A Two‐Phase Model for Trade Matching and Price Setting in Double Auction Water Markets

Abstract

AbstractDelivery in water markets is generally operated by agencies through channel systems, which imposes physical and institutional market constraints. Many water markets allow water users to post selling and buying requests on a board. However, water users may not be able to choose efficiently when the information (including the constraints) becomes complex. This study proposes an innovative two‐phase model to address this problem based on practical experience in China. The first phase seeks and determines the optimal assignment that maximizes the incremental improvement of the system's social welfare according to the bids and asks in the water market. The second phase sets appropriate prices under constraints. Applying this model to China's Xiying Irrigation District shows that it can improve social welfare more than the current “pool exchange” method can. Within the second phase, we evaluate three objective functions (minimum variance, threshold‐based balance, and two‐sided balance), which represent different managerial goals. The threshold‐based balance function should be preferred by most users, while the two‐sided balance should be preferred by players who post extreme prices.