The Importance of Virtual Water
There’s no legal system that can fix the tensions caused by climate change.
Christian Valenzuela, Agua Circular
What is virtual water?
The term “virtual water” was coined by the British geographer, John Anthony (Tony) Allan, in the 1990s to describe the unseen trade in water that happens every day – as opposed to the physical water delivered through pipelines, lorries, bottles, etc. One of his key arguments was that large food imports serve as an indicator of water scarcity. Countries which import large amounts of food do not have enough water to be self-sufficient, food-wise, he argued. High exports of food, on the other hand, are indicative of water abundance, Tony Allan argued.
The case is relatively simple to understand. In 2016 (I don’t have access to more recent numbers), about 636 million m3 of physical water was traded globally. The same year, about 2 trillion m3 of virtual water was traded through the trading of various products – about 3,000 times more than what is traded physically. Of the 2 trillion traded virtually, it is estimated that agricultural products, including livestock, accounted for over 80%. Wheat production is just one example. On average, it takes about 1,500 m3 of water to grow one ton of wheat. Having said that, food is not the only ‘thirsty’ product. 4 m3 of water shall be required for every cotton T-shirt produced, 12.7 m3 for every smartphone and 14 m3 of water for a pair of leather boots.
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I should also point out that agricultural commodities are not the only commodities that are guilty of consuming vast amounts of water. Take for example copper which stands out as one of the heaviest users of water outside the agricultural industry (Exhibit 1). And given the role of copper in the green transition, one can only fear for the impact on freshwater supplies that copper will have in the years to come.
The Chilean copper mines in the Atacama desert – the region that mines the most copper worldwide – have, in recent years, spent billions of dollars on desalination plants, as freshwater reservoirs in the region have been depleted. Chile is the only country in the world that has awarded water rights in perpetuity to private companies. The system was implemented in the 1980s by General Pinochet and has led to absurd amounts of water being used by Chilean mining and agriculture companies.
As a consequence, last year, President Boric changed the water rights system by capping the water rights to 30 years. At the same time, he awarded local authorities an option to cut the license short, should water supplies to local communities be at risk. In April of this year, President Boric went one step further, when he suggested that Chile should move to a state-controlled water management system. He was widely criticised for that, but it is in fact no different from how water is managed in other parts of Latin America and in Europe.
The latest on water scarcity problems
As readers of my work will be aware, I am convinced humans are guilty of the ongoing climate change, but I think the media, in their desire to go witch-hunting, often fail to tell the whole story. Having said that, in the context of water scarcity, who to blame becomes largely irrelevant. The world is rapidly running out of freshwater whether the changing climate is manmade or not. Therefore, in this paper, I shall ignore that question.
Water is the most important commodity on the planet, partially because humans won’t survive for more than a few days without it, partially because it is embedded in virtually everything we produce. We wouldn’t be able to produce any agricultural products without it, and it is rather concerning that key food-producing areas in Europe, Australia and USA are becoming drier.
According to the World Meteorological Organisation, 3.6 billion people – i.e. almost half of all people on the planet – have inadequate access to water at least one month every year. That number is expected to rise to over 5 billion by 2050. A few noteworthy facts:
1. Globally, demand for water has doubled since 1960.
2. The over 2 trillion m3 of virtual water being traded every year is expected to grow to 3 trillion m3 by 2050, partly as a consequence of population growth and partly because of rising living standards.
3. Lack of investment in water infrastructure makes an already challenging situation even more problematic (more on this later).
Data from World Resources Institute suggests that 25 countries are currently exposed to extremely high water stress levels, meaning that “they use over 80% of their renewable water supply for irrigation, livestock, industry and domestic needs” (source: World Resources Institute). Consequently, even short-term droughts put these countries in danger of running out of water.
Water stress is defined as the ratio of water demand to renewable supply. The smaller the gap between demand and supply is, the more vulnerable the country in question is to water shortages. A country which is deemed to face “extremely high” levels of water stress (Exhibit 2) is using at least 80% of its available supply. I note that large and densely populated countries like South Africa and India are amongst the 25.
Worldwide, the most water-stressed regions are the Middle East and North Africa, where 83% of the population is exposed to extreme levels of water stress, and South Asia (predominantly India), where 74% is exposed (Exhibit 3).
Extreme levels of water stress will get more and more common. By 2050, an additional one billion people are expected to live with extreme levels of water stress, and that number could be understated, if the global average temperature continues to rise. I also note that, by 2050, 100% of the population in the Middle East and North Africa are expected to live with extreme levels of water stress.
It is noteworthy that some of the driest countries on the planet are sizeable exporters of virtual water. Take for example Australia. According to World Resources Institute, it is one of the driest places on the planet; however, it also happens to be the fifth largest net exporter of virtual water worldwide with about 2,300 m3 of virtual water per capita being exported every year.
I also note that Uruguay (4,130 m3 per capita), Paraguay (3,770 m3), Argentina (2,810 m3), Guyana (1,430 m3) and Brazil (858 m3) are all sizeable net exporters of virtual water. Worldwide, they are #2, #3, #4, #8 and #12 respectively. Given the serious droughts in South America more recently, should that pattern continue, it could all end in civil unrest in the region.
This poses a serious dilemma for policy makers. Throughout South America, exporting livestock is a critical source of income for many communities but livestock, like most other agricultural products, require vast amounts of freshwater, hence why many South American countries are big net exporters of virtual water.
Take another look at Exhibit 2. As you can see, Chile is another country suffering from extreme levels of water stress. The political leadership in the country faces the dilemma between undermining important export industries like agriculture and mining and undersupplying local communities with freshwater.
The expected impact
Apart from the water needed to keep eight billion people alive, the biggest risk associated with dwindling water supplies is the risk it poses to food security. Today, over 60% of the world’s irrigated agricultural land faces extremely high levels of water stress. By 2100, with a projected population of about ten billion combined with higher living standards, the world will need to produce at least 50% more food calories than it does today — and that shall require massive amounts of water.
About two-thirds of the world’s freshwater flows cross national boundaries. Yet, less than 2% of all cross-border aquifers are governed by a signed agreement between the countries in question. The longest river in the world, the Nile, runs through no less than ten countries. Two of those – Ethiopia and Egypt – are regularly at loggerheads, as Egypt claims a new dam built by Ethiopia limits freshwater supplies to Egypt (see more on that story here).
The skirmishing in Africa is only one of many examples as to how local communities and, increasingly, entire countries are close to open warfare. I am sure it is only a question of time before we have an armed conflict between two countries going to war about access to freshwater.
The University of Maryland has provided one of the most provocative forecasts on water. One might agree or disagree with its conclusions but, if that is how it is all going to pan out, Globalisation 2.0 (one of ’our’ seven megatrends) will probably become the most investable megatrend of the seven we have identified so far.
In short, the researchers at the University of Maryland project that, in the years to come, most of the world’s virtual water exports will come from along the Amazon basin, the central US, northern India and parts of southern Canada and Russia, as that is where freshwater supplies are still plentiful. In plain English, this means that much of the world’s food production could migrate to these areas. Should that forecast prove correct, the implications for international trade are enormous. New trade alliances will be established, and new trade patterns will emerge – precisely what Globalisation 2.0 is about.
Why desalination is not always the solution
To many, desalination appears to be the obvious solution to water scarcity, but with desalination follows numerous problems, i.e. it is not as straightforward a decision as one might think. In this brief summary on the pros and cons of desalination, I shall try and keep it as simple as possible. For more details, I suggest you read the links under “Supporting Literature” at the end of this paper.
Arguing in favour of desalination, it is essentially about the survival of the human race. As water stress levels become extremely high in more and more areas, water scarcity will soon (within 10-20 years) become so extreme that they become uninhabitable. With that there will be an influx of refugees into the areas with less water scarcity. Europe is likely to be more affected by this than North America because of its proximity to North Africa.
So far, desalination has been the preferred response. As you can see in Exhibit 4 below, desalination takes place all over the world every day. Even in a relatively wet country like Denmark, the first permission to establish a desalination plant has just been granted. Lack of freshwater is no longer a ‘gift’ reserved for the world’s driest countries.
Before I go into the cons associated with desalination, I need to explain that there are two types of desalination – seawater desalination and groundwater desalination. Many Europeans assume that all desalination is about desalinating seawater, as we don’t desalinate much groundwater in this part of the world, but that isn’t the case. More and more desalination plants remove salt from inland, brackish groundwater – not from seawater.
Let’s start with seawater desalination, which is a major industry in Australia, the Middle East, costal parts of the US (California and Florida in particular), South Africa and the Mediterranean. When you desalinate seawater, only about half is converted to freshwater. The other half is a byproduct called brine, a highly salty mixture that is disposed of by discharging it back into the ocean.
This has proven a major problem for nearby marine life. In South Africa, more than one desalination plants have been dismantled in recent years, as they destroyed nearby aquatic life. In California, more and more applications to build seawater desalination plants are being rejected.
Desalinating inland groundwater causes fewer environmental problems, mostly because the water is less salty. Adding to that, it is much less expensive, making it an economically viable solution for many more countries (Exhibit 5). The biggest inland desalination plant in the world is in El Paso, TX – a plant which is capable of producing 27.5 million gallons (104 million litres) of freshwater every day. Texas is the worldwide leader in groundwater desalination, but the technique is growing all over the world.
That said, groundwater desalination is not without its fair share of challenges. As per APM Research Labs, “while there are fewer dissolved particles to remove from brackish [ground]water, it can be harder to dispose of the leftover waste. And though less energy is required to pump the brackish water through filters than sea water, more energy is sometimes required to pump it from its source.”
Groundwater desalination is growing faster than seawater desalination, partially because of the reduced environmental impact and partially because of the lower financial costs. In terms of how expensive seawater desalination is, a good example is the relatively new facility in Carlsbad, South California, which opened in late 2015. It ended up costing about $1 billion, more than four times the budgeted amount. For that hefty price, only 7% of San Diego County’s freshwater needs are covered.
Cost is indeed one of the biggest disadvantages associated with desalination. Going back to Exhibit 5 for a moment, although the cost of running a desalination plant has dropped over time, as you can see, the cost is still high compared to other potential water sources – a fact that has held me back from investing in water desalination so far. However, we are not far from the point where such a view no longer makes sense.
Investing in water
Given the significant environmental and financial costs associated with desalinating seawater, one could argue that authorities should prioritise groundwater desalination or, even better, prioritise water conservation, efficiency of water-use, stormwater capture and recycling of wastewater. At some point, when the energy used in connection with the desalination process is entirely green, the dynamics might change, but we are not at that point yet. So far, I have taken the view that the best way to invest in water is through:
- water conservation technologies;
- technologies that enhance the efficiency of water-use;
- technologies that allow us to capture stormwater; and
- wastewater recycling technologies.
Given the scale of the water supply problem, it is shocking how many households do not yet have a water meter installed. I expect water meter companies to have many years of robust growth ahead of them. In order to avoid total havoc, authorities are left with no choice. They must improve the discipline amongst water users and, in that respect, water meters have proven quite useful. It is grotesque how much water is still used to keep gardens looking pretty.
In my opinion, the water story is far from over; however, I am throwing in the towel on water desalination. Up to this point, for all the reasons mentioned above, I have drawn a line in the sand before investing in desalination stocks, as I have been (and continue to be) of the opinion that desalination is environmentally sub-optimal. However, I no longer think humanity can afford to ignore that solution. With this paper, I will ask my research team to look for investment opportunities in the desalination space.
Hardcore bulls may go for all types of desalination plants; however, I am of the opinion that groundwater desalination will grow faster than seawater desalination going forward. Therefore, I will encourage my team to focus on companies that mostly construct groundwater desalination facilities.
8 November 2023
25 countries, housing one-quarter of the population, face extremely high water stress
World Resources Institute, August 2023
Analysing Southern California supply investments from a human right to water perspective
UCLA – Luskin Center for Innovation, April 2019
Aqueduct 4.0: Updated decision-relevant global water risk indicators
World Resources Institute, August 2023
Climate change is driving a global water trade you can’t see
Bloomberg, October 2023
Comparison of desalination technologies using renewable energy sources with life cycle, PESTLE, and multi-criteria decision analyses
MDPI, September 2021
Inland desalination of brackish groundwater can provide a cost-effective alternative to other water sources
Save the Water, April 2017
The US is facing a water crisis: Could desalination be a solution?
APM Research Lab, April 2021
There are cheaper, more sustainable ways than desalination to meet our water needs
Singularity University, September 2022