Integration of index-based insurance into water supply portfolios to support equitable urban water management in the Global South

Increasingly frequent and severe droughts challenge urban water supply managers worldwide. Measures to guarantee urban water supply reliability and security, such as infrastructure investments and temporary restriction and conservation, can exacerbate financial risk for water utilities. In response, water utilities often utilize surcharges - temporary increases in water prices - to increase revenues during droughts and mitigate their financial risk.  However, in cities where water supply challenges are compounded by high social inequality, these measures may raise the costs of water services to socially disadvantaged communities to an intolerable level. This study explores opportunities and tradeoffs of integrating index-based insurance into water supply portfolios for the Federal District of Brazil (FDB), a region that exemplifies many challenges present in cities of the Global South. We compute and comparatively analyze different water supply management pathways using WaterPaths, a state-of-the-art open-source exploratory modeling software designed to support water supply portfolio management. We test four different policy architectures across 999 realizations of flow, demand, and evaporation for a 5-year horizon. (1) no financial mitigation: policy considering only water supply restrictions and water transfer during drought scenarios; (2) surcharges: policy considering restriction measures, transfers, and surcharges; (3) index-based insurance: policy with restriction measures, transfers, and index-based insurance payment; (4) hybrid policy: policy with restriction measures, transfers, surcharges, and index-based insurance. Results indicate that incorporating index-based insurance into water supply portfolios can minimize the financial risk for water utilities while lowering the financial burden on vulnerable water users. Considering that insurance companies are risk neutral, these results indicate that integrating index-based insurance in current industry practices and water management portfolios can bring financial relief to households without imposing a substantial cost to water utilities.