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Monday, July 16, 2012

Crop Insurance:  Irony And Impact In 2012


Regardless of whether you prefer the term “incredible” or “ironic” the Congressional debate on the Farm Bill has focused primarily on crop insurance as the agricultural safety net.  It exists in the proposals from both Houses of Congress, although the House Ag Committee has also proposed reverting to target prices.  Nevertheless, the focus on crop insurance and cutting back on the appropriation is coming at a time when the largest ever claim against the crop insurance program will be filed by Cornbelt farmers whose corn and soybeans have withered in the drought.  One noted ag economist described the indemnity payment as “ginormous.” 
While economist Bruce Babcock at Iowa State University used the non-academic term, he defined it as being in the neighborhood of $30-$40 billion dollars in a payout to farmers. Unfortunately, the estimates are published in a <a href="" title="newspaper column"><b>newspaper column</b></a>, not in an academic paper or report.  Babcock has been a noted researcher in agricultural risk management, and frequently critical of USDA farm programs.
The article quotes University of Illinois ag economist <a href=" " title="Gary Schnitkey "><b>Gary Schnitkey </b></a>as saying,  “Roughly 60% of the corn acres and 50% of soybean acres in Illinois is insured at high coverage levels with revenue products containing guarantee increase provisions. These acres likely with receive large payments if drought conditions continue.” 
The point is that USDA’s Risk Management Agency will be underwriting the billions of dollars in claims filed by farmers and paid out by crop insurance companies in a year that many members of Congress are even calling crop insurance into question as being too expensive.  It is too early to total the payout, as Babcock has done in the interview for the newspaper column, however, USDA folks are obviously gearing up for some massive transfers of funds to the accounts of the insurers.  
In an e-mail being widely circulated in the industry, (I have received two copies so far), Kansas State University economist Art Barnaby says the crop insurance industry has had only three loss years in the past 20.  Those were in 1993, 2002, and 2012 will be the next.  However, due to the dynamic changes in types of crop insurance, years are difficult to compare.  USDA does not have any data on 1983 or 1988, but Barnaby says there was minimal participation, so the pool was small in having enough funds to spread over the entire risk from the yield loss.  Barnaby expects the national average yield to continue to fall, and be well below the current 146 bu. estimated by USDA.  He says that would raise the loss ratio (result in more indemnity payments than premium payments), and adds, “Based on the current crop the ratio is probably at about 1.4 to 1.5 loss ratio for corn.  That would generate about a $2 billion loss nationally.  That loss is not inconsistent with Schnitkey’s statement of a $3.2 billion loss in Illinois, because gains in other states would help offset the number.”  
In 1993 the loss ratio was 3.27, or $3.27 paid out for each $1 of premium.  Barnaby says, “A $40 billion loss on corn and soybeans that was suggested by the quoted economist would require a corn and soybean loss ratio that is 2.5 times higher than the 1993 loss ratio that was the highest loss ratio in the RMA data base.  To generate that level of loss is a guessing game, but clearly it would need to exceed the 1988 yield losses.  Probably a yield that is 40% below trend would be needed to generate a nation 8.175 corn loss ratio that would be necessary to generate underwriting losses approaching $40 billion.”
On one hand, Barnaby says the 1993 loss was based only on yield, and not on the revenue that will be the primary type of insurance today, and APH yields are more current today than was the case in 1993.  On the other hand, Barnaby says the risk pool is bigger with more farmers insured, the crop insurance companies will be picking up some of the tab from their commercial risk pool, better genetics will dampen the continued drop in yield, and the soybean crop is in better shape than corn.  Additionally, Barnaby says the fall price will determine the amount of the indemnity, so it will require an insurable yield loss of more than 25% of their APH to trigger a payment.
Interestingly, Barnaby says the biggest beneficiary of the crop insurance program will be Main Street USA.  While farmers will not make money off the insurance, since it covers production expenses, they will have that money to spend in rural communities, which otherwise might have dried up along with the crops and the soil.
USDA will be paying out a large crop insurance indemnity payment to farmers this year in a time when Farm Bill deliberations have contended too much money is being spent on the program.  The claims could be some of the highest ever, thanks to the great volume of revenue insurance policies.  However, those will certainly funnel billions in cash to local rural communities. 

Posted by Stu Ellis on 07/16 at 10:12 PM | Permalink

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