OECD Environment director Lorents Lorentsen said the agricultural sector accounted for two-thirds of water use and could be better managed. He said the national water plan introduced last year could go further.
"Water is a scarce resource and it should be priced at the cost of distributing and supplying water," he said.
"You could say that God is providing enough rain and water but somebody has to pay for the pipes and pay for the supply of water."
The report also calls for stronger enforcement of environmental laws and responses to the degradation of natural resources.
Mr Lorentsen said the Federal Government’s overhaul of environmental programs last week under the Caring for Our Country banner had addressed many of the OECD’s concerns.
He said Australia’s significant achievements included protecting nature and biodiversity, creating the "innovative and ambitious" National Water Initiative in 2004 and its new climate change policies.
Federal Environment Minister Peter Garrett said Caring for Our Country, a $2.25 billion program, supported the report’s recommendation that the capacity of regional natural resource bodies be expanded.
"Many of the shortcomings this report identifies are those that we highlighted in opposition," Mr Garrett said.
Climate Change Minister Penny Wong said the timetable she released this week for the introduction of an emissions trading scheme answered the report’s call for a market price to be put on carbon.