging conservation through appropriate pricing. Water pricing policies, such as pricing of retail or processed water, aim to reflect the true value of water resources, encouraging more efficient and sustainable water use. Water markets are a tool for allocating water resources more efficiently by allowing users to buy, sell, or trade water rights. Drought contingency plans outline preparedness and response strategies for various drought scenarios, helping urban and rural communities to cope with water scarcity. Public awareness campaigns are intended to educate the public on the importance of water conservation, and to promote water-saving practices. Capacity-building programs: These programs provide training and resources to help local communities, governments, 141 and stakeholders better manage drought risks and impacts. Financial assistance programs can help communities, businesses, and individuals cope with the economic impacts of droughts by providing targeted support. These programs include emergency relief, subsidies for water-saving technologies, and crop insurance. Nature-based solutions (NBS) 34 are primary considered non-structural measures that use natural ecosystems to address water-related challenges, including droughts. The next sections discuss NBS, water markets, water pricing, and managed aquifer recharge in greater detail. 5. Nature-Based Solutions NBS are approaches that aim to protect, restore, and manage ecosystems in a way that addresses societal challenges, while simultaneously providing human well-being and biodiversity benefits. These solutions draw inspiration from nature and natural processes to develop sustainable, cost-effective, and resilient strategies for tackling issues like climate change, water security, food security, and disaster risk reduction. The World Wildlife Fund states that studies have shown solutions based on nature and the wise use of land could potentially provide as much as 30% of the mitigation measures to reduce the impact of climate change by 2050, as required to achieve the goal of the Paris Agreement to limit global warming (WWF 2020). NBS not only help in addressing environmental challenges but also contribute to social and economic objectives, such as job creation, poverty reduction, and community empowerment. NBS can be an effective strategy to address and manage drought risks by enhancing the resilience of ecosystems and communities to water scarcity. By focusing on the protection, restoration, and management of ecosystems, NBS can help mitigate the impacts of droughts and support adaptation to changing climate conditions. NBS for drought risk management and climate resilience include: 1) Ecosystem restoration and conservation: Restoring degraded landscapes, such as forests, wetlands, and grasslands, can help regulate water flow, reduce soil erosion, and increase water retention, thus reducing the impacts of droughts. Conserving existing healthy ecosystems can help maintain their natural drought resilience and their capacity to provide essential ecosystem services. 2) Watershed management: Protecting and restoring watersheds, including forests and wetlands, can help maintain and enhance the natural water storage capacity of ecosystems. This helps regulate water flow, reduces soil erosion, and improves water quality, making it easier to manage water resources during periods of drought. 3) Sustainable agriculture and agroforestry: Implementing sustainable agricultural practices, such as conservation tillage, organic farming, and crop diversification, 142 34 Nature-based solutions can be an effective and cost-efficient approach to climate change adaptation, as they often provide multiple benefits, such as carbon sequestration, habitat conservation, and improved human well-being. Integrating nature-based solutions into broader climate change adaptation and drought risk management strategies can help increase resilience and sustainability in the face of a changing climate. can help improve soil health, increase water-holding capacity, and reduce the vulnerability of crops to drought. Agroforestry, which combines trees with crops and/or livestock, can provide multiple benefits, such as improved water regulation, reduced soil erosion, and enhanced biodiversity, all of which contribute to boosting climate resilience. In addition, agroforestry can increase the resilience of communities to droughts by providing additional sources of income or creating jobs. 4) Green Infrastructure: Green infrastructure, such as urban parks, green roofs, and rain gardens, can help enhance water infiltration and storage, reduce stormwater runoff, and provide cooling effects in urban areas, mitigating the impacts of droughts and heatwaves. Green infrastructure can also help support biodiversity and provide recreational and mental health benefits for urban populations. 5) Managed Aquifer Recharge (MAR): MAR involves the intentional replenishment of groundwater resources using natural infiltration systems, such as wetlands, or engineered infiltration systems, such as recharge basins or injection wells. This technique helps increase groundwater storage and availability during droughts, while also providing other benefits, such as improved water quality and reduced land subsidence. 6) Reforestation and afforestation: Planting trees and restoring forests can improve water infiltration and groundwater recharge, reducing the risk of drought by enhancing the ecosystem's ability to retain water. Forests also help regulate local and regional climate conditions by increasing evapotranspiration and reducing surface temperatures. 6. Water Pricing, Water Marketing, and Water Markets Water marketing and water pricing are two distinct concepts used in water management. While water marketing focuses on the allocation and trading of water rights between users, water pricing is concerned with determining the cost of water to end users. Griffin (2016) defines water marketing as a management policy for trading natural water (surface water and groundwater), while water pricing pertains to pricing of partially or fully processed (retail) water. Water marketing and water pricing are essential components of water resource management that focus on different aspects of water allocation and consumption. They are designed to promote the efficient use of water resources, reduce waste, and ensure sustainability. Water marketing facilitates the operation of water markets. Water marketing refers to the strategies and activities involved in promoting and facilitating the trading of water rights among users (that is, the water markets), while water markets are institutional mechanisms or platforms that allow for the buying, selling, or trading of water rights, allocating water resources more efficiently based on supply and demand dynamics. Water marketing supports the functioning of water markets by raising awareness, providing information, and assisting with transactions. Water pricing, water marketing, and water markets are non-structural measures that can 143 help mitigate drought by promoting efficient water use, reducing water demand, and reallocating water resources to areas and users with the greatest need. These measures create economic incentives and mechanisms that encourage more sustainable water management practices during drought conditions. 7. Managed Aquifer Recharge Managed Aquifer Recharge (MAR) is a strategic approach to water resource management that intentionally recharges water into aquifers for future extraction and utilization. As an effective drought mitigation strategy, MAR increases water availability during times of scarcity. The process generally involves capturing and storing surplus surface water, treated wastewater, or stormwater, which is then infiltrated into underground aquifers to replenish groundwater resources. MAR offers numerous drought risk management advantages, such as heightened water availability, improved groundwater quality, decreased land subsidence, and ecosystem restoration. By storing water during periods of abundance and recharging aquifers, MAR guarantees water resources are accessible during droughts. This enhances water security and diminishes dependency on expensive, energy-intensive alternatives like desalination or long-distance water transfers. MAR can also boost groundwater quality by diluting contaminants and fostering natural processes. Employing treated wastewater or stormwater for recharge further augments water supplies while minimizing pollutant discharge into the environment. Over-extraction of groundwater can cause land subsidence, harming infrastructure and reducing aquifer storage capacity. MAR counteracts this by sustaining groundwater levels and averting subsidence. Additionally, MAR can preserve or restore groundwater-dependent ecosystems, such as wetlands and riparian habitats, thereby supporting biodiversity and delivering crucial ecosystem services like water purification and flood control. In California, farmers are mitigating drought effects by harnessing atmospheric rivers (ARs) during wet years to recharge depleted groundwater basins, thereby improving the groundwater supply required for irrigation. ARs are elongated, narrow bands of concentrated atmospheric water vapor that transport substantial moisture from tropical and subtropical regions to higher latitudes. They contribute significantly to precipitation in specific areas, particularly along the United States' West Coast, including California. When an AR reaches land, it can produce heavy precipitation with both beneficial and detrimental consequences, such as relieving drought, causing floods, and triggering landslides. California has experienced severe droughts in recent years, resulting in over-drafted groundwater basins due to farmers' heavy reliance on groundwater for irrigation. Over- drafting occurs when more water is extracted from an aquifer than is replenished, causing groundwater levels to drop, and potentially leading to long-term resource depletion. To tackle this issue, some California farmers have been capitalizing on atmospheric rivers to recharge over-drafted groundwater basins. This practice, also known as MAR, entails 144 capturing excess surface water during intense precipitation events and infiltrating it into the ground via direct ponding on agricultural fields or recharge basins, ultimately replenishing the aquifers. Utilizing atmospheric rivers to recharge over-drafted groundwater basins can be a sustainable and effective solution to water scarcity in California, if it is carefully managed and supported by comprehensive monitoring and forecasting systems. Water management policies and measures, such as drought contingency plans and economic incentives, are crucial in promoting this practice. 8. Drought Risk General Guidelines World Bank Drought Guidelines The World Bank document titled, “Assessing Drought Hazard and Risk – Principles and Implementation Guidance,� provides a comprehensive guide for understanding and managing the risks associated with drought. The publication serves as a valuable resource for policymakers, practitioners, and researchers working on drought risk management, providing them with the necessary knowledge and tools to assess and reduce the impacts of drought on societies and economies (World Bank 2019). It discusses various aspects of drought, including its types (meteorological, hydrological, agricultural, and socio-economic), factors affecting its occurrence, and severity. It provides methods for assessing drought hazards, such as monitoring, early warning systems, and vulnerability assessment, emphasizing the need for integrated data. The book also offers guidance on drought risk management strategies and highlights the importance of proactive, integrated, and participatory approaches. It discusses the role of governments and institutions in coordinating drought risk management efforts and provides case studies from around the world to demonstrate practical applications of these principles. World Bank (2019) emphasizes that drought management has historically been reactive, but a paradigm shift is needed towards proactive measures that improve resilience and preparedness. Examples include drought detection, forecasting systems, water use policies, awareness-raising, and social protection frameworks. Governments around the world have begun investing in drought policies and management plans to reduce impacts on society, the environment, and the economy. Several guidelines have been developed for creating these plans, such as the “Guidelines for Preparation of Drought Management Plans� (GWPCEE 2015), and the Mediterranean Drought Preparedness and Mitigation Planning (MEDROPLAN) Guidelines for Drought Management for Mediterranean countries (Iglesias 2008). Global Water Partnership Drought Guidelines Authored by the Global Water Partnership Central and Eastern Europe, the “Guidelines for Preparation of the Drought Management Plans� provide a framework for European 145 countries to develop, implement, and update drought management plans. The document emphasizes a proactive approach to minimize drought impacts through early warning systems, risk assessment, and preparedness measures. The guidelines also promote stakeholder engagement and cooperation among various sectors to achieve efficient water management and sustainable development (GWPCEE 2015). The guidelines promote a proactive and integrated approach to drought management in Europe, aimed at reducing the impacts of droughts on society, the economy, and the environment. They encourage countries to develop comprehensive plans that include early warning systems, risk assessments, preparedness measures, and stakeholder engagement, along with regular monitoring and evaluation. In the guidelines, risk assessment, preparedness measures, and stakeholder engagement are vital for effective drought management. Risk assessment involves evaluating drought likelihood and consequences to prioritize actions, including identifying drought-prone areas, assessing sector and population vulnerabilities, and estimating potential impacts. Preparedness measures consist of technical, policy, and institutional actions that reduce vulnerability and enhance resilience. Stakeholder engagement is essential for identifying concerns, promoting cooperation, and raising public awareness. Together, these components contribute to a comprehensive and proactive drought management approach, aiming to minimize drought impacts on society, the economy, and the environment. California Drought Risk Management Guidelines Drought in California can be best understood by considering its effects on specific water users within a localized area. Hydrologic conditions that cause drought for one community may not impact others in different regions or with distinct water supplies. California's vast network of water storage and delivery systems, collectively called the State Water Project (SWP), that includes dams, reservoirs, pumping plants, aqueducts, and interregional conveyance facilities, mitigate short-term dry spells for most users. Individual suppliers may employ various criteria, such as rainfall, runoff, water storage, groundwater level decline, or expected wholesaler supply, to define their water supply conditions. Statewide drought indicators, like runoff and reservoir storage, may not capture these local nuances. While California's infrastructure helps alleviate drought impacts for most users, other consequences, like heightened wildfire risks or strain on vegetation and wildlife, remain. Drought is a recurring problem in California, which has significant implications for agriculture, urban water supply, and natural ecosystems. DRM in California involves a multi-faceted approach that includes monitoring, planning, conservation, regulation, groundwater management, agricultural water management, infrastructure development, public outreach, coordination, and research. By implementing these strategies, California can better prepare for and mitigate the impacts of drought, ensuring a more 146 resilient and sustainable water supply for the state. These strategies are discussed as follows: 1) Monitoring and early warning systems: Regular monitoring of climatic conditions, soil moisture, and snowpack levels are critical to identify the onset of drought conditions. Early warning systems can help in alerting decision-makers and the public, allowing for timely implementation of response measures. California relies on a network of monitoring stations and tools, such as the California Drought Monitor, to keep track of drought conditions. 2) Drought planning: Developing comprehensive drought plans is a key aspect of drought risk management in California. California's drought plans include clearly defined objectives, roles, and responsibilities, along with triggers for implementing response measures. This ensures that stakeholders, such as water agencies, local governments, and farmers, are aware of their roles and can act in a coordinated manner during drought events. 3) Water conservation and restrictions: Water conservation measures are crucial to managing water supply during droughts. Urban and agricultural water users adopt practices that reduce water waste and improve water-use efficiency. This can include measures such as replacing inefficient irrigation systems, using drought-tolerant landscaping, and implementing water reuse and recycling programs. During droughts, the state government may implement mandatory water use restrictions to reduce consumption. These restrictions may include limiting outdoor irrigation, prohibiting washing of cars, sidewalks, and driveways, restricting the use of fountains, and encouraging shorter showers and low-water- use appliances. 4) Emergency drought regulations: The State Water Resources Control Board (SWRCB), a sister agency of the California Department of Water Resources (DWR), may adopt emergency regulations to further conserve water during severe drought conditions. This can include setting strict conservation targets for urban water suppliers and potentially imposing fines on those who fail to comply. 5) Groundwater management: The Sustainable Groundwater Management Act (SGMA), passed in 2014, requires local agencies to develop and implement groundwater sustainability plans to prevent overdraft and ensure long-term availability of the resource. 6) Agricultural water management: Farmers may be required to adopt more efficient irrigation methods, such as drip irrigation, to reduce water waste. Additionally, they may be encouraged to grow drought-tolerant crops or participate in fallowing programs to conserve water. 7) Infrastructure development: Building and maintaining resilient water infrastructure help in mitigating the impacts of drought. This includes expanding surface water storage facilities, improving groundwater management, and developing alternative water sources such as desalination plants. Infrastructure investments help in enhancing the reliability and flexibility of California's water supply systems. 147 8) Public outreach and education: Educating the public about the importance of water conservation and efficient water use plays a significant role in managing drought risks. This includes awareness campaigns to adopt water-saving measures aimed at reducing water waste to foster a culture of water conservation. 9) Coordination and collaboration: DRM requires close collaboration between various stakeholders, including local, state, and federal agencies, as well as water users and the public. Coordination is crucial to ensure that resources are used effectively, and response measures are implemented in a timely manner. 10) Research and innovation: DWR continuous to do innovative research to identify new strategies, models and tools for drought risk management. This includes developing more accurate forecasting models, identifying novel water-saving technologies, and exploring alternative water sources. 9. Economic Analysis Steps for Drought Risk Management What is Economic Analysis in the context of droughts? Economic analysis is the systematic examination of the economic aspects of a particular situation, policy, project, or market to understand its functioning, identify potential issues, and provide recommendations for decision-making. It involves the use of economic concepts, tools, and theories to analyze economic phenomena, relationships, and outcomes. Economic analysis can be broadly categorized into two main types: microeconomic analysis and macroeconomic analysis. Microeconomic analysis focuses on the behavior of individual economic agents such as consumers, firms, and households, as well as the functioning of individual markets. It examines topics such as supply and demand, pricing, production, consumption, market structures, and the allocation of resources. Macroeconomic analysis, on the other hand, studies the economy, addressing issues like economic growth, inflation, unemployment, fiscal and monetary policy, international trade, and the overall functioning of an economic system. Economic analysis is used by governments, businesses, financial institutions, and non- profit organizations to inform policymaking, strategic planning, and investment decisions. Various methods and tools are employed in economic analysis, including econometrics, cost-benefit analysis, input-output analysis, and computational models, among others. Objectives of Economic Analysis Economic analysis is crucial for evaluating drought risk management options because it helps decision-makers and stakeholders make informed decisions about the most efficient and effective ways to allocate limited resources in addressing drought-related challenges. Droughts can have significant economic, social, and environmental impacts, 148 and effective management strategies are essential to mitigate these consequences. In this context, economic analysis serves several objectives: 1) Economic analysis helps identify and prioritize the most cost-effective drought management options by comparing their costs, benefits, and overall effectiveness. This enables decision-makers to allocate resources to the strategies that provide the greatest return on investment and minimize the negative impacts of droughts. 2) By estimating the costs and benefits of various drought risk management options, economic analysis provides a framework for understanding the trade-offs involved in implementing different strategies. This allows stakeholders to make informed choices about which options are the most beneficial, considering both short-term and long-term outcomes. 3) Drought management often involves competing demands for scarce resources, such as water, financial resources, and human capital. Economic analysis helps determine the optimal allocation of these resources to maximize the overall welfare of the affected population. 4) Droughts can have far-reaching economic consequences, affecting agriculture, industry, employment, and public services. Economic analysis can help quantify these indirect impacts, which can be important for understanding the full range of costs associated with different drought management options. 5) Governments may implement policies and regulations to address drought risks. Economic analysis can assess the effectiveness of these interventions, helping policymakers fine-tune their strategies and make adjustments as needed. 6) Economic analysis can facilitate dialogue among various stakeholders, such as government agencies, non-governmental organizations, and local communities. By providing a common framework for understanding the costs and benefits of different drought management options, economic analysis can foster collaboration and consensus-building in the decision-making process. In summary, economic analysis plays a vital role in evaluating drought risk management options by providing a comprehensive understanding of the costs, benefits, and trade- offs involved. This information helps stakeholders make well-informed decisions that maximize the overall welfare of the affected population and minimize the adverse effects of droughts. Guiding Principles Guiding principles are the fundamental values, beliefs, or philosophies that guide an organization, team, or individual throughout the decision-making process. They provide a long-term vision and framework, acting as a compass for navigating through various situations and challenges. Guiding principles provide a foundation for establishing goals, 149 strategies, and plans, as well as a framework for evaluating the outcomes and adjusting as needed. Below are guiding principles for having economic analysis guidelines for drought risk management. 1) Climate-informed decision making – Ensure that your analysis takes into account the latest climate change projections, such as changes in precipitation patterns and temperature, to assess the potential impacts of droughts on different sectors and the effectiveness of proposed risk management measures. 2) Equity and distributional considerations – Analyze the distribution of costs and benefits across different stakeholder groups, particularly focusing on vulnerable populations, such as low-income communities or marginalized groups, who might be disproportionately affected by droughts. Consider whether proposed risk management measures help reduce inequality and promote social cohesion. 3) Multi-benefit analysis – Evaluate the multiple benefits of drought risk management measures, including direct benefits (e.g., reduced water scarcity), indirect benefits (e.g., improved public health), and co-benefits (e.g., ecosystem services, enhanced resilience to other climate-related risks). Quantify and monetize these benefits where possible and acknowledge non-monetized benefits qualitatively. 4) Multi-sector integration - Recognize the interdependencies between different sectors, such as agriculture, water resources, energy, and ecosystems, when assessing the costs and benefits of drought risk management measures. Consider potential synergies and trade-offs between measures across sectors to optimize resource allocation and achieve the most significant overall benefits. 5) Collaboration and stakeholder engagement - Involve relevant stakeholders, such as government agencies, businesses, NGOs, and local communities, throughout the analysis process. Engage them in defining the objectives, identifying and prioritizing risk management measures, and evaluating the distribution of costs and benefits. This can help ensure that the analysis reflects diverse perspectives and fosters a sense of ownership and commitment to the proposed measures. 6) Adaptive management: Incorporate uncertainty and the need for flexibility into the analysis, given the dynamic nature of climate change and evolving knowledge about drought risks. Assess the robustness of different risk management measures under a range of future climate and socioeconomic scenarios, and prioritize measures that are flexible, adaptable, and can deliver benefits under various conditions. 7) Capacity building: Evaluate the capacity needs and potential capacity-building opportunities associated with implementing and maintaining drought risk management measures. Consider the costs and benefits of investing in capacity- building activities, such as training, technical assistance, or institutional strengthening, to enhance the effectiveness and sustainability of these measures. By integrating these guiding principles in the economic analysis guidelines, practitioners can develop a comprehensive and robust assessment of drought risk management options that supports informed decision-making and promotes resilience, equity, and sustainability. 150 Guiding steps for DRM economic analysis Economic analysis guidelines are a set of methodologies, and best practices used to assess the economic consequences of different policy options, investments, or projects. These guidelines help policymakers, businesses, and researchers to make informed decisions based on a systematic and consistent approach to evaluating the costs and benefits of various alternatives. Economic analysis guidelines can vary depending on the context and specific requirements of the decision-makers. Different countries, organizations, or disciplines may have their own guidelines or standards to follow. For example, the United States has specific guidelines for regulatory analysis, while the World Bank provides guidelines for conducting cost-benefit analysis of investment projects. In general, the following economic analysis guidelines outline the key steps and considerations for decision-makers to evaluate and implement effective drought risk management policies and interventions. 1) Defining the context and objectives - This is the initial step in any project, analysis, or decision-making process, as it sets the foundation for subsequent actions. This step involves clearly outlining the parameters, scope, and goals of the undertaking. This involves a. Identifying the problem or issue: Start by understanding the problem or issue you are addressing. For instance, in the case of drought risk management, the issue could be frequent droughts affecting the livelihoods of local farmers and causing economic losses. b. Determining the geographic scope: Clearly define the area or region you are focusing on. This could be a specific city, region, or country. Consider the unique characteristics of the area, such as climate, topography, and socio-economic factors. c. Determining the demographic scope: Identify the target population or stakeholders affected by the issue. This may include specific sectors (e.g., agriculture, water resources), communities, businesses, or demographic groups (e.g., rural farmers, urban dwellers). d. Specifying the time horizon: Establish a timeframe for the analysis, considering both short-term and long-term implications. This helps in determining the immediate actions required and the potential future consequences of those actions. e. Setting clear objectives: Develop specific, measurable, achievable, relevant, and time-bound (SMART) objectives that will guide your actions and decision-making. In the context of drought risk management, objectives might include reducing economic losses, increasing resilience, or minimizing social and environmental impacts. f. Identifying key stakeholders: Recognize the various stakeholders involved, such as government agencies, private sector entities, environmental groups and other non-governmental organizations, and 151 affected communities. Understanding their roles and interests can help in designing effective strategies and ensuring successful implementation. g. Understanding the broader context: Consider the larger socio-economic, political, and environmental context within which your issue exists. This may involve understanding related policies, regulations, and trends that could influence the problem and potential solutions. 2) Data collection and analysis - Data collection and analysis are crucial components of any project or decision-making process, as they provide the evidence and insights needed to inform your actions and strategies. They involve a. Identifying data sources: Explore existing data sources, such as government reports, research publications, databases, and organizational records. In some cases, you may need to collect primary data through surveys, interviews, or field observations. b. Developing a data collection plan: Design a plan outlining how, when, and where you will collect the data. Consider the appropriate methods and tools for data collection, such as questionnaires, interviews, or remote sensing. Ensure your plan adheres to ethical standards and data privacy regulations. c. Collecting data: Execute the data collection plan, ensuring accuracy, consistency, and reliability. Train data collectors, if needed, to ensure they understand the data collection process and can collect data effectively. d. Organizing and cleaning the data: Compile the collected data and organize it in a structured format, such as a spreadsheet or database. Check for any errors, inconsistencies, or missing values, and address them accordingly. e. Analyzing the data: Use appropriate analytical methods and tools to explore, describe, and interpret the data. This may involve descriptive statistics, trend analysis, correlation analysis, or more advanced techniques, such as regression or machine learning algorithms. f. Visualizing and interpreting results: Present the results of the analysis in a clear and concise manner, using tables, graphs, or maps, as appropriate. Interpret the findings in the context of your objectives and the broader situation. g. Validating and verifying the findings: Ensure the accuracy and reliability of your analysis by cross-checking the results with other data sources, seeking feedback from experts or stakeholders, or conducting sensitivity analyses. 3) Identification and evaluation of drought risk management options – These activities involve exploring potential strategies to address the drought-related challenges and assessing their effectiveness, feasibility, and acceptability. They 152 include the following steps: a. Researching existing strategies: Review literature, case studies, and best practices related to drought risk management to gather information on various measures that have been implemented or proposed in similar contexts. b. Brainstorming potential options: Based on your research and understanding of the specific context, brainstorm a range of potential drought risk management measures. These can include prevention, mitigation, preparedness, response, and recovery strategies, such as water-saving techniques, early warning systems, or alternative livelihood programs. c. Categorizing the options: Organize the identified measures into categories based on their purpose, such as reducing vulnerability, enhancing preparedness, or improving response capacity. This will help you focus on specific aspects of drought risk management and facilitate the evaluation process. d. Developing evaluation criteria: Establish a set of criteria to assess the potential options, considering factors such as efficiency, effectiveness, climate resilience, regional economics, and equity. Consider both quantitative (e.g., net present value) and qualitative (e.g., stakeholder perceptions) indicators. e. Assessing the options: Using the established criteria, evaluate each drought risk management measure, considering its potential benefits, drawbacks, and trade-offs. This may involve comparing the options based on their projected outcomes, implementation challenges, or potential synergies with other policies and initiatives. f. Prioritizing the options: Based on the evaluation results, prioritize the drought risk management measures that best address your objectives, have the greatest potential for success, and are most acceptable to stakeholders. Consider creating a ranked list or a shortlist of the top options for further analysis or consultation. g. Refining and adjusting the options: As needed, refine or adjust the prioritized measures to better fit the local context, address stakeholder concerns, or accommodate new information. This may involve modifying the design, scope, or implementation approach of the measures. h. Developing an implementation plan: For the prioritized options, develop a detailed implementation plan that outlines the required resources, timeline, responsibilities, and monitoring and evaluation mechanisms. This will help ensure a smooth and effective rollout of the chosen drought risk management measures. 4) Incorporation of risk and uncertainty – Incorporating risk and uncertainty is essential for any decision-making process, as it acknowledges the inherent unpredictability of various factors and outcomes. It helps you develop more robust 153 and resilient strategies that can withstand or adapt to unexpected changes or developments. This involves a. Identifying uncertainties: Start by identifying the key sources of uncertainty in your analysis or project. This may include uncertainties in data, models, assumptions, projections, or the effectiveness of interventions. For example, in drought risk management, uncertainties could stem from climate change projections or the adoption of proposed measures by stakeholders. b. Assessing the risks: Evaluate the potential risks associated with the identified uncertainties, considering their likelihood and potential impact on your objectives or outcomes. This will help you prioritize the risks and determine which ones require the most attention or mitigation efforts. c. Using appropriate analytical tools: Employ a range of analytical tools and techniques to account for uncertainties and quantify the potential range of outcomes. Some commonly used methods include scenario analysis, sensitivity analysis, and probabilistic risk assessment. These methods can help you explore the implications of different assumptions, conditions, or parameter values on your analysis or project outcomes. d. Developing adaptive strategies: Design flexible and adaptive strategies that can accommodate or respond to changes in conditions or new information. This may involve incorporating contingency plans, triggers, or decision points in your project plan, which can be activated when certain thresholds or conditions are met. e. Monitoring and updating: Establish a monitoring system to track key variables, indicators, or conditions over time. This will help you detect changes or trends that may affect your analysis or project outcomes, and make adjustments as needed. Regularly review and update your assumptions, models, and strategies to ensure they remain relevant and effective in light of new data or developments. f. Communicating uncertainties and risks: Clearly communicate the uncertainties and risks associated with your analysis or project to stakeholders, decision-makers, and other relevant parties. This helps to set realistic expectations, facilitate informed decision-making, and foster a culture of transparency and accountability. 5) Stakeholder engagement and communication - Stakeholder engagement and communication are critical components of any project, analysis, or decision- making process. Engaging stakeholders helps to ensure that diverse perspectives are considered, builds trust and support for your efforts, and facilitates the successful implementation of your strategies. These activities involve a. Identifying stakeholders: Start by mapping out the key stakeholders involved in or affected by your project or analysis. This may include individuals, groups, organizations, or communities with an interest or influence in the issue at hand. Consider both primary (directly affected) 154 and secondary (indirectly affected) stakeholders. b. Understanding stakeholder interests and concerns: Conduct research, interviews, or consultations to gain insights into the interests, concerns, and expectations of your stakeholders. This will help you better understand their needs and priorities, identify potential conflicts, and develop strategies that are responsive to their perspectives. c. Developing an engagement plan: Create a stakeholder engagement plan that outlines your objectives, approach, and methods for involving stakeholders in your project or analysis. Consider various engagement techniques, such as workshops, focus groups, surveys, or participatory planning processes, and select those that are most appropriate for your context and stakeholders. d. Engaging stakeholders early and often: Involve stakeholders throughout the project or decision-making process, from the initial planning stages to implementation, monitoring, and evaluation. Early and ongoing engagement helps to build trust, ensure transparency, and facilitate collaboration and learning. e. Fostering open and inclusive dialogue: Create a safe and inclusive space for stakeholders to share their views, ask questions, and provide input. Encourage active listening, respect diverse perspectives, and be open to feedback and criticism. f. Communicating effectively: Develop clear, concise, and accessible communication materials that convey the objectives, process, and outcomes of your project or analysis. Tailor your communication approach to the needs and preferences of different stakeholder groups, using appropriate language, formats, and channels. g. Monitoring and evaluating engagement: Establish mechanisms for monitoring and evaluating your stakeholder engagement efforts. Collect feedback from stakeholders, assess the effectiveness of your engagement techniques, and adjust your approach as needed to improve the quality of engagement and ensure that stakeholder concerns are being addressed. 6) Integrating drought risk management into broader policy frameworks – This is crucial for ensuring a holistic, coordinated, and effective approach to addressing drought-related challenges. This helps align drought risk management with other policy objectives, leverage resources, and create synergies across different sectors and initiatives. This activity includes a. Reviewing existing policies and plans: Analyze relevant national, regional, and local policies, plans, and strategies to identify existing provisions, priorities, and gaps related to drought risk management. This may include policies on climate change, agriculture, water resources, disaster risk reduction, or socio-economic development. b. Identifying linkages and synergies: Determine the connections and 155 potential synergies between drought risk management and other policy areas, such as food security, water management, or environmental protection. This will help you understand how drought risk management can complement or support broader policy objectives, and vice versa. c. Engaging relevant stakeholders: Collaborate with stakeholders from various sectors and levels of government involved in policymaking, planning, and implementation. This helps to build support for integrating drought risk management into broader policy frameworks and ensures a coordinated and cohesive approach. d. Aligning objectives and actions: Ensure that the objectives, actions, and measures of your drought risk management strategy are aligned with and support the goals and priorities of relevant policy frameworks. This may involve revising your strategy to better align with existing policies or advocating for changes in broader policies to accommodate drought risk management priorities. e. Developing cross-sectoral partnerships: Establish partnerships and collaborations with organizations, agencies, or initiatives working in related policy areas to leverage resources, share knowledge, and enhance the effectiveness and efficiency of drought risk management efforts. f. Integrating monitoring and evaluation: Incorporate drought risk management indicators and targets into the monitoring and evaluation systems of broader policy frameworks. This will help track progress, assess the effectiveness of integrated approaches, and inform future policy revisions and adjustments. g. Advocating for policy integration: Raise awareness among decision- makers, stakeholders, and the public about the importance of integrating drought risk management into broader policy frameworks. Share evidence, case studies, and best practices to demonstrate the benefits of a coordinated and holistic approach to addressing drought-related challenges. 10. Decision Criteria for Analysis Decision criteria are differentiated from guiding principles in that the former are the specific factors, attributes, or standards used to evaluate and compare different alternatives when making decisions while the latter are the overarching values and beliefs that provide a general framework for decision-making. Thus, guiding principles shape the overall approach and culture of decision-making, while decision criteria provide a structured way to analyze and prioritize alternatives. Decision criteria are critical in the decision-making process because they help ensure that the decision is well-informed, objective, and aligned with the goals or objectives at hand. Decision criteria can be quantitative (measurable) or qualitative (subjective) in nature, depending on the context and the type of decision being made. 156 Decision-makers often use decision criteria to create a decision matrix, which is a structured method for comparing and ranking alternatives based on their performance against the chosen decision criteria. By establishing clear decision criteria, decision- makers can reduce biases, improve the decision-making process, and ultimately make better choices. The recommended decision criteria for assessing the economics of drought risk management options include economic efficiency, climate resilience, regional economic impact, equity and distributional effects, multiple benefit analysis, and stakeholder acceptability. These criteria provide direction to analysts, decision-makers, and stakeholders on the appropriate methods, models, and tools for evaluating the economic feasibility of various management options. Decision criteria play a crucial role in ensuring that proposed solutions are not only effective in addressing drought issues but also consider broader social, environmental, and economic impacts. These criteria are discussed below. 1) Economic efficiency: Economic efficiency refers to the optimal allocation of resources to achieve the maximum possible benefit at the lowest possible cost. In the context of drought risk management, economic efficiency involves selecting management strategies and options that provide the greatest benefits in terms of reducing the adverse impacts of droughts while minimizing the resources required for their implementation. Methods such as benefit-cost analysis can be employed to compare the costs of various options, such as water conservation measures, infrastructure investments, early warning systems or drought insurance programs, with the benefits they provide. 2) Climate resilience: Climate resilience evaluates the capacity of a drought risk management option to adapt and function under changing climatic conditions. A solution that enhances climate resilience is designed to be flexible and adaptable, ensuring long-term effectiveness in mitigating drought impacts even in the face of future climate uncertainties. Climate change adaptation measures aim to reduce the vulnerability of communities, ecosystems, and economies, and make them more resilient to the impacts of climate change, such as droughts. Nature-based solutions (NBS) are an increasingly popular approach to climate adaptation and resilience that focus on the use of natural ecosystems and processes to provide multiple benefits, including increased resilience to drought impacts, enhanced ecosystem services, and improved human well-being. 3) Regional economic impact: Drought risk management options can have various economic implications at the regional level. This criterion assesses the extent to which a particular option will affect regional economic growth, employment opportunities, and overall economic stability. It is important to consider both the positive and negative impacts on the regional economy. 4) Equity or distributional effect: This criterion evaluates the fairness of drought risk management options, considering how the costs and benefits are distributed among different social groups, including low-income communities, marginalized populations, and future generations. An equitable solution will ensure that the benefits are accessible to all while minimizing the disproportionate burden on 157 vulnerable groups. 5) Multiple benefit analysis: This criterion recognizes that drought risk management options can often provide additional benefits beyond drought mitigation. These can include improvements in public health, ecosystem services, and recreational opportunities, among others. A multiple benefit analysis can help identify options that offer the greatest overall value to society. 6) Stakeholder acceptability: Public support is crucial for the successful implementation of any drought risk management option. Stakeholder acceptability assesses the extent to which a proposed solution is supported by various stakeholders, including local communities, government agencies, and non-governmental organizations. Engaging stakeholders in the decision-making process and addressing their concerns can help enhance the acceptability of a proposed solution. The above criteria offer a comprehensive framework for evaluating the economics of drought risk management options. By considering factors such as economic efficiency, climate resilience, and equity, decision-makers can identify solutions that not only mitigate drought impacts but also contribute to broader social, environmental, and economic objectives. 11. Methods, Models and Tools for Drought Risk Management Based on the decision criteria, a combination of methods, models, and tools can be employed. Adapted from Asinas (in progress), these approaches can help decision- makers identify and compare the costs and benefits of different strategies and options, considering various social, environmental, and economic factors. The following methods, approaches, models, and tools can be used individually or in combination to address the decision criteria for evaluating the economics of drought risk management options. Economic Efficiency: • Benefit-Cost Analysis (BCA): BCA is a common approach to compare the benefits and costs of implementing different drought risk management options. It helps determine the net benefits of each option and allows for comparison across alternatives. BCA measures include Net Present Value (NPV), Benefit-Cost Ratio (BCR) and Internal Rate of Return (IRR). Boardman et al. (2021) describe and illustrate the major steps for conducting BCA (also known as Cost-Benefit Analysis (CBA)). • Cost-Effectiveness Analysis (CEA): CEA is an alternative method to BCA when data for benefits are not available or benefits are hard to quantify or monetize. CEA helps to identify the least-cost option to achieve a specific objective, such as reducing the impact of droughts on agricultural production. Climate Resilience: • Climate Vulnerability and Adaptation Assessments: These assessments analyze the vulnerability of a region or sector to climate change and help identify 158 adaptation measures that can increase resilience to droughts. • Water Evaluation And Planning (WEAP) system: WEAP is a software tool designed for integrated water resources planning and management. WEAP can help decision-makers and stakeholders evaluate climate resilience, identify effective adaptation strategies, and develop climate-resilient and adaptive water management plans. Its scenario-based approach and flexibility in incorporating various factors make it suitable for addressing the uncertainties and complexities associated with climate change and water resources management. • Climate Risk Informed Decision Analysis (CRIDA): CRIDA provides a structured framework to help decision-makers identify, assess, and manage climate-related risks and uncertainties, such as droughts, in the context of water resource management, infrastructure planning, and other activities. By integrating the principles of risk management, decision analysis, and climate science, CRIDA enables decision-makers to make more informed, robust, and adaptive decisions, ultimately enhancing the climate resilience of their systems and communities. Regional Economics (also known as Economic Impact Analysis): • Input-Output (IO) Analysis: This method helps estimate the economic impacts of droughts and risk management options on regional economies, by examining the interdependencies among industries and sectors. Examples of IO models are the Impact Planning (IMPLAN) model (https://implan.com/cloud/) and the Regional Input-Output Modeling System (RIMS II) (https://apps.bea.gov/regional/rims/rimsii/ ). • Computable General Equilibrium (CGE) Models: CGE models are used to assess the regional economic impacts of various policies and interventions, including drought risk management options. An example of CGE model is the Regional Economic Modeling Incorporated (REMI) system (https://www.remi.com/ ). Equity and Distributional Effects: • Distributional Impact Analysis: This approach assesses the effects of drought risk management options on different income groups, vulnerable populations, and geographic areas. • Weighted Benefit-Cost Analysis (WBCA): WBCA is a decision-making tool that allows decision-makers to compare and evaluate the potential outcomes of different projects, policies, or investments. It extends traditional benefit-cost analysis by incorporating different weights to account for preferences or priorities of various stakeholders, objectives, or criteria. Applying social equity weights in WBCA for drought risk management involves assigning weights to criteria that capture social equity and distributional concerns. By applying these weights, decision-makers and stakeholders can ensure that social equity concerns are explicitly considered in the evaluation process. • Social Welfare Function (SWF) approach: SWF aims to aggregate individual preferences, well-being, or utility to evaluate and compare the overall welfare or well-being of a society. Applying a SWF to evaluate social equity in drought risk 159 management involves examining the distribution of benefits, costs, and risks associated with drought management policies among different groups or individuals within society. The goal is to ensure that the implemented policies contribute to a fair and equitable distribution of resources and risks, while also effectively addressing drought-related challenges. Multiple Benefit Analysis: • Multi-Criteria Analysis (MCA): MCA is a systematic approach that allows for the evaluation of multiple objectives and criteria. It can be used to assess the trade- offs between economic, social, and environmental benefits of various drought risk management options. It is also known as Multi-Criteria Decision Analysis (MCDA) or Multi-Attribute Decision Making (MADM). MCA can be used to evaluate management options or strategies to address drought risks so that decision- makers can make informed decisions that consider multiple criteria and stakeholders' preferences, values, and priorities. This can lead to more effective and sustainable management of drought risks. • Ecosystem Services Valuation: This method estimates the monetary value of ecosystem services provided by different risk management options, such as water regulation, carbon sequestration, and biodiversity conservation. An example of this method is the Integrated Valuation of Ecosystem Services and Tradeoffs (InVEST). InVEST is a suite of tools designed to assess and quantify the values of ecosystem services and natural capital under different land-use and management scenarios. InVEST helps decision-makers identify how changes in ecosystems can impact human well-being and the economy, making it a useful tool in the context of drought risk management. Stakeholder Acceptability: • Participatory Decision-Making: Involving stakeholders in the decision-making process, through methods such as focus groups, workshops, and surveys, can help identify priorities and preferences, and improve the acceptability of drought risk management options. • Delphi Technique: This is a structured communication technique that uses a panel of experts to reach a consensus on the most suitable drought risk management options based on various criteria. • The CRIDA framework promotes stakeholder engagement and collaboration through various participatory methods, such as workshops, focus groups, surveys, and scenario planning exercises. These methods enable stakeholders to actively contribute to the climate risk assessment, decision scaling, and robust decision- making processes, ensuring that the resulting risk management strategies are responsive to local needs, contextually appropriate, and supported by a broad range of stakeholders. 12. Climate Risk Informed Decision Analysis (CRIDA) CRIDA is a bottom-up vulnerability assessment framework for water resources planning 160 and design under uncertainty (Mendoza et al. 2018). Mendoza et al. (2018) provide a comprehensive guidance for applying CRIDA in water resources planning. It is a framework designed to help water resources planners, engineers, and decision-makers incorporate climate risk information into planning, design, and operational processes. The main goal of CRIDA is to improve the resilience of water resources systems in the face of climate change uncertainties. It promotes a systematic, collaborative approach that emphasizes stakeholder engagement and utilizes robust scientific data and risk management principles. By fostering collaboration, stakeholder engagement, and the use of robust scientific data, the CRIDA framework aims to help decision-makers develop flexible and resilient strategies to address risks and uncertainties associated with climate change. The key components of the CRIDA framework are problem identification, stakeholder engagement, risk assessment, decision scaling, adaptation pathways, collaborative decision-making, and monitoring and evaluation. Implementing the CRIDA framework to evaluate the economics of drought risk management involves a systematic and collaborative process that integrates climate risk information, stakeholder engagement, and risk management principles. This can be done in the following steps: 1) Problem Identification: Clearly define the objectives of drought risk management, including the identification of vulnerable sectors, communities, and ecosystems. Determine the key performance indicators for evaluating the success of drought management strategies. 2) Stakeholder Engagement: Engage relevant stakeholders, including government agencies, local communities, businesses, and non-governmental organizations, to ensure diverse perspectives, local knowledge, and values are incorporated into the decision-making process. 3) Risk Assessment: Assess the vulnerability and risk associated with drought by considering various climate scenarios and their potential impacts on water resources, agriculture, energy, and other sectors. Use hydrological models, climate projections, and socio-economic data to quantify the magnitude and likelihood of drought events under different climate conditions. 4) Decision Scaling: Tailor drought risk management strategies to the specific needs of the affected sectors and communities. Identify the most relevant drought risks, evaluate the effectiveness of potential adaptation measures, and prioritize actions based on their potential to reduce vulnerability and increase resilience. 5) Adaptation Pathways: Develop a set of flexible and adaptive drought management strategies that can be implemented over time. These adaptation pathways should include a combination of short-term and long-term measures, such as demand management, infrastructure improvements, policy changes, and capacity building. 6) Economic Analysis: Evaluate the costs and benefits of different drought risk management strategies using cost-benefit analysis, cost-effectiveness analysis, or multi-criteria decision analysis. This step should take into account the uncertainties 161 associated with climate change, as well as the social, environmental, and economic impacts of drought events. 7) Collaborative Decision-Making: Work with stakeholders to identify, evaluate, and prioritize drought risk management options based on their effectiveness, feasibility, and acceptability. This process should be transparent and inclusive, allowing stakeholders to express their preferences and concerns. 8) Implementation and Monitoring: Implement the selected drought risk management strategies and continuously monitor their effectiveness through regular data collection and analysis. This step should involve feedback loops to inform adaptive management and adjust strategies as needed The California Department of Water Resources is undertaking multiple watershed feasibility studies, utilizing the CRIDA framework. Each study spans a period of three years and costs about $5 million. The CRIDA methodology has been implemented to evaluate the implications of climate change on water security within the Limarí River basin in Chile. Furthermore, this approach has been utilized in conducting climate vulnerability assessments across diverse regions, including the Philippines, Sri Lanka, Thailand, Colombia, Zambia, and Sweden. For more information, please see the following site: https://iciwarm.info/crida- case-study-for-climate-vulnerable-chilean-river-basin-published/. 13. Water Evaluation And Planning (WEAP) Model The Water Evaluation and Planning (WEAP) system is a software tool developed to support integrated water resources planning and management. It was created by the Stockholm Environment Institute (SEI) to help decision-makers and stakeholders analyze complex water systems and evaluate potential strategies, policies, and infrastructure improvements under various scenarios. WEAP is widely used by governments (including state governments like California), non-governmental organizations, consultants, and researchers for water resources planning, policy analysis, and capacity building in various parts of the world. WEAP is designed to incorporate both quantitative and qualitative aspects of water management, taking into consideration the natural water system, water demands, infrastructure, management policies, and environmental constraints. The software is highly adaptable, allowing users to customize it for specific basins, regions, or systems. Implementing WEAP for drought risk management involves a series of steps designed to better understand water systems, assess current and future water demands, and develop effective management strategies to mitigate the impacts of droughts. This process can be implemented in the following steps: 1) Define the study area: Start by identifying the geographical area you want to focus on, such as a river basin, a region, or a specific water system. Collect relevant geographical, hydrological, and meteorological data to characterize the area's water resources, including surface water, groundwater, and climate variables. 2) Set up the WEAP model: Use the software's graphical interface to create a 162 schematic representation of your study area, including its water supply sources, demand sites, infrastructure, and other relevant elements. Input the necessary data on water resources, demands, and system characteristics into the model. 3) Establish a baseline scenario: Develop a baseline scenario that represents the current state of the water system, including existing infrastructure, policies, and management practices. This scenario will serve as a reference point for comparing the impacts of drought and potential management strategies. 4) Develop drought scenarios: Create various scenarios representing different drought conditions, such as varying levels of precipitation, temperature, and evapotranspiration. You can also incorporate climate change projections to assess the potential impacts of future droughts on your water system. 5) Assess vulnerability and risk: Use WEAP's modeling capabilities to simulate the impacts of each drought scenario on water resources, demands, and system performance. Evaluate how vulnerable different parts of the system are to drought, and identify areas where risks are highest. 6) Drought management strategies: Based on the vulnerability and risk assessments, develop a set of management strategies aimed at reducing the impacts of drought. These strategies could include demand-side measures (e.g., water conservation, efficiency improvements), supply-side measures (e.g., additional infrastructure, alternative water sources), and policy interventions (e.g., water allocation, drought contingency plans). 7) Evaluate and compare strategies: Use WEAP to assess the effectiveness of each management strategy under the different drought scenarios. Compare the strategies in terms of their ability to reduce vulnerability, improve system performance, and minimize the negative impacts of drought on the environment, economy, and society. 8) Stakeholder engagement: Throughout the process, engage with stakeholders such as government agencies, water users, and community groups to gather their input, ensure their concerns are addressed, and build consensus around the preferred management strategies. 9) Implement and monitor: Once the most effective strategies have been identified, work with relevant stakeholders to implement them and monitor their performance over time. Update the WEAP model periodically to incorporate new data, improved understanding of the system, and any changes in management practices or policies. The WEAP model has been widely employed in numerous watershed basins across the globe. For a curated list of select publications resulting from the utilization of WEAP, please visit the following website: https://www.weap21.org/index.asp?action=216. In California, the WEAP model has been utilized to assess the consequences of extreme climate events, both wet and dry, within the Merced watershed. Additionally, the model has been employed to examine the combined effects of climate change and urban expansion in the Central Valley. 163 14. Integrated Valuation of Ecosystem Services and Tradeoffs (InVEST) The InVEST model is a suite of tools designed to assess and quantify the values of ecosystem services and natural capital under different land-use and management scenarios. InVEST helps decision-makers understand the ecological, social, and economic impacts of land-use decisions, and identify strategies that can maintain or enhance the provision of ecosystem services for human well-being and sustainable development. The model comprises a set of spatially explicit, GIS-based modules that can be used to evaluate the impacts of different management scenarios on various ecosystem services, such as water provisioning, carbon sequestration, pollination, and recreation. Each module is designed to be user-friendly and accessible, allowing for easy customization and application in diverse contexts and scales. InVEST was developed by the Natural Capital Project, a partnership between Stanford University, the University of Minnesota, The Nature Conservancy, and the World Wildlife Fund. The project aims to integrate the values of ecosystem services and natural capital into planning, policy, and decision-making processes to promote more sustainable and resilient land-use practices. By providing decision-makers with robust and reliable information on the benefits and trade-offs associated with different land-use and management options, InVEST helps promote more informed and sustainable decision- making that considers the full range of ecological, social, and economic implications InVEST can be employed in drought risk management by evaluating the benefits of nature-based solutions, such as reforestation, watershed management, and wetland restoration, which can enhance water availability, reduce soil erosion, and improve water quality. These strategies can help mitigate the impacts of drought on ecosystems, communities, and the economy. While InVEST may not have specific modules designed explicitly for drought risk management, its ability to evaluate the benefits of nature-based solutions and ecosystem services under different management scenarios can provide valuable insights for decision-makers when planning and implementing drought risk management strategies. For an extensive overview of the various applications of the InVEST model, please visit the Natural Capital Project's website at: https://naturalcapitalproject.stanford.edu/software/invest. 15. Multi-Criteria Analysis (MCA) Multi-Criteria Analysis (MCA) is a decision-making tool that allows for the evaluation and comparison of different alternatives based on multiple criteria or objectives. It is particularly useful in situations where decision-makers need to consider multiple factors, often conflicting, when selecting the best course of action. MCA provides a systematic and transparent approach to the assessment, ranking, and selection of alternatives, taking into account economic, environmental, social, and technical factors. To evaluate management options or strategies for drought risk, MCA can be conducted as follows: 1) Define the problem: Clearly articulate the objectives of the decision-making 164 process, such as minimizing drought impacts, enhancing water security, or improving drought resilience. 2) Identify alternatives: Generate a list of potential management options or strategies that could address the defined problem, such as water conservation measures, infrastructure investments, or policy changes. 3) Determine criteria: Establish a set of criteria to evaluate the alternatives. These could include cost-effectiveness, environmental impact, social acceptability, technical feasibility, and adaptability to future conditions. Criteria should be relevant, measurable, and comprehensive. 4) Collect and standardize data: Gather information and data on each alternative concerning the identified criteria. Standardize the data to enable comparisons, often by converting the raw data into a common scale, such as a 0-1 scale, where 0 represents the worst possible performance and 1 the best. 5) Assign weights: Assign relative importance or weights to each criterion, reflecting the preferences and priorities of decision-makers and stakeholders. This can be done through various techniques, such as pairwise comparison, ranking, or rating. 6) Calculate scores: Evaluate the performance of each alternative against the criteria, considering the assigned weights. This can be done using methods such as the weighted sum model, which multiplies the performance score of each alternative by the corresponding criterion weight and then sums the products. 7) Rank alternatives: Rank the alternatives based on their total scores, from the most to the least preferred. 8) Sensitivity analysis: Test the robustness of the results by conducting sensitivity analyses, varying the weights of the criteria, and assessing the impact on the ranking of alternatives. 9) Decision-making: Use the results of the MCA to inform decision-making, considering the ranking of alternatives, stakeholder preferences, and any additional insights gained through the process. 10) Monitor and review: Continuously monitor the chosen strategy's performance and periodically review the decision-making process to ensure its effectiveness, adaptability to changing circumstances. By implementing MCA for drought risk management, decision-makers can systematically and transparently evaluate and compare various options and strategies, considering their multiple objectives and the preferences of relevant stakeholders. This can lead to more informed, effective, and sustainable drought risk management decisions. For an application of the MCA methodology, please see Appendix G of the Handbook for Assessing Value of State Flood Management Investments at: https://cawaterlibrary.net/wp-content/uploads/2017/09/HAV_June2014_FINAL.pdf. Table 1 summarizes the general procedures, data needs and tools for evaluating the economics of drought risk management options. Economic analysis of drought management options involves assessing potential strategies to balance costs and benefits, addressing equity issues, and ensuring long-term resilience to climate change. 165 While this is a generalized approach, specific contexts will require tailored analyses. The economic analysis of drought management strategies is complex and multidimensional. Effective stakeholder engagement is critical in both developing and implementing a successful drought management plan. The data needs for economic analysis of drought management strategies can be substantial, and data quality, availability, and management are all key considerations in the analysis. All data used should be as up to date as possible, and care must be taken to ensure the data is reliable and accurate. The table also provides suggested methods, approaches, models, and tools that can be used in combination to assess the economics of drought management options. 166 Table 1. General Procedures, Data Requirements and Tools for Conducting Economic Analysis of Drought Risk Management Options or Strategies using Economic Efficiency, Equity and Climate Resilience as Decision Criteria. Economic Methods/Tools for Economic Analysis Procedures Data Needs and Requirements Evaluating Options 1. Define the Drought Problem and Set Objectives Hydrological data: precipitation, evaporation, • Benefit-Cost Analysis (BCA) • Objectives include minimize economic loss, maximize streamflow, groundwater levels, soil moisture, water supply reliability, protect vulnerable and reservoir storage. • Weighted BCA communities, and enhance long-term climate Climate data and projections: climate data resilience (temperature, rainfall, etc.) and projections. • Cost-Effectiveness Analysis (CEA) Socioeconomic data: population data, income 2. Identify Potential Management Options levels, employment statistics, etc. Water use data: water consumption in various • Regional economic models • Brainstorm and compile list of DRM options sectors (e.g., domestic, agricultural, industrial), and existing water pricing and billing data. • Water Evaluation and Planning 3. Stakeholder Engagement Infrastructure data: current water supply and (WEAP) model distribution infrastructure, including their age, 4. Quantify Costs and Benefits capacity, operational status, and maintenance • Climate Risk Informed Decision costs. Cost data: costs of implementing and operating Analysis (CRIDA) 5. Evaluate Options Using Efficiency Criteria different management options. Environmental data: Information on local • Social Welfare Function (SWF) 6. Evaluate Options Using Equity Criteria ecosystems, biodiversity, and environmental approach health. 7. Evaluate Options Using Climate Resilience Criteria Stakeholder data: stakeholder groups, their • Integrated Valuation of Ecosystem water use patterns, their vulnerability to drought, Services and Tradeoffs (InVEST) 8. Rank and Select Optimal DRM Option/s their preferences and values, and their ability to model • Rank options. The option/s selected is/are the one/s adapt to different management options. that best meet/s the objectives and decision criteria. Policy and regulatory information: policies, laws, and regulations that could influence the • GIS-based visualization and mapping implementation of DRM strategies. tools 9. Monitor and Review Data from previous droughts: records of past • Periodically review the chosen DRM option droughts and their impacts, as well as any • Multi-Criteria Analysis (MCA) measures that were implemented and their effectiveness. 167 16. References • Asinas, E. In Progress. “DWR Economic Analysis Guidebook for Watershed Management and Multi-benefit Planning.� Sacramento, CA: California Department of Water Resources. • Department of Water Resources (DWR). 2014. “Handbook for Assessing Value of State Flood Management Investments.� June 2014, Sacramento, CA: DWR. https://cawaterlibrary.net/wp- content/uploads/2017/09/HAV_June2014_FINAL.pdf. • Department of Water Resources (DWR). 2021. “Drought in California - January 2021.� Sacramento, CA: California Department of Water Resources. https://water.ca.gov/-/media/DWR-Website/Web- Pages/Water-Basics/Drought/Files/Publications-And- Reports/DroughtBrochure2021update_ay11.pdf. • Global Water Partnership Central and Eastern Europe (GWPCEE). 2015. “Guidelines for preparation of the Drought Management Plans.� GWPCEE. https://climate- adapt.eea.europa.eu/en/metadata/guidances/guidelines-for- preparation-of-the-drought-management-plans-1/guidelines- preparation-drought. • International Center for Integrated Water Resources Management (ICIWaRM). Undated. https://iciwarm.info/crida-case-study-for- climate-vulnerable-chilean-river-basin-published/. (accessed: May 8, 2023). • Iglesias A. 2008. “The MEDROPLAN Guidelines for Drought Management.� CIHEAM-IAMZ. https://oa.upm.es/4487/2/INVE_MEM_2008_60982.pdf. • Integrated Valuation of Ecosystem Services and Tradeoffs (InVEST). Undated. Stanford University: Natural Capital Project. https://naturalcapitalproject.stanford.edu/software/invest (accessed: May 7, 2023). • Griffin, R.C. 2016. “Water Resource Economics: The Analysis of Scarcity, Policies, and Projects.� Cambridge, MA: The MIT Press. • Mendoza, G. et al. 2018. “Climate Risk Informed Decision Analysis (CRIDA): Collaborative Water Resources Planning for an Uncertain Future.� Paris, France: UNESCO. https://en.unesco.org/crida. • United Nations Office for Disaster Risk Reduction (UNDRR). 2020. “The human cost of disasters: an overview of the last 20 years (2000-2019).� Geneva, Switzerland: UNDRR. https://www.undrr.org/publication/human-cost-disasters-overview- last-20-years-2000-2019. • Water Evaluation And Planning (WEAP). 2023. Stockholm, Sweden: Stockholm Environment Institute. https://www.weap21.org/. 168 • World Bank. 2019. “Assessing Drought Hazard and Risk - Principles and Implementation Guidance.� Washington, DC: The World Bank. https://openknowledge.worldbank.org/server/api/core/bitstreams/3 e90e6df-9a59-5e33-9104-580cf7b97b31/content. • World Wildlife Fund. 2020. “What are Nature-Based Solutions and How Can They Help Us Address the Climate Crisis?� November 10, 2020. https://www.worldwildlife.org/stories/what-are-nature-based- solutions-and-how-can-they-help-us-address-the-climate-crisis. 169 Chapter 7: Economic analysis of urban water supply and sanitation projects considering resilience and circularity David Fuente1 1 Corresponding author: Assistant Professor Department of Earth Ocean and Environment, University of South Carolina. fuente@seoe.sc.edu 170 Table of Contents 1.0 Introduction ..................................................................................................................172 2.0 Urban Water and Sanitation Projects that Promote Resilience and Circularity ..........173 3.0 Benefit-Cost Analysis of Water and Sanitation Projects: Primer on Best Practices .....175 4.0 Six Methodological Challenges Associated with Circular Water and Resilience for Water and Sanitation Projects ...........................................................................................179 5.0 Conclusion ....................................................................................................................183 1. Summary Investments in urban water and sanitation infrastructure have the potential to improve human well-being, protect the environment, and drive economic growth. Rapid urbanization, economic growth, and climate change provide a compelling, combined rationale for investing in infrastructure that is resilient to climate-related shocks, reduces greenhouse gas emissions, and uses scarce public and natural resources wisely. This is evidenced by the World Bank’s work on resilience and circularity in the urban water and sanitation sector, the Asian Development Bank’s planned $15 billion investment in the water sector focused on decarbonization and resilience, and organic demand for circular water and sanitation projects from country governments. 171 2. Checklist for Assessing Water Project’s Resiliency and Circularity The checklist below summarizes and compares the value of conducting more elaborated cost-benefit or economic analysis of water projects compared to the comparison of alternatives or business case scenarios. Assessing resiliency and circularity can bring additional benefits but add extra social costs to various stakeholders. This is why cost-benefit and economic analysis are best are identifying those ancillary sources of costs and benefits. 3. Introduction Conducting economic analysis of urban water and sanitation projects is challenging due to the long-lived nature of infrastructure and the health, non- health, and environmental benefits accompanying these investments. Urban water and sanitation infrastructure investments that enhance resilience, increase efficiency, and promote circularity can generate impressive financial and economic returns. However, they often impact a broader range of stakeholders than traditional (linear) projects. For example, watershed protection programs aimed at reducing soil erosion, maintaining natural water flows, and protecting water quality impact residents of the watershed as well as downstream water users. Wastewater reuse projects affect households in the service area and industrial or agricultural water users to whom the wastewater is typically sold. As a result, circular water and sanitation projects often require the coordination and cooperation of a broader range of stakeholders than linear water projects. They also pose 172 unique challenges for conducting economic analysis. This guidance note provides an overview of issues analysts must attend to when conducting ex-ante economic analysis of urban water and sanitation projects that enhance resilience and promote circularity. The remainder of the guidance note proceeds as follows. Section 2 provides a brief overview of the types of urban water and sanitation projects that enhance resilience and promote circularity. Section 3 provides an overview of essential elements of high-quality economic analyses that apply to all urban water and sanitation projects. Section 4 describes six challenges that require close attention when conducting economic analyses of circular water and sanitation projects. Section 5 provides concluding remarks. 4. Urban Water and Sanitation Projects that Promote Resilience and Circularity In 2021, the Global Water Practice of the World Bank launched the Water in Circular Economy and Resilience (WICER) initiative to support the implementation of projects in the water and sanitation sector that enhance resilience and promote circularity. The WICER framework seeks to advance three main objectives: 1) delivering resilient and inclusive services, 2) designing out waste and pollution, and 3) preserving and regenerating natural systems (Delgado et al., 2021). Table 1 summarizes interventions that advance each of the three objectives. 1. Deliver Resilient and Inclusive Services 1.1 Diversify supply sources 1.2 Maximize use of existing infrastructure 1.3 Plan and invest for climate and non-climate uncertainties 2. Design Out Waste and Pollution 2.1 Be energy efficient and use renewable energy 2.2 Optimize operations 2.3 Recover resources 3. Preserve and Regenerate Natural Systems 3.1 Recharge and manage aquifers 3.2 Restore degraded land and watersheds 3.3 Incorporate nature-based solutions Table 1. Summary of Water in Water in Circular Economy and Resilience objectives. (Delgado et al., 2021) A broad range of urban water and sanitation projects enhance resilience and promote circularity. This includes relatively mainstream projects focused on water supply expansion, supply diversification, and reducing non-revenue water (NRW), as well as a newer generation of projects that focus on enhancing resilience to climate-related shocks, enabling water reuse, and recovering resources from wastewater. Table 2 summarizes 17 cases from 173 across the globe that are illustrative of investments governments and donors are taking to enhance resilience and promote circularity. Nearly two-thirds of cases in Table 2 focus on wastewater, including the reuse of treated wastewater, energy co-generation with methane gas, and the recovery and sale of biosolids. Wastewater reuse features prominently in Table 2, including wastewater for indirect potable reuse, irrigation for agriculture and horticulture, and a variety of industrial reuse applications (e.g., cooling for electric power generation, mining, oil refining, and paper manufacturing). Wastewater reuse projects present opportunities to decrease withdrawals from existing freshwater sources, generate new revenue streams for utilities, and potentially reduce costs for the end user. In addition to direct reuse applications, several utilities are using wastewater to recharge local aquifers and promote the maintenance of freshwater ecosystems. As will be discussed in more detail in Section 4, these positive attributes of wastewater projects require the analyst to expand the accounting domain of benefit-cost analyses beyond what would be required for traditional (linear) wastewater projects. Country City Wate Sanitatio Project Type r n Optimization of distribution system Mexico Monclova X (hydraulics, NRW, pump efficiency) Bosnia Optimization of distribution system and (hydraulics, NRW, pump efficiency) Mostar X Herzego vina Kenya Nairobi X Watershed protection Peru Arequipa X Wastewater reuse (industrial - mining) Wastewater reuse (industrial - electricity India Nagpur X generation) Wastewater reuse (agriculture); Energy Senegal Dakar X generation; Recovery and sale of biosolids Wastewater reuse (industrial); Aquifer China Lingyuan City X recharge; Ecosystem maintenance Wastewater reuse (agriculture); Aquifer Palestine North Gaza X recharge; Energy co-generation Optimization of distribution system Cambod Phnom Penh X (NRW reduction); Operational efficiency ia (improved bill collection) Brazil Sao Paolo X Wastewater treatment plant optimization Tuga Tirta Optimization of distribution system Indonesi and Adhya X (NRW reduction) a Tirta Batam Atotonilco de Wastewater reuse (agriculture); Flood Mexico X Tula reduction; Energy co-generation Wastewater reuse (industrial - India Chennai X X petroleum); Indirect potable reuse; Ecosystem restoration 174 Ridgewood, Energy co-generation USA X NJ Wastewater reuse (agriculture); Recovery Cairo Egypt X and sale of biosolids Durban South Africa X Wastewater reuse (industrial - paper; oil) San Luis Wastewater reuse (industrial - electricity Mexico X Potosi generation; agriculture) Table 2. Examples of circular water and sanitation projects. Most water projects in Table 2 focus on improving the operational efficiency of water treatment and distribution systems. This includes investments to optimize system hydraulics, measure and reduce non-revenue water (NRW), and implement measures to improve bill collection and reduce arrears. The optimization of water treatment and distribution systems can delay the need for costly water supply expansion projects, reduce energy use and costs, reduce treatment costs, and limit withdrawals from water sources. Unlike the wastewater projects described above, the costs and benefits of these types of water projects are mainly limited to the utility and residents in the service area. However, as discussed in more detail below, assessing the costs and benefits of circular water projects requires careful attention to the specification of status quo, or baseline, conditions as well as project alternatives. In the face of population growth and increasing water scarcity, watershed protection can effectively enhance resilience and promote circularity. A classic example of this was the decision to invest in the protection of watersheds in upstate New York in 1997 to secure the water supply for New York City (NASEM, 2020). This investment allowed the city to avoid a $10 billion upgrade and expansion of the city’s water treatment facilities and hundreds of millions of dollars in annual operating expenses. There are opportunities in many low- and middle-income countries to take similar action. For example, the Nature Conservancy and various public sector stakeholders in Kenya have partnered to create the Upper Tana- Nairobi Water Fund to promote watershed protection in the Upper Tana basin, which supplies water to Nairobi’s growing population (TNC, 2015). As discussed in more detail in Box 1, watershed protection programs affect a broad range of stakeholders and result in numerous costs and benefits that must be accounted for in both ex-ante benefit-cost analyses and ex-post evaluations. 5. Benefit-Cost Analysis of Water and Sanitation Projects: Primer on Best Practices Water and sanitation projects are capital intensive, consist of infrastructure 175 with long lifespans, yield an array of health-related benefits and non-health- related benefits, and may have environmental impacts related to both water quantity and water quality. This combination of capital intensity, long planning horizon, and multiple benefit streams makes the economic analysis of water and sanitation projects challenging. The long-lived nature of water and sanitation infrastructure, in particular, makes getting the economic analysis “right� critical because investment decisions will have lasting implications. Conducting economic analysis of urban water and sanitation projects, therefore, requires the careful application of standard methods of benefit-cost analysis. Benefit-cost analysis entails the following eight steps35: 1. Specify the accounting domain and planning horizon : In the first step of benefit-cost analysis, the analyst must determine the spatial and temporal boundaries of the analysis. What is the geographical scope of the project and its attending impacts? What is the length of the planning horizon that will be considered? In this first step, the analyst must also define who has standing in the analysis (i.e., determine whose costs and benefits “count�). 2. Specify status quo/baseline conditions: The analyst must specify what happens in the absence of the project(s) under consideration before conducting economic analysis. Conditions rarely remain the same, particularly in the countries where the World Bank works. Thus, the baseline should reflect anticipated changes in several factors, including population growth/urbanization, economic growth, water use, underlying health trends, changes in temperature and precipitation, etc. 3. Specify project alternatives: Once the analyst has specified baseline conditions, the analyst must specify the project alternatives that will be considered in the benefit-cost analysis. This can include variations in the design of one particular project or multiple competing projects. 4. Identify the costs and benefits that will be considered: A thorough benefit-cost analysis should enumerate the full suite of costs and benefits associated with the project(s) under consideration regardless of whether the costs and benefits can be quantified and monetized given the time and resources available. For traditional water and sanitation projects, this will typically include the capital and operating costs associated with the project, health (mortality and morbidity) and 35 See Boardman et al. 2018 for a comprehensive overview. See Fuente et al. (2012) for guidance on the application of cost-effectiveness analysis in the water and sanitation sector, which provides an overview of several issues associated with conducting economic analysis of water and sanitation projects. Additional resources for economic analysis of water and sanitation projects are included at the end of this document. 176 non-health related (time savings, reduced coping costs, aesthetic) benefits to utility customers and households in the service area, impacts on businesses in the community, and negative and positive environmental externalities associated with the project. 5. Quantify the magnitude of the costs and benefits: After the analyst has enumerated the costs and benefits associated with the project(s), they must quantify the projected costs and benefits of the project. At this stage, the analyst would develop detailed estimates of the financial costs of the projects and identify the magnitude of the various impacts of the project. For urban water and sanitation projects, this might include cases of illness and deaths avoided, Daily Adjusted Life Years (DALYs) avoided, time saved due to improved water supply, increased water use due to increased hours of supply, reduction in the volume of water purchased from vendors and in-home treatment costs, amount of energy saved from efficiency improvements, kilowatts of power generated from waste to energy conversion (e.g., biomass), reductions in greenhouse gas emissions, improvements in water quality36, etc. There are two main ways that the analyst can obtain values for such parameters: primary research and previous studies (i.e., the literature). Time and resource constraints may prevent an analyst from conducting primary research in the target population to estimate some, or all, of the parameters of interest. When analysts do not have access to the location-specific parameters required to estimate benefits, they typically use: 1) parameter estimates from primary research conducted in other locations and/or 2) regional or global average values of parameters of interest. The first approach, often referred to as benefit transfer, entails taking parameter values derived in a particular study location and “transferring� those values to the target population of the CEA. (See Whittington et al. (2012) for a more complete discussion of the implications of using a benefit transfer approach in benefit-cost analysis and CEA. See Smith et al. (2002) and Boyle et al. (2010) for the use of econometric techniques for benefit transfer). 6. Monetize benefits and costs: Some of the benefits quantified in the previous step may not be able to be monetized due to resource, data, time, or analytical limitations. However, at this stage in the analysis, the analyst must determine which costs37 and benefits will be monetized and the methods they will use to assign economic value to them. 36 See von Haefen et al. (2023) and Vossler et al. (2023) for approaches to valuing changes in water quality and ecological integrity, respectively. 37 Analysts typically include the financial costs of projects in the cost side of the benefit-cost ledger. However, they must be mindful of instances in which the financial costs of projects diverge from the economic costs of projects. In these cases, analysts should use the shadow value of project inputs. 177 7. Compare benefits and costs and specify the decision rule : Once the benefits and costs have been monetized, the analyst must then compare the costs and benefits. There are several approaches to comparing the economic benefits and costs, including net present value (NPV), benefit-cost ratios, and economic rates of return. While some stakeholders may prefer to be presented with benefit-cost ratios or economic rates of return, it is best practice to present the net present value of the stream of costs and benefits associated with a project. Both the benefit-cost ratio and economic rate of return mask the magnitude of the net benefits of project alternatives. Benefit-cost ratios are also sensitive to how the analyst categorizes costs and benefits. 8. Conduct sensitivity analysis: Benefit-cost analyses typically involve many parameters, including parameters associated with baseline conditions, costs, project outcomes, and the economic benefits of program outcomes. Because there may be considerable heterogeneity and uncertainty associated with parameters used to estimate project benefits and costs, analysts should conduct sensitivity analysis to determine how sensitive the modeling results are to parameter assumptions, the conditions under which the project is likely to yield net benefits and identify issues (parameters) that require further attention or refinement. Common approaches to sensitivity analysis include one-way sensitivity analysis, best-case-worst-case analysis, scenario-based analysis, break-even analysis, and Monte Carlo analysis. Analysts should carefully document the assumptions, methods, and data sources used in their modeling when conducting an economic analysis of water and sanitation projects. The information provided should allow the reader to understand precisely how the economic analysis was conducted and enable them to recreate the analysis if necessary. For all applications, the analyst should carefully describe and justify important assumptions, methodological decisions (e.g., methods used to monetize project impacts), and data sources in the main text of the appropriate report. This should include a detailed table summarizing the parameters used in the benefit-cost model, the units of parameters, parameter values, and data sources for each parameter. (See Annex 1 for a recent example from Fuente et al. (2022)). Analysts may choose to create a separate table summarizing parameters used to conduct sensitivity analysis or include this information in the main table summarizing modeling assumptions. Analysts should pay careful attention to documenting the accounting domain of the analysis, the status quo/baseline conditions, the timeframe (planning horizon, project implementation timeline, and timing of costs and benefits), the discount 178 rate38, and assumptions about the effectiveness of the intervention(s). 6. Six Methodological Challenges Associated with Circular Water and Resilience for Water and Sanitation Projects Conducting economic analysis of urban water and sanitation projects is difficult. The economic analysis of water and sanitation projects that enhance resilience and promote circularity presents several additional challenges. Six specific challenges are outlined below. Challenge 1 - Standing and the accounting domain: Traditional or “linear� water and sanitation projects typically impact the service provider and residents or businesses in the service area. Projects that enhance resilience and promote circularity often have a broader accounting domain than linear projects. This requires carefully mapping the project's logical framework to identify the full suite of project impacts and stakeholders that may be affected by the project. Because many types of circular water and sanitation projects affect stakeholders beyond the immediate service area of the service provider, the analyst must pay careful attention to the geographic extent of project impacts and ensure that all affected stakeholders are included in the assessment of the costs and benefits of the project. Watershed protection programs provide a poignant example of how circular water projects require a more expansive accounting domain than linear projects. As demonstrated by the case of the Upper Tana-Nairobi Water Fund case (see Box 1), watershed protection projects have the potential to provide flood protection, increase surface water flows, and improve water quality. This can help reduce damage to treatment infrastructure, defer the expansion of water supplies, and reduce the cost of water treatment. However, watershed protection requires action on the part of the residents and farmers who reside in the watershed but may not benefit directly from improvements in the water supply. As a result, the accounting domain of benefit-cost analysis of watershed protection projects aimed at enhancing urban water supply must include the project's effects on stakeholders in the watershed. Similarly, wastewater reuse projects require careful attention to the accounting domain used in economic analysis. Wastewater can be treated to different levels for a variety of end uses, including direct potable reuse, indirect potable reuse, industrial use (e.g., energy, mining, oil refining, paper production), and agricultural use. The economic analysis of wastewater reuse projects should include the costs and benefits to the end user of the treated wastewater. 38 Analysts should explicitly document whether the analysis is conducted in real or nominal terms and whether the social (opportunity) cost of capital is assumed to be the same as the social rate of time preference. 179 The case studies in Table 2 highlight various ways wastewater reuse projects can affect a project's stream of benefits and costs. For example, in San Luis Potosi, Mexico, seven wastewater treatment plants were built to enable the reuse of nearly all the city’s wastewater (see World Bank (2018e) for additional detail). As the first project to produce multi-quality wastewater in Mexico, the project produced wastewater for agricultural reuse that met Mexico’s quality standards (total suspended solids, biological oxygen demand, and fecal coliforms) and industrial use that met the requirements of the Federal Electricity Commission for cooling in power generation. In addition to deferring the expansion of the water supply in the region and improving the quality of water used in agriculture, the project saved the local power company $18 million over six years. Wastewater reuse projects can also provide a new revenue stream for the service provider and a new water source for the end user. While the revenue from the sale of wastewater is a financial transfer between stakeholders that will net out in a benefit-cost analysis, the treated wastewater purchased by the end user may be cheaper or of higher quality than the source they previously used. For example, in Atotonilco de Tula, Mexico, the reuse of treated wastewater was anticipated to allow farmers to shift from alfalfa and maize cultivation to higher-value vegetable crops (World Bank, 2018a). In Chennai, India, the Chennai Petroleum Corporation, Ltd saves approximately Rs. 126 million annually from purchasing and treating wastewater for use in its industrial processes (World Bank, n.d.). Challenge 2 – Specification of a dynamic baseline and project alternatives: Specifying status quo conditions, or what happens in the absence of the project(s) under consideration, is an essential component of benefit-cost analysis. This provides the baseline against which the costs and benefits of the project alternatives will be measured. In the face of climate change, rapid urbanization, population growth, and economic growth, analysts cannot simply assume that future conditions will be the same as today. Indeed, in many places, the combination of these factors means that future conditions will be worse or more challenging than they are now. Increased flooding and/or drought will put increasing pressure on water and sanitation infrastructure, growing urban populations will push existing infrastructure (further) beyond its capacity, and economic growth may increase demand for services and the economic value associated with time losses associated with inadequate or poor-quality water and sanitation services. Faced with this reality, analysts must ensure that the baseline used in benefit-cost analyses reflects the dynamic nature of future conditions. (See Whittington (2022) for a discussion of “dynamic baselines� in the context of transboundary water resource management.) Specifying a dynamic baseline is particularly important when conducting 180 economic analyses of circular water and sanitation projects. Projects that enhance resilience and promote circularity may be more expensive than linear water and sanitation projects. For example, infrastructure hardening, water supply diversification, and the construction of multiple water intakes can enhance a water supply system’s resilience to climate-related shocks. However, these design modifications come at a cost. These investments may not yield strong economic benefits when compared to a static baseline that does not account for changing conditions, current trends, or climate-related shocks. In addition to specifying a dynamic baseline, analysts must carefully specify the project alternatives that will be considered in the scope of the benefit-cost analysis. Economic analyses of World Bank projects often consider only a single project alternative. It is thus hard to determine how the project compares to other projects that could be implemented. Economic analyses of circular water and sanitation projects should include a linear project alternative. Including a linear project alternative will provide analysts insight into the relative performance of circular water projects, demonstrate the value added by circular approaches, and help build buy-in among stakeholders for investing in resilience and circularity. Challenge 3 – Project implementation and program fidelity : Project impacts are mediated by several factors, including the implementation of the project, citizen/user behavioral responses, and the extent to which project activities result in anticipated change. While identifying these issues requires careful ex-post evaluation, they can be incorporated into ex-ante economic analysis to determine the extent to which project implementation and program fidelity affect the economic performance of projects. For example, a water supply improvement project may seek to expand existing water supplies and connect unconnected households to the piped water network. This can yield an array of health and non-health-related benefits for households who previously relied on private vendors or public kiosks. However, the potential benefits will only materialize if households connect to the piped network. When given the opportunity costs, there are several reasons households may not connect to the piped network. The application process may be cumbersome or inconvenient. Connections fees may be too expensive even with subsidies in place. And landlords may not see value in connecting their properties to the network. Thus, analysts must explicitly consider – and model – uptake in the economic analysis of water and sanitation projects. Analysts must also consider usage in the economic analysis of water and sanitation projects. Following the connection example above, even if households connect to the piped water network, their use of water from the piped network will depend on the availability of supply, perceived quality, and the availability of substitutes (e.g., rainwater, private wells, etc.). Analysts may overestimate the magnitude of the benefits of households connecting to the piped water network if they assume households will rely solely on the piped water supply to meet their water needs. 181 Similarly, projects that seek to achieve 24x7 water supply may fail to deliver continuous services in the targeted area. For example, a recent water supply improvement project in Zarqa, Jordan, sought to provide 24x7 water supply in the service area. While the project yielded the projected increase in water supply, the supply was ultimately delivered to a broader range of customers than initially planned. While a broader range of customers benefits from the additional supply, the intended beneficiaries did not obtain continuous service, which has implications for the project's health and non-health related benefits (e.g., health improvements and reduced coping costs) (Jeuland et al., 2022). Circular water and sanitation projects can yield impressive financial and economic returns. This is particularly true for projects that seek to improve operational efficiency (e.g., hydraulic optimization, NRW reduction, collection efficiency improvements, optimization of wastewater treatment plants, etc.). For example, the optimization of the water distribution system in Monclova, Mexico, had a 1.9-year payback period (ESMAP, 2010). The improvements in operational efficiency in Phnom Penh, Cambodia, resulted in $150 million in deferred investments and an additional $18 million in revenue for the utility (World Bank, 2021d). While some of these interventions only require technical inputs and capital (e.g., energy-efficient pumps), many require operational and behavior changes within the service provider, which can be difficult to change. Economic analysis of circular water and sanitation project must consider project performance multiple uptake, usage, and implementation fidelity scenarios. This can be accomplished using the standard sensitivity analysis techniques described above. Challenge 4 – Accounting for disutility: Circular water and sanitation projects can yield impressive benefits for various stakeholders. However, some circular projects may impose costs on a subset of stakeholders or result in disutility. This is a primary rationale for payment for ecosystem services (PES) programs associated with watershed projection. In direct potable reuse projects, utility customers may have concerns about consuming treated wastewater. As a result, they may have a lower willingness to pay for treated wastewater than water viewed as being of higher quality. Similarly, while the wastewater reuse cases listed in Table 2 typically report cost savings for agricultural and industrial end users, this may only sometimes be true. For example, in a recent water supply improvement and wastewater reuse project in Zarqa, Jordan, wastewater supplied to agriculture users was more saline than the freshwater source they previously relied on. This resulted in farmers switching to more saline-tolerant crops, yielding lower profits than their previous crops. Failure to account for costs imposed on stakeholders or disutility may overstate the benefits of circular water projects. Challenge 5 – Applying the tools of decision-making under uncertainty: 182 Projects that enhance resilience and promote circularity are, in part, motivated by increasing water scarcity, climate change, and the need to use scarce natural and financial resources wisely. Circular water and sanitation projects are attractive to governments because they hold the potential to expand access to services, improving service quality, and ensuring water and sanitation services are resilient to climate-related shocks. Economic analysis of circular water and sanitation projects must examine project performance in uncertain climate futures. There are several approaches to incorporate – and address – uncertainty in the economic analysis of circular water and sanitation projects. This includes standard sensitivity analysis that examines climate performance under different precipitation, temperature, and hazard scenarios as well as parameters such as the social cost of carbon. Analytical techniques such as robust decision-making (Hallegate et al., 2012; Brown et al., 2014; Ray and Brown, 2015) and real options (Jeuland and Whittington, 2014) can also be helpful in guiding decision-making and valuing resilience, respectively. Challenge 6 – Mapping the distribution of costs and benefits: Urban water and sanitation projects that enhance resilience and promote circularity often have a broader accounting domain and a more extensive set of stakeholders than their linear counterparts. Thus, while examining the incidence of cost and benefits is important in the economic analysis of linear water and sanitation projects, it is essential in circular projects. The net present value of projects can mask the distribution of costs and benefits among stakeholders. Explicitly mapping the incidence of costs and benefits can help foresee potential resistance to projects, identify opportunities to compensate stakeholders who may experience disutility or bear project costs (e.g., payment for ecosystem services), and ensure the project benefits are distributed in a manner consistent with project objectives. (See Krutilla (2005) for an example of one tool analysts can use to map benefits and costs.) In addition to mapping the economic costs and benefits of projects, analysts should be attentive to financial transfers between stakeholders in the project accounting domain. For example, wastewater reuse projects may include the sale of wastewater to agricultural or industrial end users. This results in a new stream of revenue for the utility. However, this payment is a financial transfer between stakeholders in the project accounting domain and will net out in a benefit-cost analysis. (A potential benefit to the end user would be the difference between the cost of the treated wastewater and water from an alternative supply in the absence of the project 39 .) Nevertheless, explicitly mapping this transfer can help analysts understand the full extent of a project's financial and economic consequences on stakeholders. 7. Conclusion Investments in urban water and sanitation infrastructure have the potential to 39 The end user may enjoy additional benefits if the wastewater is better quality than alternative supplies and enables the producer to lower production costs or shift to higher value outputs. 183 improve human well-being, protect the environment, and drive economic growth. However, increasing water scarcity, more frequent occurrence of climate-related hazards, and growing inequality create a compelling rationale for investing in water and sanitation projects that enhance community resilience and use scarce water resources wisely. Conducting economic analysis of traditional (linear) urban water and sanitation projects is challenging due to the long-lived nature of infrastructure and the health, non-health, and environmental benefits accompanying these investments. The economic analysis of water and sanitation projects that enhance resilience and promote circularity presents additional challenges in part due to the broader set of stakeholders affected and additional costs and benefits that must be captured. Specific challenges include: 1) the need to carefully define whose costs and benefits count, 2) specifying a dynamic baseline, 3) addressing project implementation and uptake, 4) accounting for disutility among affected stakeholders, 5) applying the tools of decision-making under uncertainty, and 6) mapping the incidents of costs and benefits among affected stakeholders. Fortunately, many of the tools required to conduct high-quality economic analysis of circular water and sanitation projects are well-developed. The careful application of these tools can help drive smarter investments in our collective water future. Box 1: The Upper Tana-Nairobi Water Fund Project In 2015 the Nature Conservancy partnered with a Nairobi City Water and Sewer Company and other stakeholders to examine the potential of developing a fund to promote watershed protection in the Upper Tana River Basin (TNC, 2015). Overall, the project sought to enhance water security for basin residents and the city of Nairobi, home to nearly 4 million people and which draws 95% of its water from the basin. Since the 1970s, the basin’s steep forested hillsides and natural wetlands have been progressively converted to agriculture, which has led to high levels of erosion and land degradation. Increased sediment loads in rivers reduces the capacity of hydroelectric electric dams and water supply reservoirs and increases the cost of water treatment due to elevated turbidity levels. Reducing erosion and sediment flows in the basin would require a range of actions by stakeholders, including adding vegetated buffer zones along rivers, adopting agroforestry, terracing steep slopes, planting grass buffers on farmlands, and limiting erosion from dirt roads in the region. Accounting domain and stakeholders: While some of the benefits of the project interventions will accrue to local communities and farmers, they have the potential to ensure increased water flows in the basin, mitigate flood risk, improve water quality, and prevent sedimentation of dams and reservoirs used for water supply and power generation. Given the geographic scope of the proposed watershed protection program, the project has a wide accounting domain. Stakeholders affected by the project include: • Households in the basin 184 • Farmers in the basin • KenGen (the largest power-generating company in Kenya) • Nairobi City Water and Sewer Company • Residents of Nairobi • Project funders (government of Kenya, donors, etc.) A thorough economic analysis of the Upper Tana-Nairobi Water Fund project requires careful analysis of the costs and benefits of the projects for each of the stakeholder groups. Potential Costs and Benefits: Given the broad scope and reach of the watershed protection program, a variety of costs and benefits must be included in an economic analysis of the project. Costs of the program include: • Upfront capital costs of watershed protection activities • Ongoing operations and maintenance costs associated with project activities • Costs and disutility to basins, households and farmers in the region (e.g., reduced area under cultivation, etc.) Potential benefits of the project include: • Improved soil quality from reduced erosion and topsoil loss (improved agricultural yields) • Reduced sediment load in rivers (improved ecosystem health) • Decreased sedimentation rates of water supply reservoirs (deferred capital expenditure on expanded water supplies) • Decreased sedimentation of rates of hydropower dams (increased electricity generation) • Increased water flows during the dry season (increased water supply for Nairobi residents (health and time gains); deferred capital expenditure for NWSC; ecosystem health) • Decreased water treatment plant operations and maintenance expenditures • Improved water quality (health improvements; ecosystem health) Much like investments made in New York City in the 1970s, investment in watershed protection in the Upper Tana River Basin may yield considerable benefits to basin residents, farmers, and residents of Nairobi alike. 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Agreeing on robust decisions - New processes for decision-making under deep uncertainty. Policy Research working paper no. 6906. World Bank, Washington, DC. Hallegate, Stephane, Shah, Ankur, Lempert, Robert, Brown, Casey, and Stuart Gill. 2012. Investment decision making under deep uncertainty – Application to climate change. Policy Research Working Paper no. 6193. World Bank, Washington DC. Jeuland, Marc, and Dale Whittington. “Water Resources Planning under Climate Change: Assessing the Robustness of Real Options for the Blue Nile.� Water Resources Research 50, no. 3 (2014): 2086–2107. https://doi.org/10.1002/2013WR013705. 190 ANNEX 1: Example summary table of parameters and assumptions from Fuente et al. (2022) 191 ANNEX 2: Typology of costs and benefits in urban circular urban water and sanitation projects GENERAL TYPOLOGY OF BENEFITS INDIVIDUALS/HOUSEHOLDS Health-related benefits Mortality avoided Morbidity avoided Water-borne disease avoided Water-washed disease avoided Health-related time-savings Non-health related benefits Aesthetic benefits (e.g., increased social standing, reduced stress) Time savings Coping costs avoided (e.g., storage, PoU treatment, alternative sources) Increased school attendance UTILITIES Avoided capital expenditures Avoided treatment costs Avoided electricity costs Avoided repair/replacement costs due to enhanced resilience OTHER STAKEHOLDERS (public sector agencies, companies, farmers, etc.) Reduced mortality and morbidity (e.g., reductions in publicly funded health care) Reduced input costs (e.g., water, energy, fertilizer, etc.) Increased output or value of output (e.g., shift to higher value crops) ENVIRONMENTAL BENEFITS Avoided CO2 emissions Ecosystem maintenance & habitat restoration GENERAL TYPOLOGY OF COSTS INDIVIDUALS/HOUSEHOLDS Disutility associated with source (e.g., direct potable reuse) UTILITIES Project capital costs (including opportunity cost of capital) Operations and maintenance costs OTHER STAKEHOLDERS (public sector agencies, companies, farmers, etc.) Reduced output (e.g., reduction in land under cultivation) Increased operating costs (e.g., lower quality inputs, low/no till farm practices, etc.) 192 Chapter 8: Guidelines for multipurpose hydropower project economic analysis: sustainability and resilience Peter Meier (Energy Economics Adviser World Bank)40 and Julio Gonzalez (World Bank) 40 Corresponding author: https://blogs.worldbank.org/team/peter-meier meierqq@gmail.com 193 Table of Contents Contents..................................................................................................................... 194 1. Introduction .................................................................................................198 2. Guidelines for hydropower project appraisal ......................................... 199 2.1 The guidelines ............................................................................................... 199 2.2 The scope of analysis .................................................................................... 200 2.3 CBA in the project development cycle ....................................................... 200 2.4 Non World Bank and Private sector projects ............................................. 208 3. Issues of Methodology......................................................................... 211 3.1 Valuation of hydropower benefits ............................................................... 211 3.2 Externalities .................................................................................................... 213 3.3 Shadow pricing .............................................................................................. 218 3.4 Valuation of non-power benefits in multi-purpose projects .................... 219 3.5 Quantifying trade-offs ................................................................................... 221 3.6 Allocation of joint costs................................................................................. 225 3.7 Assessing macroeconomic impacts ............................................................ 226 3.8 Benefit sharing ............................................................................................... 227 4. Risk assessment and resilience .................................................................229 4.1 Conceptual problems of risk assessment ................................................... 229 4.2 The main risks ................................................................................................ 232 4.3 Climate change Risk ...................................................................................... 235 4.4 Risk assessment in World bank Appraisal practice ................................... 242 4.5 Checklist for risk assessment ....................................................................... 247 5. The future of Multi-purpose hydropower projects........................................ 250 194 List of Boxes Box 1: Summary presentation of economic analysis .............................................................. 205 Box 2: Best Practice: Distributional analysis ......................................................................... 207 Box 3: Some pitfalls of CBA and how to avoid them .............................................................. 208 Box 4: Impact on downstream fisheries ................................................................................... 217 Box 5: Lost Forest Value: Hydro projects in Vietnam .......................................................... 218 Box 6: Issues in the valuation of fisheries ............................................................................. 220 Box 7: The Upper Krishna Hydro project (Karnataka, India) .................................................. 221 Box 8: Best practice: Geotechnical risk assessment ............................................................... 234 Box 9: Climate change risk assessments ................................................................................. 237 Box 10: Best practice example: Switching values assessment for the Trung Son hydro project ..................................................................................................................................................... 243 Box 11: Best practice: Scenario analysis in a rehabilitation project (Kali Gandaki hydro project rehabilitation) ............................................................................................................................. 244 Box 12 : Defining probability distributions for quantitative risk assessment ....................... 245 Box 13: Best Practice: Monte Carlo Simulation at the Upper Arun Hydro Project ........ 246 List of Tables Table 1: Economic v financial analysis ..................................................................................... 206 Table 2: The October 2022 IEA World Energy Outlook forecasts ........................................ 213 Table 3: Checklist of frequently encountered externalities ................................................... 215 Table 4: Benefit Valuation issues in multi-purpose projects [ ............................................... 224 Table 5: Historical Investments (2010–17) and Projected Investment Needs, 2018–40 ..... 227 Table 6: Risks at hydro projects ............................................................................................. 229 Table 7: Estimated cost overruns by region ............................................................................ 232 Table 8: Cost overruns for different time periods .................................................................. 234 Table 9: MONRE worst case rainfall changes in the Northwest ............................................ 236 Table 10: Impact of Climate Change Scenarios on generation ......................................... 236 Table 11: Outage at hydro projects in Japan, 2004-2012 (in percentage) ......................... 240 Table 12: Check list for risk assessment adequacy ............................................................. 247 List of Figures Figure 1: Oil price forecasts in 2010 ........................................................................................ 212 Figure 2: Economic analysis for irrigation projects ................................................................ 219 Figure 3: Estimating benefits of irrigation ............................................................................... 223 Figure 4 : Cost v reliability ...................................................................................................... 231 Figure 5: Causes of cost overruns ............................................................................................ 233 Figure 6: Causes of time overruns ........................................................................................... 233 Figure 7: Typical relationship between sediment load and discharge (UAHEP). ............... 239 Figure 8: Frequency distribution of flushing days .................................................................. 239 Figure 9: Breakdown of total downtimes ................................................................................ 241 195 Abbreviations ADB Asian Development Bank BESS Battery energy storage system BTU British Thermal Unit CAPEX Capital investment expenditure CBA Cost-benefit analysis CCCT Combined cycle combustion turbine Cif Cost insurance freight CPI Consumer price index CSPDR Changjiang Survey, Planning, Design and Research Co. Ltd of Wuhan, China cumec Cubic meters per second DSCR Debt service cover ratio EPC Engineering, procurement, construction (contract) ERAV Electricity Regulatory Authority of Vietnam ERR Economic rate of return ESP Energy service provider FIRR Financial internal rate of return Fob Free on board FOREX Foreign exchange FRL Full reservoir level FS Feasibility study GCM General circulation model GEAPSIP Guidelines for Economic Analysis of Power Sector Investment Projects (World Bank) GHG Greenhouse gas GLOG Glacial lake outburst flood GW 1000 MW HFO Heavy fuel oil HH Household HHV Higher heating value IAD Inter-American Development Bank ICB international competitive bidding ICR Implementation Completion Report (of the World Bank) IDA International Development Association IDC Interest during construction IEA International Energy Agency IEG Internal Evaluation group (of the World Bank) IFC International Finance Corporation (of the World Bank Group) IHA International Hydropower Association IFI International Financial Institution IPP Independent power producer IRR Internal rate of return LNG Liquefied natural gas LRMC Long run marginal cost m/s Meters per second Masl Meters above sea level 196 MCM Million cubic meters mmBTU Million British Thermal Units MoU Memorandum of understanding NEA Nepal Electricity Authority NPV Net present value O&M Operation and maintenance OCCT Open cycle combustion turbine OECD Organization for Economic Cooperation and Development OPEX Operating expenditure OPSPQ Operations Policy and Quality Unit (of the World Bank) PAD Project Appraisal Document (of the World Bank) PPA Power purchase agreement PPP Purchasing power parity PV Photovoltaics RoR Run-of-river SCF Standard conversion factor SHP Small hydro project SLF System load factor SVC Social value of carbon T&D Transmission and distribution ToR Terms of reference TTL Task Team Leader (at the World Bank) UAHEP Upper Arun Hydroelectric Project US United States (of America) VRE Variable renewable energy WACC Weighted average cost of capital WTI West Texas Intermediate (crude oil) WEO World Energy Outlook (of the IEA) WTP Willingness to pay 197 1. Introduction In 2017 the Bank issued its Guidelines for Economic Analysis of Power Sector Investment Projects (GEAPSIP). These deal with the general principles of economic analysis for use in Work Bank appraisals of power sector projects and set out the main points of good practice.41 More recently the Bank’s Energy practice has released a good practice note on how climate change and disaster resilience should be integrated into energy sector economic analysis.42 Over the past decade, the Bank has financed a variety of different types of hydro project: • New large hydro projects such as Dasu (Pakistan), Trung Son(Vietnam), Npatamanga (Malawi), Nachtigal (Cameroon) • Rehabilitation projects such as Kali Gandaki(Nepal), Naghlu (Afghanistan) • Powerhouse extensions such as Tarbela (Pakistan) • Small hydro on-lending projects (Renewable energy development project, Vietnam) • Cascade projects (Rampur, India, immediately downstream of the Naphta Jhakri pumped storage) • Pumped storage projects (Upper Cisokan, Indonesia) Some of these projects are hydropower-only (such as the rehabilitation projects), but many are best described as multi purpose, and in many cases the operating rules of the storage reservoir are driven by irrigation or flood control objectives that are given higher priority than power generation, or in some cases by environmental objectives. The optimization of the design of the power generation is therefore constrained by these other objectives, as in the case of • Tarbela (Pakistan): constrained by irrigation releases • Trung Son (Vietnam): constrained by flood control and environmental objectives • Npatamanga (Malawi): constrained by environmental objectives (that required redesign to incorporate a regulating dam immediately downstream) • Dasu (Pakistan): constrained by the need for sediment management in the entire Indus river basin • Mekong river basin projects: constrained by downstream sediment management (impact on Vietnam’s Mekong River Delta), and downstream fisheries impacts. • Porce III Hydroelectric Project (Colombia): constrained by measures to protect the local environment, including the restoration of degraded areas and the preservation of biodiversity. • Itaipu hydroelectric dam project (Brazil / Paraguay): constrained by the use of the dam's water resources for other purposes, such as navigation, irrigation, and drinking water.43 In all of these cases the challenge is how the trade-offs between sometimes conflicting objectives can 41 World Bank, Economic Analysis of Power Sector Investment Projects, 2017 42 World Bank, Economic Analysis of Power Projects: Integration of Climate Change and Disaster Resilience , ESMAP & GFDRR, February 2023. 43 Not financed by the World Bank (though it did provide technical assistance). Funding for the project was mainly provided by the governments of Brazil and Paraguay, with finance from the Inter-American Development Bank and the Export-Import Bank of Japan. Document of the World Bank be quantified in such a way to inform decision-makers and project designers: a constrained optimization will necessarily involve a loss of power generation benefits, but the question is how these are balanced by the gain of benefits to the other attributes. 2. Guidelines for hydropower project appraisal ________________________________________________________________ 2.1 The guidelines The GEAPSIP were promulgated in 2017. They are in two parts: i. A short general guidance document ii. A volume of 33 detailed technical notes on a variety of different topics (referenced below as “Technical Note�). These Guidelines serve to assist TTLs and project economists preparing project appraisals in implementing the Bank-wide guidelines for economic analysis issued by OPSPQ.44 The OPSPQ Guidelines state what must be done, and why; GEASIP state how it is to be done, Since publication, the GEASIPs have been widely applied in World Bank Project hydro project appraisals, albeit modified by several Bank-wide guidance documents that cover • Carbon accounting and the social value of carbon (SVC).45 • Discount rates46 Figure 1 shows the essential components of a cost-benefit analysis. The most important point is that economic analysis is not something that is undertaken after technical and design decisions have been taken (as an afterthought to meet the requirements of the Project Appraisal document) but is central to the development of the technical project design. Figure 1: The essential elements of a CBA 44 World Bank, 2013. Investment Project Financing Economic Analysis Guidance Note , OPSPQ, 8 April 2013. These replaced the previous World Bank Guidelines: Operational Policies 10.4 45 World Bank, 2017. Guidance note on price of carbon in economic analysis . 46 World Bank, 2016. Discounting Costs and Benefits in Economic Analysis of World Bank Projects, OPSPQ, May 9, 2016. 199 2.2 The scope of analysis An early decision required of a TTL is to decide on the allocation of available project resources, and what time and resources are required for the economic analysis. Obviously, the scope, available time and depth of detail required for appraisal of a billion-dollar scale 1,000 MW hydro project in the high Himalayas is much greater than a 20 MW hydro project to be installed on an irrigation canal on the Indian Deccan. In the case of large projects, the necessary environmental impact studies take much time and resources, significant project preparation funds will cover the costs of an early participation of a project economist. Often in the case of larger projects the bank may already have good working relationships with the national power company, that can greatly ease the process of data collection and assessment. Guidance on what constitutes a minimal analysis for a small project is hard to state, if for no other reason than the single most important determinant of time and resources required is the experience of the economist assigned to the project team. But whatever the scale, the following points should be followed: • At the very outset, set up an EXCEL model for the table of economic flows, using rough default values for key assumptions – which can always be modified later. Even a simple first model will often identify what are the essential data that need to be resolved. The {data}{table} feature of EXCEL makes sensitivity analysis very easy, so the key assumptions can quickly be established. Do not wait until all the data are at hand in final form, because you might have to wait forever (especially true in small projects) • On the first day of involvement, setup an early list of the likely externalities (see Table 3) and assess the need for developing the necessary information. Collecting reliable information for quantifying externalities can be exceedingly time-consuming (see example in Box 6). • With the increasing emphasis on carbon accounting at the Bank, make sure at an early stage that the model includes the tables necessary to meet the reporting requirements: this can be quite onerous and can cause long delays at later stages as QER and decision-meeting deadlines approach. • An important point in the development of the table of economic flows is keeping a log of changes and modifications as the calculation develops (noting the source/location for each assumption), ideally as a worksheet in the model. 3. CBA in the project development cycle Below are outlined the various aspects of the project development cycle as they relate to cost-benefit analysis (CBA), and the issues that are faced the TTL and project economist involved in project appraisal. Typically, the details of the economic and financial analysis are presented in an Annex of the project appraisal document (PAD) and summarized in the main text. Ideally the Bank’s project economist is involved as soon as a project is under consideration for World Bank support – which has often been the case for larger hydro projects where the Bank’s economist has assisted the consultants during the detailed feasibility study phase.47 47 True, for example, among the projects listed in ¶3, for Dasu (Pakistan), Trung Son (Vietnam) and Upper Arun (Nepal) 200 Project identification and definition stages In most countries of significant hydro potential, national or river basin surveys of potential hydro projects have long been conducted. These typically identify some set of candidate projects with cost and power generation estimates. Their quality varies – in some studies candidates may be assessed to the pre-feasibility stage for general locations with reasonably good estimates of input hydrology variation and geotechnical; conditions; in others, the reliability of the resulting estimates of costs and generation may be quite poor. Power systems studies Few World Bank client countries do not have “least cost plans� based on optimal generation expansion models. mostly by Engineering consulting firms. These models are typically run by the vertically integrated power system entity (such as the Ceylon Electricity Board (CEB) in Sri Lanka), or in unbundled systems, by the Transmission system operator/single buyer (such as Pakistan’s National Transmission and Dispatch Company, NTDC). Again, quality varies particularly in smaller countries, the estimates of first possible commissioning dates of larger hydro projects are notoriously unreliable. There are some models that were widely used by developing country systems planners in the past, notably the WASP model originally developed by the IAEA, and for which excellent training programs have trained hundreds of engineers in system planning.48 However, this model is no longer considered appropriate for adequate assessment of variable renewable energy options, or in systems dominated by hydro. This has resulted in predominantly hydro systems developing their own in-house models that can effectively model of hydro cascades. These models are typically tailored to the specific needs of each hydro system and consider factors such as water availability, energy demand, and market prices, for example • Eletrobras in Brazil – which developed a hydrothermal scheduling model called NEWAVE, which is used to optimize the operation of its hydroelectric power plants and reservoirs. The model uses a mathematical algorithm to simulate the operation of the hydroelectric system and to optimize the generation of electricity while minimizing costs.49 • The Valoragua model, developed in Portugal,50 used for hydro cascade dominated systems in some countries. 48 IEA, 1984. Expansion Planning for electrical generating systems. 49 Another example is the Colombian electricity company, XM. XM developed its own hydrothermal scheduling model called SISETH, which is used to optimize the operation of its hydroelectric power plants and reservoirs. The model uses a mathematical algorithm to simulate the operation of the hydroelectric system and to optimize the generation of electricity while minimizing costs. In addition to these examples, there are other hydro systems in Latin America that have developed their own in-house models to effectively model hydro cascades, such as CENACE in Mexico and ONS in Brazil. 50 Electricidade de Portugal, 1987. Valoragua: a model for the optimal management of a hydro-thermal system. https://inis.iaea.org/search/search.aspx?orig_q=RN:19024153 201 • The SHAT (Sistema Hidroenergético do Alto Tietê model) is an example of a reservoir management optimization model, in the state of São Paulo, Brazil.51 It would be quite rare for non-power uses (flood control, environmental services, irrigation) or significant downstream impacts (fisheries) to be included in such models. Nevertheless, it is generally a requirement when a project is presented for World Bank financing that the proposed project appears in such a least cost plan. When such a project is considered for possible World Bank financing, the task of the Bank’s economist assigned to prepare the CBA is greatly eased, and in many project appraisals where the Bank enjoys good relations with the power company, additional model runs are often arranged to assist the CBA. System studies in small countries In countless smaller countries with favorable rainfall regimes and site options, hydro projects were developed as obvious alternatives to diesel generation as systems grew in response to pressures for increasing electrification rates (such as the Mount Coffee project in Liberia, or the Tina River Project in the Solomon Islands).52 The technical and system planning expertise of power companies are often quite limited, and project appraisals typically are prepared by engineering consulting firms – which when presented for World Bank financing, will require more extensive work by the Bank’s economist at appraisal to adequate meet the Bank’s Guidelines. 4. Pre-feasibility study The power systems planning models used by many utilities are rarely in the public domain (Plexos, etc); are data intensive; require much time to set up; and often unsuitable for running numerous scenarios. In consequence the World Bank energy practice has developed its own systems planning model (EPM, Electricity Planning Model) to assist in project selection, that meets the general OPSPQ requirement that alternatives be properly assessed and is in the public domain. This has become particularly important to support the energy transition at a time of great uncertainty in fossil fuel prices, and with dramatic cost reductions in renewable energy and battery technologies. Selection of a suitable counterfactual The OPSPQ Guidelines require the use of a plausible counter factual. Where a least-cost planning model is available, the counterfactual is identified simply by running the model with and without the proposed project. In the absence of a least cost planning model, for most mixed hydro thermal systems this will be the marginal thermal project in the merit order, typically a diesel or combustion turbine, either gas, LNG or liquid fueled, and often in a combined cycle. Perhaps the most challenging problems in the definition of counterfactual arise in rehabilitation projects – many of which have been encountered in World Bank practice. The proposed rehabilitation project needs to be compared to: 51 The SHAT model uses mathematical optimization techniques to determine the best operation strategy for the reservoir system, considering multiple objectives, including maximizing hydroelectric power generation, meeting water supply demands, maintaining minimum river flow levels, and minimizing flood risks. The model uses historical data on inflows, reservoir levels, and energy demands, as well as weather forecasts and other inputs, to generate optimal operating rules for the reservoir system. These rules are updated regularly to reflect changes in the system and to adapt to changing conditions. 52 See for example, World Bank, 2017. Tina River Hydropower Development Project, Project Appraisal Document PAD 25258. See also Box 1. 202 i. Doing nothing – which means a continued gradual reduction in output, with increasing O&M costs – in practice deferring rehabilitation to some future year (at which the costs of rehabilitation may well be much greater as the level of dilapidation will have increased)53 ii. Wait and re-assess the following year iii. Decommission. Though this will rarely be a realistic option for hydro projects in World Bank client countries (but is covered in Chapter 9 of this Book). Consideration of Items (ii) and (iii) defines the decision problem as a real option.54 Where an investment decision is irreversible, and there is uncertainty about the value of a key assumption, calculation of NPV in the conventional manner may not give the correct result – which true not just for a possible rehabilitation project, but for projects in general. 55 5. Feasibility studies and identification of non-power benefits Once identified as a suitable project for bank financing, if a detailed Feasibility Study (FS) is not already at hand, a suitably qualified engineering consulting firm will be selected by International Competitive Billing (ICB), and the detailed FS prepared. Experience shows that the participation of a properly qualified energy economist at this stage is vital: indeed, assigning an economist just at the PAD stage is far too late. Often the selected engineering consulting firm, notwithstanding their experience and capacity for engineering design, lacks the necessary expertise in economic analysis.56 It is at the FS stage that more detailed evaluation of non-power benefits are studied with more care, and at which point the economic value of water in these other uses becomes an issue for cost-benefit analysis (discussed further below). The environmental impact assessment is typically conducted at this stage, and it is not unusual for a project to undergo a major design change in consequence of its findings,57 Reservoir management optimization These are designed to optimize the engineering design of the project (installed capacity, active storage, minimum and full reservoir levels, operating rules, sediment management strategies) given the hydrology inflow series. These models are typically constructed by the engineering company appointed to prepare the detailed feasibility study (such as Japan’s Nippon Koie for Dasu, or China’s 53 A good example is the World Bank project to rehabilitate the Naghlu hydro project in Afghanistan – where spare parts for Soviet-era tribune generators were increasingly difficult to obtain. 54 A. K. Dixit and R. Pindyck, 1994. Investment under Uncertainty. Princeton University Press. 55 For an example of application of real option assessment for hydro development see e.g., World Bank, Energy Security Trade-offs under high uncertainty: Resolving Afghanistan’s power sector development dilemma , ESMAP 2018. Pakistan and Afghanistan had signed an agreement to jointly develop the hydro resources of the Kunar River, to also meet irrigation and water supply needs. But there was uncertainty about the conditions that would make this profitable, and at what time some $10-$20 million should be spent on a detailed consulting study. The option value calculations suggested delay (a fortuitous conclusion given subsequent geopolitical developments). 56 For example, in the case of the Upper Arun Hydro Project in Nepal, the Chinese consulting firm preparing the FS was directed by the Bank to engage an independent international consultant with the necessary qualifications and expertise. 57 For example, the Mpatamanga hydro project in Malawi was redesigned to incorporate a regulating dam immediately downstream of the main dam in order to mitigate the impact of rapid changes in flows and water levels consequence to daily peaking operation of the project. 203 CSPDR for the Nepal Upper Arun Project). These are typically built as simulation models in EXCEL that examine several dozen alternative scenarios. 6. FS Risk assessment In international best practice, all larger hydro projects will appoint an independent panel of experts, internationally recognized in their respective fields, to oversee the resilience of the project design to the major risks, notably a hydrology expert in the assessment of design flood, an expert in the assessment of seismic risk and dam safety, and (where relevant) often a specialist in assessing risks of upstream glacial lake outburst floods (GLOFs) The project concept note (PCN) stage Upon its approval, a timetable is set for project appraisal and Board presentation. The PCN, and its attendant timetable for appraisal, is best achieved once a detailed FS (and its attendant consideration of environmental and safeguards issues) is in hand. Ideally the economist already involved in the preFS and FS would be assigned to prepared the necessary economic and financial analysis for the project appraisal document (PAD). 7. Climate risk assessment These are now routine for major hydro projects, and often conducted by entities other than the FS consultant (such as by the University of Cincinnati for the Upper Arun hydro project in Nepal, see Box 9). But even for small scale projects (say a generation project on an irrigation canal), examination of a plausible worst case climate change impact will be useful. Hazard resilience assessment As noted, the Bank has now issued (January 2023) a best practice note for hazard resilience assessment of power sector projects. This requires a transparent presentation, in the table of economic flows, of the costs and benefits of resilience enhancements. What is particularly important is that the hazards and climate risks of the counterfactual are also evaluated. In the case of a hydro project, the risks of powerhouse flooding can be mitigated by certain additional hardening of the dam infrastructure; but the incremental costs associated with this improved resilience must be balanced against the hazards encountered in the counterfactual – for example where this is a gas-fired combustion turbine, by the risk of massive supply and price increases (as, for example, has occurred as a consequence of the Russian invasion of Ukraine). 8. Economic analysis The GEAPSIP has set clear guidelines for the substance and format for the presentation of economic returns of all power sector projects. This includes minimum requirements for risk assessment: switching values for all major identified risks, scenario analysis of plausible best and worst cases, and for larger projects formal quantitative risk assessment that allow identification of the probability distributions of NPV and ERR, and hence the probability of not meeting the hurdle rate. 204 Box 1: Summary presentation of economic analysis The GEASIPs require a summary presentation of the results of the economic analysis that take the Source: World Bank, 2017. form shown here – suitable for inclusion in the main PAD text, or in the Annex that provides further Tina River Hydropower detail on the economic (and financial analysis). The guidelines require externalities (positive & Development Project, negative) be expressly and transparently included in the table of economic flows. The economic Project Appraisal Document returns are to be presented with and without GHG emission impacts. In this particular case there PAD 25258. were no other significant externalities that were quantified: where these are present, additional rows would be required for the summary presentation. We note the following: • The rows and columns may be adjusted according to the needs of the analysis: additional columns could be for different discount rates, or different scenarios (see below for examples of scenario analysis). • The objective is to present a breakdown of the sources of costs and benefits – in this example the main benefit is the reduction of diesel fuel use. Note that while diesel use decreases, the negative entry in row[20] reflects the need for an additional diesel to maintain reliability in dry periods. • Carbon accounting rules require the calculation of lifetime carbon emissions (that for hydro projects will show a benefit, even when offsetting carbon emissions from reservoirs are considered). Non-power costs Cost allocation to non-power public goods (flood control, environmental services, navigation) is 205 academic. For example, where some part of active storage is reserved to flood control in the wet season, the costs (i.e., the reduction of benefits die to reduced head) are easily established (simply by calculation of NPV with and without that constraint). Some part of the CAPEX could indeed be allocated to flood control, but to what end? In reality, the loss of generation is a transfer payment from the power beneficiaries to the downstream activities that benefits from reduced flood damages). So best practice requires the flood control benefits to be recorded as a line item in the table of economic flows (in other words, as a positive externality), without the need for any allocation of CAPEX. Financial analysis 1. Traditionally, this consists of two parts: a calculation of the so-called “project financial return� and an assessment of the impact of the project on the borrower (often the state-owned utility). 2. The “project financial return� is typically conducted at constant prices, but taxes and duties that were subtracted from cost estimates for the economic analysis put back in but booked in the year of construction disbursement (as in an economic analysis). Benefits are valued on the basis of tariffs (often assumed to be constant in real terms, occasionally increasing in real terms where tariffs are unremunerative). The resulting calculation of FIRR and FNPV are then compared to the real weighted average cost of capital (WACC). Table 6: Economic v financial analysis Item economic analysis Financial analysis Numeraire constant prices nominal prices booked in year disbursed, taxes debt service, equity, loan CAPEX excluded disbursements, EPC OPEX constant prices inflated Taxes of all kinds excluded (transfer payments) included Benefits opportunity costs financial costs price contingencies excluded included financial fees excluded included IDC excluded included (possibly capitalised) Externalities included at opportunity cost only if monetised GHG included at social value of carbon only if carbon revenues are realised 3. More useful is a financial analysis at nominal prices (as they would be assessed in the private sector), under explicit assumptions of how a project would be financed and with explicit assumptions for loan term, repayment schedules, interest rates, and grace periods, and with clarity in any on- lending arrangements where concessionary loans denominated in US$ are on-lent to a state-owned utility in local currency, with Ministries of Finance carrying the FOREX risk. What matters to the implementing entity are the incremental cash flow impacts, with sustainably assessed by comparing these incremental cash flows on the cash flows of the no-project counterfactual. 9. Distributional analysis 4. The purpose of a distributional analysis is to demonstrate how a proposed policy, or a proposed project, affects the various stakeholders, and how the total net economic benefits are shared – which in effect requires a reconciliation of economic and financial flows. In other words, who wins and who loses. In a CBA, transfer payments are netted out, and do not appear in the table of economic flows that is focused on the question of net economic benefits to the country. But 206 whether the net economic benefits can be realized at all may well depend upon the financial impacts on stakeholders 5. This is about who wins and who loses. The OPSPQ guidelines do not mandate a formal distributional analysis – but simply require that the economist assess whether a distributional analysis is “relevant to the careful determination of social cost and benefits�. However, it would be very rare for a power sector investment project to have no significant distributional impacts, and best practice would require a distributional analysis for almost all projects - though a review of some recent water and energy PADs reveals scant attention to this. In part this is a consequence of the difficulties in reconciling economic flows (generally in constant dollars) with financial flows (in nominal currency), which has its own methodological problems. Box 2: Best Practice: Distributional analysis The GEAPSIP also requires a distributional analysis to show how the costs and benefits are Source: World Bank, 2017. distributed among the various stakeholder, with a typical presentation as shown here for the Tina Tina River Hydropower River hydro project in the Solomon Islands. Development Project, Project Appraisal Document PAD 25258. Since electricity from the Project is expected to be cheaper than electricity generated using the counterfactual, the Solomon Islands Electricity Authority (SIEA) is one of the major beneficiaries of the Project. A significant share of these financial benefits can be expected to be passed onto SIEA’s customers in the form of retail tariff reductions. According to the Bank’s Corporate Financial Analysis of SIEA, the Project is expected to help reduce electricity retail tariffs, in 2016 prices, to about US$ 33 cents/kWh immediately after Project commissioning and to US$26 cents/kWh by 2052. Local communities benefit through the benefit sharing mechanism while the Korea Water Resources Corporation and Hyundai Engineering Co (the “project company� in the above figure), receive their required return on equity. Development partners (meaning the various sources of debt finance) collectively help bear the costs of the Project by providing financing for the project at a rate that is significantly below than the market rate.58 The Solomon Island Government will help to improve financial viability if it provides tax exemptions to the Project. GHG emission reductions are seen to contribute a significant share of the net benefits. How such presentations can be calculated is discussed in Technical Note 6. 58 The financing sources include IDA, Green climate fund, ADB, Abu Dhabi Fund for Arab Economic development, the Korea Economic Development Cooperation Fund. 207 10. Non World Bank and Private sector projects 6. While the above exposition of the stages of economic analysis is tied to the procedures of the World Bank, the processes required by other international concessionary lenders (such as the Asian Development Bank (ADB), Inter-American Development Bank (IADB), and the African Development Bank (AfDB) are little different. 7. Some of these institutions – such as ADB59 and the IADB60 - have their own Guidelines, and in some cases where the World Bank and ADB are both involved in the same project (such as Nam Theun 2 in Laos), the estimates of economic returns may differ across institutions. There are three material differences between ADB and World Bank appraisal approaches: • Discount rate: While both require a sensitivity analysis of the investment decision to the choice of discount rate, the default rate in the Bank is based on the Ramsay formula grounded in welfare economics and set at twice the expected growth rate in per capita income, whereas ADB uses the economic opportunity cost of capital (EOCC), with 12% as the default 61 - and where this can only be estimated with difficulty 10-12% “if there are significant unquantified benefits�). • Carbon pricing: Only the World Bank mandates monetization of GHG emissions and the calculation of NPV (ERR) with and without monetization of GHG emissions, using prescribed values for the social value of carbon • Shadow pricing: Only the ADB generally applies shadow pricing to labor and foreign- exchange costs (with adjustment factors usually based on rules of thumb), whereas the World Bank (for power projects) uses these adjustments only where country-specific data is easily available (discussed further in Section 3.3). Private sector hydro projects 8. Over the past decade the private sector has played an increasing role in developing large hydro projects. But few have been 100% private (such as the Arun III hydro project that is developed entirely by an Indian Company without IFI involvement): most have involved some form of co-financing or credit risk enhancement provided by the international financial institutions: • Bujagali (Uganda): IFC provided$128 million in debt; IDA Partial risk guarantee • Nam Theun 2 (Laos): Led by EdF (France) but with MIGA guarantees • Mpatamanga (Malawi): IFC co-financing 9. Because the emphasis in such projects is on the financial rather than economic analysis, only secure revenue streams will be considered, which for power generation benefits can be secured with reasonable certainty. But non-power benefits are generally public goods that do not generate reliable revenue streams (flood control, navigation, environmental services). Box 3: Some pitfalls of CBA and how to avoid them 59 ADB, Guidelines for the Economic Analysis of projects , 1997. 60 Inter-American Development Bank: Benefits and Beneficiaries: An Introduction to estimating distributional effects in Cost-Benefit Analysis, 1987. 61 The rationale for use of the EOCC is easiest where a country has successfully issued US$ or Euro denominated bonds (such as PLN in Indonesia, or ONEE in Morocco) – which have generally carried interest rates in the range of 6-8%. 208 Excessive optimism: The Bank’s Independent evaluation group (IEG) has noted the biggest pitfall of in CBA presented for Bank-financed projects: underestimation of costs and overestimation of benefits due to the use of “most likely� values for key assumptions.62 Engineers have the tendency to use “most likely� values (based on their own experience) – in essence using the mode of a distribution rather than its mean. Poor linkages to the PAD risk matrix: Preparation of the risk matrix in the PAD is one of the TTL’s major concerns, with risks assessed on an ordinal scale (high, medium, low, and so forth). The economist needs to consider each significant risk identified in the matrix and ask whether the risk can be quantified on a cardinal scale, and whether that can be monetized. For example, a risk factor might be that the financial sustainability of a project might be dependent on failure to reach technical or commercial loss reduction targets, with an assessment of “high� or on a reform of water charges. These risks should and could indeed be included in the economic and analysis, to assess what the impact of that risk may be on economic and financial returns. Poor choice of Project development objectives (PDOs). These attempt to set quantitative targets to measure performance but are often chosen without the necessary caveats. For example, in the Trung Son Hydro project, whose CBA (and project implementation as a whole) is widely cited as exemplary, one of the PDOs was “amount of electric energy in GWh�, set at the expected average annual energy of 1,019 GWh. The difficulty here is that when the ICR is prepared at completion, often there is just one or two years of actual operation, and energy production will be dependant on hydrology conditions experienced. Indeed, in the first two years of operation available at the time of ICR completion, the first year generation was 1,085 GWh, the second year just 650 GWh – with the second lowest annual inflow in the historical record since 1967). Failure to identify and exclude transfer payments: Benefit sharing is now routinely part of major hydropower projects, which are designed to provide benefits to local communities far in excess of like-for-like restitution under safeguards policies for resettlement and relocation. They are sometimes erroneously included as an economic cost – but these are in reality a transfer payment from electricity consumers to local communities. Problems with counter-factuals: For hydro projects this is the most often encountered in rehabilitation/ life extension projects that have fallen into dilapidation: decommissioning Biased selection of benefit measures. The classic example is the NT2 62 Independent Evaluation Group. Cost-Benefit Analysis in World Bank Projects, World Bank, 2010 209 hydro project, located in Laos but exporting the bulk of its output to Thailand – for which the valuation of benefits has attracted huge controversy. The methodology used in the IEG's reanalysis of economic returns (economic benefits to Laos valued at the export sales price based on the presumption of electricity as a tradable good)63 is quite different from the avoided cost methodology used in the Bank's Appraisal report, and in the reanalysis in the ICR. The ADB’s evaluation report is no less controversial in its completion report: “However, the actual method of calculation of willingness to pay used at appraisal was incorrect and the value thereby ascribed is considered incorrect, resulting in a material underestimation of the project’s economic value"64 Failure to adequately account for basin-wide impacts This is the classic problem: a single project may have “negligible� environmental impacts, but if every project on a river basin makes the same claim, the impact of the sum of all projects may well be highly significant. No better example than the many large hydro projects in Laos & Cambodia on the Mekong river: Nam Theun 2, Xayaburi, and Lower Sesan 2 each claim “negligible� environmental impact and each argues that these projects are all negligible in size compared to the many projects upstream in Yunnan. But the cumulative impact on the Cambodian Ton Le Sap fishery and the Mekong delta in Vietnam cannot simply be dismissed. Without basin-wide studies of the cumulative impact of cascade development needs much more attention than is generally the case (see Box 4 for more detail of Mekong hydro projects) 63 This is a highly doubtful proposition for an enclave project where 95% of the electricity is delivered to Thailand, where the price to the buyer (EGAT) is negiotiated between the developer (that included the Thai utility EGAT) - this hardly constitutes a tradable good 64 Asian Development Bank, Lao People’s Democratic Republic: Greater Mekong Subregion: Nam Theun 2 Hydro- electric project. Completion report 37734-013 210 11. Issues of Methodology ________________________________________________________________ 12. Valuation of hydropower benefits 10. Discussion of fossil fuel prices in Guidelines for hydro project CBA may appear odd, but because benefit valuation of hydropower often depends on the costs of thermal alternative, cannot be avoided: indeed, the credibility of hydro benefits depends on the credibility of fossil fuel price forecasts. Incremental v. non incremental projects 11. The methodology of benefit valuation requires a distinction between so called incremental and non-incremental power. If the project counterfactual is that a hydro project replaces power otherwise provided by thermal generation, the project is termed “non-incremental�, since in the counter-factual power would be provided by the next best project – often gas-fired thermal generation. In other words, the net benefits of the hydro project are defined by the difference between its costs, and the costs of the (thermal) alternative that provides the same energy (both in quantity and in its hourly and seasonal timing). 12. However, if its output serves customers not previously served – either because of supply shortages, or to connect new customers, the project benefits are described as “incremental�. The GEAPSIPs for economic analysis holds that the benefits of an incremental supply be assessed by consumer willingness-to-pay (WTP), the best proxy for which in the absence of survey data is the cost of self generation – which again depends on the price of diesel. 13. In both cases, the analysis requires a forecast of the electricity price of the alternative: in the case of the incremental project, the price of diesel used for self-generation; in the case of the non-incremental project, the price of natural gas. And related to this is the degree to which many countries with their own fossil resources still provide large subsidies to fossil fuels – which is one of the barriers to hydropower development. A good example is provided the World Bank study of hydro development in Peru – long constrained by one of the lowest natural gas prices in the world (outside the middle East).65 Forecasting fossil fuel prices 14. Hydro projects have long lives, which requires forecasts over correspondingly long time periods. Several problems are faced by those who make, and receive, such forecasts: • Different entities often have widely different views about the long term prices – which leads to the temptation to choose the highest one – the higher the oil and gas price, the greater will be the benefit of the hydro project. • The vision about the long-term future is colored by the prices of the present – a problem because fossil fuel prices show high volatility, which colors perceptions of the future. When the oil price at the time of the forecast is $120/bbl only the brave forecast would present a long term price of $60/bbl. • Many forecasts by private companies (Investment Banks, oil companies), OPEC, or national Governments may be criticized on grounds of being colored by self interest. The track record of forecasts by International bodies (World Bank, IEA) may not necessarily be any 65 World Bank, 2012. Peru Overcoming the Barriers to Hydropower Report 53719-PE 211 better than those of others but are less likely to be colored by vested commercial or national policy interests. 15. The World Bank’s own price forecasts are published twice a year in April and October,66 but starting in 2022 they no longer present long term forecasts. 16. There is no better example of the problems of forecasting than the assumptions used in the 2012 Bank World Bank appraisal of the Kali Gandaki hydro project rehabilitation in Nepal, for which the baseline forecast for the crude oil price was defined by the IEA World Energy Outlook (WEO) 2011 Current Policies scenario. This scenario was colored by the spike in oil prices in 2007 and 2008, that collapsed in the aftermath of the global financial crisis of 2008. As shown in Figure 1, the 2020 forecast was from 95-110 $/bbl: the actual (nominal) average oil price in 2020 of $70/bbl when expressed in constant 2010 $US is $60/bbl. Figure 5: Oil price forecasts in 2010 WEO=IEA’s World Energy Outlook, published annually. 17. In the more recent 2022 WEO, the range of fossil fuel prices across the scenarios is much greater. It argues that the critical determinant of long term fossil energy prices on international markets will be the extent to which the world succeeds in dealing with climate change and the transition to renewable energy. For this purpose, it considers three scenarios:67 • STEPS (stated policies scenario), which reflects current policy settings based on a sector-by- sector and country by country assessment of the specific policies that are in place, as well as those that have been announced by governments around the world. • APS (Announced pledges scenario), which assumes that all climate commitments made by governments around the world, including Nationally Determined Contributions (NDCs) and 66 World Bank, Commodity Market Outlook, October 2021. 67 IEA, Global Energy and Climate Model, November 2022. 212 longer-term net zero targets, as well as targets for access to electricity and clean cooking, will be met in full and on time. • NZE (net zero emissions by 2020): which sets out a pathway for the global energy sector to achieve net zero CO2 emissions by 2050 Table 7: The October 2022 IEA World Energy Outlook forecasts 13. Externalities 18. The World Bank’s 1998 Handbook on Economic Analysis defines externalities as The difference between the benefits (costs) that accrue to society and the benefits (costs) that accrue to the project entity. 19. But in practice, project boundaries are often much wider than the “project entity.� For example, flood control benefits in a multi-purpose water resource project may occur at some distance downstream and would not normally included in the accounts of the “project entity� – but these have long been included in the benefit stream of a hydro project economic analysis without being called an “externality�. Thus, a better definition is with reference to the project boundary, the establishment of which is one of the first tasks in the analysis. 20. In other words, externalities can be • local – such as the health damage cost incurred from NOx, SO 2 and particulate matter. • regional – such as the impact of a hydro project on fisheries many miles downstream and perhaps even in a different country (such as a Mekong River hydro project in Laos affecting Cambodia and Vietnam fisheries in the Mekong Delta). • global – such as the damage cost from thermal power generation whose impacts are felt by the entire world. 21. A rigorous definition of externality in the economics literature is more nuanced, requiring not merely that a third party is affected, but also that these effects are not conveyed through market price signals.68 22. Whatever the definition, all Bank projects are subject to its Safeguards policies, and hydro 68 W. Baumol and W. Oates, 1988. The Theory of Environmental Policy. . 213 projects will trigger many of them: Environmental Assessment (EA); Cultural Property; Disputed Areas; Forestry; Indigenous Peoples; International Waterways; Involuntary Resettlement; Natural Habitats; Pest Management; and Safety of Dams. Many of the related concerns can be regarded as externalities, and some will result in incremental costs that should be explicitly accounted for in any economic analysis. 23. The main externalities encountered in hydro-projects are well understood – some will be positive, some will be negative, but not all are easily quantified and monetized. The main positive externalities are follows: • GHG emission reduction of non-incremental projects where the counterfactual is thermal generation. Easily quantified using the Bank’s carbon accounting procedures (based on IPCC defaults if necessary) and monetized using the Bank’s Guidelines on social cost of carbon. Details are in Technical Note 26. • GHG emission reductions in the case of incremental projects, based on the avoidance of diesel self-generation. • Avoidance of health impact associated with local air pollutant emissions from the thermal alternative: will be important for non-incremental projects where that is based on coal; important also for incremental projects since diesels are often in densely populated urban areas. Technical Note 25 provides the details and assumptions required • Benefits of access roads to remote areas – to the benefit of the local area. Difficult to quantify. 24. The most frequently encountered negative impacts include • GHG emissions from Reservoirs 69 Discussed in detail in the Water Sector Technical Note Greenhouse gases from reservoirs caused by biochemical processes. There is a substantial literature on this topic, and the Bank’s carbon accounting procedures provide default values to be used if necessary. However, these will be small compared to the avoided GHG (benefit) where the counterfactual is thermal generation. • Downstream impacts on fisheries and sediment deficits: arguably one of the most controversial issues. The general literature suggests that benefits from supposed new reservoir fisheries are often overestimated but impacts on downstream fisheries are frequently underestimated (see Box 3 for examples of the calculations). Impacts on riverbank farming are notoriously difficult to assess. • Impacts on the natural environment. These may be wide ranging, but the identification of impacts and proposed mitigation measures and their costs will rarely require much attention from the project economist – except to make sure that the mitigation costs are properly recorded, that adequate contingency allowances have been included, and that the impact of potential controversies on construction schedules are realistically assessed. This in turn is often a matter of the quality of stakeholder engagement – but over the past decade the Bank’s procedures for this in the case of large projects has greatly improved. It is in the case of smaller projects that inadequate compliance with agreed environmental management plans becomes a source of delay and may affect the economic returns. 69 https://documents.worldbank.org/en/publication/documents-reports/documentdetail/536381468339619783/greenhouse- gases-from-reservoirs-caused-by-biochemical-processes-interim-technical-note 214 • Impact on project affected persons: these will be examined in detail under the Bank’s Safeguards policies: the magnitude of the relocation and resettlement costs will be determined by others, and easily recorded in the table of economic flows where these constitute an unusual component of total capital costs. Table 8: Checklist of frequently encountered externalities Impact on Quantification & valuation economic flows Local air Positive Arise when the counterfactual for a hydro project is pollution thermal generation. The relevant methodology is set out emissions in Technical Note 25. These emissions always need assessment if generation at coal or diesel self-generation appear in the counterfactual or GHG emissions Most likely Valuations are now provided by Bank guidance Positive documents. Where the counterfactual is thermal generation avoided GHG emissions constitute a major benefit. However, these will be offset by emissions related to reservoirs. Road Requires study Hydro projects are often in remote areas, which may construction require major road construction through environmentally sensitive areas. The direct costs are routinely included in the investment cost. Such roads may also generate benefits (though rarely monetized) : new roads in remote areas may improve agricultural productivity and promote local economic activity. However, experience (especially in small hydro projects) shows that environmental mitigation measures are difficult to enforce in remote areas. The costs of such measures are often ignored in the economic analysis. Downstream negative Difficult to value, with large range of uncertainty, and fisheries impacts inevitably controversial. Classic example is the impact of Mekong mainstream dams on Cambodia’s Ton Le Sap fishery. ( See e.g., Natural Heritage Institute, Report to Government of Cambodia (https://n-h- i.org/programs/restoring-natural-functions-in-developed- river-basins/mekong-river-basin/cambodia-sambor/) Water quality& Potentially This concern would normally be addressed in related health negative environmental impact studies. It would be rare for this to impacts be quantified and monetized, though any mitigation measures identified by the EIA may need to be included in the table of economic flows where these are material. Forestry impacts negative When a reservoir inundates forest, a range of forest values may be lost, including timber and non-timber forest products, and environmental services. See Box for an example from Vietnam where the information was available in a Strategic Environmental Assessment conducted for all major remaining large hydro projects. (Stockholm Environmental Institute: Strategic Environmental Assessment, Vietnam Hydro Master Plan, 2000). Such studies are not always available. (see also Box 5). Downstream Positive The regulation provided by a storage hydro project will in 215 Impact on Quantification & valuation economic flows flow regulation principle benefit downstream hydro projects as well, which should be estimated and added to the benefits of the upstream project. This benefit is rarely acknowledged where the affected downstream project is in a different jurisdiction Cultural impacts Negative Rivers may have substantial cultural and religious values that do not allow interference with natural flows. Notoriously difficult to deal with. The classic example is the bank financed Vishnugad hydro project in India, where complainants argued that the project interfered with religious and cultural rituals associated with the natural flow of the Ganga and had not adequately assigned value to this in the evaluation of the project. The Bank’s inspection panel ruled that the environmental flow requirements, to which the project had adhered, reflected society’s values for which the Government was the appropriate arbiter. (see India, Vishnugrad Pipalkoti Hydro Electric Project, Investigation Report, July 2014. Report 81109-IN.) Downstream Positive The trapping of sediments by a new upstream project may sediment control provide important life extension benefits to a downstream project. A good example is the World Bank financed 4300 MW Dasu project on the Indus river, which will provide life extension benefits to the downstream multi- purpose Tarbela project where high sediment loads are encroaching on the active storage. 216 Box 4: Impact on downstream fisheries The NHI report on mainstream dams on the Mekong river highlight the valuation problems of downstream impacts. In the presence of anadromous fisheries, where adults swim upstream to spawn, and eggs and larvae are transported downstream, the problem is that flow velocities in large reservoirs decrease, so eggs and larvae sink and die – a problem not solved by fish ladders or low speed turbines. Therefore, the productivity of downstream fisheries - in the case of the proposed Sambor dam the Ton Le Sap Lake upon which millions depend for their protein intake, would become seriously degraded. This figure summarizes the economic analysis conducted for the Sambor Dam, a 2600MW Mekong mainstream dam in Cambodia as proposed by a Chinese Develop (CSP). As proposed, this has an ERR of 12.1%, with an energy cost of 5.99USc/kWh, and power benefits of 8.75USc/kWh clearly economic – provided externalities were not considered. The details of assumptions and calculations can be seen in the NHI report. Even were proper fishery mitigation measures installed – best practice fish ladders, low speed turbines, and a much small dam that would reduce the number displaced persons and reduce fish death rates – the result is still a net negative. Power costs increase to 8.12USc/kWh, fishery and sediment damages decrease, to a greater net loss of $4.26 USc/kWh. In short, even with the best mitigation measures in place, such a mainstream project is simply uneconomic. Source:Natural Heritage Institute: Sambor Hydropower dam Alternatives Assessment, report to the Government of Cambodia, 2017 217 Box 5: Lost Forest Value: Hydro projects in Vietnam The economic analysis of the Bank financed Trung Son project included as a cost the lost forest value. This had been estimated in a Strategic Environmental Assessment (SEA) for the National Hydropower Master Plan, which included all of Vietnam’s remaining major hydro projects. The economic loss of forest value should be itemized and included a project’s economic costs. These losses were estimated by the Strategic Environmental Assessment as shown below: the estimates refer to the forest impacted in the Zone of Influence which is larger than the project (and reservoir inundated) area itself. The Trung Son project has the 6th highest value of timber losses among the 16 projects for which data are available. The entries are all as lifetime present values. Forest value lost at Vietnam’s remaining hydro projects The value of forest lost to the Trung Son zone of influence is VND 148 billion ($US8.8million), or $34/kW. However, when included in the economic analysis, the economic rate of return decreased only by about 0.5%. Source: World Bank, Project Appraisal Document, Economic Analysis, Trung Son Hydro Project , 2011. Shadow pricing70 25. A review of current World Bank practice shows that relatively few power-sector project appraisals have shadow-priced domestic (non-traded) inputs and outputs. This is in contrast to ADB practice, where labor inputs are almost always shadow priced.71 Whether this is really worth doing depends on whether the adjustments are reasonably well grounded (there are few reliable studies of the labor composition of renewable-energy-project construction workforce, and to the best of our knowledge, none for regional electricity-transmission projects), and what proportion of the capital cost is imported equipment. This may be important for hydro projects where a substantial part of construction labor may be local: for example, at the Arun-III hydro project in Nepal, it is claimed that “3,000 construction jobs will be needed�, a substantial fraction of which would be semi-skilled Nepali workers.72 70 The best non-technical explanation of shadow pricing is still that in Chapter 12 of R. Turvey and D. Anderson’s Electricity Economics: Essays and Case Studies, published by Johns opkins for the World Bank, 1977 (“ Layman’s Guide to Shadow ricing�). 71 In all of the ADB projects reviewed, unskilled labor inputs were adjusted by a shadow wage-rate factor of 85 percent, but the source of this default adjustment is unclear. 72 https://www.power-technology.com/projects/arun-iii-hydropower-project/ 218 26. A more important issue concerns shadow pricing of foreign exchange. Economic theory holds that if the numeraire is in a foreign currency, domestic costs should be adjusted by the so-called standard correction factor (SCF), which is the ratio of the economic prices of goods in an economy (at their border-price equivalents) to their domestic market prices; its typical default value is 0.9 to 0.95. If the numeraire is in the domestic currency, foreign-exchange costs are adjusted by the shadow exchange rate factor (SERF), which is the reciprocal of the SCF. Without the proper adjustment, the economic returns may be over-estimated. For an example of how the SCF is calculated, see Technical Note 22 where the SCF was calculated for the economic analysis of the Tarbela T4 Expansion project.73 14. Valuation of non-power benefits in multi-purpose projects 27. Other chapters in this Report cover non-power water valuation issues - such as Flood protection in Chapter 5 and Urban Water Projects in Chapter 7 of this book. A recently issued Guideline appears to cover the irrigation sector74, but while this offers a useful overview of the role of economic analysis in the project cycle (Figure 2), it provides little detailed practical guidance. The most important source for economic analysis of irrigation projects remains the classic work of Gittinger’s Economic Analysis of Agricultural Projects75 Figure 6: Economic analysis for irrigation projects 73 World Bank, Tarbela Fourth Extension Hydropower Project, 2012. Report 60963-PK 74 F. Bazin and S. Cedat, 2022. Making Irrigation Projects Viable and Sustainable: A Guide to using Economic Analysis. 75 https://documents1.worldbank.org/curated/en/584961468765021837/pdf/Economic-analysis-of-agricultural-projects.pdf 219 28. However, Figure 2 reminds of the problem of subsidies – and indeed this is a major issue for water projects generally, as discussed below. It is also clear that when a surface water irrigation scheme that relies on a storage reservoir is presented as an alternative to diesel groundwater pumping, the question of realistic assumption of future diesel pumping is just as important. 29. Box 6 Provides an example of valuation of fishery impacts, and some of the hazards encountered in studies that attempt this: the extent to which the claimed economic benefit of establishing reservoir fisheries in hydro reservoirs offset downstream damages to capture fishery remains controversial.76 Box 6: Issues in the valuation of fisheries If there are large uncertainties in fish quantities as may be negatively affected by large dams, these are compounded by problems of valuation. A widely circulated report on the value of fisheries in the Mekong Basin correctly notes the difference between aquaculture and reservoir fish (2.50/kg), and traditional capture fisheries ($3.50/kg). But the use of retail prices as valuation is the gross revenue, not the net economic value, and would therefore overstate the fishery damage costs. A correct assessment requires more careful scrutiny of the value chain as shown here for Snakehead capture fishery. 76 see, e.g., I. Campbell & C, Barlow. Hydropower development and the loss of fisheries in the Mekong River Basi n, (https://www.frontiersin.org/articles/10.3389/fenvs.2020.566509/full), or C. Arantes et al., Functional responses of fisheries to hydropower dams in the Amazonian Floodplain of the Madeira River . Journal of Applied Ecology, Nov 2021. https://besjournals .onlinelibrary.wiley.com/doi/10.1111/1365-2664.14082?af=R) 220 Source: L. Sinh et al, 2012. Value chains of captured and cultivated snakeheads in the lower Mekong Basin of Cambodia and Vietnam. This shows that of the retail value of $2.93/kg of the total value added of $2.09/kg the fisherman captures just half $1.05/kg (in the Ton Le Sap area that would be impacted by a Mekong Mainstream Dam at Sambor (see Box 3). For cultured snakehead fishery the corresponding retail price is $2.4/kg, but with a total added value of $0.87/kg, of which the farmer captures $0.25/kg. Source: Natural Heritage Institute: Sambor Hydropower dam Alternatives Assessment, Report to the Government of Cambodia, Dec 2017 15. Quantifying trade-offs 30. Some of most notorious conflicts at multi-purpose projects are grounded in the misunderstanding that hydropower and irrigation are always in conflict or have otherwise become entangled in the geopolitics of water conflicts. But hydropower is not a consumptive use –for example raising dam heights to provide greater hydro head does not necessarily imply less quantity of water available downstream for irrigation (Box 7).77 Both the 4th Hydro extension project, and 5th Hydro project extension at Pakistan’s Tarbela multi-purpose project show that increased hydropower production is possible with no detriment to irrigation (by constructing a powerhouse on an existing discharge tunnel). Box 7: The Upper Krishna Hydro project (Karnataka, India) The Upper Krishna Irrigation project was originally conceived by the erstwhile state of Hyderabad, but the reorganization of the States in November 1956 brought the project, and the areas to be inundated, into the State of Karnataka. Construction of the dam at Almatti, with a smaller dam at Naraynpur immediately downstream, proceeded slowly with World bank support78 Based just on the irrigation benefits, the ERR was estimated at 13% It was always envisaged that the dam would allow power generation, and the design of the dam envisaged an operating height of 524 masl, and by the early 1990s the necessary penstocks had been installed as dam completion neared. The 297 MW power project was then awarded to a New Zealand based IPP, and by 1995 a detailed FS had been prepared and submitted to the necessary Karnataka and Federal Authorities. However, the Government of Karnataka indicated that irrigation would be given priority. The design envisaged that the bulk of Karnataka’s irrigation releases would be from the lower dam at Naraynpur, 77 Of course, water diverted into irrigation channels is consumptive only at the point of diversion: some fraction re-enters the river as return flow useful for other purposes further downstream. 78 World Bank, 1989 Upper Krishna (Phase II_ Irrigation project, Staff Appraisal report, 1989. https://documents1.worldbank.org/curated/en/405281468050931722/pdf/multi-page.pdf 221 Unfortunately, the project then became embroiled in the inter-state water dispute between Karnataka and Andhra Pradesh (AP), the downstream riparian over the allocation of water for irrigation, a dispute that reached the Indian Supreme Court in 1996. The dispute centered on whether the project could actually at the planned 524 masl, rather than at 519.5 which would have been sufficient to store Karnataka’s allocation for irrigation (as provided by the 1969 Krishna Waters Dispute Tribunal). AP alleged that at the higher level, obviously desirable to maximize the power production, Karnataka could (in theory) extract more than its permitted share. The developer’s detailed feasibility study showed that at the 524 FRL, average annual generation would be 681 GWh, but at 519.6 only 525 GWh/year (valued at 8USc/kWh, a loss of power benefits of $12.5 million per year). The Supreme Court ruled in favor of AP, ruling that the size of the gates could store water to 519.6m. For reasons that were unclear, the Court rejected the argument of Karnataka that power production was a non- consumptive use, and that the higher head per se had no impact on discharges into the irrigation canals. But such was the level of distrust between the two States, and such was the fear that the arid areas in AP would lose their irrigation allocation, that power benefits at the multi- purpose project were substantially reduced: presumably the Court judged that only the lower height would provide certainty that Karnataka could not extract more than its allowance.79 31. However, the non-consumptive nature of water use for power generation in many (but not all) cases notwithstanding, trade-offs arise because of the timing of water releases. The classic example is the Aral Sea region: Upstream Kyrgyzstan need to save summertime runoff for hydro production in winter conflicts with the desire of the arid downstream countries for irrigation in the summer crop growing season. The literature of such irrigation-hydropower conflicts that are grounded in the seasonal differences in the value of water across different uses is extensive.80 32. The conceptual basis for assessing irrigation economic benefits is well understood and are summarized in the economic and financial analysis reports of the 2000 World Commission on Dams.81 Just as shadow-pricing is needed in the presence of distortionary policies, the impacts on commodity markets of non-marginal changes in output must be recognized when irrigation benefits are being estimated. Net welfare is defined as the difference between consumers' WTP for goods and services and the opportunity costs of those same commodities. Within a single market, the area under the demand curve represents WTP and the area under the supply curve represents opportunity costs. Hence, net welfare in a 79 With all the litigation delays, the IPP withdrew, and the power project was subsequently built by the state-owned Karnataka Power Corporation. AP now has a new Krishna waters dispute with the newly created State of Telangana. 80 See e.g., R.Zeng, X.Cai, C Ringler and T.Zhu, 2017. Hydropower v. Irrigation- an analysis of global patterns, Environmental Research Letters,12,034006 81 D. Southgate, 2000. Methods for valuation of irrigation benefits, in World Commission on Dams, Thematic III.1 – Financial, Economic and distributional analysis. 222 market that has achieved competitive equilibrium is the area between the two curves (Figure 3). Figure 7: Estimating benefits of irrigation Source: World Commission on Dams 33. Similar issues arise in the formulation of trade-offs between hydro production and flood protection. Some part of the storage volume of hydropower reservoirs may be allocated to flood control in the wet season, which reduces the head for power generation- but in this case the marginal value of power production in the wet season is lower than in the dry season, so the economic loss of wet season generation may have minimal impact of power generation economics. Indeed, in mixed hydro thermal systems (as for example in Vietnam), where peak power production is met by LNG, global LNG prices are higher in summer that in winter (when demand and prices are driven by peak heating demands in Europe and Japan). 34. The important point is that what matters is not just the competition for water quantity involved, but its time-varying value, set by the opportunity costs of the different uses. Inconsistencies in how different uses and sectors price water constitute a major problem for the methodologies used for economic (and financial analysis). The extreme case would be the trade-off between power generation and environmental flows, where the value of power generation is set by (ideal) competitive markets (much favored by economists since the financial price equals the economic equilibrium price, and self-evidently observable), but the quantity of imposed environmental flows is set by environmental regulators very rarely on the basis of an actual valuation, but on arbitrary minimums (such and such a percentage of the long term dry season average flow considered by them to be “necessary�). That there exists a vast and growing literature on the methodologies for valuation of environmental, ecosystem and ecological goods is a consequence of the fact that different methodologies generate valuations that often differ by orders of orders of magnitude, resulting in much controversy., 223 Table 9: Benefit Valuation issues in multi-purpose projects [ Benefit Example Sample reference Irrigation Aswan High Dam project in Egypt. https://www.jstor.org/stable/2010254 Irrigation water benefits assessed through a Asfaw, S. & Admassie, A. (2004). The combination of economic and social analysis. economic valuation of the benefits of The economic analysis involved estimating the Aswan High Dam, Egypt: A the value of the irrigation water based on its contingent valuation approach. contribution to agricultural production, which Ecological Economics, 48(1), 69-81. was measured using the market value of Amin, M. (2002). Environmental agricultural products. The social analysis impacts of the Aswan High Dam. involved evaluating the non-market benefits Journal of Social Sciences, 30(1), 1-16. of irrigation water, such as the value of the Elhance, A. (1999). Hydropolitics in the water for household use and recreational Nile Valley. Syracuse University Press. activities. Water Lesotho Highlands Water Project (LHWP). https://openknowledge.worldbank.org One benefit valuation issue in the LHWP was /handle/10986/15019 Supply how to assess the value of the water transferred from Lesotho to South Africa for municipal and industrial use. The water is supplied to Johannesburg, which is South Africa's economic hub and home to several industries. The challenge was to determine the economic value of the water for these users. The economic analysis involved estimating the value of the water based on its contribution to the South African economy. This was done by estimating the economic benefits of increased water supply to the industries in Gauteng province, such as mining, manufacturing, and services. The value of the water was estimated by calculating the additional profits generated by the industries due to increased water availability and subtracting the cost of the project. Flood Trung Son Vietnam: flood control damages https://projects.worldbank.org/en/proj assessed as the cost of downstream dikes to ects-operations/project-detail/P084773 control provide equivalent flood control volume Fisheries Mekong mainstream dams: impact on Natural Heritage Institute, Report to downstream Ton Le Sap fisheries assessed Government of Cambodia (https://n-h- with value chain analysis from fish production i.org/programs/restoring-natural- to retail market price functions-in-developed-river- basins/mekong-river-basin/cambodia- sambor/) Mekong mainstream dams: impact on downstream Ton Le Sap fisheries assessed with value chain analysis from fish production to retail market price Navigation Jiangxi Shihutng Navigation and World Bank Project Appraisal hydropower, China: Navigation benefits of document Report 42124-CN, 2008 ship lock assessment based on cost savings from expected shift from road to river transport of bulk materials. Environmen Mpatamanga, Malawi: redesign of project https://projects.worldbank.org/en/proj tal services forced by ad hoc environmental concerns: ects-operations/project-detail/P165704 regulating dam added by the detailed FS, costs partially offset by including additional powerhouse production at this dam, 224 35. In the recent practice of World Bank hydro project appraisals, sometimes multipurpose benefits are simply ignored, and little attempt is made to quantify these. A good example is the Dasu hydro project in Pakistan – narrowly defined not a multi-purpose project, but where substantial benefits accrue to the downstream Tarbela project where the rapidly accumulating sediment has reduced active storage for irrigation: the sediment management flushing program will be initiated only 15 years after completion of the dam in the interest of preserving irrigation storage at Tarbela. This benefit was simply ignored in the assessment of economic returns on grounds of the difficulties in quantification in the monetary benefit to irrigation. 36. Table 5 shows the line entries for externalities in the table of economic flows – loss of forest value as negative, productivity and flood control as benefits. Table 10: Externalities in the table of economic flows Source: World Bank, Project Appraisal Document, Economic Analysis, Trung Son Hydro Project , 2011. 16. Allocation of joint costs 37. The allocation of joint costs in multipurpose hydro projects has a long history: the seminal exposition is that of Gray, published in 1935!82 Clearly, some costs are separable (such as the powerhouse for hydro generation), but the main cost – that of the dam itself –is a joint cost. In 82 H. Gray, 1935. The allocation of Joint Costs in multiple-purpose Hydro-electric projects, American Economic Review, 25,3,p224- 235). Written in the context of large investments of the Federal Government on the Columbia and Tennessee Rivers, he concludes that public development of the water resources of drainage basins for flood control, navigation, electric power and other useful purposes raises the question as to how the joint costs are to be allocated among the several complementary utilities. The non-vendible character of certain utilities renders allocation by reference to a free market impossible. The intangible nature of certain benefits, the generality of their incidence and the probability that their relative values may change considerably over the life of the project make it difficult to allocate joint costs on the assessment principle. No objective formula is possible; joint costs must be allocated by reference to social policy. 225 1985, the World Bank published a paper that set out its methodology for joint cost allocation,83 with much literature on the subject since then. 38. Joint costs are costs that are incurred for multiple purposes or activities and allocating them to specific purposes or activities can be a challenge. In multipurpose hydro projects, joint costs may include costs for dam construction, power generation, flood control, irrigation, and recreation. There are several methodologies for allocating joint costs in multipurpose hydro projects: The choice of method depends on the specific characteristics of the project and the goals of the cost allocation. The methods include • Physical unit method: This method allocates joint costs based on the physical output or usage of each purpose or activity. For example, the cost of dam construction could be allocated based on the amount of water stored in the reservoir for each purpose. • Market value method: This method allocates joint costs based on the market value of each purpose or activity. For example, the value of power generated could be used to allocate joint costs for power generation and dam construction. • Incremental cost method: This method allocates joint costs based on the additional costs incurred for each purpose or activity. For example, the additional cost of flood control measures could be used to allocate joint costs for flood control and dam construction. • Benefit allocation method: This method allocates joint costs based on the benefits received by each purpose or activity. For example, the benefits of irrigation could be used to allocate joint costs for irrigation and dam construction. 17. Assessing macroeconomic impacts 39. The general presumption of CBA is that the scale of a single energy sector project is too small to affect important macroeconomic characteristics – labor inputs do not significantly distort national labor markets, no crowding out of investment in other sectors, and the additional power does not significantly change GDP composition. Of course, there are some significant exceptions – the Sri Lanka Mahaweli Ganga project (power and irrigation) being one example - a project so large as to have consumed over almost a decade a major share of all national public sector capital expenditure and labor inputs (crowding out investment in other sectors) and changed to such large extent agricultural productivity that significant changes in the structure of the economy were anticipated as a result.84 40. Nevertheless, many Governments of small countries with good hydro resources see the development of hydro exports as a key export earner. Hydro exports from Bhutan (to India) account for 26-48% of export earnings,85 and Nepal has similar aspirations for hydro exports into India and Bangladesh. 41. The temptation to see hydro project exports as the cornerstone of economic development are 83 World Bank, Economic analysis of multipurpose water projects, AGREP Division working paper AGP 96, 1985 84 World Bank, 2012. Sri Lanka, Mahaweli Ganga Development. Independent Evaluation Group (IEG). 85 USAID, 2016. Impact of cross-border electricity trade on Bhutan (https://sarepenergy.net/wp- content/uploads/2022/07/Impact-of-Cross-Border-Electricity-Trade-on-Bhutan.pdf). 226 sometimes grounded in the experience of Switzerland and Austria, land-locked countries for whom hydro is the only natural resource. But upon closer examination this proves doubtful: while indeed hydro development in was vitally important for economic development in the 1920-1950, it was to meet the domestic demand for the growing energy intensive manufacturing industries that drove the macroeconomic development of the country: exports to their giant neighbors (France, Germany and Italy) was never part of the main rationale. 42. Nevertheless, the magnitude of large hydro projects in small countries designed to serve exports may have significant macroeconomic effects and will require assessment on several criteria – their share in total debt and headroom for sovereign guarantees; on aggregate foreign direct investment; and on forex exchange balances. 43. Nepal provides an instructive example: energy sector investment over the next twenty years will account for 3% of GDP, with hydro accounting for half of this total (Table 6) and requiring some $27 billion in investment financing. Table 11: Historical Investments (2010–17) and Projected Investment Needs, 2018–40 Source: Nepal Energy Infrastructure Sector Assessment, World Bank, 2019. 18. Benefit sharing 44. It has accepted practice that large hydro projects need to pay more attention to providing benefits to the communities in the often remote and economically disadvantaged areas where large projects are located, and the World Bank and ADB have issued several Guidelines and case studies to assist TTLs • A Guide for Local Benefit Sharing in Hydropower projects, World Bank Social development Papers No128, June 2012: this provides case material for 11 hydro projects throughout the world, • Capturing hydropower’s benefits: case studies on Local benefit Sharing in Hydropower projects, IFC, 2020.86 The report presents 7 case studies for projects in Canada, Colombia, East Africa, Laos, Nepal, the Philippine and the Solomon Islands • Benefit Sharing Mechanisms for People Adversely Affected by Power Generation Projects in Viet Nam, ADB Report TA-4689, 201287 86 https://documents1.worldbank.org/curated/en/757781627388178782/pdf/Case-Studies-on-Local-Benefit-Sharing-in- Hydropower-Projects.pdf 87 https://www.adb.org/sites/default/files/project-document/65430/39379-vie-dpta.pdf 227 45. However, none of these guidelines say much about how the cost of the benefit-sharing arrangements are treated in the economic analysis: they all simply describe how these programs should be designed and implemented. Indeed, the treatment has often been wanting even in more recent project appraisal, the most common mistake being to treat benefit-sharing as a cost rather than a benefit! 46. To some extent this a consequence of the difficulties of accounting for relocation and resettlement (R&R) of project affected persons. Technically speaking, only that share of R&R that provides for like-for-like R&R (compensation for lost income derived from land inundated, providing for new houses and local services). But the objective is often to provide much more than like-for- like compensation, providing new and improved schools and medical facilities, and a much better standard of housing than before. 47. But the costs of general community development programs that clearly go far beyond immediate compensation to project-affected persons should not be included in economic costs – though their cost must undoubtedly be booked as a financial cost to the project developer. For example, the $60 million cost for community development in areas traversed by the CASA-1000 HVDC transmission line that will bring surplus hydropower form Tajikistan and the Kyrgyz Republic to Afghanistan was erroneously treated as an economic cost in the Bank’s PAD economic analysis.88 48. One of the reasons for the distributional analysis is to provide clarity about the distribution of winners and losers. Benefit sharing is a transfer from consumers of electricity whose electricity tariff will be slightly more to enable these improvements to the project affected areas – such benefit- sharing is easily revealed in a good distributional analysis (see Box 2) 49. Another form of benefit-sharing at hydro projects, particularly in India, is “Free power�. The Indian developer, a JV of the Government of India and the Government of Himachal Pradesh, will develop the 900 MW Arun III project in Nepal (downstream of the proposed Upper Arun project) under a 30 year BOOT concession. 21,9% of the annual energy of 4040 GWh will be delivered to NEA free of charge. In addition, the developer will provide without charge 30kWh/month to the 269 project-affected families. 50. These are classic benefit sharing measures that would be displayed as separate item in the distributional analysis. 88 World Bank, CASA1000, Project Appraisal Document, 2014. 228 19. Risk assessment and resilience ___________________________________________________________________________________ 51. Table 7 summarizes the main risks to be assessed in economic (and financial) analysis. Table 12: Risks at hydro projects Issues for Economic analysis Issues for financing (1) Unrealistic assumptions for prices in Price Risk: less-than-expected revenue where some or all the thermal counterfactual of the off-take is at market prices CAPEX overruns & Completion delays Completion risk (including risks of delay due to litigation during construction, cost overruns, and to geotechnical problems or water rights disputes). In Peru, the most frequently heard comment of commercial banks was “we take no tunneling risk�, and even so, require evidence that equity investors have adequate stand-by facilities to cover such adverse impacts. Resilience to climate change Hydrology risk (less-than-expected electricity generation due to lack of water) Hazard events results in prolonged Operational risk (inability to operate because of outages for damage repairs mechanical failures or operational problems at the plant) Assumptions for availability: Off-take risk (failure of the buyer to take power due to transmission connections affected by reasons of dispatch, hazard events transmission congestion, or transmission line failure). Uncertainty in externality valuations ] Carbon revenues from CDM or carbon markets are rarely seen as bankable and are often seen by developers to have high transaction cost. (1) As set out in World Bank, 2010. Peru: Overcoming the Barriers to Hydropower, Report 53719-PE Conceptual problems of risk assessment Asymmetry of risks 52. It is useful to distinguish between pure risk and downside risk.89 Pure risk corresponds roughly to the variance of a probability distribution, whose implication is that favorable as well as adverse events may occur. However, “downside risk� refers to events for which there is no corresponding “upside� event (which is linked to the popular interpretation of risk as adverse events). 53. Downside risk is an important issue for hydro projects. Notwithstanding that rainfall and input hydrology has typically well defined probability distributions, offering the prospect of some number of high precipitation (inflow) years as well as low precipitation(inflow) years, the moment a physical structure is built to exploit that resource, the ability to profit from favorable events becomes constrained (unless the structure is built to an infinite size). Run-of-river small hydro is the classic example – flows greater than the design flow are simply passed over the weir, while flows lower than the design flow cause immediate reduction in output. Thus, the actual (chance) distribution of annual energy generation will be truncated on the upside, but fully exposed on the downside. The obvious mitigation is to increase the size of reservoir to increase the potential upside. 89 See, e.g., Mathur, S. C., 1994. Risk and Uncertainty: Selection Criteria for Projects Offering Net Positive Domestic Benefits , Global Environment Coordination Division, Environment Department, World Bank, Washington, DC. This distinction was originally formulated by J. R.Anderson, and J. C. Quiggin, 1990. Uncertainty in Project Appraisal, World Bank Conference on Development Economics, Washington, DC 229 Risk versus return 54. The World Bank’s traditional view on risk assessment is conveyed in the Bank’s 1998 Handbook on economic analysis.90 This states that The accepted view is that, save for very special cases, governments should not be concerned with the probability of failure or with the variance of outcomes. In the vast majority of cases the expected NPV is the correct criterion for accepting or rejecting projects, and government decision makers need not concern themselves with the variability, or “risk,� of the outcome. The riskiness of a single project, measured by, say, the probability of failure (negative NPV) is not, by itself, a relevant consideration in project selection for a country with a large investment portfolio. Government decision makers should be “risk-neutral.� They should neither prefer risk (possess the gambler’s instinct) nor avert risk but should be concerned with maximizing the expected NPV of the projects concerned. 55. The presumption of risk neutrality may well apply in some instances and may be appropriate for Bank projects considering portfolios of small to medium sized sub-projects(often encountered in on-lending operations used to support small hydro projects). 56. But this traditional view is now obsolete in light of the large uncertainties associated with climate change, and the increasing role of the private sector in hydro project finance. Improving resilience is always associated with incremental costs, mostly reducing NPV: a robust project may well have a lower NPV than its less robust alternative. In short, risk is a separate attribute, and the balance between risk and return cannot be made by the economist: that is only for Governments, on behalf of their people, to make.91 57. However, to use an illustrative example, suppose the best ranked alternative A has an expected NPV (net benefits) of $500m, with variance $150m (say as revealed by a Monte Carlo simulation of the probability distribution of NPV/ERR), but the second ranked option B has an expected value of NPV of $480 million with a variance of $50million. Risk neutrality would dictate that A be chosen, rather than B that has a lower NPV. But B is more robust with respect to exogenous uncertainties.92 58. The challenge is that for economic returns, there is an acknowledged standard: the NPV of Benefits must be greater than (or equal to) the NPV of costs. But there is no universally defined standard for resilience or risk. Even where regulators or Governments define some standard - such as the so-called n-1 criterion that requires system stability in the event of failure of one major generator or transmission line. But inevitably when the n-2 event occurs, what will be the costs of achieving that higher level of resilience in the future? Just as in financial portfolio analysis, high 90 Belli, Pedro, Jock R. Anderson, Howard N. Barnum, John A. Dixon, & Jee-Peng Tan. (1998). Handbook on Economic Analysis of Investment Operations. The World Bank. 91 And as noted above, the same is true for setting discount rates. 92 Exogenous uncertainties are those which are outside the control of the Government and not amenable to mitigation at the project level – such as the future world oil price or the extent of climate change (that will largely be determined by the world’s big carbon emitters, not the typical small developing country that account for most of the Bank’s clients). 230 returns imply high risk (junk bonds): low risk implies low returns (US Treasuries). 59. The World Bank has faced this question on many occasions when natural disasters destroy critical power sector infrastructure. On Jan21,2020, tropical storm Ana hit Mozambique and then Malawi, with up to 300mm rain in some areas, causing major damage to Malawi’s Kapichira hydro dam. The Government requested the Bank to finance emergency recovery and reconstruction. “Build back better� was the guiding principle in the design of the emergency restoration project, but the practical question is how much better? 60. This was not the first occurrence of serious storm damage to Malawi’s hydro projects (Table 8), so the desire to improve resilience was strong. Table 13 : Storm events affecting Malawi’s hydro projects 61. Figure 4 illustrates the problem. The quick fix is option E – low cost, but unlikely to improve resilience. Options F, G and H all lie on the trade-off curve, but H represents the maximum level of resilience achievable for which the NPV of cost exactly equals the NPV of Benefits. The chosen option F entailed a $60 million reconstruction of civil works and damaged transmission lines. Figure 8 : Cost v reliability F 62. Technical Note 5 (risk analysis) discusses further the treatment of risk in project appraisal, and the 231 use of tools derived from financial portfolio management to assist in both policy analysis and project evaluation (Technical Note 29). 20. The main risks Cost and construction time overruns 63. Arguably the greatest risk to economic and financial returns are capital cost overruns, often associated with construction delays. Even where construction delays do not have direct cost implications, the longer it takes to build a project, all other things equal, the lower are the economic returns. Cost overruns have received much publicity and from vocal critics of hydropower – though conclusions that projects are uneconomic for the sole reason of ex-post identified cost overruns, without also asking whether benefits have changed, have no credibility.93 A recent study94 reveals that 70% of a sample of 57 World Bank financed hydropower projects between 1975 and 2025 experienced cost overruns beyond the estimates at appraisal (Table 9). Sharp regional differences were discovered in the real cost overrun (i.e., when completed costs are adjusted for inflation): South Asian project (dominated by India and Pakistan) had by far the worst outcomes. Table 14: Estimated cost overruns by region 64. The reasons for these overruns are shown in Figure 5. The top four reasons point to different potential flaw in the appraisal process • Changes in work volume: • Geological issues: lack of attention to linking unfavorable geotechnical outcomes with their cost implications. Box 7 illustrates the sort of assessment required. • Unrealistic appraisal estimates: The IEG analysis of CBA practice at the Bank explains this as the propensity to make estimates in the basis of what is considered “most likely� – which corresponds to the mode, not the mean of a probability distribution.95 93 The best example is the widely circulated papers by Ansar and Flyberg (e.g., A.Ansar, B. Flyvberg, A Budzier and D. Lunn, 2014 Should we build more large dams? The actual costs of mega project development , Energy Policy) whose conclusions on cost overruns rest precisely on this fallacy. The criticism of high cost overruns at many projects is correct (though ignores learning effects): but not having examined benefits the conclusions have little credibility. 94 G. Jenkins, S.Baurzhab and G Olasehinde-Williams, Evaluation of the Economic Performance of Hydropower Developments Supported by the World Bank Group 1975 to 2015 95 Independent Evaluation Group World Bank (IEG), 2010. Cost-benefit analysis in World bank Projects, , 232 • Inflation and currency fluctuations: underestimation of price contingencies, often just an ad hoc guesstimate rather than careful assessment of price inflation by cost component and currency. Figure 9: Causes of cost overruns 65. Closely related are many problems that were encountered with time overruns. As shown in Figure 6, The most frequent cause was unanticipated geological issues, which was also a high- ranking driver for cost overruns. Such unanticipated cost increases can compel project sponsors/implementing agencies to obtain additional financing than what is already secured, contributing to project delays, which likely explains the high frequency of ‘financing’ issues resulting in time overruns (11 occurrences among the 48 projects with time overruns). Figure 10: Causes of time overruns Another critical factor that caused implementation delays was conflict among stakeholders (12 occurrences among the 48 projects with time overruns), which is often because of environmental and social impacts on local project affected people (PAPs). This issue was not a significant factor that directly increased costs (one occurrence among the 40 projects in figure 3 on cost overruns) but can cause long delays in the case of protracted conflicts. Thus, it can indirectly lead to higher project 233 costs by stalling progress. Box 8: Best practice: Geotechnical risk assessment Best practice for geotechnical risk assessment is that prepared for the Upper Arun hydro project in Nepal, that sets out detailed incremental cost estimates for each project as a function of increasingly difficult conditions whose probability of occurrence can on be ascertained once works begins. Incremental Costs of Geotechnical and Geological Conditions ($USmillion) With these estimates in hand, the assessment then assesses the impact on economic returns, as follows (that also takes into account the likely delays in construction duration if unfavorable geotechnical problems are encountered). This obviously is a better approach to estimating physical contingencies than simply adding some ad hoc percentage increase to the baseline costs. Source: CSPDR 2020, Detailed Feasibility Study, Annex L, Risk analysis of geological and geotechnical uncertainty, Table 7-1. 66. This study showed strong evidence of learning: the more recent projects have shown much lower cost overruns (Table 10). One explanation of beneficial learning effects has been the increasing participation of the private sector in large hydro projects. Private investors have obviously very strong motivation to require realistic cost estimates, once their own independent engineers and costing experts are brought in as part of their due diligence procedures. Another is the trend toward smaller projects with limited storage providing daily peaking rather than larger projects with seasonal or even annual storage. Table 15: Cost overruns for different time periods 234 21. Climate change Risk 67. Improving resilience of projects to the impact of climate change is receiving increasing attention. However, the fundamental dilemma remains largely unanswered: how is “resilience� to be quantified. Assuming this can be quantified and monetized, the question would be how much of such resilience is optimal. Unlike economic efficiency, for which a positive NPV (assuming it includes all the relevant externalities) is a generally accepted standard, there are few such standards for resilience – perhaps the one exception in the energy standard is the so-called n-1 criterion for transmission lines – which generally requires two circuits to accommodate failure in one. 68. The Good Practice Note for Energy Sector Adaptation96 makes the useful distinction between chronic and acute impacts of climate change. The increases in temperature or change to precipitation caused by climate change will be gradual (even in catastrophic climate change scenarios), generally felt at the timescale of decades, and hence termed chronic. These changes require gradual adjustment in assumptions over the lifetime of the project and are relatively easy to incorporate into the table of economic flows (and the supporting energy balance tables) — and indeed in the particular case of hydropower projects, have long been part of the economic analysis presented in PADs. When the PAD for Vietnam’s Trung Son hydropower project was prepared in 2010, for instance, such assumptions were based on the estimates of changes in precipitation forecast by a Ministry of Natural Resources and Environment climate change assessment 69. For example, general regional temperature increases will increase evaporation from hydropower storage reservoirs, the impact over time of which is captured in the water balance equations in reservoir operation simulation models (and for which the necessary data is readily available). Many other terms more difficult to estimate will also affect the water balance equations, such as losses for seepage and infiltration, which are mostly either ignored or based on rules of thumb dependent on the geotechnical conditions at site. 70. Integrating acute hazards into economic analysis is more difficult. Superimposed on the gradual temperature change will be extreme heat days; superimposed on changes in regional precipitation will be storm events that may increase in number and intensity even if total annual rainfall does not change. Critical to economic returns is when such hazards occur. It matters greatly to the economic returns whether an event occurs in the first or the 10th year of operation (as it does for the financial analysis, where the question will be whether the events occur during or after the debt service repayment period). 96 World Bank 2019. Good Practice Note for Energy Sector Adaptation . Internal document of the Energy and Extractives Global Practice, Washington, DC. 235 Chronic impacts 71. Much will depend on the availability of credible climate change assessments prepared by the relevant national Ministry. For example, in Vietnam, the Ministry of Natural resources and Environment (MONRE) has conducted comprehensive studies of the impact of climate change. 97// The main concern is sea level rise, with catastrophic impacts on the Mekong delta in the south, coupled with an increase in the frequency and intensity of typhoons tracks into the central and southern regions. 72. Of primary concern to the Trung Son hydro project, located in the Northwest, is precipitation in its watershed. This has two dimensions: changes to average flows (a chronic impact) and intensification of storms (hazard events). In the case of the former, the MONRE assessment in its worst case forecast sees a 2.8% increase in average flows by 2040 (Table 11) – which at first glance suggests a modest positive impact. But in the dry season, there will be a reduction in rainfall – and it is in the dry season that a hydro project of this kind has its high energy value. Table 16: MONRE worst case rainfall changes in the Northwest 73. The impact on economic returns would also very much depend upon the speed with which these changes occur. If most of the change occurs 20-30 years hence, the ERR is little affected, because it will depend mainly on inflows during the first few years of operation, when benefits have the greatest impact on ERR. 74. To assess the downside risk from climate change induced inflow reductions, the following scenarios were assessed:  Scenario A: modest decline of 5%, based on the MoNRE worst case.  Scenario B: gradual decline in generation, with 18% lower generation by 2035.  Scenario C: rapid decline starting in 2015, with 16% lower inflows by 2025. • Scenario D: rapid decline starting in 2011, 26% lower inflows by 2035. 75. The impact on economic was found to be small (Table 12). Even the most unfavorable reduction in generation (scenario D), as might correspond to the “runaway climate change� scenario feared by some, leaves economic returns above the hurdle rate. One may conclude that even under the most pessimistic climate change assumptions, the Trung Son economic returns are robust to chronic changes in inflows. Table 17: Impact of Climate Change Scenarios on generation 2018(1) 2025 2035 ERR Baseline generation [GWh] 1019 1019 1019 18.9% A. Small impact (MoNRE) worst case [GWh] 1019 978 968 18.6% 97 Ministry of Natural Resources and Environment, Climate Change and Sea Level Rise Scenarios for Vietnam , Hanoi, June 2009. 236 (-4%) (-5%) B. Gradual decline [GWh] 1019 937 836 18.1% (-8%) (-18%) C. Rapid decline starting in 2015 [GWh] 1019 856 734 17.5% (-16%) (-28%) D. Rapid decline, starting in 2010 [GWh] 917 754 713 16.4% (“runaway climate change�) (-10%) (-26%) (-30%) 76. Where such national climate assessments are not available, or where the World Bank is contemplating a major hydro project investment, more detailed climate risk assessments are being commissioned – as illustrated in Box 9 in the case of the UAHEP. Box 9: Climate change risk assessments processes of the hydrology The climate risk assessment is driven by a synthetic hydrology model that replicates the stochastic inflow model (in the absence of climate change). In the University of Cincinnati model used for the UAHEP,98 the impact of climate change is displayed as a response surface: Each dot represents a particular forecast of annual stream flow based on different climate change model forecasts of precipitation and temperature increase (and alternative concentration pathways). The blue sections of the response surface represent increases in stream low – most of the scenarios are seen to forecast an increase in total annual stream flow, not a decrease. Under the most severe climate change conditions of a more than 3 C temperature increase, total inflow is 30% greater than the baseline inflow. The point at precipitation=1, and temperature increase=0 represents the present average annual stream flow of 8,929 MCM. Note that these temperature changes are as forecasted for the watershed, and not global averages.99 98 P. Ray, Climate change risk assessment of the Upper Arun Hydro Project in Nepal , University of Cincinnati, Interim Report April 2020 99 This observation of 8,930 MCM is sensitive to changes in climate (precipitation and temperature) and ranges between 5,000 MCM-14,000 MCM which is indicated by the color bar on the right side of the figure. The increase in the stream flow values (in reference to the historical observation) is represented by blue and the decrease is represented by red. The response surface 237 The table shows the results of this assessment for twelve different climate change futures (the rows of the table). Each future is some combination of rainfall change and temperature increase: the generation shown is the average of 15 trials in the basin hydrology simulator. In the most severe cases, generation falls by 13%, or increases by 13% in the very wettest, and hottest future. The impact on NPV changes accordingly. We note that even in the most severe case of a drop in rainfall, the NPV remains substantially above the hurdle rate in all cases examined (NPV>0 at the relevant discount rate). Impact on sedimentation 77. Abrasive sediment loads pose a major problem in the design of hydro projects – indeed sediment management is an issue not just for hydro reservoirs, but for all reservoirs because at some point the deposited sediment will occupy all of the dead storage, and in the absence of a targeted sediment management program, thereafter, reduces active storage – to the detriment of the main purpose of the storage. 78. Given that most of the sediment loads are carried during wet season storm events, how these loads are managed is a crucial design and operational decision. With climate change often comes an intensification of storms, which changes the frequency and duration of wet season flushing days when there will be loss of generation. Therefore, it is necessary for the climate change assessment to examine not only average generation, but to identify for each trace the number and duration of flushing days since these imply loss of benefits. 79. The selected main tool for sediment management at UAHEP is flushing, and not running turbines when sediment loads exceed certain thresholds – both of which result in reduced power generation and loss of benefits. Initially also considered were large underground desanders, but these were rejected on cost-benefit grounds. However, it is generally true that such shutdowns occur during the wet season, when the economic value of power generation is much lower than during the dry season. Losing a day of generation in August when the system is in surplus might imply a loss of economic value of 3-4 USc/kWh, as against 5-8 USc/kWh for dry season peak hour generation. helps us to understand the behavior of the hydrology to changes in precipitation, changes in temperature or a combination of both. 238 80. This requires fairly complex modeling, and depends on the operating rule, and the relationship – generally unique to each watershed – between flow volumes and sediment load as shown in Figure 7. Figure 11: Typical relationship between sediment load and discharge (UAHEP) 81. The calculations at UAHEP proceeded as follows. First, thresholds of flow at which flushing commences are set – at the UAHEP if the flow was between 235 and 575 cumeces, the bypass tunnel is operated, but generation continues; above 575 a partial flushing is used – gates open for 48 hours during which time there is no flushing – thereafter units resume power generation for 7 days. If the flow is still above 575 cumecs at the end of the seven days, the cycle is repeated. Whenever the flow exceeds 1050 cumecs, power generation ceases, the bypass tunnel is closed, and the low level outlet is fully open; the main gates are fully open for flushing. In the absence of climate change, the number of flushing days per year is 20; but with climate change that increases to 44. Then using one or more climate change futures selected from the climate change assessment, the calculations are repeated - in Figure 8 is shown that under severe climate change outcome, the number of flushing days more than doubles, increases to 44. The impact on economic returns is shown in Box 10. 82. One may conclude that the inclusion of chronic climate change impacts (insufficiency of flow, increase in the number of flushing days), has only a small impact on economic returns.100 In any event, there is little one can do to mitigate insufficiency of flow at the project design level, and increase in flushing days has a relatively modest impact because the economic value of wet season energy (particularly in an all-hydro power system such as Nepal) is much lower than dry season energy. Compared to the construction risk (CAPEX increases and delays) chronic climate change impacts have little impact. In the two hydro projects presented here – Trung Son and the UAHEP, ERR and NPV are little threatened by climate change risks for the UAHEP. Figure 12: Frequency distribution of flushing days 100 The analysis of the Trung Son hydro project in Vietnam showed a similar decline of just a few percent in the ERR . 239 Dealing with hazard events 83. The literature is sparse, perhaps in part because there have been so few incidents: there are some 36,000 large hydroelectric dams worldwide, but just 300 accidents have been reported since the International Commission of Large Dams (ICOLD) started keeping records in 1928 – and failure rates have been reduced by a factor of four over the past 40 years. The recently published World Bank Handbook on Hydro O&M lists five major failures between 2005-2017, only one of which (Sayano-Shushenskaya in Russia) was unrelated to a flood event, Failure or inadequate capacity of the flood discharge structure is by far the most widespread cause of hydro project failure – obviously related to floods caused by extreme weather events or landslides.101 A comprehensive review of hydro project accidents in Japan shows that half of all major outages were related to floods,102 and 62% of total down time occurred in outages of greater than one month duration (Table 13). To be sure, Japan is particularly exposed to typhoons, of a severity very rarely experienced in the Himalayas. But worldwide, flood-related incidents involving powerhouse flooding are widespread. Table 18: Outage at hydro projects in Japan, 2004-2012 (in percentage) Source: Yassuda&Watanabe, op. cit,p. 298 (Table 1) 84. Information on the cost of repairs of accidents is no less sparse. Certainly, in the case of fires, 101 World Bank, Operation and Maintenance strategies for Hydropower: Handbook for Practitioners and decision-makers, 2020. 102 M. Yassuda and S.Watanabe, 2017. How to avoid severe incidents at Hydropower Plants, International Journal of Fluid Machinery and Systems, 10 (2) July 240 reported damage costs for major events at large projects are between $15-60 million. However, in addition to the highly variable repair cost is the more predictable loss of generation and hence revenue (or economic value), which for a typical 1.000 MW project running at 50% load factor and a tariff at say 5 USc/kWh runs to $18.5 million a month. A typical 6-month outage following a powerhouse flooding at such a project entails a $109.5 million revenue loss. Figure 13: Breakdown of total downtimes Source: Yassuda and S.Watanabe, 2017. How to avoid severe incidents at Hydropower Plants, International Journal of Fluid Machinery and Systems, 10 (2) July Yassuda&Watanabe, op.cit,p.298(Figure 6) 85. The June 2013 flood at the 280 MW Dhauliganga hydro project in Uttarakhand, India (owned by the Indian national Hydro Power Corporation) resulted in the total loss of generation capacity for more than six months. Its annual average energy is 1,110 GWh, so at 5 USc/kWh103 the revenue loss would be $28 million. This flood also affected the 400 MW Vishnuprayag project: in this case the powerhouse (25km downstream) was not affected, but the June 2013 flood brought so much rock and debris that the barrage was completely buried. The damage cost was estimated at Rs 400-500 million ($6.8 million). 86. Traditionally for hydro projects owned by State-owned power companies, the answer to the question of the extent to which their projects carried risk insurance was “we self-insure�. However, with the entry of IPPs into the hydro market, that has changed quickly – well illustrated by the experience of Indian hydro IPPs in wake of the widespread flood damages – albeit most of the information in the public domain being limited to press reports. For example, the GVK Group’s Srinagar hydro project on the Alaknanda River also suffered extensive damage in the 2013 Uttarakhand floods, and press reports indicated that the project carried Rs 2,600 crore insurance for physical damage, and Rs 400 annual crore “loss of profit� insurance.104 This project was under construction at the time of the flood, and water entered to powerhouse: press reports state that repairing the damage will add 2-3 months to construction time. 87. Indeed, subsequent to the 2013 floods, big Indian insurance companies significantly 103 JICA, 2011 Ex-post evaluation of the Japanese ODA loan, Dhauliganga Hydropower Project , (https://www2.jica.go.jp/en/evaluation/pdf/2011_ID-P153_4.pdf 104 Economic Times (India), August 14, 2013. Insurance claim for flood-hit Alaknanda project being prepared. 241 increased premiums – in response to tenders seeking quotations for re-insurance, some rates quoted were double or more than previous rates.105 A recent review of insurance premiums at Indian small hydro projects suggested typical annual premiums of around 5% of project cost (though the coverage for an SHP typically provides much more than just flood risk).106 The result of a comprehensive risk rating suggested the lowest risk rating justified a 2-3% premium, but at high risk 7-9%. If premiums are at that level, insurance at large projects would be prohibitive – below we examine the impact of insurance rates on the UAHEP. 88. Notwithstanding that the most recent major accident at a large hydro facility was caused by fire (at Srisailam in India),107 there is no question that the most probable hazard related impact of climate change on hydro projects is related to the widely expected increase in the number and intensity of storms. It would appear that hydro projects are particularly vulnerable during construction, when protective works are not complete, or where temporary structures do not have the same resilience as those for the finished project. 22. Risk assessment in World bank Appraisal practice 89. In the practice of PAD preparation, risk assessment for hydro projects of whatever type (including small; hydro projects) has been presented in four ways i. Variation by fixed percentage: say construction costs increase +20%, benefits decrease by 10% and perhaps a combined case of 20% CAPEX increase and 10% benefit decrease. If the resulting ERR remains above the hurdle rate, the project is declared “robust�. ii. Switching values analysis – in this input variables are increased or decreased to the point at which the hurdle rate is achieved. iii. Scenario analysis – in which a range of scenarios are presented, typically for some plausible worst case, the base case, and a plausible best case iv. Monte Carlo simulation – which requires input assumptions be defined as probability distributions, and whose outcome is presented as a probability distribution of ERR/NPV. 90. The first of these was rejected as wholly inadequate already in the Bank’s 1998 Guidelines but has still persisted – though now rarely encountered for the Bank’s hydro project appraisals. Switching values analysis 91. The second – switching values analysis – is now the minimum level of assessment required – though it is only as good as the list of variables considered is complete. Most PADs now contain a risk matrix in the main text: the identified risks in this matrix should be reviewed by the economist with a view to making sure that any risk that can reasonably be quantified be assessed in the 105 Economic Times (India) 1 May, 2014. Insurance companies increase premiums for hydropower plants . 106 N.C.Roy and N.G.Roy, 2020. Risk management in small hydropower projects of Uttarakhand: An innovative approach. Indian Institute of Management, Bangalore (32,291-304, 107 In August 2020, A fire occurred in the control room of the Srisailam left bank 900 MW underground powerhouse. There were 8 fatalities. Two of the six units were out of service for two months, three units roughly five months, and Unit Vi, completely damaged, is expected to return to service only in May 2021. The damage cost is estimated at Rs1.0 billion ($US13.7million). The rough estimate of lost revenue of 30 month-units at 25%PLF is $80 million. 242 economic analysis as well. Box 10: Best practice example: Switching values assessment for the Trung Son hydro project This table shows the switching value analysis in the Trung Son hydro project in Vietnam. This project has set the standard for World Bank financed hydro projects: as noted by the recently completed ICR, the project came in within the budget, and planned completion date. The counterfactual for this project is gas-fired CCGT. Moreover, the assumptions on energy prices in the counter-factual were clearly conservative (and given the outlook for LNG following the Russian invasion of Ukraine, will generate even higher economic returns than expected at the time of the 2020 ICR.) Baseline Switching value value Construction costs $1,393/kW $3060/kW A 230% increase in capital cost for the good geotechnical conditions would be exceptionally unlikely Construction period Generation 1019 GWh 365 GWh The switching value of half the generation is unlikely even under the most pessimistic scenario of run-away climate change. Oil price (at 2009 $85/bbl $29/bbl The switching value depends on the valuation prices!) 42$/bbl basis for gas –either linked to the existing Ca Mau gas pricing formula (higher switching value) or to the Singapore HFO marker price, as suggested by the economic analysis (lower switching value) Capacity credit 42 MW No defined “not defined� in a switching value analysis (assessed as the firm indicates that even if a variable is assumed at capacity|) zero, the ERR is still above the hurdle rate. At zero capacity benefit the ERR is 17.8%, well above the hurdle rate. Higher than expected values of sedimentation Graphical displays can also be useful, as here for construction cost increases. 243 Scenario assessment 92. The main problem is that the switching values assessment treats one variable at a time – in the real world it would rarely occur that only one input assumption was significantly above or below the assumed value. This is at least partially addressed by scenario analysis, in which plausible best and worst cases are presented and compared in the manner shown in Box 11. Box 11: Best practice: Scenario analysis in a rehabilitation project (Kali Gandaki hydro project rehabilitation) In a scenario assessment, we define plausible best and worst cases across the range of variables identified in the risk assessment. By plausible worst case we mean a set of unfavorable outcomes as have been experienced at many hydro projects – but excluding catastrophic force majeure events (such as earthquakes or war damage). Similarly, the plausible best case reflects events – such as higher than expected oil prices and higher efficiency increment - that fall into the range of plausible scenarios. These scenarios are summarized in the table below: the values are based on the discussion of risk factors in the risk assessment. Scenario definition Plausible Baseline Plausible best worst case case Climate change impact 20% decrease in No change No change generation by 2035 Efficiency increment 9.15 GWh 18.3 GWh 27.5GWh Construction delays 1-year delay None None Maintenance outage hours 280 270 250 construction cost over (under) 15% increase None 5% decrease run World oil price (1) Fall in 2020 oil price to 125 $/bbl by 2020 (IEA Increasing to 150$/bbl by $95/bbl. forecast) 2030 ERR (2) 13.1% 23.2% 33.5% (1) as per 2011 IEA World Energy Outlook (2) excluding avoided thermal generation externality benefits Source: World Bank, 2013: Kali Gandaki Hydropower Rehabilitation Project, Project Appraisal Document. Quantitative risk assessment 93. Monte Carlo Simulation is a useful technique for quantitative risk assessment. The basic idea is that since the individual assumptions in a CBA are not known with certainty, they are better treated as random variables distributed according to some probability distribution. The ERR calculation is repeated a large number of times (typically 5,000-10,000), at each calculation taking different values for each of the random variables, and thereby generating a probability distribution of the ERR. From this distribution one may calculate the probability of not reaching the hurdle rate. 108 94. This of course requires definition of the uncertainties in the underlying assumptions. This can be done in two ways: • Explicit definition of non-uniform probability distributions, in the manner shown in Box 12. • Assume uniform distributions defined by plausible worst cases and plausible best cases: this will therefore include more extreme combinations that would more likely include “black swan� events. 108 The technique was first used at the Bank in the energy sector for the 1997 India Coal Mine Rehabilitation Project (World Bank, Staff Appraisal Report, Coal Sector Rehabilitation Project, July 1997. Report 16473-IN). 244 Box 12 : Defining probability distributions for quantitative risk assessment Six variables were included in the quantitative risk assessment for the Tarbela T4 hydropower project appraisal. Note that most are asymmetrical, with modes and means different to the baseline assumption. • WTP: skewed to the left of the baseline estimate, reflecting the downside risk associated with small sample surveys. • CAPEX: skewed to the right, given the experience that capital cost estimates tend to be higher than assumed at appraisal, rather than lower than assumed • World Oil price • Construction delay: as with CAPEX, the geotechnical conditions are extremely well known, so long construction delays would be unlikely. Shorter than expected constriction times are discounted! • Annual generation: reflecting hydrology variation: the distribution is defined by each actual inflow in the 30-year historical record – and hence is not a smooth distribution. • Climate change impact: specified as the annual rate of decline in annual generation. Negative values imply an increase in generation (recall that some studies suggest increases in wet season precipitation an inflows, implying the possibility of higher than forecast wet season generation). 245 Box 13: Best Practice: Monte Carlo Simulation at the Upper Arun Hydro Project In the absence of climate change, the ERR in a deterministic calculation for the UAHEP is 14.5%, increasing to 23% when GHG emission benefits are included. However, given the asymmetry of input assumption probability distributions, the expected value of economic returns in the Monte Carlo simulation fall to 11.1 %, and 18.6% when GHG emission benefits are included. The distribution of returns shifts to the right when GHG emission reduction benefits are included: The risk of not meeting the hurdle rate of 8% reduces from 18% to close to 0% No climate change How do these assessments of economic returns change under a scenario of worst case climate change impacts – taken here as flushing days increasing to 40 per year, and a 24% decrease in inflows by 2040)? The deterministic ERR declines, but only by a small decrement – from 14.5% to 13.1% The result of the probabilistic assessment shows a flattening of the distribution – a consequence of the wide range of futures considered; and the expected values are only slightly lower than the no climate change value – 10.9% as against 11.1%. And when GHG benefits are included, 18.3% rather than 18.6%. Including climate change This assessment showed that the economic returns of the UAHEP were not materially diminished by the chronic impacts of climate change. Source: World Bank, Economic Analysis of Power Projects: Integration of Climate Change and Disaster Resilience, ESMAP&GFDRR, February 2023. 246 23. Checklist for risk assessment Table 19: Check list for risk assessment adequacy Category Questions to be examined Scope Has the risk matrix in the PAD text been reviewed to identify risks that can be plausibly quantified and monetized in the economic analysis? Cost overruns Have detailed assessments of key geotechnical risks been prepared – these provide more reliable assessments than ad hoc increases in physical contingency allowances (see Box 8 for an example). Construction Has the risk analysis included a proper analysis of the impact delays of construction delay – ideally shown as a graph of economic returns v. COD. Project benefits Power benefits (and in multi-purpose projects that include irrigation for which diesel or electric groundwater pumping is the counter-factual) will depend on assumptions made for the future of fossil fuel prices. Has the range of uncertainty in such forecasts been adequately addressed? GLOFs Have GLOFs been identified as a possible risk. What experts have been consulted on this if a GLOF expert is not already a member of the independent panel of experts. Seismic risks Larger projects appraised by the Bank will always require appointment of a seismic expert to review the analysis done by the consulting company preparing the Climate risk For larger projects, the economic analysis will benefit directly assessment from the climate risk assessment now routinely commissioned by the Bank as part of project preparation. The difficulty arises for smaller projects for which may not have been done. The impact of chronic impacts on hydrology are easily assessed (as shown above in Section 4.3), but have the impacts of hazard events been adequately assessed? Even smaller projects should be assessed for the impact of a powerhouse flooding. Counterfactual Have chronic and hazard effects associated with climate definition change been adequately examined for the counter factual. Looking only at the resilience of the proposed project may underestimate project benefits which are always relative to the hazard impacts expected in the counter factual. 247 Below is a checklist summarizing the process and data required to conduct a Cost Benefit Analysis (CBA) for Multi-Purpose Hydropower Projects, with a focus on the guidelines followed by the World Bank. Please note that this is a general guideline and might need to be tailored based on specific project characteristics and the latest guidelines from the World Bank. Project Development Process Specifications 1 Project Description and • Provide a detailed description of the hydropower Background project, including its purpose, location, capacity, and other relevant details. • Highlight the project's key objectives, such as power generation, water supply, flood control, irrigation, etc. • Understand the context of the project within the local and regional socio-economic and environmental framework. 2 Identification of Alternatives • Identify and define relevant alternatives to the proposed hydropower project. These could include different project configurations, other locations or other energy generation options. • Ensure that each alternative's benefits and costs are clearly identified. 3 Data Collection and Baseline • Collect data on project-related aspects, including Assessment construction costs, operational and maintenance costs, expected energy generation, reservoir storage capacity, water release patterns, etc. • Gather data on economic parameters, such as discount rates, inflation rates, and relevant market prices for energy and other goods/services. • Establish a baseline scenario that represents the state of the region without the proposed project. 4 Benefit Assessment • Identify and quantify direct and indirect benefits of the hydropower project, such as energy generation, revenue generation, increased agricultural productivity, reduced flood damages, improved water supply, etc. For most projects, a detailed feasibility will provide this information, though externalities are often poorly described and quantified. • Convert all benefits into a common unit (usually monetary value) for comparison. 5 Cost Assessment • Estimate all relevant costs associated with the project, including construction costs, operation and maintenance costs, environmental mitigation costs, etc. For most projects this will again normally be provided by a detailed feasibility study, and again may not be adequately described. • Make sure to account for the time value of money by discounting future costs to present value. • Externalities should be quantified whenever plausible. 6 Discount Rate Selection • Choose an appropriate discount rate that reflects the time value of money and the project's risk profile. This rate is often specified by the World Bank. 248 7 Economic Indicators Calculation • Prepare the table of economic flows, showing costs and benefits with the proposed project, and those for the no project counterfactual. • Externalities should be quantified whenever possible, and occupy separate rows in the Table for sake of transparency. • Calculate economic indicators such as Net Present Value (NPV), Internal Rate of Return (IRR). • These indicators help evaluate the financial and economic viability of the project. • NPVs should be presented with and without valuation of GHG emissions, using the values of the social value of carbon as issued by the Bank. 8 Sensitivity Analysis • Conduct sensitivity analysis to assess the impact of varying key parameters on the project's net present value (NPV). • Identify parameters that are most sensitive to changes and assess their potential impact on project feasibility. 9 Distributional Impacts • Assess the distributional impacts of the project on different stakeholders, including local communities, vulnerable populations, and the environment. • Identify potential negative externalities that can be mitigated by transfer payments (benefit sharing) 10 Sensitivity to External Factors • Consider the potential impacts of external factors such as climate change, changing energy market prices, and policy shifts on the project's benefits and costs. 11 Stakeholder Engagement • Engage with relevant stakeholders including local communities, governments, non-governmental organizations, and affected populations to gather input and ensure a comprehensive analysis. 12 Environmental and Social Impact • Conduct an Environmental and Social Impact Assessment Assessment (ESIA) to identify potential environmental and social risks and mitigation measures. • Integrate the results of the ESIA into the overall analysis. 13 Reporting • Prepare a comprehensive report summarizing the CBA process, methodology, assumptions, findings, and recommendations. 14 Decision Making • Present the results to decision-makers, considering the economic, social, and environmental aspects. • Make informed decisions based on the calculated economic indicators and the project's alignment with development goals. Note: It is worth remembering that the specific requirements and guidelines for conducting a CBA can vary based on the region, the World Bank's current policies, and the project's unique characteristics. It's essential to consult the latest guidelines and seek expert assistance as needed. 249 24. The future of Multi-purpose hydropower projects ________________________________________________________________ 95. In the past, hydropower has been viewed as the cornerstone of electricity production: in countless countries, hydro projects have provided the first large scale electricity generation projects (Vietnam, Brazil, Laos, Cambodia, the countries of the Zambezi basin in Africa), and in some countries – notably Sri Lanka – as part of large-scale transformational power and irrigation projects (Mahaweli)109. Today, many countries see hydro projects as sources of export revenue (projects on the Arun river in Nepal exporting to India, projects in Tajikistan exporting to Pakistan), in the expectation of similar transformational benefits to economic development. 96. But in the future, hydropower’s role in facilitating the integration of variable renewable energy (VRE), notably PV and wind, will becoming increasingly important. The two main determinants of this benefit will be the amount of active storage (for time shifting of VRE output), and ability for ramping up/down (and the ability to monetize these ancillary services). As battery costs continue to decrease, understanding the advantages and disadvantages of hydro vis-à-vis utility scale battery energy storage systems (BESS) will be critical.110 97. In the last few years much attention has been given to the hybridization of hydro projects with large-scale PV systems – where large solar PV projects are co-located with existing hydro projects: the hydro project serves to balance the variability of PV buy acting as a giant battery: the largest such project is the 1280 MW Longyangxia hydropower plant in China, commissioned in 1989 with four 320MW Francis turbine-generator sets that generate 5,942 GWh of electricity each year. This has been integrated with 850 MW of PV capacity, completed in 2015.111 98. This leads naturally to the emerging concept of large-scale floating PV systems at existing hydro project reservoirs. While floating PV systems have themselves a higher capital cost, there are numerous advantages • PV efficiency increases as the temperature of panels decreases, so floating on water increases efficiency • Reduced evaporation losses • The problems and costs of acquisition of large land areas, and attendant relocation of project affected persons are avoided 99. Large scale floating solar projects are now underway in several countries, such as • Two 150 MW PV systems at the Tarbela reservoir and the Ghazi-Barotha projects in Pakistan (with World Bank financing, at hydro projects that also benefited from World bank financing) • 320 MW system on the Changhe and Zhouxiang reservoirs in the Zhejiang province of China, completed in 2020, currently the World’s largest 109 World Bank, 2012. Sri Lanka, Mahaweli Ganga Development. Independent Evaluation Group (IEG). 110 World Bank, 2020 Economic Analysis for Project Appraisal of Battery Energy Storage Systems 111 For details of the hybrid operation see Solar Energy Research Institute of Singapore. 2019. Where Sun Meets Water : Floating Solar Market Report. World Bank ESMAP (https://openknowledge.worldbank.org/handle /10986/31880 License: CC BY 3.0 IGO) 250 • 60 MW solar farm on the Tengeh reservoir in Singapore – in this case a municipal water supply reservoir. 100. Recent initiatives propose developing hydropower as a system service – proving a range of ancillary services that have been monetized in many developed countries.112 However, setting up markets for ancillary services in most World Bank client countries still remains quite distant, though the number of competitive wholesale markets for energy is growing. But in fact, it is difficult for hydro projects to compete effectively in such markets often requiring special treatment. Ironically hydro projects would be at a competitive advantage for ancillary services such as fast frequency response and ramp-up and ramp-down, particularly in the case of pumped storage projects. 101. Major dam projects in developing countries have been driven by power production, or transformational power and irrigation projects (Mahaweli in Sri Lanka, Tarbela in Pakistan). Few such mega projects are likely in the future. As noted, estimates of remaining hydropower potential are often wildly exaggerated, with physical potential rather than economic (or financially viable) potential as the main yardstick. The realization of non-hydro public good benefits (flood control, navigation) – such as at Trung Son in Vietnam or Jiangxi Shihutung in China, respectively: – have been secondary, in part because the certainty of revenue streams from power production has allowed realization of these other benefits at low incremental cost without the need for cost recovery from these secondary beneficiaries. 102. If it is true that the future role of hydropower will change to the principal purpose of facilitating the integration of VRE, then one can expect more emphasis on pumped storage projects rather than conventional hydro projects. The opportunities for such projects to realize benefits for public water supply, flood control and irrigation are quite limited. 103. At the same time, if the demand for storage to secure irrigation (food security) and municipal water supply grows – which may well be a consequence of climate change – while then power production as the dominant demand for dam storage declines (as the costs of power from VRE+BESS and PS storage continue also to decline). In other words, power production may well become a secondary use at non-power sector water projects. 104. This is a fortuitous outcome for the ease of economic analysis at such projects, because valuing the opportunity costs of incremental power production is the least controversial among water uses: where there are competitive generation markets the economic value is straight-forward (which will also be true as more ancillary service markets come into place); and where such market do not exist, the marginal benefits is clearly defined by the merit order (for example, in Pakistan the regulator regularly publishes the merit order, and the least cost expansion plan clearly identifies the future merit order dispatch). 112 The development of these ancillary service markets is equally important for battery energy storage systems. 251 Chapter 9: A review of the economic analysis practices for climate-resilient water uses in agriculture Svetlana Valieva (World Bank)113 113 Corresponding author: svalieva@worldbank.org 252 1. Introduction The agricultural sector enters a more turbulent phase of increased risk and uncertainty. These risks must be considered in the design, implementation, and evaluation of agricultural interventions, both irrigated and rainfed. This includes the analyses conducted as part of the economic and financial assessments (EFAs) of investment projects, which typically do not consider climate and other risks explicitly. Agricultural production is submitted to risks of various types and at different scales, including climatic and other environment-related risks, pests and diseases, political instability, pandemics, and economic shocks.114 Environmental challenges that could potentially threaten the viability of agricultural systems include limited water availability, land degradation, loss of biodiversity, and declining genetic crop diversity (Reyhani et al, 2016). The primary water-related risks to agricultural production consist of sustained periods of rainfall deficit115 or too much rainfall (in extreme cases – floods and droughts). Since agriculture is inherently climate-dependent, it is subject to the risks caused by climate variability (particularly for rainfed agriculture116). In light of the rapid environmental change in the Anthropocene, growing climatic variability is posited to have significant impacts on water quantity (availability) and quality primarily through variability in rainfall and run-off.117 Climate change will also impact crop water requirements – or the quantity of water needed by a crop in a given period of time for normal growth under field conditions (FAO, 2008). Moreover, the timing of the growing season for specific crops may change along with different irrigation requirements. Crops that are currently rainfed are likely to require irrigation to maintain productivity. Lastly, certain crops may also become unsuitable for cultivation in particular regions. Moreover, water stress can be subdivided into meteorological and agricultural. Key vulnerability factors for agricultural production are land and water degradation through unsustainable agricultural production processes. For example, many of the droughts and floods taking place worldwide are human induced (or agricultural) rather than meteorological. Thus, production must be enhanced while minimizing land degradation and other environmental hazards. Besides climate-induced environmental stresses, human-induced vulnerabilities (through unsustainable agricultural practices) can have a more immediate impact on agricultural production. Unsustainable use of water, land, and other resources increases vulnerability and adds constraints on already sensitive agroecological systems. Agricultural water use is also part of a wider water and food security conversation. Against a backdrop of enhanced climate risks and associated agroecological and socio-economic threats, preserving and enhancing food security requires higher agricultural productivity (and lower yield variability). This includes the need to manage sudden excesses of water and frequent periods of deficit. Moreover, to keep pace with a growing demand for food worldwide, both due to increasing population and changing food preferences, freshwater consumption by agriculture is projected to increase. Improved management of water is key to the significant transformation that both irrigated 114 Risks are often classified according to intensity, frequency and predictability (degree of uncertainty) of the associated shocks. 115 A water deficit is produced where precipitation is lower than ET requirement. 116 Rainfed production currently accounts for 80 percent of global cropland and contributes to about 60 percent of world’s food production. 117 Climate change impacts on agricultural systems can be categorized by long-term changes and extreme events (such as floods and droughts). 253 and rainfed agriculture must undergo to meet the inter-linked challenges of increasing food demand and climate change (McCartney et al, 2016). Coping strategies can be classified into ex-ante and ex-post, based on whether they help reduce risk a priori or for minimizing undesirable outcomes after the shock or disturbance on a system has occurred. Both of them help de-couple agricultural production from the source of risk and increase the resilience of agricultural systems. One of the ex-ante coping strategies consists of building resilience in social-ecological systems through improved stewardship of natural resources. In this regard, the vulnerability of societies to systemic disruptions and their impacts can partially be mitigated by appropriate soil-water management practices, which can significantly reduce the probability of water-related risks facing agricultural systems. This is also in line with integrated water resources management (IWRM) principles, by promoting the coordinated development and management of water, land, and related resources to maximize the resultant economic and social welfare in an equitable manner without compromising the functioning of vital ecosystems. Another option is presented by infrastructural solutions that help maintain and diversify water supplies through improvements of structures for storing, conveying, and sharing water (e.g., irrigation and drainage schemes). It is commonly accepted that irrigated systems, in contrast to rainfed ones, produce higher agricultural yields and reduce their variability over seasons. Thus, to build the resilience of farming systems to climate change risks as well as other demands on water resources, both irrigation and improved on-farm soil and water management practice must play a vital role. Factoring the benefits and costs of both into analyzing investment decisions is vital for a more complete picture of the final outcomes. The objective of this guide is to take stock of past guidelines and practices for conducting economic and financial analyses for irrigation and agriculture as a whole. The review also presents ways to improve the way economic analyses are performed in the context of irrigation projects with public financing at the feasibility stage. Building resilience Building a more resilient agricultural production system is a complex undertaking. Resilience can be considered across multiple scales, from individual fields to agricultural landscapes and beyond. The long-term sustainability of agricultural systems requires ensuring that they stay productive. More productive and resilient agriculture necessitates changes in the management of natural resources and greater efficiency in their use of (both soil and water). The resilience of farmers to disruptions and shocks is a process without a finite endpoint and without a singular fix or solution to the long-term challenges and changes occurring across entire agri-food systems (Caves et al, 2020). Resilient farm management emphasizes risk reduction and farm (financial) viability through crop yield stability, reduced costs of production, diverse revenue streams, and preserving the long-term value of the land and its productive capacity (EDF, 2020). One of the solutions commonly presented to farmers is irrigation and drainage (I&D). It can play a major role in building farmer resilience to increase certainty and reduce the variability in their annual incomes. Irrigation can buffer crops against water deficits, while drainage – against excessive water 254 inundation of soils118 (including their more extreme manifestations of drought and floods). It can act as an insurance tool for farmers and support their resilience to increasing climatic risks. However, the widespread adoption of irrigation technologies is not always easily achieved. One reason is that irrigation comes at a cost since owning irrigation technology can be more expensive than the alternatives (i.e., rainfed) and requires significant capacity building. This is where exploring soil-water management as part of on-farm agricultural practices plays a pivotal role by incorporating the risk reduction benefits of resilient (on-farm) agricultural practices. Agro-ecological solutions for increasing the resilience of agriculture include well-known conservation and regenerative practices and management measures,119 such as those practiced under the rubric of climate-smart agriculture (CSA).120 These typically represent a combination of practices and include (i) no-tillage (or reduced tillage), (ii) use of cover crops (to reduce soil erosion), (iii) diversifying crop rotations (including use of perennial crops and agroforestry), and (iv) efficient use of water. Of the improved on-farm (water and soil) management practices, CSA is the most well-known approach. It encompasses practices that aim to increase agricultural productivity while enhancing the resilience of agricultural systems to the impacts of climate change. Climate-resilient management (and conservation) of agricultural resources focus on soil health, water management, and crop diversification (EDF, 2020). Similarly, the adoption of regenerative and conservation agriculture (as a system of farming principles) envisions taking advantage of the natural tendencies of ecosystems to regenerate when disturbed. Agroecology (or the science of ecology applied to agriculture) encompasses regenerative farming that is beneficial to soil, water, climate systems, and farmers’ livelihoods – with a core focus on biodiversity (Shiva 2022). Managing water efficiently In addition to climate change concerns, irrigated agriculture, as the largest freshwater user, will face growing competition for scarce water resources from other sectors heavily dependent on water. Increasing competition and climate change are modifying the way we look at irrigation and its efficiency in water use. Efficient irrigation is imperative in the context of water scarcity and climate uncertainties. Water scarcity is caused by a wide-ranging combination of factors, all of which are related to human interference with the water cycle (World Bank, 2017). this is in addition to climate change, which is expected to produce high variability in the water cycle as well. Much of today’s agriculture in the developing world suffers from large water losses. This statement holds true for both irrigated agriculture – where water-use efficiency tends to be of the order of only 30% (the ratio of consumptive water use by the irrigated crop to the water withdrawn from the source) – and rain-fed121 agriculture. In rain-fed agriculture, losses of water in the on-farm water balance can 118 Dry periods may induce water repellency or surface crust formation, thereby reducing the soil’s infiltrability. This may later lead to floods – if high-intensity rainstorms with rainfall intensities exceed the soil’s infiltrability and also resulting in less water en tering the soil (and thus a higher drought risk). 119 This is particularly true for rainfed areas, which constitute the vast majority of agricultural production (between 60-80% of global food production). 120 CSA comprises a set of strategies that can help combat the challenges of climate change by increasing resilience to weather extremes, adapting to climate change, and decreasing agriculture's greenhouse gas emissions that contribute to global warming. 121 In rain-fed agriculture, losses of water in the on-farm water balance can be very high, particularly in low-yielding farming systems. The opportunity lies in tapping the potential of (currently ineffectively used) on-farm water balance. 255 be very high, particularly in low-yielding farming systems. With rainfed agriculture, the opportunity lies in tapping the potential of and effectively using the on- farm water balance. Improvements entail increasing the use of the portion of rainfall that infiltrates the soil and is accessible by plants in support of biomass growth. This includes minimizing nonproductive water losses through various regenerative and climate-smart agronomic approaches and commonly requires innovative strategies (Falkenmark & Rockstrom, 2006). With irrigated agriculture, a variety of water management responses are required to reduce climate risk. Building resilience for irrigated agriculture encompasses investing in more efficient I&D infrastructure (by rehabilitating or modernizing schemes)122 and practices. It also commonly entails long-term investments to secure water supplies (i.e., reservoir construction, multiple abstraction sources) as well as using alternative water sources (Rey et al, 2016). While irrigation is considered an important tool in mitigating climate risks, there are other risk- reduction instruments available. These include but are not limited to, CSA or conservation and regenerative agriculture (including crop diversification123) and weather insurance. The advantages and disadvantages of irrigation with respect to these other tools for climate resilience for the farmer are yet to be systematically explored. A comparative analysis between irrigation and agroecological approaches at a larger spatial scale will help define the role that both may play in enhancing agricultural climate resilience in a country or region more clearly. This includes determining how risk-reducing benefits (for different types of irrigation) can be economically valued along with and compared to other measures that ensure the health of the natural resources on which agriculture depends. Blue and green water Freshwater resources (stemming from precipitation) can conceptually be divided into blue and green water resources (Mao et al, 2020). Both of these types of water are involved in food production. The blue water represents surface and groundwater stored in rivers, lakes, aquifers, and dams that can be extracted for human use (Falkenmark & Rockström, 2006). The green water represents site-specific precipitation124 that does not run off but, instead, adds to soil water storage and is eventually consumed by ecosystems through evapotranspiration (ET). Green water (or the rainfall that naturally infiltrates into the soil) is the more dominant of the two, with most of the blue water transformed into green water through physical and human-induced processes (Mao et al, 2018). Accordingly, green-water flow constitutes the total consumptive water use in biomass production, while the unevaporated runoff flow adds to blue-water resources (Falkenmark & Rockstrom, 2006). Recent trends necessitate increasing the efficiency of both green and blue water use and their overall productivity. While the largest portion of human blue water withdrawal and consumption125 is used for the purpose of irrigation (Rost et al, 2008), there is also a need to incorporate a second form of 122 However, it is also important to note that losses due to leakage in irrigation schemes also have environmental benefits through return flows. 123 Farmers may adopt crop diversification practices (over irrigation) if they view it as more efficient in dealing with unpredictable droughts (Reynaud, 2009). 124 Typically, green water is in the form of comprised of vapor fluxes as evaporation and transpiration (Mao et al, 2020). In addition to infiltrating the soil, it remains temporarily on top of the soil or vegetation, then eventually returning to the atmosphere via transpiration and evaporation (Falkenmark & Rockstrom, 2006; Rockstrom et al., 2009). 125 Consumption is calculated by subtracting return flows to water systems from total water withdrawn. 256 water resources – the rainfall that naturally infiltrates the soil – when analyzing food production. The blue water is supplied only to the amount that precipitation water is not sufficient for ensuring optimal crop growth and irrigated agriculture uses an estimated 25% of the global water used in agriculture (Hoekstra, 2019; Falkenmark & Rockstrom, 2006). Green water can represent up to 85% of the total global crop water consumption; and 20% of irrigated cropland (Rost et al, 2008). Thus, it is a misconception to regard agricultural water consumption as being dependent primarily on blue water withdrawals.126 Soil and crop management Soils of good quality are key to a resilient system (Bünemann et al. 2018). With agriculture accounting for the largest anthropogenic land use, the importance of soil management cannot be ignored (when discussing both rainfed and irrigated agriculture). Improved soil management represents a ‘low cost’ option but can yield benefits in most years implemented while helping with risk reduction and yield improvements. Soil quality can be improved by increasing the (i) levels of organic matter, (ii) more diverse microbial populations, 127 and (iii) improved nutrient cycling – all of which may increase crop productivity. Sustainable soil management practices represent a crucial way for building resilience (Cornelis et al, 2019). They improve the water regime and optimize the rootzone water balance as well as increase biomass production. The condition of soils and their management can also affect the incidence of meteorological droughts and floods (through the so-called soil-precipitation feedback) (Saco et al, 2021; Seleiman et al, 2021). For example, the addition of organic matter to increase soil water holding capacity reduces drought risk. Integrating trees and other perennials into an agricultural landscape can also lead to water quality benefits. Perennial vegetation typically slows runoff and traps the sediment. It increases above-ground biomass, while the below-ground roots take up more of excess nutrients and host the microbial populations (Wilson and Lovell, 2016). Farm management strategies The vulnerability of agroecological systems is determined by exposure (degree of stress), sensitivity (e.g., crop responsiveness to climate change) as well as the adaptive capacity of producers (Webb et al, 2017). A key farm management strategy consists of a focus on building soil health. This encompasses regenerative farming practices, including no-till and cover crops, changes in cropping patterns, extended crop rotations, and cultivation of perennial crops. Implementing these practices can also help reduce input costs by allowing farmers to decrease fertilizer and herbicide use (EDF, 2020). Healthy soils are better able to absorb rainfall and can also hold onto moisture in times of insufficient rain (functioning as sponges). This can improve the resilience of crop yields to variable rainfall and lower the use of irrigation and therefore contribute to stabilizing farm income. Practices that build soil health also have the potential to generate multiple environmental benefits, including reduced erosion, water use, and greenhouse gas emissions as well as improved water quality, biodiversity, and carbon 126 While global blue water resources and consumption have been quantified comprehensively (on the basis of statistical information and/or macroscale hydrological models), green water consumption and its temporal variability has, despite its importance, not received much attention in global water resources assessments (Rost et al, 2008). 127 Soil beneficial microorganisms (bacteria and fungi) play a key role in functions such as plant nutrition acquisition and plant resistance to stresses. Utilization of plant-associated microbes in food production is critical for agriculture, particularly where arable cropland is limited and productivity must be sustained or improved with fewer chemical inputs and less irrigation. 257 sequestration. Financial and Economic Factors in Building Resilience In addition to irrigation water supply, climate-smart and regenerative agricultural practices serve as key features in increasing resilience, productivity, and profitability. Resilience-building farm management practices support climate risk reduction and farm financial viability by stabilizing crop yields, lowering costs of production, diversifying revenue streams, and preserving the long-term value of the land. Such practices are known to boost farm profitability through cost savings, diversified income streams, and increased yield resilience. These practices can also generate benefits for water quality and quantity, biodiversity, greenhouse gas emissions reductions, and carbon sequestration. Lastly, they counteract climate risk and uncertainty. However, resilience strategies can carry significant costs, particularly in the early phases of adoption). These include capital investment costs (e.g., construction of a reservoir) and increases in operational costs (e.g., for modernized I&D schemes and soil management practices). Improved on-farm soil and water management practices (such as CSA and regenerative agriculture) tend to increase production costs, specifically labor, in the short term. Foregoing profits (e.g., due to a reduced cropped area) and not realizing the benefits of investments in every year are also common. For example, short-term costs and risks during a period of transition towards regenerative agriculture may deter many farmers from adopting new conservation practices. However, motivated by the bottom line, farmers will always be concerned with the costs required to implement conservation practices.128 In particular, poor farmers often respond to climate variability by employing conservative risk management strategies ex-ante, often at the expense of low average productivity and profitability. Moreover, predominant agricultural production systems emphasize efficiency, which may conflict with efforts to build resilience (EDF, 2020). A clear disconnect appears between the benefits of agricultural practices that build resilience and the overall financial and economic framework in which agriculture operates. Thus, developing programs that support farmers in transitioning to conservation practices that build resilience is key. Important in this process is incorporating data on the benefits129 of conservation and regenerative practices that aim to build the resilience of agricultural systems (whether irrigated or rainfed) into the typical cost-benefit analysis undertaken for large investment projects. These must make clear that agricultural resilience can deliver measurable economic value in terms of cost-savings and risk reduction to farmers and the wider society in which they reside and operate. Such a value must be recognized, assessed, and incorporated into lending decision-making. Here, risk reduction is a key benefit tied to the expected advantages of potential investments, which may be different when various risks facing agriculture are considered. The value of conservation efforts often becomes apparent when analyzing budgets at the farm scale. Key in this regard is the recognition that conservation practices can pay. Farmers who adopted practices such as no-till, cover crops, nutrient optimization, and crop rotation typically experience a 128 Ample evidence exists demonstrating that farmers are risk averse (Koundouri et al. 2006). 129 Practices that build soil health also have the potential to generate multiple environmental benefits, including reduced erosion, water use, greenhouse gas emissions as well as improved water quality, biodiversity, and carbon sequestration. 258 cascade of cost savings, including lower fertilizer, labor, fuel, and equipment costs. Although practice adoption can increase certain costs, the other cost savings by farmers typically create a net gain (EDF, 2018). Moreover, many governments are shifting the paradigm of the irrigated agriculture sector from a highly subsidized to a public service that is financially viable. Ensuring that farmers obtain adequate levels of I&D service delivery is key.130 Improved service delivery helps optimize the productivity of farmers’ crops and plays a key role in their ability to pay for the services provided. This revenue from fees, in turn, feeds into the continued operation and maintenance (O&M) of I&D schemes. And rather than only looking at the potential for irrigation for improving agricultural production, decision-makers can also take a full account of upstream and downstream linkages (such as supply chains and their condition or by conducting a market analysis). This includes establishing whether market openings exist or can be opened for the incremental output expected to result from the project and how this will impact producer prices. And since farmers may face price and market-related risks, it is important to assess the market prospects, including prices, in estimating the benefits arising from investments. The adequacy of crop processing practices should also be incorporated into decision-making. This includes distribution and storage facilities, as well as the presence and existing utilization of agro-industries. Strategic and development principles In conducting an economic analysis of interventions related to climate-smart/regenerative agriculture as well as improved irrigation development and management, the following strategic and development principles should ideally be considered. They encompass. ✓ Adaptation to climate change. Interventions must be designed to adapt to the changing climate. This includes variability and extremes in temperature, rainfall, and other climatic conditions. It also encompasses identifying and prioritizing crops and irrigation methods that are better suited to local climate conditions. ✓ Sustainable use of natural resources. Interventions should be based on the sustainable use of natural resources, including soil, water, and biodiversity. This includes the adoption of practices that improve soil health, reduce water use, and promote biodiversity. ✓ Integration of technological innovations. Technological innovations, such as precision irrigation, remote sensing, and climate forecasting, can help to improve the efficiency and effectiveness of climate-smart agriculture and resilient irrigation. These innovations should be integrated into economic analyses to identify the most cost-effective approaches. ✓ Farmer-centered approaches. Economic analyses of interventions should prioritize the needs of farmers and local communities. This includes engaging with farmers to understand their needs, preferences, and constraints, and developing interventions that are tailored to their specific circumstances. ✓ Multi-stakeholder partnerships. The success of interventions depends on the involvement of multiple stakeholders, including governments, farmers, civil society organizations, and the private 130 Looking at irrigation from the lens of service delivery ensures the efficient use of the collective infrastructure and serves as an interface between the various actors, subject to institutional oversight and governance principles. 259 sector. 131 Economic analyses should identify opportunities for partnerships and collaboration among these stakeholders to promote the adoption and scaling up of these practices. 2. Review of common approaches to undertaking economic analyses As a decision-making tool in appraising World Bank projects, economic analysis helps determine whether a particular project ought to be included in a country's investment program by looking at the overall impact of the project on a country's economy (a link that is of crucial importance). The economic appraisal of a project also ensures that the chosen option for a project is the best one possible. At the most basic level, a project’s economic analysis (assessment) involves a comparison of economic costs and benefits throughout the project's life (over a specified period).132 It also compares the ways in which the resources required by the project might be used instead ( with and without project scenarios).133 The objective of economic evaluation is to enable Client government authorities to determine whether a proposed project represents an economically worthwhile investment as part of the broader economic development objectives of the country. In short, the analysis must demonstrate that the proposed project will create more net benefits to the economy than any other option. Economic costs may include financial expenses covered by the World Bank and other parties as well as opportunity costs of non-financial resources expended. Meanwhile, economic benefits that can be attributed to the proposed project may encompass the increased income of a country’s population or the increased value-added134 generated by producers (firms and households). Economic analyses also examine an investment from the point of view of society and, ideally, the environment and account for a range of externalities generated by the investment as well as underlying opportunity costs. As part of an evaluation process – the economic, financial, social, and environmental benefits for the Client country are estimated and quantified. In short, the analysis must demonstrate that the proposed project will create more net benefits to the economy than any other option. Economic analyses can be carried out during the various stages of a project. During project identification and appraisal, it is used to calculate the costs and benefits of alternatives. Once the project has been completed, evaluations are carried out to verify whether outputs have been attained and whether the project is still economically viable. Evaluations can also be carried out when the project has been operating for several years to measure the impact on the beneficiary population and to assess project sustainability. These may include assessments to determine the sustainability of proposed investments – such as the degree to which benefits are likely to be sustained or to which costs may increase. In addition, determining whether the investment will deliver benefits to the poor may be ascertained by conducting a beneficiary analysis. Economic analyses are usually tailored to the specific needs of the project. The form of the economic analysis depends on project context, time frame, the degree to which benefits and costs can be quantified, and whether data is available. Typically, the performance of the World Bank project is assessed over a limited period, which may not be ideal for I&D projects since their benefits and costs 131 PPIAF has a specific guideline on farmer-led sustainable irrigation for PPPs and private sector participation. https://ppiaf.org/documents/2864/download. 132 In this context, benefits include those that can be easily quantified or monetized as well as those which are more qualitative. 133 These resources may include different types of labor and skills, land, equipment, and materials. 134 Value-added is the value of gross production (or sales) minus the cost of intermediate inputs produced (and purchased from) outside the firm. 260 may extend far beyond the assessment horizon. For example, certain crops that were enabled to be grown by farmers with new or updated irrigation systems may not produce yields at full scale for several years after a project’s closure. Thus, ideally, the assessment period should be determined by the nature of each project. Two common approaches to economic analysis are cost-benefit analysis (CBA) and cost-effectiveness analysis (CEA).135 CEA evaluates which option provides the desired result at the lowest cost. It helps determine how the cost of outputs enabled by the project compares to other options that would provide the same or similar outputs – by applying a measure of cost-effectiveness across alternatives that provide comparable results.136 Conducting a CBA of a proposed project entails making a forecast of its likely economic impact and costs. The CBA assesses whether the benefits of the proposed project are likely to outweigh its costs and highlights trade-offs between different interventions. It is concerned with assessing incremental costs and benefits of a proposed project or its contribution compared to an existing (starting) situation. For example, it can examine the incremental benefits expected to arise from capital investments and operating costs. CBA is the basis for the Economic and Financial Analyses (EFA) conducted by the World Bank during project preparation and appraisal (Heumesser, 2019). 137 It uses a very simple rubric of checking whether the expected benefits of a project outweigh its costs, such as whether the investment is financially viable for beneficiaries and provides economic benefits for society. The costs and benefits of a project are measured against an alternative situation – typically that of not proceeding with the project at all. To that end, the CBA quantifies (and/or monetizes) all benefits and costs associated with a project so that they can be directly compared with each other as well as to the project’s reasonable alternatives. The CBA can also be described as a microeconomic growth analysis capturing the expected increases in local incomes and value-added expected to be generated through environmental and social improvements. Ideally, the CBA also incorporates the non-income related value of environmental and social improvements. A full cost-benefit analysis (CBA) includes estimates of the economic net present value (NPV) and the economic internal rate of return (EIRR)138 as the main indicators of economic analyses. The main goal is to calculate the EIRR (based on the initial investment amount and total number of years selected) at which the NPV becomes zero. The NPV shows the amount of growth generated by a capital investment during its duration but not the real profitability of the investment. Meanwhile, the investment’s EIRR informs the decision maker of the real yield of a long capital investment. The results are then expressed in terms of the EIRR and NPV at a specified discount rate. The sensitivity of EIRR and NPV is also tested considering a range of plausible variables that can impact the results. Both metrics allow for a direct comparison of various investment options and are discussed below. Net present value 135 CBA is considered a more comprehensive approach compared to CEA. 136 Benefits do not need to be monetized under CEA. 137 The World Bank has used this general framework of CBA in appraising projects for many years, particularly as part of the ex-ante economic analysis. 138 The purpose of calculating a rate of return-on-investment capital is to estimate the performance and measure the desirability of a project. 261 The CBA aims to determine the economic efficiency of an intervention or project by comparing the net present value (NPV) of the costs (of planning, preparation, and implementation) to expected (quantified) benefits. A project is to be accepted only if its expected benefits139 exceed its investment costs. The economic analysis ultimately compares plausible alternatives and shows that the chosen project design maximizes NPV of expected benefits or represents the least-cost alternative to achieve the project’s objective. As a metric, NPV is used to evaluate the value of an investment based on the difference between the present value of cash inflows and outflows 140 expected to be generated over the lifespan of a proposed project or investment. This is based on the concept that money is worth more in the present than in the future. And since costs are incurred and benefits accrue at different dates, discounted cash flow methods are used. As an evaluation of money over the course of time (or the time value of money), NPV demonstrates whether the total net benefits over the life of the project will be positive or negative. When NPV is a positive value, a positive cash flow can be anticipated. Inversely, if the NPV is negative, a net loss of a project can be expected. 141 Typically, NPV is used for long-term projects. Net benefits expected to be realized over future years are given a present value and expressed in constant prices. 142 This entails the calculation of the discounted expected net present value of project benefits and costs, which is described in the section below. Discounting Discounting compares the benefits and costs of a project (occurring at different points in time) to express future costs and benefits at today’s equivalent value. Since the value of a benefit accruing to people earlier in time is greater than the value of the same benefit accruing later, benefits and costs are discounted over time. The discount rate is a key element in calculating the NPV in economic analyses and represents the hurdle rate or the minimum attractive rate of return (MARR). 143 There are broadly two approaches to discounting – descriptive and prescriptive. The discount rates under a descriptive approach consider the foregone returns on the capital invested – or its opportunity cost. 144 The discount rate reflected in the opportunity cost of capital assumes that all capital investments in an economy are invested in activities that provide the highest return on investment. The prescriptive approach chooses the discount rate based on assumptions about future growth rather than the opportunity cost of capital (by linking discount and growth rates). In using this approach, the net benefits of a project at various points in time are valued according to their marginal impact on 139 Expected benefits and costs are measured by comparing a scenario with a project against a situation without a project. 140 NPV also factors in both inflation and reinvestment rates to provide a precise estimate of a monetary investment's present value against its future value. 141 A rule of thumb is to not accept projects with negative NPV; the project with the largest NPV is favored for mutually exclusive projects in the same time frame without cost constraints. Lastly, NPV is sensitive to discount rates. 142 Constant prices measure the real or actual change in output or the true growth – not just an increase due to effects of inflation – and adjust for the effects of inflation. To calculate constant prices, a price level of the base year is chosen (based on a typical basket of goods), from which the output is measured for any subsequent year. This enables a comparison of the actual goods and services produced and excludes any nominal change in output. 143 Discounting is needed to compare benefits and costs occurring at different points in time, to express future costs and benefits at today’s equivalent value. 144 The opportunity cost of capital represents the forgone benefits that these resources would have produced elsewhere. 262 welfare at the time they occur. Higher or lower growth prospects imply a higher or lower discount rate. The economic internal rate of return As a parameter in planning investments, the Economic Internal Rate of Return (EIRR) is an estimate of the expected economic returns of a project or program (expressed in percentage terms). The economic internal rate of return (EIRR) produced by a CBA compares the economic costs and benefits of a project (or program). 145 To that end, the annual streams of project costs and benefits are compared up to a specified year to estimate the net costs and benefits and to calculate the economic viability of the project in terms of EIRR. EIRR is also the discount rate at which the total present value of costs (expenses) is equivalent to the total present value of the benefits (profits). EIRR calculates the percentage of the rate of return at which a project’s associated cash flows will result in an NPV of zero.146 This equates the present value of a project’s expected net benefit stream to its initial capital outlay at economic prices.147 In other words, EIRR represents the rate at which benefits equal costs after discounting and indicates the eventual ‘break-even’ point. All costs and benefits are valued in monetary terms and expressed in economic prices to reflect the true resource cost to the economy. EIRR also measures the increased economic activity generated from an investment by quantifying the monetary and, where possible, the non-monetary benefits of an investment. It also considers a reinvestment rate of the present value of costs. An EIRR calculation involves a comparison of project costs and benefits in economic terms under the “with� and “without� project scenarios over a fixed analysis period: ▪ The expected outcome ‘with the project’ – reflecting the increases in income or value-added generated by the proposed project (or program) as well as the full costs related to the program. ▪ The expected outcome ‘without the project’ (or the counterfactual or status quo) – reflects an estimate of future economic outcomes (accounting for dynamic trends) in the future if the project does not take place. The ‘with-‘ and ‘without-project’ scenarios in an economic analysis compare the difference in incomes or value-added between the two options, factoring in the timing of accrued costs and benefits. Projections for both scenarios must also account for uncertainty by conducting a sensitivity analysis on the EIRRs to capture the potential range of economic outcomes using a range of plausible major variables (and their values) that may drive the results. A project’s EIRR might be set to a minimum of 10-12 percent as a common discount rate or a minimum attractive rate of return (MARR).148 Projects that pass this threshold anticipate benefits that are at least as high as the costs after adjusting for the time value of money. For example, projects that are likely to generate larger increases in household incomes per dollar invested will have higher EIRRs. 145 Such pre-investment EIRRs represent the best estimate given the data and evidence available at that stage. 146 While NPV is expressed in dollars, the EIRR is expressed as a percentage. 147 In order to estimate the cost and benefit streams arising under the ‘with-‘ and ‘without-project’ scenarios economic values of market prices are computed by converting the latter using appropriate shadow prices. This also irons out distortions due to externalities and anomalies arising in real-world pricing systems. 148 Minimum attractive rate of return (MARR) is the minimum acceptable rate of return that has been established for the evaluation and selection of investment alternatives. It is also referred to as the hurdle rate, cutoff rate, and benchmark rate. The cost of the capital funds has a major influence on the size of the MARR. 263 EIRR also compares the return on investment in a proposed project with the opportunity cost of capital. When the EIRR on the project is above the opportunity cost of capital, the project is deemed to be beneficial to the economy. A sensitivity analysis tests the robustness of EIRR by showing how sensitive it is to changes in economic benefits or the impact of adverse variations. Sensitivity tests are essential to test alternative assumptions and determine the level of risk. EIRR represents a major criterion (or test of acceptability) by which a proposed investment is judged and project outcomes are measured.149 Estimation of an EIRR is commonly conducted as part of the economic efficiency analysis of agricultural water projects as part of project preparation and closing processes.150 EIRR can also help define and measure project outcomes based on real data as part of a project’s ex-post evaluation and to advocate for further investments. Differences between economic and financial analyses The CBA typically contains two complementary steps: economic and financial analyses, and there are several main differences between the two. Financial analyses take the perspective of specific stakeholders (farmers, governments, etc.), while economic analyses examine an investment from the standpoint of society. Financial analyses determine and compare expected revenue and expense streams to determine financial viability; thereby showing the profitability and sustainability of an investment. A comparison is also typically undertaken of project recurrent investments to determine the financial returns as differentiated from the economic returns. The financial analyses make use of market prices – either current or expected – which may or may not represent the true costs to society. However, market prices do not typically provide a satisfactory basis for adequate measurement of costs and benefits. On the other hand, economic analysis is different from financial analysis in taking into consideration economic prices in evaluating a project’s costs and benefits. Economic prices more closely reflect opportunity costs and benefits to society. They do so by placing monetary values on a wide range of market and non-market costs and benefits. In other words, economic analyses account for the range of externalities (positive and/or negative) generated by investments (including underlying opportunity costs). 151 For this purpose, shadow prices are utilized to quantify non-market costs and benefits. Shadow (or accounting) prices reflect the true social and economic value to society of the goods and services that the project utilizes to generate its benefits.152 Shadow prices assume that all resources in the economy were optimally allocated. 149 A project must have a high enough EIRR to justify the investment. 150 The revised EIRRs at project closing provide an estimate of a project’s cost-benefit relationship based on the information available at the time of closure when actual costs and some indicators of benefits are known. EIRRs at closeout are distinct from an EIRR based on measured benefits resulting from a project and still represents a forecast. 151 This includes using shadow prices or other technical adjustments to capture social benefits and costs. 152 This includes assigning proper weights to a project’s costs and benefits. 264 Shadow prices include adjustments for price distortions in traded or non-traded Costs and benefits assessed in economic analyses according to project objectives. items. For example, taxes and subsidies are treated as direct transfer payments in the If the objective is to maximize the total income of an economy (or growth), the benefits are represented by the economic analysis and need to be additions to the total income made possible by the project. removed. Taxes from income earned The costs considered will include reductions in income (transferred to the government) are not experienced elsewhere (from the use of resources treated as costs in economic analysis, as the allocated to the project) – or the opportunity cost (in pricing government acts on behalf of society. In inputs and outputs). contrast, taxes are treated as costs and a Another possible objective is the reduction of income subsidy as returns in the financial analysis inequality (or income gaps). In such cases, a reduction in and adjustments are unnecessary. income inequality would be a benefit. Correspondingly, an increase in income disparity in the country, as a result of the When it comes to tying the costs and project (or its effects on equality), would be considered a benefits of a project to its objective(s), cost. Poverty alleviation is another possible objective – distinct from only reducing income inequality (or gaps). shadow prices play a large role. For example – if maximizing total income were Calculating the effects of a project on objectives includes a sole project objective – the cost of a unit assigning weights 1 to their costs and benefits. For example, the objectives of reducing income inequality and of labor used in the project would include poverty alleviation would necessitate weighing of income the shadow price of that labor. This shadow gains to the poor more heavily than those flowing to the price represents the cost of foregoing the affluent. total economic income that would have resulted from the alternative use of this unit of labor. Moreover, shadow prices related only to the income objective are called ‘efficiency’ prices. If equity is included as a project objective, then a different shadow price would be used to consider the project’s effect on equity. Shadow prices that reflect the total income measured with differential income weighing are called ‘social’ prices. The analysis of alternatives is also very relevant. For example, an analysis for an irrigation project might begin with identifying the areas to be irrigated, then moving to the choices regarding the operation of the schemes, and, later, evaluating alternative methods of cost recovery. The financial internal rate of return (FIRR) is the most common metric used in financial analysis to estimate the annual rate of return on investment. Similar to EIRR, FIRR estimates the flow of net incremental benefits of the project based on two scenarios – with and without the project.153 As a rate of discount, FIRR also equalizes the costs and benefits of a project over its lifetime, thereby making the NPV of net cash flows equal to zero. Similar to EIRR, this is done with the goal of determining which rate of discount makes the present value of annual cash inflows equal to the original investment. The obvious difference between FIRR and EIRR is that FIRR is calculated by financial analysis whereas EIRR is calculated by economic analysis. The greatest discrepancy between the two is how they treat opportunity cost – EIRR looks further into the value of opportunities created or lost. While the FIRR measures whether a project is likely to be profitable enough to cover the average cost 153 Common indicators of financial analyses include gross and net margins, profit, incremental family income, and the financial internal rate of return (FIRR), among others. Financial analyses also use cash flow evaluations and discounting techniques in CBA to maximize the rate of return to capital. 265 of capital, the EIRR indicates whether the project is using the country's resources efficiently (i.e., whether EIRR is higher than the opportunity cost of capital). Other major differences are as follows: ▪ FIRR is limited to investment capital, while EIRR is a wider measure of impact. ▪ In FIRR market price is used whereas in EIRR shadow price is used. ▪ Tax and subsidies are incorporated in FIRR while they are ignored in EIRR. ▪ An EIRR goes beyond the FIRR by also including social and environmental impacts. An important requirement for sound financial and economic analyses is the correct determination of prices of major inputs and outputs as the financial and economic rates of return of most I&D projects are very sensitive to these prices. The typical predominant cost for I&D projects is the cost of construction, followed by operation and maintenance (O&M) costs. The inclusion of expanded factors in the economic analysis would provide a clearer picture of the outcomes. The rate of return calculations cannot fully quantify and capture the likely development of important aspects such as non-quantifiable costs and benefits to society and the environment. However, they must be considered by the decision-makers along with the rates of return. Cost-benefit analysis for irrigated agriculture projects When properly developed and implemented, I&D infrastructure can be helpful in increasing water use efficiency while reducing environmental degradation and releasing water for increasing demands in other economic sectors. Irrigation can also play a significant role in reducing risks and building the resilience of farmers. To that end, enhanced approaches to CBA and the overall EFA represent important elements in making I&D investment decisions and designing appropriate interventions.154 Economic analysis plays a major role in the planning, design, and management of irrigation and drainage (I&D) schemes supported by World Bank projects. In addition to assessing potential project impacts, the tools of economic analyses can also help define the project risks and assess its sustainability. In particular, it can determine whether the public sector should undertake the project, estimate its fiscal impact, determine whether the cost recovery arrangements are efficient and equitable, and assess the environmental and poverty impact of the project. Economic analyses assess not only the project’s fiscal impact but also its (i) sustainability, (ii) impact on various groups in society, and (iii) risks.155 To that end, the economic analysis will evaluate project objectives and project design to ensure that they reflect relevant socio-economic objectives.156 Key parameters that most significantly affect the outcome of irrigation projects and enter economic returns calculations are the size of the irrigated area, cropping intensities, crop yield expectations, and prices for inputs and outputs.157 Estimates of yields and cropping intensities are often associated with the estimated amount of labor and other resources to be devoted to irrigated crop cultivation. Estimates of irrigation requirements are commonly assessed for a range of possible crops considered and their water requirements. Additionally, engineers often calculate the peak water need with the objective of minimizing water use. The resulting designs may assume that farmers will make maximum 154 Determining whether irrigation is a feasible option for building resilience requires that interventions focused on the development, rehabilitation, or modernization of schemes consider (i) the availability of water resources and (ii) the return on investment. 155 Risk theory and risk analysis techniques can augment the net revenue approaches typically used in CBA (Xie et al. 2017). 156 If the analysis incorporates too many objectives (e.g., more than 3), it may become too complex for practical use. 157 Variations in implementation (whether cost or time) typically have no effect on economic returns. 266 use of the available rainfall. With large-scale irrigation and drainage schemes, economic and financial viability as well as technical and managerial upgrading are commonly needed to allow schemes to respond to the needs of farmers (World Bank, 2019). Development of new irrigation (as well as its modernization or rehabilitation) involves capital costs of building I&D schemes and costs of their management, operation, and maintenance (MOM).158 I&D infrastructure might be a necessary condition for enhanced agricultural production, but the benefit derived from the modernization effort will depend on other variables. These include how the water is used by the farmer along with their soil and crop management practices. Adequately functioning schemes also have an impact on how water is allocated among users and safeguarding environmental needs. Common challenges for I&D investment evaluations As pertaining to I&D investments’ evaluation, there are several key concerns associated with the more conventional approach. The main one has to do with the lack of clarity on the agricultural production that can be properly ascribed to irrigation investments (projects or programs). While the nature of the construction components and other cost categories for infrastructure works are reasonably clear from initial appraisal, there are problems with measuring the agricultural benefits arising from such investments.159 The establishment of a direct causal link between irrigation investments and agricultural yields is difficult since irrigation only ensures the provision of one (albeit important) input in agricultural production – water. This leads to postulating causality between irrigation investments and agricultural production (to enable CBA to be applied). Ideally, yield increases are analyzed by agroecological zone, considering site-specific data to arrive at a realistic assessment of benefits, rather than average yield increases. Similarly, a typical CBA for an I&D investment will likely not consider the heterogeneity of beneficiary farmers impacted by an operation as well as the wider distributional impacts at the community level as well as on the surrounding landscape and catchment. Conventional evaluation studies also underemphasize some key determinants of effective and sustainable irrigated production, such as those stemming from CSA/regenerative on-farm practices, which contribute to the resilience of crops and improved yields. Thus, combining the assessment of benefits produced both by irrigation and (CSA and regenerative) on-farm agronomic practices leads us to a better framework for assessing water in agriculture investments. Moreover, a commonly used CBA excludes the wider (or secondary) benefits of irrigation; nor does it consider the potential resulting negative externalities. The wider benefits are usually excluded from the economic analysis of I&D interventions for practical reasons. The main reason is to confine the costs of the project analysis to a partial equilibrium framework, which implies that project effects only supposedly occur in the sector of the project rather than the wider economy. To give attention to these ‘secondary’ effects of investments in I&D and account for wider benefits, a 158 Both capital and operating costs are estimated. Taxes and subsidies are treated as direct transfer payments and need to be removed from the analysis. 159 For example, it is important to distinguish (net) production effects stemming from the expansion of the irrigated area from cropping patterns and yield effects. The former may point to a shortfall in the irrigated command area due to delays in project implementation. The latter is a better indication of whether irrigation, as a technological improvement, really works. 267 computable general equilibrium model can be employed. However, their complexity and data requirements make their costs prohibitive for typical project analysis. Additionally, risk dimensions are often not included in the conventional CBA to support the selection of different available irrigation development activities. As a result, the costs associated with irrigation adoption and the benefits derived by farmers from more stable production and income enabled by irrigation may be underestimated. Lastly, the benefits accruing to all project beneficiaries are typically aggregated. However, it is critical to watch the distribution of benefits. In cases where most benefits accrue to certain individuals (with significant social capital), while others lose out (e.g., marginalized farmers, female-headed households, and certain ethnic groups) – the net impact may be negative. In such cases, unequal distribution of benefits compromises sustainable and equitable growth. Ex ante evaluations Economic analyses conducted in the early phases of the project cycle contribute to the questions of whether a proposed project is the best alternative for achieving certain objectives, whether some components perform better than others to achieve the objectives, and who is expected to gain or lose from proposed project interventions. There is strong evidence to indicate that projects with good economic analysis perform better. Such links between economic analyses and project performance suggest that EA should be viewed as more than just an approach to estimating rates of return on which to justify investment decisions. Given the above, economic analysis should ideally be used to help the design of a project. To that end, the form and content of the economic analysis that will be undertaken during project preparation should ideally be decided at the Project Concept Note (PCN) stage (which necessitates advanced thinking about economic analysis prior to the PCN meeting). This way, the economic analysis (and economic reasoning) can assist in the choice and design of projects, rather than solely serving as a final quality check at the late stages of Project Appraisal Document (PAD) preparation. Evaluations at project closure I&D investment evaluations typically focus on economic measures that capture the social value of irrigation. Additionally, performance ratings attempt to show whether the project has met its objectives and resulted in positive changes. However, most irrigation projects require a long gestation period before the net benefits can materialize. Similar to other donor agencies, the World Bank evaluates the performance of all its projects at the end of the implementation phase, shortly after final disbursements. Conclusions about the technical and economic efficiency of irrigation projects at that point are still speculative. Additionally, impact evaluations are done for a small proportion of operations at full development about five years after completion to determine project impact and sustainability. These impact evaluations are particularly appropriate for irrigation projects whose benefits are long to mature. Nevertheless, if the performance of irrigation projects in economic terms is less than satisfactory at full development, the projects’ social impact still tends to be substantial and their contribution to food security and poverty alleviation is typically not in doubt. 268 3. Main principles of economic analysis for climate resilient water use in agriculture Cost-benefit analysis of CSA/regenerative on-farm agronomic practices CSA and similar practices affect the benefit and cost streams of farms and thus have an impact on the economic and financial assessments (EFAs) undertaken for investment interventions.160 If such factors are neglected or overlooked, the resulting measurement indicators employed for investment (and its EFA) will likely reflect an incomplete picture.161 Climate-smart and regenerative agriculture practices aim at achieving multiple social, environmental, and economic objectives associated with productivity, resilience, and mitigation, which adds layers of complexity to EFAs (Heumesser, 2019). Regardless, it is important to incorporate into EFAs the range of benefit and cost categories relevant to assessing investments in climate-smart/regenerative practices to the extent feasible. Details on both the benefits and costs of adoption are provided below. Benefit categories When it comes to these, the value derived from climate-smart and regenerative agriculture interventions is commonly examined across three scales: (i) on-site private, (ii) on-site public, and (iii) global (off-site) benefits162 - as discussed below. Additionally, the total economic value of the benefits stemming from climate-smart and regenerative agriculture practices may be broken down by (i) use values – direct (linked to agricultural production) and indirect (benefits derived from ecological functions); (ii) option value – preserving the possibility of future direct and indirect use (e.g., agrobiodiversity); (iii) non-use values of that are not related to individual use of an agricultural landscape but rather a valuation of its existence for the benefits it provides (e.g., biodiversity or soil carbon conservation) or the bequest value accrues from the desire to conserve forests for the future generations. On-site private benefits On-site private benefits from adopting such practices are those that accrue to individuals, households, or firms. These represent the tangible (or visible) local private benefits in a project area that accrue directly to the individual or entity undertaking relevant interventions. For example, these may entail increases in income from increases in productivity that lead to increased production and sales. Private benefits consist of both the increases in yield and the decline in the cost163 of production resulting from the on-farm adoption of climate-smart/regenerative agriculture amounting to increases in productivity and agricultural income. The adoption of the practices also results in production stabilization in terms of resilience and, thus, reduction in costs associated with dealing with various risks inherent to agricultural production. Moreover, investments into climate-smart/regenerative on-farm practices may produce spillover employment benefits if the demand for labor is created by farmers. It is also important to note the need for sustained adoption of these practices to achieve meaningful productivity gains. There is typically a significant time lag between the adoption of climate-smart and/or regenerative agriculture practices and the accrual of productivity benefits, such as increased 160 Such practices include (i) diversification of crops, (ii) replacement of commercial fertilizers with organic sources, (iii) minimum, reduced, or no tillage; (iv) use of cover crops and mulching – among many others. 161 This also has the power to impact project design or the subsequent success of project implementation. 162 The total economic value of the can also be defined as a sum of direct and indirect use value, option value, and existence value. 163 As an example, savings in costs of production could include those of labor savings on weeding. 269 crop yield.164 This can be considered a cost of adoption. Such delayed onset of productivity benefits may serve as a disincentive in adopting or continuing the use of climate-smart/regenerative on-farm practices if support to that end is withdrawn following project completion. Thus, the time element is to be considered when assessing productivity benefits. Moreover, improved on-farm practices may be adopted only on a portion of a farm, rather than its entire area, which necessitates the assessment of adoption rates (to avoid overestimation of benefits). Farm efficiency is another important element in considering the costs and benefits of adoption. It depends on how efficiently and optimally farmers use local endowments available to them, regardless of the farm size. Public on-site benefits When looking from a landscape approach point of view, public on-site benefits from the adoption of climate-smart/regenerative agriculture typically spill over to a nearby geographical area. These commonly include positive externalities in terms of the ecological function of a surrounding landscape and are also referred to as the ‘invisible benefits’. The positive spill-over effects pertain to the functions of a healthy agroecosystem, such as the values of nutrient cycling, soil creation, genetic variability, pollination, water purification, erosion prevention, pest control, moderation of extreme events, and carbon fixation (Heumesser, 2019). Similarly, traditional agricultural activities or practices carry “invisible costs� including habitat encroachment, loss of ecosystem complexity or biodiversity (e.g., species reduction), or soil erosion. Such costs are expected to be reduced when certain climate-smart/regenerative agriculture practices are adopted. There’s also an overlap between private and public on-site benefits. For instance, an individual farmer or entity (e.g., a firm) can reap the benefits of a healthy agroecosystem provided through improved ecosystem functioning. For example, this may include benefits from agroforestry activities expected to provide improved functioning and regulating services of the ecosystem. As another example, certain beneficial on-farm practices can contribute to improving the soil’s organic content and structure in turn improving its (green) water retention capacity at the root level (in cases of water shortages) and reducing possible environmental contamination through reductions in harmful farm inputs. Both of these can also have positive impacts on downstream farmers who use conventional practices. Global (off-site) public good benefits Off-site public good benefits accrue at a much larger scale, encompassing individuals part of local, national, and international communities. These benefits may include (i) agrobiodiversity (through the provision of more diverse genetic material and varieties for agriculture), (ii) carbon sequestration, and (iii) enhancement of the landscape’s cultural and touristic value. The most commonly considered benefits at a global scale include reduction in GHG emissions and enhancing soil carbon sequestration. In quantifying the benefits at a landscape level (including agricultural landscapes) for project economic analyses, the total economic value of the environment and natural resources can also be defined as a 164 For example, in its first year of adoption, minimum or reduced tillage may lead to no yield improvement or even a drop in yield relative to conventional tillage (Heumesser, 2019). 270 sum of direct and indirect use value, option value, and non-use value (existence and bequest values). Cost categories Investment costs associated with the adoption of climate-smart and regenerative practices or related irrigation technology typically include materials, infrastructure, services, and labor. Following this, production costs consist of that of labor and other intermediate inputs (e.g., water, fertilizer, energy). Another aspect to be considered is the potential trade-offs between the use of purchased inputs versus reliance on natural ecosystem services that may provide the same value at lower environmental and labor costs. For example, (a) water made available to root systems through direct rainfall and its storage in the soil (if soil structure is kept healthy); (b) fertilizers based on managed natural inputs such as compost; and (c) biological pest control (instead of pesticides). Other important costs to consider are opportunity costs, transaction costs, and risk costs. In conducting economic analyses, opportunity costs are associated with the allocation of factors of production to climate-smart and regenerative practices instead of other uses. As an example, non-agricultural demand for land and water is likely to increase in the future, particularly in proximity to rapidly growing urban areas. This raises the opportunity costs of dedicating land and water to agricultural purposes, which will likely lower the incentives to grow food crops of lower value. Additionally, there may be an opportunity cost to adopting labor-intensive farm management practices. Transaction costs pertain to those associated with acquiring inputs or implements for on-farm interventions, the sale of farm output, or accessing helpful information (e.g., on specific climate-smart or regenerative practices, new technologies, etc.) for value addition.165 These are extremely difficult to quantify. They may also be susceptible to various public investments (e.g., in road infrastructure). Lastly, risk costs represent those faced by farmers from adopting climate-smart and/or regenerative practices or technologies due to the uncertainty about their effects on crop production and income as well as potential failure (Heumesser, 2019). Production decisions may also be linked to consumption outcomes, particularly in semi-subsistence production systems. These may be impacted by public investments in social safety nets that alleviate the risks or uncertainty associated with the adoption of new farm practices or technologies. Many of the above-mentioned costs are typically assessed at a household or farming unit level. However, there are also costs that are sensitive to the broader enabling environment. Such factors shape the magnitude and distribution of the costs and benefits associated with changes in farm practices or technologies (e.g., cost of labor or changes in transaction costs) and require consideration. Relatedly reforms to the broader enabling environment may be more effective levers for promoting change than typical project-level activities (Heumesser, 2019). Moreover, costs may be subject to global input and output price risk and climate variability. The assessment of quantifiable costs and benefits of various practices or technologies represents a key way to influence adoption as part of farm management decisions and investment projects. However, the road to assigning monetary values to the costs and benefits of climate-smart and regenerative practices is long and windy, given the wide range of potential risks to projected outcomes. Furthermore, the CBA conducted to assess the costs and benefits of climate-smart and regenerative agriculture interventions should ideally include economic performance criteria. Such economic 165 Transportation cost is commonly valued as part of the production or operating costs rather than as a transaction cost. 271 performance criteria may include benchmark surveys and follow-up studies as part of an implementation plan as well as indicators for monitoring and feedback during implementation to measure the economic results of the project. The benchmark social surveys can help identify beneficiaries’ income, assets, nutrition, and other social indicators. These indicators are to be tracked annually and analyzed at the midterm review (MTR) and upon project completion. 272 Appendix 1 – The main principles of economic analysis of climate-smart agriculture CSA is not restricted to on-farm activities but is relevant for the whole commodity value chain (World Bank 2019). Climate Smart Agriculture (CSA) is a set of strategies that can help combat the challenges of climate change by increasing resilience to weather extremes, adapting to climate change, and decreasing agriculture’s greenhouse gas emissions that contribute to global warming. Achieving climate mitigation is a dedicated goal of CSA and sets climate-smart agriculture practices apart from other improved agricultural practices. To ensure that the mitigation potential is correctly estimated, detailed data collection without and with project scenarios and activities is crucial. A healthy agroecosystem produces on-site effects as well as transboundary effects at a larger level (offsite). They are mainly represented by indirect use values or non-use values, which means that there are benefits reaped or costs borne by one agent despite the action being undertaken by another agent. Evaluating the economic impacts of resilience-building strategies such as CSA on climate change impacts at the project level faces multiple challenges. The challenges include (i) being able to evaluate the potential impact that climate change could have on agricultural productivity, and (ii) evaluating the cost and benefits of the resilience-building options considering climate change, risk, and uncertainty. Noteworthy that agriculture is a major contributor to greenhouse gas (GHG) emissions. Increasing GHG levels and associated rises in temperature and climate variability pose major threats to agri-food systems across the globe (IPCC 2013). The agriculture, forestry, and other land use (AFOLU) sectors are responsible for approximately 25 percent of anthropogenic GHG emissions. Valuing climate mitigation benefits and incorporating them in project economic analyses is increasingly common and can notably affect economic indicators. Furthermore, other important elements of CSA in economic analysis are worth noticing. CSA provides regulating ecosystem services and externalities across geographic scale and time, including biological pest control, pollination services, improving water quality and quantity, reducing evapotranspiration, retaining high levels of soil moisture enhancing soil structure and fertility, and climate mitigation. Climate change considerations are increasingly being incorporated into economic analysis of climate-smart agriculture investments and programs. CSA is an essential tactic for developing the technical, policy, and investment conditions that enable actions aimed at achieving sustainable agricultural development for food and nutrition security in a changing climate (Turyasingura and Natal, 2022). The Climate-Smart Agriculture Sourcebook was published to further advance the concept with the intention of benefiting primarily smallholder farmers and vulnerable people in developing countries. Emphasis has been placed on the need to develop measures aimed at implementing “climate-smart� agriculture in accordance with the CSA system. Climate-smart Agriculture seeks to increase productivity in an environmentally and socially sustainable way, strengthen farmers’ resilience to climate change, and reduce agriculture’s contribution to climate change by reducing greenhouse gas emissions and increasing carbon storage on farmland. Climate variability and change significantly impact food security and the livelihoods of smallholder farmers making it necessary for the farmers to prioritize investment in adaptation and mitigation approaches, such as climate-smart agriculture, to enhance resilience. CSA is an approach that helps guide the actions needed for such a transformation and seeks to sustainably increase productivity and incomes, adapt, and build resilience to climate change, and concurrently reduce/remove greenhouse gas emissions where possible. 273 CSA is an emerging concept that adapts agricultural production to climate change. The success of CSA hinges on the willingness of farmers themselves to adopt the practices, which is mainly influenced by the attributes of the climate-smart practices themselves. Improved technologies that are called climate-smart agriculture are required to ensure increased productivity under adverse conditions of increased global temperatures, frequent and more intense storms, floods, and drought stresses (Elebu et al 2021). A summary of economic analysis parameters for a World Bank’s CSA project EIRR: Economic Internal rate of return. ENPV: Economic net present value. FNVP: Financial net present value. Source: World Bank 2019. Farmer-led resilience strategies Farmer-led resilience strategies are those that are designed and implemented by farmers themselves, in collaboration with other stakeholders, to increase the resilience of their farming systems to climate variability and other risks. These strategies can include a range of practices such as water harvesting, the use of drought-tolerant crops, and soil conservation techniques. By incorporating these strategies into irrigation investments, policymakers, and stakeholders can help smallholder farmers better manage their water resources and improve their livelihoods. The economic analysis of irrigation investments in developing countries typically involves cost- benefit analysis, which compares the costs of an irrigation project with its expected benefits over a specified period. This analysis includes both financial and economic costs and benefits, including direct and indirect impacts on farmers, such as changes in crop yields, farm incomes, and food security. However, the traditional economic analysis often does not fully capture the benefits and costs of farmer-led resilience strategies. To address this gap, there has been a growing recognition of the need to incorporate farmer- led resilience strategies into economic analyses of irrigation investments . This involves incorporating both the direct and indirect economic benefits of these strategies, as well as their social and environmental benefits. For example, a farmer-led resilience strategy such as water harvesting may not only increase crop yields and farmer incomes but also improve the availability of water resources for the surrounding community, thus creating broader societal benefits. Incorporating farmer-led resilience strategies into economic analyses of irrigation investments also requires engagement and collaboration with smallholder farmers and other stakeholders . By involving farmers in the planning, design, and implementation of irrigation projects, policymakers 274 and stakeholders can better understand their needs, challenges, and priorities, and identify the most effective resilience strategies for different contexts. This participatory approach can help ensure that irrigation investments are more responsive to the needs of smallholder farmers and are more effective in building their resilience to climate variability and other risks. By considering both the direct and indirect economic benefits, as well as the social and environmental benefits, of these strategies, policymakers and stakeholders can better understand the full costs and benefits of irrigation investments. Furthermore, by engaging and collaborating with smallholder farmers and other stakeholders, policymakers and stakeholders can identify the most effective resilience strategies for different contexts and ensure that irrigation investments are more responsive to the needs of smallholders. 275 Appendix 2 –The principles and examples for monetizing the value of irrigation? A review in 2017 of randomly selected 12 World Bank irrigation projects identified 6 principles for a robust economic analysis. Those principles include 1) measurements of costs and benefits against a counterfactual; 2) indirect impacts and externalities; 3) poverty reduction analysis; 4) presenting indicators; 5) accounting for risks; and 6) alternatives. However, these principles were far from being present or accounted for in the entry and exit of irrigation projects (see Table xx). One of the key lessons from the review is that ensuring a robust economic analysis of irrigation requires a clear identification of the project’s design features and how they fit the principles of economic analysis. In the projects that were reviewed, the room for improvement lies in the identification and monetization of certain benefits: those that depend on the crop type being irrigated, stages in crop development when irrigation is applied, the standard of crop husbandry, market factors, and environmental factors. In addition, irrigation may enable a wider range of crops to be grown, support multiple cropping, help improve seedbed preparation, provide protection against frost damage, and enable more effective use of herbicides and fertilizers; but these additional benefits are often not considered in World Bank CBA. The usual discount rate reported by World Bank (2017) for irrigation projects ranges from 5 to 9 percent, and whenever there are climate-smart riskier options for technology and innovation adoption the discount rates are between 8 and 13 percent. Table xx Inclusion of economic analysis principles for randomly selected irrigation projects Note: Red depicts principle of CBA NOT included in project documents (PAD, ICR). Source: World Bank 2017. 276 Economic analysis of sustainability principles for farmer-led approaches to resilience building To determine the appropriate approach to the ex-ante economic analysis for a given irrigation project, one must go through a series of questions. Firstly, identify the type of project or policy to be evaluated economically. There are in general farmer-led irrigation schemes that involve the construction, expansion, or rehabilitation of current schemes with hydro-agricultural support involved. There are also irrigation development programs that are broader and long-term initiatives. There are further large-scale multi-use infrastructure that often incorporates smaller farmer-led irrigation schemes. Lastly, there are policies and institutional interventions targeted to producers- irrigators, irrigated systems, or territories that include agricultural land (figure tt). The following are some of the principles that farmer-led interventions brings that usually materialize in economic benefits: ✓ Enhancing agricultural productivity: Resilient irrigation systems can help to maintain stable crop yields and ensure food security, even in the face of climate threats such as droughts or floods. By improving water use efficiency, climate-smart agriculture practices can also contribute to higher crop yields and farm income. ✓ Cost savings: Climate-smart agriculture practices such as conservation tillage, integrated pest management, and crop rotation can help reduce input costs such as fertilizer, pesticides, and fuel. Similarly, resilient irrigation systems can minimize water losses and reduce the need for costly pumping and distribution systems. ✓ Enhancing resilience: Both climate-smart agriculture and resilient irrigation are aimed at increasing resilience to climate threats, which can result in reduced economic losses due to crop failures, reduced productivity, and reduced water availability. ✓ Sustainable economic growth: Climate-smart agriculture and resilient irrigation practices can support sustainable economic growth by increasing the efficiency and profitability of agricultural production. This can result in increased agricultural exports, employment opportunities, and rural development. ✓ Co-benefits for the environment: Climate-smart agriculture and resilient irrigation practices can also have positive environmental impacts, such as reducing greenhouse gas emissions, improving soil health, and preserving natural ecosystems. These co-benefits can contribute to sustainable economic growth and long-term resilience. Figure tt: Process for conducting a farmer-led irrigation economic analysis 277 Source: AFEID-World Bank (2022) Appendix 3 – Some key lessons and options for strengthening CBA on climate-smart and resilient irrigation Irrigation projects, which require significant investments at their beginning and whose return on investment materializes in the medium or even long term, typically have a low internal rate of return, meaning that they are generally profitable only if the discount rate is low (less than 10 percent). This, of course, does not mean that these projects should not be funded. The principles of various irrigation-related guidelines shed light on the range of benefits that could be monetized and compared to the lifecycle cost of these infrastructures. The more these infrastructures are adapted to climate change, and respond to agricultural resiliency, the better they will be at effectively producing benefits that outweigh costs. The difficulty of economic analysis in the irrigation public scheme, where the government will also consider any wider benefits that may be associated with the investment. However, even if the public scheme generates wider economic benefits, if it fails to generate enough value to enable the recovery of the upfront capital costs and O&M costs, and make a suitable return on capital, the government will have to find a source of funds to effectively subsidize the scheme (either from public funds or development partners) to ensure that it remains financially sustainable. Smallholder farmers in developing countries often face challenges related to irrigation and water management, especially in the face of climate change . Climate variability, including droughts and floods, can greatly affect crop yields, farmer incomes, and overall food security. To address these challenges, there has been an increasing focus on incorporating farmer-led resilience strategies into the economic analysis of irrigation investments. Informing how probable an irrigation investment resilient is against climate change, depends on conducting a climate vulnerability assessment. The goal of the vulnerability assessment is to identify current and future vulnerabilities and to understand the key determinants of this assessed vulnerability (ADB 2012). A vulnerability assessment attempts to identify the root causes of a system’s vulnerability to climate change. This work helps to compensate for uncertainties in the modeling and to ensure that adaptation measures are locally beneficial and sustainable because of their explicit relevance in the socioeconomic context in which adaptation may be taking place. The categories of indicators affected by different probabilities or likelihood of occurrence should be weighted on the final present values of these types of projects. As such, identification, and assessment of vulnerability at the local level will increase the likelihood that the adaptation measures are relevant. 278 Figure pp: Categories of climate indicators and probability of occurrence Source: ADB 2012. 4. References Asian Development Bank (ADB) (2012). 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S., Chappell, A., Herrick, J. E. (2017). Land degradation and climate change: building climate resilience in agriculture. Front Ecol Environ 2017; 15 (8): 450– 459, doi:10.1002/fee.1530. Wilson, M. H., Lovell S. T. (2016). Agroforestry—The Next Step in Sustainable and Resilient Agriculture. Sustainability, 8(6): 574; https://doi.org/10.3390/su8060574. World Bank. (2019). Economics of Climate Smart Agriculture. Washington D.C. [Link to publication] World Bank. (2019). World Bank Support for Irrigation Service Delivery: Responding to Emergent Challenges and Opportunities. Independent Evaluation Group. Washington, DC: World Bank. 281 World Bank. (2017). Monetizing Drops for Crops: A guide for irrigation projects of the World Bank. Washington D.C. [Link to publication] Chapter 10: CONCLUSIONS AND ROAD AHEAD By Dale Whittington166 166 Corresponding author: Professor University of North Carolina at Chapel Hill. dale_whittington@unc.edu 282 1. Introduction Benefit cost analysis (BCA) has been used in the water resources sector to analyze investment alternatives for over 70 years (Banzhaf 2009, Jeuland 2020, Whittington and Smith, 2021). Indeed, the formal method of comparing benefits and costs that is today known as “benefit cost analysis (or alternatively, “cost benefit analysis�) was in large part developed and refined through its application to the appraisal of water resources projects (United States Federal Interagency River Basin Committee 1950, Krutilla and Eckstein 1958, Eckstein 1958). Through decades of practice much has been learned about the strengths and limitations of benefit cost analysis as a method to aid decision-making and how to value both the positive and negative outcomes that result from the construction of multipurpose water projects, such as dams and flood protection infrastructure. There are numerous textbooks (Boardman et al. 2018) and also guidance documents that describe how to use benefit cost analysis in the context of low and middle-income countries (Robinson et al. 2019). However, in the 21st century new challenges have arisen in the application of benefit cost analysis in the water resources sector. New guidance is thus needed for using benefit cost analysis to evaluate policy interventions and investments in the water resources sector in the Anthropocene. The authors of the chapters in this monograph identify five main challenges that make the application of benefit cost analysis in the water resources sector both more complicated and more necessary than ever. The authors also identify new tools, concepts, techniques, and approaches that practitioners can use to tackle the challenges of using benefit cost analysis to analyze policy interventions in the water resources sector in this new era of global climate change and growing water scarcity. This concluding chapter first summarizes the five main challenges that the authors have described and then reviews the new tools, concepts, techniques, and approaches that the authors recommend for addressing these challenges. 2. Five Challenges Challenge #1: Construction of the Dynamic Baseline in the Anthropocene The counterfactual is more uncertain and contested than practitioners of BCA working in the water resources section have previously assumed (Whittington, 2022). All policy analysis involves a comparison of two states of the world: 1) a dynamic baseline (i.e., counterfactual) in which the policy intervention is not implemented, and 2) a state of the world in which the policy being analyzed is implemented. Many water resources investments last for decades, and the comparison of their benefits and costs requires estimating the change between these two states of the world far into the future. The dynamic baseline (the world without the intervention) must thus be forecast, taking into account such factors as climate change, technological innovation, rural-to-urban migration, population and economic growth, and changing household preferences. The construction of this dynamic baseline is a challenging task in all sectors, but especially in the water resources sector because hydrology itself can no longer be assumed to be stationary (Miley et al. 2008). How global warming will change a region’s hydrology is difficult to know with precision, but it is likely that in many locations temperatures will increase, and precipitation events will become more extreme. Many locations around the world are now experiencing global drying and a reduction in 283 groundwater storage, due to both unsustainable groundwater extraction and climate change (Rodell et al. 2018, Rodell and Li 2023). In previous decades BCA typically assumed that the statistical characteristics of a hydrological times series would be repeated in the future. Water resources infrastructure then could be designed to maximize net benefits given this underlying stationary hydrology. As Li, Groves, Fuckar, and Platan describe in Chapter 2, such an approach is no longer tenable. The construction of the dynamic baseline must now incorporate the increased uncertainty introduced by nonstationary hydrology, higher temperatures, more extreme precipitation events, continental drying, and other effects of climate change. Li, Groves, Fuckar, and Platan note that increasing damages will be incurred in the dynamic baseline from nonstationary hydrology and climate change. Thus, policy interventions are needed to reduce these damages. Not only do they argue that conditions will get worse, but also that the uncertainty about how much worse is also increasing. This increased attention to the dynamic baseline is not limited to investments in large water infrastructure such as dams and other flood control structures. In Chapter 7 Fuente notes that the dynamic baseline is equally important in the evaluation of investments in the delivery of water and sanitation services in cities. Rising temperatures will increase residential water use. Population growth will strain local water resources near urban areas and increase the attractiveness of wastewater reuse. In Chapter 8 Meier and Gonzalez note that the World Bank’s Operations Policy and Quality Units (OPSPQ) Guidelines require the use of a plausible counterfactual, and stress that the hazards and climate risks in the counterfactual must be evaluated in the economic analysis of hydropower projects. They argue that the most challenging problems in the definition of counterfactual for hydropower projects occur in hydropower rehabilitation investments because there are typically three alternative baselines that should be considered: iv. Do nothing and let the hydropower facility continue to depreciation, with ensuing increases in operating and maintenance costs; v. Wait and re-assess options in the future; and vi. Decommission the facility. Several authors focus on the new tools that are needed to describe the evolving baseline conditions from which benefits and costs of water interventions will be estimated. In Chapter 2, Li, Groves, Fuckar, and Platan argue that adopting multiple dynamic baselines may be needed to deal with the deep uncertainty developing in the Anthropocene. They present two approaches for dealing with uncertainty in the dynamic baseline. First, they illustrate how a simple sensitivity analysis often can be useful. They present the results of a case study of how the net present value of a Water Bank-financed Niger Integrated Water Security Platform Project varies depending on the interaction of two uncertainties: the climate change baseline and capital cost overruns. If the effects of climate change in the baseline are low and the project does not experience capital cost overruns, its net present value (assuming a 6% real discount rate) is estimated to be US$288.8 million. However, the effect of climate change in the baseline is large and the capital costs are 10% higher than anticipated, the net present value falls to US$68.8 million. In Chapter 8 Meier and Gonzales present a similar sensitivity analysis for the Trung Son hydro hydropower project, located in the Northwest of Vietnam, illustrating how different climate change 284 scenarios affect the economic rate of return of the project. Second, Li, Groves, Fuckar, and Platan describe Robust Decision Making (RDM), a more complex approach for planning when confronted with such deep certainty (see Lempert et al. 2003 and Borgomeo 2018). The RDU approach uses multiple dynamic baselines, e.g., many times series of hydrological conditions, against which to measure changes that result from different policy interventions. The analyst searches for policy mixes that are robust (perform reasonably well) in as many plausible futures as possible. However, in practice this search for “robust� policy mixes does not usually use formal BCA to value these changes from the multiple dynamic baselines. In Chapter 5, Bernhofen and Trigg describe a new type of flood risk modeling approach that “combines global and local data to produce a detailed local flood risk model.� They argue that this “hybrid flood risk model� can be used to characterize the dynamic baseline from which policy interventions designed to mitigate flood risks can be estimated. Such new tools can help policy makers more effectively consider the “deep uncertainty� described by Li, Groves, Fuckar, and Platan in Chapter 2. In Chapter 6 Asinas points out that the counterfactual with respect to droughts is changing, noting that climate change will increase the frequency and intensity of droughts in many regions and that drought mitigation inventions can help communities better adapt to changing climatic conditions. For hydrological and climate systems, he recommends the use of system models such as Water Evaluation and Planning (WEAP), Climate Risk Informed Decision Analysis (CRIDA) to both characterize the dynamic baseline and then measure the changes resulting from the dynamic baseline that would result from the implementation of drought mitigation strategies. For economic systems, he recommends the use of input-output models such as Impact Planning (IMPLAN) and the Regional Input-Output Modeling System (RIMS II) and computable general equilibrium (CGE) models such as the Regional Economic Modeling Incorporated (REMI) system. Asinas also emphasizes the importance of a monitoring system that provides the information needed to regularly update the dynamic baseline for hydrological, climate, and economic systems models. Importantly, Asinas argues that cooperation among stakeholders can facilitate knowledge exchange and enable analysts to better characterize the dynamic baseline. In chapter 7 Fuente describes some of the specific challenges facing urban water utilities in the Anthropocene, including decarbonizing the delivery of water and sanitation services. To address these challenges, Fuente emphasizes that practitioners need systems tools to capture the interdependencies and feedback loops in a circular water system to effectively analyze the benefits and costs of interventions to improve urban water and sanitation services (see Jeuland 2022, and Jeuland et al. 2022). An important aspect of this dynamic baseline is understanding the carbon emissions associated with the entire chain of activities involved with the delivery of water and sanitation services. In Chapter 8 Meier and Gonzales argue that climate change has made the World Ban k’s traditional approach to handling risk in BCA obsolete. In the past, economists have argued that governments should be risk-neutral when selecting investments such as hydropower projects, and that expected net present value is the appropriate investment criterion. The argument has been that governments should maximize long term expected value because winner and losers will likely cancel each other out; it is the portfolio of investments that matter, not the risk of an individual project. Meier and Gonzales contend that this proposition needs to be rethought in the Anthropocene because climate change will 285 require additional investments in infrastructure to improve resilience, and these investments will be costly. In effect, climate change means that the costs are increasing but the benefits are not: “a robust project may well have a lower NPV than its less robust alternative.� Nevertheless, the case studies presented by Meier and Gonzales in Chapter 8 show chronic climate change risks have a much smaller effect on the economic rate of return than increases in construction costs (Ansar et al. 2014). Challenge #2 – Evaluating “Policy Mixes� Most applications of BCA in the water resources sector have focused on the evaluation of a single policy intervention or investment, such as a dam. However, the complexity of problems in the water- energy-food nexus will require the simultaneous use of multiple policy instruments, termed “policy mixes� (Braathen 2007, Howlett and del Rio, 2015; Howlett 2019). Policy mixes are combinations of different policy instruments – such as government expenditures for construction of water infrastructure, revised tariffs to promote wise water use, and information treatments to motivate water conservation. Evidence on the effects of simultaneous implementation of multiple policy interventions almost always relies on nonexperimental methods of causal inference, including computer simulation models of both natural and economic systems that can generate comparisons of 1) the dynamic baseline without the policy mix; and 2) a state of the world with the policy mix. Such models try to capture the feedback linkages between the effects of each of the different interventions in a policy mix. Analysts rely on both theory and intuition to interpret such model results. However, as Li, Groves, Fuckar, and Platan emphasize in Chapter 2, the use of such analytical tools does not fully resolve the challenge of radical uncertainty with which decisionmakers must wrestle (Kay and King 2021, Thompson 2022). In Chapter 8 Meier and Gonzales give an example of a type of policy mix for a hydropower project. Sometimes hydropower investments are coupled with “benefit sharing� arrangements. They note that the evaluation of benefit-sharing policy mixes has proved challenging. Guidelines for benefit sharing do not discuss how the cost of the benefit-sharing arrangements should be treated in a benefit cost analysis. They note that a common mistake is to treat a benefit-sharing policy as a cost rather than a benefit. Their preferred approach is to present benefit sharing measures as a separate item in the distributional analysis. In Chapter 9, Valieva describes a policy mix termed “Climate Smart Agriculture (CSA).� This policy mix is a set of strategies designed to reduce the adverse effects of climate change in agriculture by increasing farmers’ resilience to extreme weather events and decreasing farmers’ greenhouse gas emissions. Such a CSA policy mix includes a range of policy interventions covering conservation and regenerative practices, as well as management practices such as no till cultivation, the use of cover crops, diversifying crop rotations, and more efficient use of irrigation water. Most applications of benefit cost analysis have focused on a single project or investment. The authors of several chapters highlight the importance of evaluating “policy mixes� (which Li et al refer to as “strategies� and “portfolios�). In Chapter 5 Bernhofen and Trigg also emphasize the need for policy mixes. They describe an optimal policy mix for flood risk reduction as finding the right balance of two main approaches in a specific local context: (i) reducing water levels and velocities in the flood location (e.g., flood storage reservoirs, upstream land management, channel modifications and (ii) improved means of coping with high water 286 levels and velocities in order to lessen their impact (e.g., floodplain zonal planning, flood walls, flood proofing infrastructure). They emphasize the importance of not focusing the BCA exclusively on “grey� infrastructure such as flood walls and dikes for river and coastal flooding and stormwater drainage systems for pluvial flooding. Practitioners should also examine the benefits and costs of green and blue infrastructure, a type of nature-based solutions, that includes such interventions as green roofs, bioretention basins, riparian vegetation, and upstream land management. Bernhofen and Trigg also describe the new Chinese concept of a “sponge city� as a new approach for thinking about flood risk mitigation in the Anthropocene. The objective of a “sponge city� is simultaneously to protect local ecosystems and to make urban area more flood resilient. Achieving the objectives of a “sponge city� requires a policy mix that combines green, blue, and grey infrastructure alternatives to create an interconnected system that collects storm water during the rainy seasons and stores it for use during dry seasons. This set of infrastructure interventions, including urban parks, green roofs, constructed wetlands, enables the urban area of absorb rainwater from extreme precipitation and flood events (like a sponge). In Chapter 6, Asinas also present a policy mix of interventions to reduce the potential impacts of droughts, including 1) promoting drought-tolerant crops, 2) implementing water-saving technologies, 3) improving irrigation efficiency, 4) enhancing water storage and supply infrastructure, 5) improving the capacity of communities and governments to respond to and recover from droughts, developing drought response plans, 6) enhancing coordination among stakeholders, and 7) improving public awareness and communication about drought risks and management strategies. Policy mixes may include comprehensive sector reforms. In chapter 7 Fuente describes the need for a complex policy mix for urban water and sanitation delivery that includes 1) investments to diversify raw water sources, increase wastewater use, and protect water infrastructure against the effects of climate change; 2) the reform of water tariffs to increase the financial sustainability of water utilities, encourage water conservation, and prevent unnecessary system expansion; 3) the design of customer assistance programs to ensure that poor households are able to afford water and sanitation services; and 4) the incorporation of both upstream and downstream effects of urban water use on local ecosystems, and the importance of careful planning of local watersheds near cities. Many of the components of such a policy mix are largely institutional and management issues that require implementation and enforcement. Evaluating the benefits and costs of such policy mixes is a new, challenging analytical task in the use of BCA for decision-making in the Anthropocene. How best to do this is an important area for future research. The authors emphasize the importance of policy mixes but have little concrete guidance to offer practitioners on these should be evaluated. Challenge #3 – Estimating Preferences for Improved Health and Environmental Quality in Low- and Middle- Income Countries Since the 1960s, environmental economists have developed a suite of techniques for estimating the economic benefits of environmental quality improvements (Johnston et al 2017, Carson et al 2020, Banzhaf 2023). Beginning in the 1990s researchers have applied these techniques with increasing frequency in low- and middle-income countries (Dasgupta 2021). Much has been learned about how to use these nonmarket valuation techniques in low- and middle-income countries (Robinson et al 287 2019). Practitioners of BCA working in the water resources sector now urgently need the lessons from this research program to better analyze policy interventions. However, as the authors of this monograph describe, more still needs to be learned about the use of nonmarket evaluation methods in LMIC in the current era of climate change. Rising incomes in low- and middle-income countries will increase people’s demands for better environmental quality, and nature-based solutions will become more attractive policy instruments (Dasgupta, 2021). People’s rising incomes lead to higher values of time savings and an increasing desire for improved environmental quality and sustainable lifestyles (Whittington and Cook 2018, Fuente et al., 2020). In China the government has announced the need to transition to an “ecological civilization.� As incomes rise, demand for improved air quality and drinking water increases. People want more water-based recreational opportunities and are more willing to pay for urban environmental amenities such as parks, pedestrian and bicycle pathways, and the restoration of local ecosystems and wildlife refuges. With rising incomes, people will be willing to pay more for mortality and morbidity risk reductions. Again, the economic valuation of the health benefits from water investments to reduce flood and drought risks and to improve municipal water and sanitation services have been studied for decades, but rising incomes and climate risks increase the importance of addressing these benefit estimation challenges. In Chapter 8 Meier and Gonzales give a good example of how this issue of incorporating health benefits in a BCA can arises even in hydropower projects. If a hydropower facility displaces diesel power generation, local air emissions will be reduced, and the adverse health impacts will be avoided. These health benefits of the hydropower project need to be monetarized and entered on the benefit side of the benefit-cost ledger for the investment. Meier and Gonzales list other consequences of hydropower projects that require project analysts to estimate household preferences for improved health and environmental quality, such as loss of forests and other ecosystems, reduced flooding, reductions in greenhouse gas emissions, loss of fisheries, and loss of cultural monuments. Meier and Gonzales also argue that climate change increases the risk of project failure and that the tradeoff between risk and project benefits is a government decision that should be informed by people’s preferences. Thus, households’ preferences for the risk vs. return tradeoff need to be estimated in a BCA of water investments in the Anthropocene. Authors of this monograph recommend two different approaches for tackling the challenge of estimating people’s preferences for project outcomes. The first is to rely heavily on systematic analysis of previous evidence. For example, in Chapter 3 Boris Tot Van Zanten and Radhika Sundaresan point the reader to the Investment Framework for Economics of Water Sensitive Cities (INFFEWS) database created by the Cooperative Research Centre for Water Sensitive Cities (CRCWSC). This is a comprehensive database of over 76 Australian nonmarket valuation studies, each of which includes estimates of nonmarket benefits created by specific policy interventions in the water sector. One option for Practitioners of BCA is to “transfer� and perhaps “adjust� benefit estimates from such an established database for use to estimate the benefits of a policy intervention in a different location of interest. Similarly, In Chapter 6 Asinas describes the Integrated Valuation of Ecosystem Services and Tradeoffs (InVEST) software that practitioners can use to value changes in ecosystems due to water 288 policy interventions. InVEST can be used to assign monetary values to changes in ecosystem services and natural resources associated with different land use patterns that may result from alternative investment plans. The second approach for tackling the challenge of estimating people’s preferences is to use stakeholder analysis.� In Chapter 4 Mavrommati defines stakeholder analysis as “an iterative process that seeks to assess and understand stakeholders from the perspective of an organization such as the World Bank or to identify their role in a proposed project.� Stakeholders are “the individuals or groups who have an interest or some aspect of rights or ownership in the project and can contribute to, or be impacted by, the outcomes of the project� (Bourne and Walker 2006). Mavrommati argues that stakeholder analysis can assist the BCA practitioner to identify the list of parties who are affected by a project all the stakeholders. Mavrommati argues that one of the main advantages of this stakeholder analysis is the semi-structured interviews that are conducted to elicit rich qualitative information that can be transcribed and analyzed qualitatively. Mavrommati also argues that an important advantage of conducting such supplementary stakeholder analysis is to better understand the dynamics of project implementation. Mavrommati provides guidance on how to design stakeholder engagement processes and the issues involved in conducting stakeholder analysis, including such data collection techniques snowball sampling, focus groups and deliberative evaluation workshops. She argues that stakeholder analysis should be an integral part of all stages of the life cycle of a project. Perhaps the main difference between the traditional nonmarket valuation methods used in BCA is regards the assumption about the stability of people’s preferences. Nonmarket valuation methods take people’s preferences as given and try to determine what they are. The deliberative valuation approach described by Mavrommati convenes stakeholders for an extended discussion of the benefits and costs of a policy intervention, and the participants try to reach a consensus about the value of the policy outcomes. Challenge #4 – Incorporating the Distributional Consequences of Water Policy Interventions in an Era of Global Warming and Water Scarcity Incorporating equity considerations in benefit costs analysis is another analytical challenge as old as the method itself, but it has taken on new urgency for two reasons. First, income inequality is increasing throughout the world. Second, much of the greenhouse gas emissions have historically come from industrialized countries, and low and middle-income countries will bear much of the costs. Water investments designed to address climate change and increasing water scarcity are often expensive and capital intensive, and may leave poor, marginalized communities behind. Recent evidence indicates that some poor, marginalized communities lack improved water and sanitation services even in rich countries (Dietz and Meehan 2019, Meehan et al. 2020, Brown et al. 2023). There is a growing tension between pricing water to reflect increasing scarcity and the needs of low-income households to be able to afford water, electricity, and food. The analysis of the distributional consequences of water investments has also become more important as the design of policy interventions has become more complex, and their geographical scope has expanded. This will often mean that the number of affected parties – or stakeholders—involved in a 289 project is increasing. In Chapter 7 Fuente refers to this expanding reach of water investments as the increasing “accounting domain.� How best to address equity considerations in a BCA of water sector investments remains controversial, and several authors of chapters in this monograph offer guidance on this issue. Li et al. recommend using multicriteria analysis, expanding the number of criteria used to evaluate the outcomes of policy interventions beyond the benefit cost criterion of economic efficiency. Similarly in Chapter 6, Asinas recommends the use of a multicriteria decision matrix to compare policy interventions. His recommendation is to incorporate equity and distributional consequence as one of the following six criteria used to evaluate policy interventions: 1) economic efficiency, 2) climate resilience, 3) regional economic impact; 4) equity and distributional effects, 5) multiple benefit analysis, and 6) stakeholder acceptability. This is the classic approach proposed by benefit-cost textbooks such as Dasgupta, Sen, and Marglin (1972) and Major (1977). Here equity is included as a separate criterion, distinct from economic efficiency. Proponents of this multicriteria approach note that members of civil society do in fact consider the consequences of policy interventions from different perspectives and life experiences. To support public participation and democratic discourse, analysts of water resources investments thus need to present the likely consequences of policy interventions not only from an economic efficiency criterion of BCA, but also in terms of different criteria that members of the public care about, such as poverty alleviation, environmental sustainability, financial feasibility, and fairness (Truong et al. 2000, Fuente et al. 2023). Other authors argue for the use of equity weights, in which estimates of benefits and costs are adjusted depending on which income group receives them (See Banzhaf, 2009, for a review and discussion of these two decision-making approaches). Proposals for the use of equity weights in BCA are not new. Squire and Tak (1975) advocated for their use in the evaluation of World Bank-financed projects. However, governments are increasingly taking such proposals seriously. In the United Kingdom, distributional weights are used in the BCA of government investments. In the United States the Office of Management Budget recently issued new guidance on how the benefits and costs of major federal regulations should be estimated and compared. The new draft circular A4 (United States Office of Management and Budget, 2023) gives agency analysts the option of incorporating distributional weights in BCA. In Chapter 4 Mavrommati describes how new techniques of stakeholder engagement can be used to better understand how different groups of people who are affected by a water intervention experience the project’s benefits and costs. Incorporating the voices of poor, marginalized communities is an important part of increasing social equity and fairness in the evaluation of water policy interventions. In Chapter 6 Asinas reiterates much of Mavrommati’s guidance on the importance of stakeholder engagement. In Chapter 7 Fuente emphasizes that a careful analysis of the benefits and costs of a specific policy mix requires that practitioners pay more attention to distributional consequences. In Chapter 8 Meier and Gonzalez note that OPSPQ guidelines do not mandate a formal distributional analysis – but simply require that the economist assess whether a distributional analysis is “relevant to the careful determination of social cost and benefits�. They note, however, that a review of some 290 recent water and energy Project Appraisal Documents reveals little attention has been paid to distributional issues in most BCAs of hydropower investments. They believe that this is in part due to the difficulties in comparing economic flows (generally in constant dollars) with financial flows (in nominal currency) accruing to different groups. Regulatory Impact Analyses conducted in the United States also have failed to seriously include distributional analysis (Robinson et al. 2016). However, Meier and Gonzalez argue that would be very rare for a power sector investment project to have no significant distributional impacts, and best practice would require a distributional analysis for almost all projects. Challenge #5 – Developing new policy tools and fostering innovation for the Anthropocene The contributing authors stress that new policy instruments, new tools, and new data are needed to improve the ex-ante analysis of water investments in the Anthropocene. In Chapter 2, Li, Groves, Fuckar, and Platan argue that BCA needs to be modified to better accommodate the deep uncertainty introduced by climate changes and new methods are needed to identify “robust decisions that can deliver intended development goals in the face of uncertain trends and extremes.� In Chapter 6 Asinas points to the need to foster innovation in the water sector to develop new policy instruments , new technologies, and new data sources. Throughout this monograph the authors describe new ideas and methods for the use of benefit cost analysis in the Anthropocene to evaluate water policy interventions and investments. And they call for fostering innovation to develop new and improved methods. Some of these ideas – such as the use of distributional weights (Harberger 1978) and real options analysis (Dixit and Pindyck 1994)- are not new but are now increasingly needed. Similarly, the social cost of carbon is not a new idea, but incorporating improved estimates of the social cost of carbon in application of BCA is essential. In Chapter 8 Meier and Gonzalez discuss how to incorporate the social cost of carbon in the evaluation of hydropower project. This requires that the Bank provide up- to-date guidance on value for the social cost of carbon that Bank economists should use. Current estimates of the social cost of carbon are approximately US$190 per ton, far higher than the values used by most BCA practitioners (Azar et al. 2023). Other concepts such as “Nature-Based Solutions� and “Climate smart agriculture� are of more recent origin. Authors argue that they deserve more attention and will require new tools and technologies. For example, in Chapter 9 Valieva argues that CSA requires precision irrigation, remote sensing, and climate forecasting to improve its efficiency and effectiveness. In Chapter 6 Asinas mentions the concept of “managed aquifer recharge� as a relatively new approach to drought mitigation. Managed aquifer recharge will benefit from improved groundwater models (Weigand et al. 2023). Asinas calls for research to foster innovation that will result in new ideas, innovations, policy instruments to address water challenges in the Anthropocene. How to design and fund this research agenda is an important topic for the international community. 3. Recommendations for Tackling New Challenges The authors of this monograph describe new tools, techniques, and approaches for tackling these five 291 challenges. Some of these “new� tools techniques and approaches are more useful for addressing one of the five challenges than the others. Some are not really “new�, but they h ave not been widely used in practice, and it is now more imperative to incorporate them in the application of BCA in the Anthropocene. Authors are divided on whether the use of formal BCA is still advisable in the Anthropocene. Li, Groves, Fuckar, and Platan argue for the use of new tools to support decision-making tools that typically do not include a formal benefit cost metric to assess performance of water resources investments (e.g., Robust Decision Making – RDM). Mavrommati argues that stakeholders’ assessment of the benefits of a project should replace, or supplement estimates of a formal welfare-theoretic performance metric obtained through the use of nonmarket valuation methods such as the travel cost method, hedonic property value models, and stated preference methods. Addressing Challenge #1: Construction of the Dynamic Baseline Several authors focus on the new tools that are needed to describe the evolving baseline conditions from which benefits and costs of water interventions will be estimated. In Chapter 2, Li, Groves, Fuckar, and Platan argue that adopting multiple dynamic baselines may be needed to deal with the deep uncertainty developing in the Anthropocene. They present two approaches for dealing with uncertainty in the dynamic baseline. First, they illustrate how a simple sensitivity analysis often can be useful. They present the results of a case study of how the net present value of a Water Bank-financed Niger Integrated Water Security Platform Project varies depending on the interaction of two uncertainties: the climate change baseline and capital cost overruns. If the effects of climate change in the baseline are low and the project does not experience capital cost overruns, its net present value (assuming a 6% real discount rate) is estimated to be US$288.8 million. However, the effect of climate change in the baseline is large and the capital costs are 10% higher than anticipated, the net present value falls to US$68.8 million. In Chapter 8 Meier and Gonzales present a similar sensitivity analysis for the Trung Son hydro hydropower project, located in the Northwest of Vietnam, illustrating how different climate change scenarios affect the economic rate of return of the project. Second, Li, Groves, Fuckar, and Platan describe Robust Decision Making (RDM), a more complex approach for planning when confronted with such deep certainty (see Lempert et al. 2003 and Borgomeo 2018). The RDU approach uses multiple dynamic baselines, e.g., many times series of hydrological conditions, against which to measure changes that result from different policy interventions. The analyst searches for policy mixes that are robust (perform reasonably well) in as many plausible futures as possible. This search for “robust� policy mixes does not usually use formal BCA to value these changes from the multiple dynamic baselines. In Chapter 5, Mark V. Bernhofen and Mark A. describe a new type of flood risk modeling approach that “combines global and local data to produce a detailed local flood risk model.� They argue that this “hybrid flood risk model� can be used to characterize the dynamic b aseline from which policy interventions designed to mitigate flood risks can be estimated. Such new tools can help policy makers more effectively consider the “deep uncertainty� described by Li, Groves, Fuckar, and Platan in Chapter 2. 292 In Chapter 6 Asinas points out that the counterfactual with respect to droughts is changing, noting that climate change will increase the frequency and intensity of droughts in many regions and that drought mitigation inventions can help communities better adapt to changing climatic conditions. For hydrological and climate systems, he recommends the use of system models such as Water Evaluation and Planning (WEAP), Climate Risk Informed Decision Analysis (CRIDA) to both characterize the dynamic baseline and then measure the changes resulting from the dynamic baseline that would result from the implementation of drought mitigation strategies. For economic systems, he recommends the use of input-output models such as Impact Planning (IMPLAN) and the Regional Input-Output Modeling System (RIMS II) and computable general equilibrium (CGE) models such as the Regional Economic Modeling Incorporated (REMI) system. Asinas also emphasizes the importance of a monitoring system that provides the information needed to regularly update the dynamic baseline for hydrological, climate, and economic systems models. Importantly, Asinas argues that cooperation among stakeholders can facilitate knowledge exchange and enable analysts to better characterize the dynamic baseline. In chapter 7 Fuente describes some of the specific challenges facing urban water utilities in the Anthropocene, including decarbonizing the delivery of water and sanitation services. To address these challenges, Fuente emphasizes that practitioners need systems tools to capture the interdependencies and feedback loops in a circular water system to effectively analyze the benefits and costs of interventions to improve urban water and sanitation services (see Jeuland 2022, and Jeuland et al. 2022). An important aspect of this dynamic baseline is understanding the carbon emissions associated with the entire chain of activities involved with the delivery of water and sanitation services. In Chapter 8 Meier and Gonzales argue that climate change has made the B ank’s traditional approach to handling risk in benefit cost analysis obsolete. In the past, economists have argued that governments should be risk-neutral when selecting investments such as hydropower projects, and that expected net present value is the appropriate investment criterion. The argument has been that governments should maximize long term expected value because winner and losers will likely cancel each other out; it is the portfolio of investments that matter, not the risk of an individual project. Meier and Gonzales contend that this proposition needs to be rethought in the Anthropocene because climate change will require additional investments in infrastructure to improve resilience, and these investments will be costly. In effect, climate change means that the costs are increasing but the benefits are not: “a robust project may well have a lower NPV than its less robust alternative.� Nevertheless, the case studies presented Meier and Gonzales in Chapter 8 show chronic climate change risks have a much smaller effect on the economic rate of return than increases in construction costs (Ansar et al. 2014). Addressing Challenge #2 – Estimating Preferences for Improved Environmental Quality in Low and Middle- Income Countries Authors of this monograph recommend two different approaches for tackling the challenge of estimating people’s preferences for project outcomes. The first is to rely heavily on systematic analysis of previous evidence. For example, in Chapter 3 Boris Tot Van Zanten and Radhika Sundaresan point the reader to the Investment Framework for Economics of Water Sensitive Cities (INFFEWS) database created by the Cooperative Research Centre for Water Sensitive Cities (CRCWSC). This is a 293 comprehensive database of over 76 Australian nonmarket valuation studies, each of which includes estimates of nonmarket benefits created by specific policy interventions in the water sector. One option for Practitioners of BCA is to “transfer� and perhaps “adjust� benefit estimates from such an established database for use to estimate the benefits of a policy intervention in a different location of interest. Similarly, In Chapter 6 Asinas describes the Integrated Valuation of Ecosystem Services and Tradeoffs (InVEST) software that practitioners can use to value changes in ecosystems due to water policy interventions. InVEST can be used to assign monetary values to changes in ecosystem services and natural resources associated with different land use patterns that may result from alternative investment plans. The second approach for tackling the challenge of estimating people’s preferences is to use stakeholder analysis.� In Chapter 4 Mavrommati defines stakeholder analysis as “ an iterative process that seeks to assess and understand stakeholders from the perspective of an organization such as the World Bank or to identify their role in a proposed project.� Stakeholders are “the individuals or groups who have an interest or some aspect of rights or ownership in the project and can contribute to, or be impacted by, the outcomes of the project� (Bourne and Walker 2006). Mavrommati argues that stakeholder analysis can assist the BCA practitioner to identify the list of parties who are affected by a project all the stakeholders. Mavrommati argues that one of the main advantages of this stakeholder analysis is the semi-structured interviews that are conducted to elicit rich qualitative information that can be transcribed and analyzed qualitatively. Mavrommati also argues that an important advantage of conducting such supplementary stakeholder analysis is to better understand the dynamics of project implementation. Mavrommati provides guidance on how to design stakeholder engagement processes and the issues involved in conducting stakeholder analysis, including such data collection techniques snowball sampling, focus groups and deliberative evaluation workshops. She argues that stakeholder analysis should be an integral part of all stages of the life cycle of a project. Perhaps the main difference between the traditional nonmarket valuation methods used in BCA is regards the assumption about the stability of people’s preferences. Nonmarket valuation methods take people’s preferences as given and try to determine what they are. The deliberative valuation approach described by Mavrommati convenes stakeholders for an extended discussion of the benefits and costs of a policy intervention, and the participants try to reach a consensus about the value of the policy outcomes. Addressing Challenge #3 – Incorporating the Distributional Consequences of Water Policy Interventions How best to address equity considerations in a benefit cost analysis of water sector investments remains controversial, and several authors of chapters in this monograph several offer guidance on this issue. Li et al. recommend using multicriteria analysis, expanding the number of criteria used to evaluate the outcomes of policy interventions beyond the benefit cost criterion of economic efficiency. Similarly in Chapter 6, Asinas recommends the use of a multicriteria decision matrix to compare policy 294 interventions. His recommendation is to incorporate equity and distributional consequence as one of the following five criteria used to evaluate policy interventions: 1) economic efficiency, 2) climate resilience, 3) regional economic impact; 4) equity and distributional effects, 5) multiple benefit analysis, and 6) stakeholder acceptability. This is the classic approach proposed by benefit-cost textbooks such as Dasgupta, Sen, and Marglin (1972) and Major (1977). Here equity is included as a separate criterion, distinct from economic efficiency. Proponent of this multicriteria approach note that members of civil society do in fact consider the consequences of policy interventions from different perspectives and life experiences. To support public participation and democratic discourse, analysts of water resources investments thus need to present the likely consequences of policy interventions not only from an economic efficiency criterion of benefit cost analysis, but also in terms of different criteria that members of the public care about, such as poverty alleviation, environmental sustainability, financial feasibility, and fairness (Truong et al. 2000, Fuente et al. 2023). Other authors argue for the use of equity weights, in which estimates of benefits and costs are adjusted for depending on which income group receives them (See Banzhaf, 2009, for a review and discussion of these two decision-making approaches). Proposals for the use of equity weights in benefit cost analysis are not new. Squire and Tak (1975) advocated for their use in the evaluation of World Bank- financed projects. However, governments are increasingly taking such proposals seriously. In the United Kingdom, distributional weights are used in the benefit cost analysis of government investments. In the United States the Office of Management Budget recently issued new guidance on how the benefits and costs of major federal regulations should be estimated and compared. The new draft circular A4 (United States Office of Management and Budget, 2023) gives agency analysts the option of incorporating distributional weights in BCA. In Chapter 4 Mavrommati describes how new techniques of stakeholder engagement can be used to better understand how different groups of people who are affected by a water intervention experience the project’s benefits and costs. Incorporating the voices of poor, marginalized communities is an important part of increasing social equity and fairness in the evaluation of water policy interventions. In Chapter 6 Asinas reiterates much of Mavrommati’s guidance on the importance of stakeholder engagement. In Chapter 7 Fuente emphasizes that a careful analysis of the benefits and costs of a specific policy mix requires that practitioners pay more attention to distributional consequences. In Chapter 8 Meier and Gonzalez note that OPSPQ guidelines do not mandate a formal distributional analysis – but simply require that the economist assess whether a distributional analysis is “relevant to the careful determination of social cost and benefits�. However, Meier and Gonzalez argue that would be very rare for a power sector investment project to have no significant distributional impacts, and best practice would require a distributional analysis for almost all projects. They note, however, that a review of some recent water and energy Project Appraisal Documents reveals little attention has been paid to distributional issues in most BCAs of hydropower investments. They believe that this is in part due to the difficulties in comparing economic flows (generally in constant dollars) with financial flows (in nominal currency) accruing to different groups. Addressing Challenge #4 – Evaluating “Policy Mixes� 295 Most applications of benefit cost analysis have focused on a single project or investment. The authors of several chapters highlight the importance of evaluating “policy mixes� (which Li et al refer to as “strategies� and “portfolios�). In Chapter 5 Bernhofen and Trigg also emphasize the need for policy mixes. They describe an optimal policy mix for flood risk reduction as finding the right balance of two main approaches in a specific local context: (i) reducing water levels and velocities in the flood location (e.g., flood storage reservoirs, upstream land management, channel modifications and (ii) improved means of coping with high water levels and velocities in order to lessen their impact (e.g., floodplain zonal planning, flood walls, flood proofing infrastructure). They emphasize the importance of not focusing the BCA exclusively on “grey� infrastructure such as flood walls and dikes for river and coastal flooding and stormwater drainage systems for pluvial flooding. Practitioners should also examine the benefits and costs of green and blue infrastructure, a type of nature-based solutions, that includes such interventions as green roofs, bioretention basins, riparian vegetation, and upstream land management. Bernhofen and Trigg also describe the new Chinese concept of a “sponge city� as a new approach for thinking about flood risk mitigation in the Anthropocene. The objective of a “sponge city� is simultaneously to protect local ecosystems and to make urban area more flood resilient. Achieving the objectives of a “sponge city� requires a policy mix that combines green, blue, and grey infrastructure alternatives to create an interconnected system that collects storm water during the rainy seasons and stores it for use during dry seasons. This set of infrastructure interventions, including urban parks, green roofs, constructed wetlands, enables the urban area of absorb rainwater from extreme precipitation and flood events (like a sponge). In Chapter 6, Asinas also present a policy mix of interventions to reduce the potential impacts of droughts, including 1) promoting drought-tolerant crops, 2) implementing water-saving technologies, 3) improving irrigation efficiency, 4) enhancing water storage and supply infrastructure, 5) improving the capacity of communities and governments to respond to and recover from droughts, developing drought response plans, 6) enhancing coordination among stakeholders, and 7) improving public awareness and communication about drought risks and management strategies. Policy mixes may include comprehensive sector reforms. In chapter 7 Fuente describes the need for a complex policy mix for urban water and sanitation delivery that includes 1) investments to diversify raw water sources, increase wastewater use, and protect water infrastructure against the effects of climate change; 2) the reform of water tariffs to increase the financial sustainability of water utilities, encourage water conservation, and prevent unnecessary system expansion; 3) the design of customer assistance programs to ensure that poor households are able to afford water and sanitation services; and 4) the incorporation of both upstream and downstream effects of urban water use on local ecosystems, and the importance of careful planning of local watersheds near cities. Many of the components of such a policy mix are largely institutional and management issues that require implementation and enforcement. Evaluating the benefits and costs of such policy mixes is a new, challenging analytical task in the use of BCA for decision-making in the Anthropocene. How best to do this is an important area for future research. The authors emphasize the importance of policy mixes but have little concrete guidance to offer practitioners on these should be evaluated. 296 Addressing Challenge #5 – Fostering Innovation: New Ideas, Best Practices Throughout this monograph the authors describe new ideas and methods for the use of benefit cost analysis in the Anthropocene to evaluate water policy interventions and investments. And they call for fostering innovation to develop new and improved methods. Some of these ideas – such as the use of distributional weights (Harberger 1978) and real options analysis (Dixit and Pindyck 1994)- are not new but are now increasingly needed. Similarly, the social cost of carbon is not a new idea, but incorporating improved estimates of the social cost of carbon in application of BCA is essential. In Chapter 8 Meier and Gonzalez discuss how to incorporate the social cost of carbon in the evaluation of hydropower project. This requires that the Bank provide up- to-date guidance on value for the social cost of carbon that Bank economists should use. Current estimates of the social cost of carbon are approximately US$190 per ton, far higher than the values used by most BCA practitioners (Azar et al. 2023). Other concepts such as “Nature-Based Solutions� and “Climate smart agriculture� are of more recent origin. Authors argue that they deserve more attention and will require new tools and technologies. For example, in Chapter 9 Valieva argues that CSA requires precision irrigation, remote sensing, and climate forecasting to improve its efficiency and effectiveness. In Chapter 6 Asinas mentions the concept of “managed aquifer recharge� as a relatively new approach to drought mitigation. Managed aquifer recharge will benefit from improved groundwater models (Weigand et al. 2023). Asinas calls for research to foster innovation that will result in new ideas, innovations, policy instruments to address water challenges in the Anthropocene. How to design and fund this research agenda is an important topic for the international community. 4. Topics for Future Editions of the Guidelines There are several important topics regarding the use of BCA to evaluate water resources interventions in the Anthropocene that will likely need to be addressed in future additions of the Guidelines, and practitioners still need guidance on several outstanding questions. First, the authors of this volume are divided on whether the use of formal BCA is still advisable in the Anthropocene. Li, Groves, Fuckar, and Platan argue for the use of new tools to support decision- making tools that typically do not include a formal benefit cost metric to assess performance of water resources investments (e.g., Robust Decision Making – RDM). Mavrommati argues that stakeholders’ assessment of the benefits of a project should replace, or supplement estimates of a formal welfare- theoretic performance metric obtained through the use of nonmarket valuation methods such as the travel cost method, hedonic property value models, and stated preference methods. Second, an important topic not covered in this monograph is how best to incorporate the economy- wide linkages between water resources investments and multiple sectors of economic activity. In Chapter 6 Asinas notes the importance of incorporating the indirect costs associated with droughts into a BCA of drought mitigation policy interventions, arguing that droughts can have far-reaching impacts on various sectors of the economy. Formal methods of linking direct effects with economy- wide ramifications are now increasing used in the water sector (see Strzepek et al. 2008, Basheer et al. 2021). However, guidance on the use these methods is not provided by the authors in this volume. Third, rigorous economic methods are now available for estimating the benefits of water policy 297 interventions that reduce mortality and morbidity risks (Robinson and Hammitt 2013, Robinson et al. 2019). Guidance on how to estimate the estimate the monetary values of the mortality and morbidity risk reductions is not covered by the authors in this volume. Fourth, the loss of biodiversity in the Anthropocene creates profound risks for homo sapiens and other species. How to design policy mixes to mitigate these risks and how to value these risk reductions in a benefit cost analysis are the focus of an ongoing global discussion (Rockstrom et al. 2009, Sterner et al. 2019, Dasgupta 2021), but this monograph does not provide detailed guidance on the valuation of biodiversity loss. Fifth, the emerging evidence on continental drying needs to be incorporated into the dynamic baseline when analyzing almost all water interventions. Guidance on how best to do this is needed. Three other questions standout as important for practitioners of benefit cost analysts working in the water sector. The complexity of problems in the water-food-energy-nexus highlights the need for new decision-making tools (such as Robust Decision Making) to address deep uncertainty. The first question then is when should these new methods be used? And when is the type of simple sensitivity analysis with different climate change scenarios described by authors of chapters in this monograph sufficient? The second question is what practitioners should do when the search for robust solutions that work well in multiple counterfactual baselines does not yield “sufficiently good� solutions. To search fo r robust solutions is one thing. To find them is another. The third question on which practitioners need guidance is whether it is a good use of time and resources to expand the performance metrics currently used in Robust Decision Making methods to include welfare-theoretic measures of benefits and costs. In other words, is the simplicity of BCA a virtue? Is the complexity involved in merging BCA and RDM likely to yield new, important insights? Or do practitioners risk getting lost in what Thompson (2022) calls “model land�? In summary, the use of BCA in the Anthropocene is becoming more challenging, its use is arguably more important than ever. It is easy to identify limitations of BCA, a relatively simple decision-making method compared to alternatives such as Robust Decision Making and Multicriteria analysis recommended by some authors in this monograph. But simplicity can be a virtue. BCA has three important advantages compared to other formal decision-making tools. First, it is the only method that facilitates a comparison of the economic attractiveness of policies, investments, and regulations across sectors. Second, it provides a well-developed, historically tested language and approach that can facilitate dialogue and learning between different disciplines. Even if professionals working in different disciplines may disagree about the advisability of using BCA, articulating and exposing these disagreements is helpful for decision makers . 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