Insurance may help mitigate the devastating effects of drought. Credit, CIMMT.

Insurance may help mitigate the devastating effects of drought. Credit, CIMMT.

Agriculture is inherently an uncertain business. This is especially true in developing countries, where smallholder farmers often have less capacity to deal with shocks and stresses produced by climate change or market price fluctuations. Insurance is one tool that farmers can use to manage risk. With insurance, part of that risk – from weather, pest, disease or the market – is transferred to another party, who absorbs a share of the risk in return for a fee. When farmers suffer a loss, they claim for financial support from their insurer to mitigate part of the loss. Agricultural insurance is not a complete solution, but rather one component of a risk management strategy where constraints such as the lack of access to finance, improved seed and markets can also be addressed.[1] For example where drought is a severe problem, the construction of irrigation schemes maybe a more cost effective approach.

Weather station for weather-based insurance. Credit, Kilimo Salama

Weather station for weather-based insurance. Credit, Kilimo Salama

Crop insurance programmes are structured to support different types of losses. Damage-based indemnity insurance is calculated by measuring the percentage of damage in the field soon after the damage occurs. Yield-based crop insurance allows the farmer to insure a percentage of their average yield; if the actual yield is less than the insured yield, a pay-out is awarded. Crop revenue insurance guarantees the farmer a certain level of revenue from the insured crop. This insurance protects the farmer from shortfalls in the yield and also from market price fluctuations.

In developed countries agricultural insurance schemes are often large in scale covering thousands if not millions of mostly large-scale farmers. A critical factor is the cost of insurance provision. Insurers have to accurately assess the risks and measure the damage while at the same time providing farmers with affordable insurance premiums. Unless these conditions are met the insurance scheme is likely to be unsustainable. Recently a number of pilot projects that offer ‘micro-insurance’ have emerged. Generally, micro-insurance targets low-income smallholder farmers, with limited or no previous exposure to insurance and is based on an observable index.

Boys and catthle in Ethiopia. Credit, G. Berhane Tesfay, IFPRI.

Boys and catthle in Ethiopia. Credit, G. Berhane Tesfay, IFPRI.

Index-based insurance[2] is calculated by measures provided by meteorological stations, satellite data, or regional-level yield data. The general characteristics of index-based livestock insurance programmes are similar to those for weather and area yield. In 2008, fewer than 80,000 farmers benefitted from agricultural (crop and livestock) micro-insurance in Africa.[3] By 2011, the number of agricultural policies has tripled, now reaching almost 240,000 farmers in 14 countries, representing US$6.61 million in premiums.[4] For example, the Consultative Group for International Agricultural Research (CGIAR) Index-Based Livestock Insurance (IBLI) project uses forage measurements taken from satellites to identify seasonal forage availability. If forage falls below a certain level, pastoralists can use the pay-outs to buy extra feed, medicine for their livestock, or take other livelihood protection measures.[5]

Contribution to Sustainable Intensification

Micro-insurance protects smallholders from a total loss of income in the event of partial or total crop failure that would otherwise create food insecurity, indebtedness or further deprivation. The financial safety net that insurance provides may encourage smallholders to adopt production systems that are potentially more resilient, productive and more profitable, but involve greater financial risk. For example, insured farmers may be able to invest in long-term ‎Ecological Intensification methods such as ‎multiple cropping, ‎agroforestry or ‎conservation agriculture because they are protected if the investments are not immediately profitable, as is often the case with many on-farm improvements.

Benefits and limitations

Access to insurance

Access to agricultural insurance is generally very limited for smallholder farmers. Insurers often focus on urban or industrial risks and do not typically see commercial value in developing networks in agribusiness or in rural areas. Many types of insurance products available in developed countries, are not necessarily suitable for poor farmers in developing countries. For example, yield-based crop insurance is not generally suitable for smallholders because it is too expensive to measure production on a case-by-case basis, causing the premiums to become cost prohibitive.

Where insurance packages are available it can be risky for insurers to provide policies for agricultural activities. Common farming risks such as poor weather or pest and disease infestations tend to affect large numbers of farms at a time, causing pay-outs to be very high. This increases policy premiums rendering the insurance unaffordable for smallholder farmers and unattractive to insurers or re-insurers.[6] The high risk for insurers is why farm insurance in developed countries is heavily subsidised by governments, which may not be a realistic model for African governments to follow. Additionally, the attractiveness of insurance is often not clear for smallholder farmers[7] as many find paying for insurance when you may not actually get anything in return a difficult concept to understand.

Conventional insurance programmes may suffer from moral hazard, whereby farmers do not exert as much effort to avoid risk or its consequences. Moral hazard and adverse selection (whereby farmers know more about their risks than the insurer does), may lead to insurers charging higher premiums, or forego insuring altogether. Insurance that reduces moral hazard, adverse selection and fraud, such as policies indexed to national data systems, have the potential to increase access to insurance for smallholders.[8]

Weather based index insurance

Weather based index insurance may offer a potential solution to manage farmer risk as well as offer a product of interest to farmers and insurers. Assessments of 36 weather-based index insurance pilot programmes by the International Fund for Agricultural Development (IFAD) and the World Food Programme (WFP) highlight its potential for smallholder farmers. They find that index-based insurance can provide agricultural households with a way to mitigate production risk, which in turn allows them to make riskier, more-profitable investments to improve productivity or diversify their activities. Similarly, insurance can help households smooth income across years, with the possibility of improving longer-term outcomes through increases in agricultural production and savings, and increased investment in education and health.[9] Using reliable and objective weather data makes weather based index insurance more efficient and transparent, avoiding some of the moral hazard and fraud that require costly monitoring to deter. Further, in-field loss assessments are not required which reduces costs and time taken for pay-outs.

Despite some success, the World Bank reported mixed results from its index insurance pilots.[9] Most programmes have not moved beyond the pilot stage, especially when insurance is sold on its own (as opposed to being bundled with credit). It is unclear whether this is due to lack of demand, or barriers to uptake linked to affordability, or lack of trust. Technology can improve the affordability and scalability of micro-insurance. For example, remote sensing data for index insurance is being piloted in Senegal.[10] Index-based livestock insurance for northern Kenyan pastoralists is using satellite imagery to determine the potential losses of livestock forage and issue pay-outs to participating herders when droughts are expected to occur.[11]

Challenges to adoption

Farmers are preoccupied with risk – from weather, pest, disease or market – and often characterized as risk averse, unwilling to make adjustments or adopt new technologies for fear that the practice or technology will not work. This is especially true when the farmer must incur an upfront cost for which the benefits may be long to realize. Risk preferences are central to farmer decision-making and can inhibit the likelihood that they will adopt insurance programmes without adequate education and training. The cost of a policy premium is often assumed to be the main barrier to low adoption, but more likely is that the concept of paying for something that you might not need, or may not get back can be foreign and difficult to accept as a beneficial expenditure.

Access to formal agricultural insurance is generally very limited in developing countries. As a result, smallholders tend to rely on informal risk minimisation and coping strategies that are sub-optimal. Although the Landscape of Micro-insurance in Africa study reported a big increase in those insured, up to 240,000 households in 2011, representing US$6.61 million in premiums, this is still a small proportion of the African farmer population. The study also noted that cooperative insurance structures offered the majority, nearly 60%, of the products used.[12]

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Case Studies

Download These Case Studies (pdf)
Case study 1: Weather Based Index Insurance Rwanda, One Acre Fund
Rwandan farmer who benefited from insurance. Credit, One Acre Fund.

Rwandan farmer who benefited from insurance. Credit, One Acre Fund.

In Rwanda, all One Acre Fund (OAF) clients receive insurance as part of their service package of financing for farm inputs, seed and fertiliser, ‎‎training on agricultural techniques and market facilitation. As Rwanda is a small country, bad weather can affect a large proportion of farmers at the same time. Insurance is therefore an important part of the package offered by OAF, because without it farmers who invest by purchasing training and inputs would be at the greatest risk and may not be able to pay back their loans. Additionally, farmers who have lost everything in the previous season are more hesitant or unable to invest money back into their farms the next season.

OAF, in partnership with the Rwandan Ministry of Agriculture and Animal Resources and the Syngenta Foundation, launched a weather-based index insurance trial in Rwanda in October 2012 after a smaller trial earlier in the year proved successful. With this system, if rainfall is either too much or too little, the farmers’ credit is reduced according to the severity of crop loss. If there is total crop loss, the farmers’ entire loan may be forgiven.   A weather station was opened in partnership with the Ministry of Agriculture to measure the amount of rain during the cropping season. This information was then combined with data on how much rainfall key crops such as maize and beans need to survive. If the rain is either too much or too little for a decent harvest, a pay-out is awarded.

The insurance policy has already proved its value for those involved in the early trial, as rainfall levels were low in southern Rwanda during the January 2012-June 2012 growing season. As a result, OAF forgave a portion of affected farmers’ loans, allowing them to meet their repayment requirements and begin the September 2012-January 2013 season with a clean slate.[1]

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Case study 2: R4 Rural Resilience Initiative, Ethiopia & Senegal
HARITA update. Credit_Eva-Lotta Jansson Oxfam America

HARITA farmer. Credit, E-L. Jansson, Oxfam America.

The R4 Rural Resilience Initiative (previously the Horn of Africa Risk Transfer for Adaptation (HARITA) project) is a joint programme led by Swiss Re and Oxfam. Farmers are given the option to work on projects designed to reduce agricultural risk, such as improving the soil and reducing water run-off, in order to purchase weather-based index insurance. It gives farmers the option to pay for their premiums with labour, engaging them in community-led and locally designed climate adaptation initiatives such as ‎reforestation and crop irrigation projects in return for insurance. This programme has reached 29% of Tigray’s population.[1]

“R4” refers to 4 strategies for managing risk: risk reduction, risk reserves, risk transfer, and prudent risk taking. Building ‘risk reserves’ means that farmers build a financial base, either individually or as a group, which can provide a buffer for short-term needs in a response to shocks, aiding a farmer’s ability to cope with risk. Prudent risk taking allows the savings to be used as microcredit, allowing farmers to create an asset base.

The programme has since been scaled-up from 200 Ethiopian farmers in the original 2009 HARITA pilot in Tigray, to more than 24,000 farmers across 81 villages by 2014. From 2009-2012, insured farmers increased their savings by an average of 123% more than their uninsured counterparts. In some districts farmers with insurance were able to increase their number of oxen, while others enjoyed increased reserves of grain. For example, in Kola Tembien, farmers who bought insurance in both 2010 and 2012 increased their grain reserves by 254% compared to those who never bought insurance. Farmers who bought insurance also displayed a greater ability to diversify their income sources.[2]

An additional 2,000 farmers in Senegal also benefitted from the R4 initiative in 2014, following the 2013 Senegalese launch of the scheme.[3] Farmers report that they see insurance as a form of saving which helps them survive the inevitable droughts. One farmer said “it saves your money in time of good harvest and compensates you when the rains are not good. On the other hand, you benefit from increased yields as a result of the inputs and knowledge when the harvest is good.”

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Case study 3: Agriculture & Climate Risk Enterprise (ACRE), East Africa
Farmers with phones. Credit, Kilimo Salama.

Farmers with phones. Credit, Kilimo Salama.

The Agriculture and Climate Risk Enterprise (ACRE), formerly known as Kalimo Salama, is a combined micro- and macro-insurance scheme. It is the largest index insurance programme in the developing world and in sub-Saharan Africa, offering products for both smallholder and large scale producers. The price of the policy premium depends on what kind of insurance the farmer is purchasing. For example, livestock insurance costs 3.5% of the value of each animal. Farmers are required to purchase an animal care package as a condition of the insurance, which ensures cattle are not lost to common and preventable diseases. A study in Zambia showed that this reduced cattle mortality rates from 22% to 1.6%.[1]

Cooperatives such as the Tanykina Dairy Cooperative in Kenya pre-finance the premiums then deduct the amount owed once the produce is delivered. This removes the upfront cost to the farmer and makes the cost more manageable. The programme bypasses expensive farm visits and instead measures loss through automated weather stations and mobile payments. These instruments dramatically reduce administrative costs and enables insurers to offer a more affordable premium policy for smallholders.[2] One study showed that insured farmers had 16% more earnings and invested 19% more compared to their uninsured neighbours. In 2012, around 177,780 farmers received $8.4 million in financing, in part due to ACRE’s index insurance products. Further, many would not have been able to access credit without an insurance policy to serve as collateral.[3]

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