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Bundling Drought Tolerance & Index Insurance to Manage Drought Risk Travis J. Lybbert & Michael Carter University of California, Davis Intl. Consortium.

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Presentation on theme: "Bundling Drought Tolerance & Index Insurance to Manage Drought Risk Travis J. Lybbert & Michael Carter University of California, Davis Intl. Consortium."— Presentation transcript:

1 Bundling Drought Tolerance & Index Insurance to Manage Drought Risk Travis J. Lybbert & Michael Carter University of California, Davis Intl. Consortium on Applied Bioeconomy Research Ravello, June 2013

2 Three Basic Ideas 1.Risk and vulnerability as experienced by poor households is often complex and nuanced 2.Reducing household vulnerability requires an appreciation of these complexities 3.Promising agricultural technologies may be necessary but are rarely sufficient We illustrate these ideas using drought vulnerability and drought tolerance

3 The (Historic) Geography of Drought

4 Drought Vulnerability

5 Food Security Implications of Drought We often think of subsistence agriculture… …but most vulnerable households are net food buyers The drought burden in food security terms is as much a reflection of local and regional agri-food markets as it is small-scale agricultural production

6 Implications for Sociopolitical Stability? Precipitation change 1971-2010 (Hoerling et al. 2011)

7 The Smallholder Drought Burden Drought may be a universal lament among farmers, but spatial drought heterogeneity is massive A pure subsistence burden is the exception rather than the rule Poorly functioning or missing credit / insurance markets therefore amplify drought vulnerability Drought events can harm the poor directly An obvious, ex post burden The threat of drought is like a bully A hidden, ex ante burden Can outweigh the ex post burden!

8 Bundling Agronomic & Financial Innovation to Reduce Drought Vulnerability Recent innovation in both drought tolerance and index insurance Investments, hype, hope…some results In isolation, each has a limitation DT cant tolerate extreme drought Full DII may be too expensive for many Properly bundling the two may help resolve these limitations due to a natural complementarity

9 Ex Ante v Ex Post Drought Burden (Elbers et al. 2007) Hidden ex ante burden

10 Interventions to Reduce Drought Burden TypeExamples Acute Relief Food aid and humanitarian aid Refugee security and support Cash transfers and vouchers Agronomic Breeding staple crops for better drought resistance and early maturity Resource conservation and other agronomic practices Supplemental irrigation Extension to promote adoption of improved inputs and practices Financial Income diversification and livelihood support programs Microcredit and savings Insurance Infrastructural & Informational Dams, canals and drains Improved roads to reduce transport and transactions costs Improved weather information and climate models Better daily, weekly and seasonal weather forecasts

11 Drought Tolerance Longstanding breeding objective…with new tools, renewed promise and high hopes Massive private sector investments from Pioneer, Syngenta, Monsanto and others New DT seeds being released

12 US Drought Tolerance Prospects The reported average DT maize yield benefit in U.S. in 2012 was 5-10 bu/ac (5-17%) This yield benefit is conditioned on drought severity and is therefore stochastic

13 Drought Tolerance For Smallholders Public research and development funding has prioritized DT in a big way in the past decade Drought as the universal lament of farmers Public-private partnerships (e.g., Drought Tolerant Maize for Africa, Water Efficient Maize for Africa, etc.) But rich droughts and poor droughts are not alike * Sort of. Maybe. Sometimes. *

14 DT Benefits & the Nature of Drought 50 bu/ac is the 90 th percentile of maize yield in Ethiopia! Moderate ExtremeSevere Moderate

15 Non-Monotonic DT Benefits Reduce Value of DT to Smallholders and Slow Learning (Lybbert and Bell 2010)

16 Index Insurance Championed recently as a promising alternative to conventional crop insurance Contract tied to index that is correlated with individual outcomes to dodge moral hazard and adverse selection problems Basis risk and transparency tradeoffs A growing set of experiences and rigorous evidence suggests that it may reduce both the ex post and the ex ante drought burden Unlike DT, drought index insurance payouts are monotonically increasing in drought pressure

17 Index Insurance Experimentation Rainfall China, India, Malawi, Nicaragua, Ethiopia Satellite Mexico, Kenya, Ethiopia Satellite + Rainfall Ethiopia, Kenya, Mali Area-yield Peru, Ecuador ENSO Peru

18 Drought Index Insurance (DII) Prospects o Will smallholders pay actuarially fair prices? o How sustainable will index insurance markets be? In contrast to DT, the marginal costs of providing DII are high Beyond pilots public support for DII will be limited Financial and commercial viability critical for DII Price elasticity of demand for DII is thus critical Price has often limited uptake of index insurance

19 DT-DII Complementarity Net Benefit

20 Calibrating a DT-DII Product: Ecuador Rainfed, drought-prone maize production in Guayquil (2001-2011) Assume DT maize confers yield benefit of 20% at optimal drought, which fades with less/more severe drought pressure Area-yield index insurance product calibrated and priced according to historic maize yield How would a DT-DII bundle compare to DT and DII in isolation?

21 Traditional v (Stylized) DT Maize Yield Distributions

22 Yield-Earnings Profiles

23 Whats a bundled DT-DII product worth? Ecuador Calibration Results Lessons from the Biotech Yield Endorsement pilot of USDA/RMA Bundling with index insurance eliminates threat of audits and monitoring – but other implementation challenges remain…particularly in developing countries

24 In Summary… All farmers fear drought, but spatial heterogeneity implies important differences in the drought burden DT crops may partially lift the ex post drought burden, but drought will continue to bully many poor households Index insurance is promising but can be expensive – and is harder than DT to sustain through public support A DT-DII bundle may resolve these limitations – now is the time to calibrate, experiment and evaluate Improving food security will require more than a technocentric build it and they will come approach – must appreciate the smallholder perspective on climate change adaptation and associated risks

25 Thank you

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