Download Climate Insurance for Crops: Case Study of Weather Index

6
CAPSA palawija newsletter
SHORT
ARTICLE
Climate Insurance for Crops: Case Study of
Weather Index Insurance for Agriculture in
Thailand
By Takashi Hongo
What is Weather Index Insurance
for Agriculture?
level. A benefit of index-based insurance, such as
WIIA, is quick and transparent payment.
he agriculture sector is recognized as highly
vulnerable to climate change due to its
reliance on weather conditions. To alleviate
the impact of the damage triggered by climate
change, two options are available to planners:
prevention and mitigation of damage with the
construction of physical infrastructure (physical
measures) and financial assistance for recovery
from the damage (economic measures).
Index insurance products offering a hedge
against extreme weather risks are already
available in many countries such as Japan and
the United States and within the European Union.
There are similar schemes for agriculture
products, although insurance for this sector is not
yet common in developing countries.
T
The Weather Index Insurance for Agriculture
(WIIA) is an economic measure designed to
mitigate the financial damage. It is a proactive
approach for farmers who are particularly
exposed to climate change risk:



Takashi Hongo
Senior Fellow, Mitsui Global
Strategic Studies Institute,
Tokyo
Farmers buy an insurance policy that covers
specific agricultural crops in the event of
damage caused by extreme weather
conditions.
Farmers pay the insurance premium out of
their pocket.
Farmers receive an insurance payment when
pre-determined conditions specified in the
policy occur.
With insurance schemes generally, there are two
ways to determine the pay-out to farmers: through
verification and based on an index. Conventional
insurance is of the verified type, such as
automobile insurance. When a car is damaged in
an accident, a verifier (claims adjustor)
investigates the damage and decides the amount
of compensation. Compensation with this method
typically takes time, especially when an insurance
company receives numerous claims from a
particular event. The index type does not require
verification, and the company pays automatically
when a pre-determined numerical threshold is
reached, such as the amount of precipitation
or—as with ice cream in cold summer
insurance—temperature. Sales of ice cream are
typically strong in the summer but turn sluggish in
a cold summer. An index insurance policy would
compensate for the decrease of sales income
when the temperature goes below an agreed
Index insurance innovation in
Thailand
In cooperation with the state-owned Bank for
Agriculture and Agricultural Cooperatives (BAAC)
and the Japan Bank for International Cooperation
(JBIC), Sompo Japan (Sompo Japan Nipponkoa
Insurance, after September 2014), a prominent
insurance company, developed WIIA for Thailand
in 2010.
The WIIA was designed to mitigate the economic
damage that independent farmers suffer due to a
drop in rice production because of low
precipitation in July, August and September. This
product is offered to farmers who receive a loan
from the BAAC. When the level of precipitation
reaches the pre-determined condition, the
insurance payment is made—to be partially used
for repayment of the BAAC loan. In 2012, the
WIIA insurance premium ranged from 464 baht to
4,640 baht, depending on the loan amount, and
was equivalent to 15-40 per cent of the loan. The
premium and coverage amounts were based on
historical data and affordability for farmers.
In its first year of availability (2010), the WIIA was
sold in Khon Kaen Province to 1,158 farmers; the
following year it expanded to five provinces and
more than 6,000 farmers purchased coverage.
The Sompo Japan strategy set out to expand in
increments, adjusting the policy details along the
way for the best fit. In 2014, the WIIA was
available in 17 provinces.
Thailand's WIIA model has been showcased in a
variety of platforms as an innovative financial
product.
Vol 32. No 3. Dec 2015
Sompo Japan offers weather insurance for agriculture in Thailand
Premium
Sompo Japan
Sompo Japan Insurance Contact
(Thailand)
Sompo Japan Group
Insurance Payment
Insurance payment based
on precipitation in July alone
Insurance payment based
on accumulated
precipitation in August and
September
Offering period of
Weather Index
Insurance
April/May
Measurement of
accumulated of
precipitation in
August and
September
Determination of
precipitation in
July alone
July
August/September
* When the accumulated precipitation in July alone meets the criteria for the payment of insurance payment,
this insurance contract will be terminated
Source: Sompo Japan
Development of WIIA in Thailand
In 2007 when JBIC was looking to develop
mechanisms that would reduce global climate
change adaptation costs, it assembled a group of
experts to study the feasibility and potential of the
WIIA. The group included Sompo Japan.
Following this study, Sompo Japan initiated a
feasibility study with BAAC, which was keen to
launch the WIIA. The BAAC mission is oriented
towards stabilizing the local economy, and the
bank was eager to create financial services for
farmers to help them reduce the impact from
damage caused by weather events.
Sompo Japan and BAAC agreed to start with rice
crop insurance in the north-eastern region of
Thailand because of the importance of the crop to
farmers there. Rice is harvested twice or more in
a year but production is largely dependent on
rain-fed irrigation, making livelihoods and the
economy highly vulnerable to extreme weather,
particularly drought. Sompo Japan and BAAC
decided to offer insurance coverage for the first
crop in October because it is the major income
source for farmers. Their analysis of the historical
data indicated that precipitation in summer is
critical for rice production, and therefore shortfall
in precipitation in July, August and the first half of
September became the basis to trigger insurance
payment.
Insights
Because it was the first commercial index-based
agricultural insurance in South-East Asia, the
WIIA experience in Thailand offers several useful
lessons.


Local partnership: Farmers were not familiar
with insurance in general, and this was the
first time they had been exposed to
agricultural insurance. The WIIA scheme was
well accepted in Khon Kaen Province, where it
was introduced. Among the reasons for its
success was the partnership with BAAC, the
state-owned bank in Thailand with a long
history of supporting farmers. The BAAC sold
the WIIA insurance policy as an option with
the loans it granted which gained the trust of
the farmers for weather insurance. The
partnership with BAAC was arranged by JBIC
which had good cooperation with the bank.
Availability of data: Historical data on
weather, rice production and incomes is
necessary to develop the required WIIA
insurance model. The 10-30 years of historical
data that is required to develop the model can
be a formidable barrier. Although not available
as a statistical database, basic data was
accessible in Khon Kaen Province, with BAAC
also finding some of the needed data through
its networks.
7
8
CAPSA palawija newsletter

Premium payment capability: In northeastern Thailand, rice is a commercial
commodity for which famers could afford to
pay the required premium for insurance
coverage. Additionally, coupling of the
insurance premium with the loan contract
helped ensure that farmers did not find it to be
an extra burden.


WIIA versus other measures
Physical structures, like an irrigation system or a
dyke, can prevent and mitigate damage
associated with extreme weather events if they
are properly designed and constructed. However,
it takes time for construction and the cost can be
huge. Moreover, they are unlikely to be able to
prevent all possible damage. For instance, in
Japan, a tsunami breakwater structure was
designed under certain assumptions of frequency
and magnitude such as once in 100 years.
However, as the Great East Japan Earthquake
demonstrated, the tsunami was bigger than the
design assumption.
Combining physical measures with economic and
monetary measures can be a practical solution to
address the damage. A conventional economic
measure is 'relief money', to be paid when people
are affected by a disaster. Governments at the
central and local levels support the recovery of
livelihoods through this relief money. It is shortterm emergency support, however, and
insufficient to cover the cost for a full recovery.
Relief money is thus a minimum safety net.
A government-driven national insurance scheme
is an effective option, although it takes time to
establish. The National Agricultural Insurance
Association in Japan (NOSAI Zenkoku), which
was established in 1940 under the Agricultural
Insurance Act, is an example of an organization
which implements a national scheme. NOSAI
Zenkoku sells seven types of insurance coverage
for agricultural products, farm equipment and
structures such as greenhouses. Farmers, as
members of the association, pay the premium for
the insurance, although the Government of Japan
subsidizes half of that payment because the
scheme is regarded as integral to the social
safety net system.
WIIA is a viable option to supplement relief money
and other measures mentioned above.
Potential and further development of
WIIA
With accommodation for the following issues,
WIIA can become a nationwide programme in
many countries.


Flood risk cover: According to scientific
studies, the hydrological cycle will be heavily
impacted by climate change, and, in the area
covered by the South-East Asian monsoon,
the risk of both flood in the rainy season and
drought in the dry season will become greater.
Farmers need products to cover the damage
caused by drought as well as flood.
Data collection: Basic data were available for
the case of north-eastern Thailand, but data
collection is generally not easy. To construct
insurance models for other regions,
government support for data collection is
essential. Satellite data may be useful but is
insufficient to establish the required database
for an insurance model.
Subsidies for reducing burden: The WIIA is
a self-defence type of instrument, and it can
be very helpful in stabilizing the local economy
affected by climate change. Its benefits are
enormous, and with it, a government can save
on expenditure for national safety nets.
Government subsidy for the product thus
would be worthwhile, such as a subsidy for
half of the premium.
Underwriting risk: In the early stages of this
type of product, individual insurance
companies absorb the associated risk. When
the product becomes widely adopted, the
underwriting risk will exceed the capacity of an
individual company, and it will be necessary to
use a re-insurance mechanism.
Global adoption of the WIIA can be promoted
through the establishment of an international
body, with the functions of underwriting the
overflow risk, supporting construction of an
insurance model and building up the capacity of
local insurance companies that sell WIIA.
Conclusion
The Fifth Assessment Report of the
Intergovernmental Panel on Climate Change
(in 2014) showed that climate change is
increasing the probability and scale of extreme
events, such as drought, flood, heatwave and
heavy storm. It is imperative to take action now to
mitigate the risk of climate change events on the
agriculture sector. WIIA cannot prevent damage,
but it may help farmers and governments recover
from the economic damage. When combined with
physical infrastructure and other economic
measures, WIIA can be a supplemental, proactive
and cost-effective mechanism of great value
globally.