• Agricultural credit

Agricultural credit and insurance

The vulnerability of grazing livestock systems with close dependence on silvo-pastoral systems highlights the need for tools to evaluate and mitigate the adverse impacts of drought. The aim of this paper is analyse the potential of index based insurance to address drought risks in Chilean grazing lands, focusing on the Araucanía region.

The authors analyse risk premium and basis risks for moderate and extreme drought hazards. Primary conclusions are as follows:

• in some index-based drought programs, the index threshold is established as a given percentage of the average value
• however, the Spanish insurance contract which is based on fixed deviations from the average is recommended; such a contract design translates into similar risk premiums 
• in consequence, even at different locations farmers will pay similar risk premiums for the same threshold coverage
• nevertheless, significant differences in risk premiums arise between different locations when a severe drought coverage or a more stringent threshold is used
• similarly, basis risk does not necessarily reduce when only severe drought coverage is offered
  

The authors deem that their results are not final and caution has to be taken in the selection of the appropriate index as it has an important impact in basis risk. Further analyses of the relation between contract design and basis risk is a promising area of research that may render an important social utility for most vulnerable farming systems.

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