Jon Einar Flatnes visited UC Davis to give a talk about his research on agricultural index insurance for development in Tanzania. Flatnes is part of a new AMA Innovation Lab project in Ghana that will develop and test a new kind of index insurance contract that covers crop revenue.
In this Q&A, Flatnes discusses how this new kind of index insurance works, some of the challenges and opportunities of implementing a new insurance product and the biggest hurdles to achieving the potential of index insurance for agricultural development. Flatnes is an assistant professor of agricultural, environmental and development economics at The Ohio State University.
AMA: You’re part of a project in Ghana to test a new kind of index insurance for small-scale farmers. What do you see as the biggest opportunity there?
Flatnes: The main innovation of the project is a revenue insurance contract. So far insurance contracts out there have focused on insuring against yield losses. Farmers obviously care about more than yields. They care about their incomes and consumption.
That’s why we proposed a revenue insurance contract. When yields change, if markets are not perfectly integrated and you can’t sell your grains and rice, that’s going to affect local markets. If there’s been a drought and nobody’s selling maize, then even if you suffered a 50 percent yield loss you may have only suffered a 30 percent revenue loss because as yields are going down prices are going up.
Markets are usually not perfectly integrated. People do not have access to markets if transportation costs are very high or people live in really remote areas. We suspect we’re going to see that the demand for yield insurance is higher in places where markets are more perfectly integrated. The revenue insurance contract is going to be independent of how well markets are integrated because people can actually insure against price changes that also affect them.
A lot of farmers in Ghana have expressed that price variation is a huge source of risk for them. This revenue insurance contract is going to both alleviate concern about the yield insurance that doesn’t insure revenue but also this additional component of price that is currently uninsured.
AMA: This will be the second project you have worked on that has an implementation or policy element baked in. How does this compare to purely theoretical work?
Flatnes: The obvious answer is that you really need to talk to the stakeholders and practitioners. In theoretical work you make a lot of assumptions to understand the mechanisms behind the problem. Implementation helps you set parameters. It helps you understand what the constraints are and you can put them into your model.
Some of it is purely logistical. How do you actually get the insurance sold? How do you conduct an audit? In theory, to conduct an audit you just model it. You can make that price whatever you want. You can make some assumptions about how accurate the audit is compared to actual yields.
In practice setting up these audits can be tricky. Maybe there is no agronomist. Maybe the agronomist has to travel several hundred miles or doesn’t speak the local language. There are all these different logistical hurdles. That’s more on the project implementation part.
Talking to stakeholders and working with farmers also helps you understand what kinds of questions to ask in the first place. In your office you’re creating this model using your understanding of the world and general human behavior. The farmer tells you, well it would take me five hours to get into town on a motorcycle and I can’t carry all my grains. You can take that and put it into your model.
AMA: You also have to have an insurance partner. How will it work after this project without your expertise going forward?
Flatnes: I think it’s really important to keep them involved with the process and to help them understand what is being done, what is the underlying system. Then once they are ready to take it over themselves it’s important to give them something that they can use themselves that doesn’t require a Ph.D. or extensive knowledge in the field.
We are hoping to develop an interface that doesn’t require any knowledge of coding or remote sensing. Someone in the insurance company should be able to click on a bunch of areas on a map and select a year, create insurance zones and see the predicted yield. All they should see at the end of the day is that this insurance zone is suffering a 50 percent loss and this is the payment we’re going to be giving them.
They are experts at how to sell this insurance, how to connect with farmers, getting things approved though the system, and those are all things we’re not experts on. We need to work with them along the way. That’s what we’re doing with GAIP in Ghana. They have done rainfall-based insurance and have a network of farmers buying their products. They are very open to this new idea and they have a good understanding of the concept.
I think it’s really important to create a sustainable product, something that once we don’t do the research anymore they will continue not just to have the product but the capacity to develop it.
AMA: What do you think are some of the biggest challenges in getting quality products to farmers?
Flatnes: First I think you need to define what you mean by quality. When I say quality what I think of is this thing called design risk, how well can you approximate area yields or revenues, if that’s your goal, or income, or consumption. To design better, higher-quality contracts is to also be cognizant on how you can reduce idiosyncratic risk with optimal insurance zoning.
The biggest challenge is this design risk problem. How can we understand what’s happening on average in an area. Where has there been a drought? Where has there been a flood? How impactful has this drought or flood been? That sounds like a really easy question but it’s not. Coming up with the best way possible of predicting these droughts and floods is the biggest challenge and that’s very important.
Implementing a conditional audit is also very important. I just don’t think people are going to buy products that have much design risk in them. They know there is design risk when they don’t get a payout but all their fields are flat and they’re not harvesting anything and an insurance company comes and says you’re not getting a payment. I just don’t believe any farmer is going to continue to buy insurance after that.
Alex Russell, (530) 752-4798, firstname.lastname@example.org