Aerial view of about 557 square miles of U.S. agricultural land watered by the Ogallala aquifer.

Four years ago, the Chicago Climate Exchange was created as a way for companies to buy “carbon credits” to offset their greenhouse gas emissions. The market broke new ground by providing industries with a way to reduce their total emissions — either directly or indirectly — at the lowest possible cost. Today, carbon trading and is estimated to be a nearly $790 billion marketplace with individual, corporate and government participants. Now at least one member of the Chicago Climate Exchange sees a similar future in solving a more immediate environmental challenge: water pollution and shortages.

“When I got involved in carbon offset development, it became obvious that water was potentially a bigger market than even carbon,” says John Regan. Regan founded the Environmental Credit Corp., a carbon-credit supplier on the Chicago Climate Exchange; he is also the chairman of Biofinancial Corp., a Santa Cruz, Calif.-based family of hedge funds. “Carbon reduction is a relatively slow evolution,” Regan says. “It takes 25 to 50 years before you see the impact of what you do today. If you don’t solve the water impacts in five years, you’ll have a crisis on your hands.”

The idea runs roughly like this: Under a capand- trade system, water polluters have the option to reduce pollution in their own operations, or to purchase pollution-control credits from another source at a lower cost than if they undertook the pollution control themselves. In theory, a cap-andtrade system would achieve the same overall water-quality improvement at a lower overall cost.

And such programs don’t have to be limited to water-quality problems, either. Industries, farmers or cities could also conceivably buy and sell credits for water use, driving down the cost of water conservation and efficiency programs. But entrepreneurs like Regan are faced with the challenge of creating a market for water credits out of thin air. Traditionally, environmental trading systems are thought to work best (and sometimes only) when there is a regulatory “stick” driving exchanges. Currently, the Environmental Protection Agency has set total maximum daily load requirements for certain pollutants in water, but there is no broad, national cap-and-trade program for either water pollution or water use.

Embryonic local markets are emerging, however. Some small-scale water-quality credit trading programs — mainly to meet EPA waterquality requirements for phosphorus, nitrogen and heavy metals — already exist in at least 17 states and are being considered in four more. In the area around the Chesapeake Bay, for example six states and the District of Columbia are participating in a nutrient-trading program to reduce nitrogen and phosphorous loads that have caused a “dead zone” in the bay.

Regan is quick to point out that carbon trading has become popular despite the fact that the practice is still essentially a regional activity, led by the multi-state Regional Greenhouse Gas Initiative cap-and-trade program in the Northeast and the more recent Western Regional Climate Action Initiative. Even participation in the Chicago Climate Exchange, which now counts companies such as Intel, Ford and Cargill among its members, is still strictly voluntary (although many participating companies say they are trying to stay ahead of what they believe will be an inevitable cap on greenhouse gas emissions in the United States, along the lines of the Kyoto Protocol).