The objective of this paper is to discuss how policy makers may deal with irrigation water pricing under asymmetric information, positive transaction costs on payments and cost recovery constraints. The issue is dealt with through the development of a principal agent model and its application to a pilot case study in Emilia Romagna, Italy. The results show that using a menu of contracts may improve the overall social welfare derived from irrigation. However, differences in performance among instruments (and hence the choice of the optimal pricing strategy) are critically determined by the amount of the full cost of water and of transaction costs. Moreover, differentiation among farmers may encounter policy obstacles as a potential source of conflicts.

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