Jiang Zhenzhong is watching, helpless, as his farm at the edge of the Gobi desert runs out of water. His cotton fields are close to the dwindling Crescent Moon lake in north-eastern China. The lake is famous throughout China, attracting a million visitors a year, but now it looks more like a village pond, encircled by railings and fading fast as the desert sucks up more and more water. In the 1960s, the lake used to be 10 metres deep – now it is barely one metre.

Jiang's farm is in Mingshan village, at the foothills of 500-metre sand dunes near Dunhuang, a key staging point on the ancient Silk Road that linked East and West for hundreds of years. The desert threatens to engulf the village, and the ancient town itself, which has seen its population soar from less than 40,000 people in the 1950s to nearly 200,000 today.

The disappearing lake at this point of the Silk Road is the most powerful symbol of an emerging water crisis. The fields around the village are brown and desolate, and it is hard to imagine how anything could grow here. Two years ago the farmers were ordered to stop digging thousands of wells to irrigate their cotton fields because the water simply was not there any more. Many of Jiang's friends have already left for the city, joining the ranks of millions of migrant workers leaving poor provinces like Gansu, but Jiang is defiant, saying he's planning to stay until the last drop of water is gone.

However, the pressure to find the money to send his nine-year-old daughter to high school is making life hard.

"The water is less and less every year, and without water we can't grow the crops," said Jiang, who wears a baseball cap at a jaunty angle and smokes copious cigarettes as he sits on a stool surrounded by drying cotton. The family's annual income is around 7,000 yuan (£450) once fertiliser and other costs have been paid. By his reckoning, it would cost 5,000 yuan a year to send his daughter to high school, so she may have to join her 15-year-old sister working on the farm. But he is staying positive. The family earns enough for him to be able to afford a motorbike and a television. "We have a 21-inch set – big TVs are bad for your eyes. I use the bike to bring the kids to school. Kids have it good these days, don't they? We had to walk to school in our day," he said, smiling.

The lot of the average farmer is improving, but costs are rising because there is less water to go around. "It's only rained three times this year, and the harvest is down," he said. The house has running water and a solar panel on the roof heats water during the freezing winters. Life is better than 10 years ago, and there are more jobs around, but you have to travel to get work. "Life is not easy for farmers, you have to be ready to do jobs other than farming," said Jiang.

The government in Beijing acknowledges desertification as the biggest environmental challenge holding back sustainable development, and has pledged to control the country's spreading deserts, which already cover a fifth of its land.

The question is what can be done. China's environmental watchdog, Sepa, says the desert's march is claiming a million acres of land every year, and soon 40 per cent of China could be lost to the creeping sands brought in by worsening sandstorms. Millions of tons of sand from the Gobi desert are dumped on Beijing by sandstorms every spring, and Chinese dust makes its way into the skies above cities as far away as Los Angeles. China suffers from a shortage of 30 billion cubic metres of water for irrigation every year. And while China has more than 20 per cent of the world's population, it has only 7 per cent of its arable land, precious farmland that the desert is slowly but surely eating its way into. This could result in higher food prices throughout China, a potential disaster given 750 million people live on less than £1 a day and can ill afford more expensive rice and other staples.

Elsewhere in Gansu, the desert has almost covered Minqin County where many dams were built, and is now moving at the rate of eight to 10 metres a year along the chain of oases known as the Hexi Corridor. In the past few decades, Dunhuang's main rivers have been drying up, its lakes have been disappearing, its underground water supplies have shrunk and its oases have degenerated. The city has also had to withstand stronger and more frequent winds and sandstorms.

The narrow road through the dusty fields in this area is set against a towering backdrop of sand dunes, the highest of which is 1,715 metres above sea level. Everywhere there are billboards ordering farmers to conserve water, not to dig wells and reminding them that all water distribution in this area is the job of the local government. Water is distributed three or four times a month from a reservoir of the Dong river.

The desert also threatens to swallow up the Mogao grottos near Dunhuang, a centuries-old site known as the Caves of the Thousand Buddhas, which house cave-temple murals and manuscripts dating back to ancient times. Up at the lake, Song Yun remembers happier days for the once-majestic lake. Born in the year of the Chinese revolution, 1949, Song harkens back to the 1950s when the lake was a place to swim and play. "You could just scoop the water out of the spring and drink it," he said.

Beside the lake stands a large pavilion, built in neo-classical Han Chinese style. It now dwarfs the lake below. Previously there was a Buddhist temple at the lake, but Red Guards destroyed that during the Cultural Revolution (1966-1976), locals say.

Song points to a mark where the water level used to reach. "The biggest shortage we have at Dunhuang is water. It's disappearing because the water table is falling and the spring is not producing as much as before. The trees won't grow, because there is not enough water. It was used up by farmers when irrigation started in the 1970s and the underground water started to diminish," said Song.

He has abandoned farming – there is not much work to be done on the farm now and his family can take care of it – and is wearing a baggy uniform and carrying a loudhailer in his new job as security officer at the lake.

"Beyond that sand dune over there is the desert," he said, pointing with the megaphone. The looming dune makes this an ominous prospect indeed. People are sliding down the sand dunes on trays, while groups of camels, their riders wearing luminous orange shoe coverings, traverse the desert beside the lake.

Shaking his head resignedly, Song interrupts our conversation to go and rescue an errant tourist who has gone walkabout in the dunes, before returning to the topic close to everyone's heart. "Our place just needs water. If we have water we can grow all kinds of things," he said.

Xu Anming, 41, is visiting the lake with a group of friends. "I come from Yangzhou, in Jiangsu province – it's [former supreme leader] Jiang Zemin's home town. There is less water here than before, we all read about it in the newspapers and saw it on TV. Everyone knows," he said. As he speaks, his friends are arranging complicated photographic tableaux behind him, aimed at getting as much of the dunes, the dwindling lake and the travelling companions into shot at once. "The water is less, but there are good policies from the local government," said Xu.

The Jiangsu visitors are expensively dressed and carrying state-of-the-art cameras and video recorders, in sharp counterpoint to the Gansu residents. The Gansu government has pledged to spend 1.93bn yuan improving the environment and has made numerous efforts to stop the level of the lake sinking.

The ground water level is dropping 40cm a year and the oasis is getting smaller, fast. Even Premier Wen Jiabao has mentioned the importance on several occasions of "healing Dunhuang". The Water Resources minister, Chen Lei, said recently that an annual water shortage of nearly 40 billion cubic metres in China can be blamed on global warming. "The changes have led to a combination of both frequent drought and flooding," he told the China Daily newspaper. However, rising consumption is also playing a part, as well as pollution. Rainfall in many parts of northern China is down 12 per cent. It is frustrating for people who have tilled the fields for many generations. In one cotton field, a farmer and his family scratch desperately at the dry earth. When one of the farmers sees the foreigners he waves his pitchfork at us, angry. His gesture raises only a cloud of dust.

In a neighbouring field, He Zicheng, 50, is clearing a field with his son Wei, loading the brush from the cotton fields on to a cart. His nine sheep nose around, seeking mouthfuls to nibble on. Slim pickings. "Without water the cotton doesn't grow well. Ten years ago we had more water, but there were too many wells and now we have this," he said. Behind him, the mighty dunes seem to be getting closer as he speaks.

Interesting? Click here to explore further