Crop Insurance (Guest Lecture) Dr. Alejandro Plastina March 29, 2017

Crop Insurance One of many risk management strategies Traditionally set up to protect farmers in times of low crop yields Now offers coverage for low prices Available on over 100 commodities

Why Crops Fail

Federal Crop Insurance Federal Crop Insurance Corporation – 1938 Government’s initial move in crop insurance Federal Crop Insurance Act of 1980 Premium subsidies Federal Crop Insurance Reform Act of 1994 Catastrophic coverage and higher subsidies Agricultural Risk Protection Act of 2000 The 2008 and 2014 Farm Bills

Federal Crop Insurance: A Public/Private Partnership The Federal Government works with private insurance companies to offer crop insurance. Since 1998, all federal crop insurance products are sold and serviced by private companies. The Federal Government sets and/or approves premium rates and insurance terms. Both entities share risks and returns from crop insurance.

Federal Crop Insurance

Federal Crop Insurance: Total Acres Insured

Types of Crop Insurance Yield Protection: insurance against unusually low yields due to “acts of God” Revenue Protection: insurance against unusually low revenues (=price x yields) Margin Protection (New 2015): insurance against unusually low profit margin (=price x yields – index of variable costs) Supplemental Coverage Option (Farm Bill) Private products: hail, fire, price buy-ups, etc.

Federally Sponsored Crop Insurance Policies At the Farm-level: Individual Yield Protection (Catastrophic policy available) Individual Revenue Protection Individual Revenue Protection with Harvest Price Exclusion At the county level: Area Risk Protection (Catastrophic policy available) Area Revenue Protection Area Revenue Protection with Harvest Price Exclusion Supplemental Coverage Option (endorsement) Margin Protection (endorsement or stand-alone)

Sponsored = Subsidized The federal government: sets total premium rates (at actuarially fair levels) and subsidizes about 60% of those rates. and pays all costs related to insurance policy sales and services (operating costs of crop insurance agencies).

Crop Insurance in Iowa: Corn & Soy Insured Acres as % of Planted Acres Plastina, Alejandro and Hart, Chad (2014) "Crop Insurance in Iowa," Agricultural Policy Review: Vol. 2014 : Iss. 3 , Article 3.

Corn in Iowa: Insured Acres as % of Planted Acres by Type of Plan Farm revenue plans

Corn in Iowa: Revenue Protection Plans by coverage levels Million Acres 1st 85% 2nd 80% 3rd 75%

Soy in Iowa: Participation Insured Acres as % of Planted Acres Farm revenue plans

Soy in Iowa : Revenue Protection Plans by coverage levels Million Acres 1st 85% 2nd 80% 3rd 75%

Example Farm A 100 acre corn farm in Story County, Iowa with a 5-year average yield of 180 bu/acre Purchases insurance at the 80% coverage level Spring price: $3.96/bu (average of Feb. prices for Dec. corn futures)

Individual Yield Insurance (YP) Farmer chooses percentage of expected yield to insure Expected yield measured by average yield Price at which the crop is valued is set up front and does not change If yields are 100 bushels per acre, the farmer receives $174.24 per acre = $3.96/bu * (80% * 180 bu/ac - 100 bu/ac)

Yield Insurance Payout Graph No Payout Payout

Yield Insurance is like an Option

Individual Revenue Insurance (RP or RPE) Farmer chooses percentage of expected revenue to insure Expected revenue measured by average yield times initial crop price Price at which the crop is valued can move with price changes in the market

Individual Revenue Insurance (RP or RPHPE) In our example, the farmer has insured $570.24 of revenue per acre (80% * $3.96/bu * 180 bu/ac) Final value of the crop determined by average futures prices over harvest period

Individual Revenue Insurance (RP or RPHPE) If yields are 100 bushels per acre and harvest prices average $3.50, the farmer receives $220.24 per acre 0.80*$3.96/bu.*180 bu./acre - $3.50/bu.*100 bu./acre

RPHPE Payout Graph No Payout Payout

Rev. Insurance is like an Option

Individual Revenue Insurance (RP) This policy has a “harvest price option” If the harvest price is greater than the planting price, then the harvest price is used in all calculations In essence, the policy is giving you a put option with the strike price at the planting price

Harvest Price Option

Individual Revenue Insurance (RP) If yields are 100 bushels per acre and harvest prices average $5.50, the farmer receives $242.00 per acre 0.80*$5.50/bu.*180 bu./acre - $5.50/bu.*100 bu./acre

RP Payout Graph No Payment Neither Pay RPHPE Pays YP Pays Both Pay RP Pays

Important Crop Insurance Dates in Iowa https://www.extension.iastate.edu/agdm/crops/pdf/a1-50.pdf

Suggested readings AgDM File A1-54: Revenue Protection Crop Insurance AgDM File A1-48: Current Crop Insurance Policies Selling your crop insurance bushels: https://www.extension.iastate.edu/agdm/articles/others/JohMay11b.html