Moral hazard and subsidized crop insurance

Abstract

Along with adverse selection, moral hazard is one of the major hurdles that private and public insurance plans must contend with. Moral hazard occurs if risks are endogenous to a producer's behavior and if the insurer is unable to properly monitor the insured. We review the role of moral hazard in the US crop insurance program. We conduct an empirical analysis of one important aspect of the US crop insurance program—prevented planting. This provision provides indemnity payments if conditions are not suitable for planting. The program has been the subject of considerable controversy, especially during 2019, when the rate of claims is expected to be especially high. Because loss adjustors may encounter difficulties in assessing the weather conditions associated with prevented planting claims, the program is susceptible to moral hazard. We consider the extent to which prevented planting claims may be endogenous to prices. We find significant evidence of moral hazard. The likelihood of prevented planting claims increases as the expected market price decreases or as fertilizer costs increase for corn and soybeans in the Prairie Pothole Region and for grain sorghum and cotton in all states.

Design principles for agricultural risk management policies

“…Thus, what is "catastrophic" is less useful as an absolute measure and more related to specific characteristics of the crop/region in question, keeping in mind that these conditions may be changing due to climate change. 6 Other international negotiations are also affecting development of (and support for) risk management policy tools. Specifically, the 2014-2020 European Common Agricultural Policy (CAP) included provisions for support for risk management tools under Pillar II on Rural Development through the adoption of EU Regulation No 1305/2013.…”

“…If the amount of the co-payment exceeds the expected gain of the indemnity payment, producers have fewer incentives to deviate from best management practices 6. An alternative definition would be to describe "catastrophic" loss in terms of the individual loss distribution.…”

Willingness to Pay for Multi-peril Hazard Insurance

“…A multitude of complicating factors, however, have been identified that challenge a sustainable multi-peril crop insurance market. Both adverse selection and extensive moral hazard have been shown to be significant issues (Just, Calvin, and Quiggin 1999;Wu, Goodwin, and Coble 2020). Additionally, farming tends to be regionally concentrated leading to high spatial correlation in risks which make it difficult for an actuarially sound private crop insurance market to emerge (Miranda and Glauber 1997).…”

Demand for Crop Insurance in Developing Countries: New Evidence from India

“…Even in developed countries, there is not much evidence to suggest that risk aversion among farmers is high enough to pay for purely private actuarial premiums (Goodwin, 2001; Smith and Glauber, 2012). Traditional indemnity‐based insurance programmes are subject to a myriad of well‐documented challenges, including information asymmetries in the form of moral hazard and adverse selection (Hazell, 1992; Morduch, 2006; Barnett and Mahul, 2007; Miranda and Farrin, 2012; Wu et al ., 2019) and ambiguity aversion (Elabed and Carter, 2015). They are also prone to other challenges, including high administrative costs (in particular, the cost of assessing losses), and covariate risks that translate into either higher risks of insolvency or which increase the cost of reinsurance.…”