1. Production Risk Management: Running With The Bulls
Gary Brester
MSU Department of Agricultural Economics and Economics
Current Dynamics in Agriculture: Energy Costs, Global Markets, Ag Policy, Price Protection, and Leasing Arrangements
Great Falls, MT
May 6, 2008
Production Risk Management: Brester

2. OUTLINE . Production Risk Management . Insuring Production Costs?
. Insuring Crop Replacement?
. Multiple Peril Crop Insurance
. Revenue Insurance
. Revenue Assurance
. Crop Revenue Coverage
. Questions
Production Risk Management: Brester

3. OUTLINE . Production Risk Management . Insuring Production Costs?
. Insuring Crop Replacement?
. Multiple Peril Crop Insurance
. Revenue Insurance
. Revenue Assurance
. Crop Revenue Coverage
. Questions
Production Risk Management: Brester

4. Production Risk Management
. How Does A Bull Market Influence Crop Insurance Decisions?
. Insuring Production Costs?
. Increase In Crop Prices Between Planting And Harvest
. Little Correlation
. Not Really An Issue
. Crop Replacement Costs
. Expect To Use Corn Crop To Feed Cattle
. Replacing Such A Crop With Higher Priced Corn Is An Issue
Production Risk Management: Brester

5. Insured Counties for Wheat, 2008 MPCI, RA, CRC Coverage
Production Risk Management: Brester

6. OUTLINE . Production Risk Management . Insuring Production Costs?
. Insuring Crop Replacement?
. Multiple Peril Crop Insurance
. Revenue Insurance
. Revenue Assurance
. Crop Revenue Coverage
. Questions
Production Risk Management: Brester

7. Multiple Peril Crop Insurance
. Original FCIC, Subsidized Crop Insurance
. Producer Establishes An APH
. Producer Chooses A Coverage Level
. 50%-75% (Or 85%) Of APH
. Producer Chooses A Price Election
. 55%-100% Of MPCI Price Forecast
. Premium Equals The Maximum Indemnity Multiplied By The Premium Rate
Production Risk Management: Brester

8. MPCI Spring Wheat Example
Contract Data
Value
Calculation
APH Yield
50 bu.
producer
Coverage Level
70%
producer*
Yield Guarantee
35 bu.
0.70 x 50 bu.
MPCI Price Forecast
$9.00/bu.
RMA
Price Election
100%
Elected Price
1.0 x $9.00
Production Risk Management: Brester

9. MPCI Spring Wheat Example
. Suppose You Actually Harvest 33 Bushels Per Acre
. You Receive An Indemnity Because 33 Bushels Is Less Than Your Yield Guarantee Of 35 Bushels.
. You Receive The Difference In Bushels
. 35 – 33 = 2 bu/ac
. Valued At Your Elected Price
. 2 bu/ac x $9.00/bu = $18/ac
. Harvest Price Of $12.00/bu
. 33 bu/ac x $12.00/bu = $396/ac
Production Risk Management: Brester

10. OUTLINE . Production Risk Management . Insuring Production Costs?
. Insuring Crop Replacement?
. Multiple Peril Crop Insurance
. Revenue Insurance
. Revenue Assurance
. Crop Revenue Coverage
. Questions
Production Risk Management: Brester

11. Revenue Assurance (RA)
. Can Insure Optional, Basic, Or Enterprise Units
. Producer Establishes An APH
. Producer Chooses A Coverage Level
. 50%-75%
. RMA Establishes A “Projected Harvest Price”
. Formula-Based Off Of September MGE Futures Price
Production Risk Management: Brester

12. Revenue Assurance (RA)
. RA Basic Revenue Guarantee
. APH Yield x Coverage Level x RMA Projected Harvest Price
. Producers May Choose a “Harvest Price Option”
. RA Harvest Revenue Guarantee
. APH Yield x Coverage Level x RMA Harvest Price
. Producers Receive An Indemnity If “Crop Value” Is Less Than The Basic Revenue Guarantee (Or, The Harvest Revenue Guarantee)
Production Risk Management: Brester

13. RA Basic Revenue Guarantee
RA Example
Contract Data
Value
Calculation
APH Yield
50 bu.
producer
Coverage Level
70%
producer*
RMA Price Forecast
$11.00/bu.
RMA
RA Basic Revenue Guarantee
$385/ac
50 bu. X 0.70 x $11.00
Production Risk Management: Brester

14. RA Example: Price Increase
. Suppose You Actually Harvest 33 Bushels Per Acre
. But, The Actual RMA-Determined Harvest Price Increased To $12.00/bushel
. Rather Than The Projected Harvest Price of $11.00/bu.
. Your “Crop Value” Is
. 33 bu/ac x $12.00/bu = $396/ac
Production Risk Management: Brester

15. RA Example: Price Increase
. You Do Not Receive An Indemnity From Basic Harvest Revenue Guarantee
. $396/ac > $385/ac
. Under The Harvest Price Option, You Would Receive An Indemnity
. Harvest Revenue Guarantee Is
50 bu x .70 x $12.00/bu
$420/ac
. $396/ac < $420/ac
. $24/ac Indemnity
Production Risk Management: Brester

16. OUTLINE . Production Risk Management . Insuring Production Costs?
. Insuring Crop Replacement?
. Multiple Peril Crop Insurance
. Revenue Insurance
. Revenue Assurance
. Crop Revenue Coverage
. Questions
Production Risk Management: Brester

17. CRC Insurance . Can Insure Optional, Basic, Or Enterprise Units
. Producer Establishes An APH For Each Unit
. Producer Chooses A Coverage Level
. 50%-75% (or 85%)
. RMA Establishes A “Base Price”
. Producer Chooses 95% or 100% Price Election
Production Risk Management: Brester

18. CRC Insurance . Minimum Revenue Guarantee
. APH Yield x Coverage Level x RMA Base Price x Price Election
. Producer Receives An Indemnity When
. Actual Yield Multiplied By The RMA “Harvest Price” Is Less Than The Minimum Revenue Guarantee
Production Risk Management: Brester

19. CRC Insurance
. Producer Minimum Revenue Guarantee Is Adjusted Upward If
. RMA Harvest Price Is Greater Than The RMA Base Price
. CRC Insurance Results In
. Downward Yield Protection
. Downward Price Protection
. Upward Price Participation
Production Risk Management: Brester

20. Initial Minimum Revenue Guarantee
CRC Wheat Example
Contract Data
Value
Calculation
APH Yield
50 bu.
producer
Coverage Election
70%
producer*
RMA Base Price
$11.00/bu
RMA
Price Election
100%
Initial Minimum Revenue Guarantee
$385/ac
50 bu. x 0.70 x $11.00 x 1.0
Production Risk Management: Brester

21. CRC Example: Price Increase
. Suppose You Actually Harvest 33 Bushels Per Acre
. But, The RMA Harvest Price Increased To $12.00/bushel (Rather Than The RMA Base Price of $11.00/bu.)
. Your New Minimum Revenue Guarantee
. 50 x 0.70 x $12.00 x 1.0 = $420/ac
Production Risk Management: Brester

22. CRC Example: Price Increase
. Your New Crop Value Is
. 33 bu/ac x $12.00/bu = $396/ac
. Your Indemnity Is
. $420 - $396 = $24/ac
. If The Price Increase Was Not Considered
. Your Indemnity Would Be Zero
. $396 > $385/ac
Production Risk Management: Brester

23. Summary Results Product Crop Value Indemnity Premium Net Revenue None
$396 $0
$396/ac
Production Risk Management: Brester

24. Summary Results Product Crop Value Indemnity Premium Net Revenue None
$396 $0
$396/ac
MPCI
$18
$16
$398/ac
Production Risk Management: Brester

25. Summary Results Product Crop Value Indemnity Premium Net Revenue None
$396 $0
$396/ac
MPCI
$18
$16
$394/ac RA
$24
$372/ac
Production Risk Management: Brester

26. Summary Results Product Crop Value Indemnity Premium Net Revenue None
$396 $0
$396/ac
MPCI
$18
$16
$394/ac RA
$24
$372/ac
RA (Harvest
Price Option)
$29
$391/ac
Production Risk Management: Brester

27. Summary Results Product Crop Value Indemnity Premium Net Revenue None
$396 $0
$396/ac
MPCI
$18
$16
$398/ac RA
$24
$372/ac
RA (Harvest
Price Option)
$29
$391/ac
CRC
$25
$395/ac
Production Risk Management: Brester

28. 10 Bushel Yield & $8.00 Price Product Crop Value Indemnity Premium
Net Revenue
None
$80 $0
$80/ac
MPCI
$225
$16
$289/ac RA
$305
$24
$361/ac
RA (Harvest
Price Option)
$29
$356/ac
CRC
$25
$360/ac
Production Risk Management: Brester

29. Other Issues
. MPCI Indemnity Price Was Increased To $9.25/bu Prior To Sign Up
. An Administrative Decision
. Huge Potential For Government Liabilities If A Disaster Occurs
. Greatly Increases Potential For Moral Hazard
. It Doubles The Premium, But Greatly Increases Protection
Production Risk Management: Brester

30. Other Issues . CRC And RA Price Levels Are Set In February
. They Could Be Below Actual Harvest Prices
. Not A Major Factor Because This Simply Establishes The Revenue Guarantee Floor
. Indemnities Increase With Price
. This Means A Lower Premium
. Upper Bounds On Price Increases
Production Risk Management: Brester

31. What Is The Goal? . Insure Against Loss Of Variable Costs?
. Increase Coverage Levels When Input Prices Are High
. Maximize Indemnities?
. Capture As Much Of The Government Subsidy As Possible?
. Minimize Risk?
. Minimize Premium Costs?
. Maximize Expected Profits?
Production Risk Management: Brester

32. QUESTIONS?
Production Risk Management: Brester