Agricultural index insurance indemnifies a farmer against losses based on an index that is correlated with, but not identical to, her or his individual outcomes. In practice, the level of correlation may be modest, exposing insured farmers to residual, basis risk. In this article, we study the impact of basis risk on the demand for index insurance under risk and compound risk aversion. We simulate the impact of basis risk on the demand for index insurance by Malian cotton farmers using data from field experiments that reveal the distributions of risk and compound risk aversion. The analysis shows that compound risk aversion depresses demand for a conventional index insurance contract some 13 percentage points below what would be predicted based on risk aversion alone. We then analyze an innovative multiscale index insurance contract that reduces basis risk relative to conventional, single-scale index insurance contract. Simulations indicate that demand for this multiscale contract would be some 40% higher than the demand for an equivalently priced conventional contract in the population of Malian cotton farmers. Finally, we report and discuss the actual uptake of a multiscale contract introduced in Mali.JEL classifications: D81, O12, O16, Q12, Q13 (M. R. Carter). # Work completed when Bellemare was at the Sanford School, Duke University.1 Boucher et al. (2008) call this outcome risk rationing. Risk rationing occurs when lenders, constrained by asymmetric information, shift so much contractual risk to the borrower that the borrower voluntarily withdraws from the credit market even when she has the collateral wealth needed to qualify for a loan contract.2 In a recent paper, Karlan et al. (2012) find that farmers invest more in their farms and take riskier production choices when offered rainfall index insurance.
A strong food and agriculture system is fundamental to economic growth, poverty reduction, environmental sustainability, and human health. The Agriculture and Food Series is intended to prompt public discussion and inform policies that will deliver higher incomes, reduce hunger, improve sustainability, and generate better health and nutrition from the food we grow and eat. It expands on the former Agriculture and Rural Development series by considering issues from farm to fork, in both rural and urban settings. Titles in this series undergo internal and external review under the management of the World Bank's Agriculture and Food Global Practice.
Purpose -While behavioral economic experiments have uncovered a wealth of insights concerning how people decide in the face of risk and uncertainty, the implications of these insights for the demand for agricultural insurance are under-explored. The purpose of this paper is to report on results from two recent field experiments that measure the extent to which farmer behavior departs from the predictions of expected utility theory and derives the implications of these departures for insurance demand. Design/methodology/approach -Framed behavioral field experiments were played with random samples of West African Cotton farmers who lived in areas that were being incorporated into a cotton insurance pilot program. Findings -Substantial numbers of farmers depart from expected utility behavior in ways that predict excess sensitivity to uncovered basis risk in insurance contracts; and, the fact that insurance premiums are typically framed as certain and unavoidable, while benefits are unknown and stochastic. Originality/value -Using novel field experimental methods, the work summarized here indicates that more careful design of index insurance contracts in conformity with the findings of behavioral economics could result in larger contract uptake and, ultimately, larger development impacts.
The evolution of olive oil markets has sparked interest in policies that promote olive oil as a means of inducing rural development across the Middle East and North Africa. This article describes policies that link olive oil markets to rural development in Morocco, Syria and Tunisia and evaluate their effectiveness. It uses a framework that combines producer heterogeneity and market differentiation to describe how rural poverty impacts will be shaped by production, quality and marketing constraints. While the flow of olive oil from producers to the market may have increased, that of information and incentives in the reverse direction is still limited, something that too few olive oil policies aim to improve.
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