Article

Distributional Effects of Crop Insurance Subsidies

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Abstract

This article investigates the distributional effects of the subsidized crop insurance program in the United States. An equilibrium displacement model is constructed, linking the supply of disaggregate farm commodities with final consumer food demands. Using state-specific data on farm commodity production, crop insurance payments, food expenditures, and federal tax payments, the welfare effects of the removal of the premium subsidies for crop insurance are calculated for each state in the United States. Results indicate that the removal of the premium subsidy for crop insurance would have resulted in aggregate net economic benefits of $622, $932, and $522 million in 2012, 2013, and 2014, respectively. The deadweight loss amounts to about 9.6%, 14.4%, and 8.0% of the total crop insurance subsides paid to agricultural producers in 2012, 2013, and 2014, respectively. In aggregate, removal of the premium subsidy for crop insurance reduces farm producer surplus and consumer surplus, with taxpayers being the only aggregate beneficiary. The findings reveal that the costs of such farm policies are often hidden from food consumers in the form of a higher tax burden. On a disaggregate level, there is significant variation in effects of removal of the premium subsidy for crop insurance across states. Agricultural producers in several Western states, such as California, Oregon, and Washington, are projected to benefit from the removal of the premium subsides for crop insurance, whereas producers in the Plains States, such as North Dakota, South Dakota, and Kansas, are projected to be the biggest losers.

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... Okrent and Alston (2012) provided a useful contribution surrounding equilibrium displacement models by linking demand estimates to supply using input-output tables. This article uses the basic framework in Lusk (2017), who built on the Okrent and Alston (2012) framework. ...
... The model used here is the same as in Lusk (2017) except we use the demand flexibilities and demand shocks resulting from the estimates outlined in the previous section. Full details of the model are provided in Lusk (2017) and Okrent and Alston (2012), so they are not repeated here; the key differences in the model used here versus their models are fully described in Appendix B. ...
... It should be noted that producer welfare changes are accrued to all producers of the commodity in question and the suppliers of inputs to producers (Just, Hueth, and Schmitz, 2005). However, further delineating the incidence of these effects for the farming supply chain would require expanding the model to include the supply and demand of each input (Lusk, 2017). As a result, producer welfare estimates are presented with the understanding that changes are aggregated to capture upstream firms in addition to farmers. ...
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... To the best of our a Laboratoire Études et Recherches Économiques (SMART-LERECO), Institut National de la Recherche Agronomique (INRA), Rennes, France (e-mail: alexandre.gohin@inra.fr). knowledge, Lusk (2017) is the unique and recent exception. He develops a Partial Equilibrium (PE) framework absent any market failures, with no risk aversion and assumes that crop insurance subsidies are similar to output subsidies. ...
... However, the standard GTAP model is a static CGE model without explicit risk modelling, such as the explicit measurement of farmers' risk attitude, insurance premiums paid by the farmer and the eventual indemnities that they receive in case of losses. By starting with this widely used CGE model, we are also close to the only recent macroeconomic analysis focused on crop insurance by Lusk (2017) and can test its robustness. More importantly, this CGE model serves as a benchmark to a more elaborated version where the risk attitude of farmers and insurance programs are introduced. ...
... The U.S. federal crop insurance is a major farm policy aimed at providing risk protection/ reduced risk exposure to agricultural producers [1,2]. A key component of this policy is the provision of multiple contract options and subsidies that reduce the cost of insurance to agricultural producers [3][4][5][6]. Premium subsidies accounted for $6.26 billion in government outlays in 2019, with $2 billion being applied to coverage levels of 80% and higher [7]. While the government has justified the use of premium subsidies as a necessary means of increasing producer participation in crop insurance [4,[8][9][10][11][12][13][14], many have argued that premium subsidies are just another means of income redistribution from taxpayers to producers [5,6,[15][16][17]. ...
... Premium subsidies accounted for $6.26 billion in government outlays in 2019, with $2 billion being applied to coverage levels of 80% and higher [7]. While the government has justified the use of premium subsidies as a necessary means of increasing producer participation in crop insurance [4,[8][9][10][11][12][13][14], many have argued that premium subsidies are just another means of income redistribution from taxpayers to producers [5,6,[15][16][17]. As pointed out by an anonymous reviewer and many of the cited studies, key reasons behind the government objective of increased producer participation in crop insurance have been a desire to reduce adverse selection, increase the accuracy of premium rates, and eliminate ad-hoc disaster payment programs. ...
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This study develops a novel framework of heterogeneous producer attitudes towards risk to analyze different, stated and revealed, roles of crop insurance premium subsidies and underlying policy objectives of the government. The analysis reveals a strong connection and a complementarity between the roles of premium subsidies in increasing producer participation in crop insurance, inducing a desired separating equilibrium in the presence of asymmetric information, and transferring income to agricultural producers participating in the program. Developing an alternative design of premium subsidies that can achieve the stated government objective of increased producer participation and induce any desired separating equilibrium at significantly reduced costs, our study rejects the idea that the income redistribution taking place under the current policy design is necessary for increasing producer participation in crop insurance. Indeed, the current policy design reveals that premium subsidies are either a means of income redistribution or a policy failure.
... That leads to the negative effect of agricultural insurance policies. Lusk [9] suggested that the governments formulate an agricultural insurance subsidy system prudently; Lusk then draws a conclusion that crop insurance subsidies will reduce farmers' income and social welfare, based on the study from America over the past ten years. Glauber and Collins [10] found that insurance subsidies distort the structure of planting crops. ...
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... As previously mentioned, most crop insurance products that are offered in the USA receive generous federal subsidies. Our concern here is not with any welfare losses and redistributions arising from the presence of subsidies; see, for example, Wright (2014) or Lusk (2016). Taking subsidies as given, we ask what implications might flow from our observations on premium rate determination in Webster County. ...
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... First, Solo [30] took Mexico, Sri Lanka, Brazil, the United States, and Bolivia as examples and found the positive role of government in developing inclusive finance. Second, Devarajan et al. [31] claim that the actions of the government may be ineffective or even reduce social welfare [32]. This paper holds that the "visible hand" of the government has the ability to create an excellent financial ecology, provide convenient investment and financing policies and systems, build a platform for agriculture-related subjects and capital suppliers, and mobilize various elements and resources of the financial market. ...
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... Subsidization of private market players may facilitate rent-seeking behavior-efforts to capture larger shares of tax dollars devoted to the programespecially in the settings of asymmetric information, moral hazard, and adverse selection which typically characterize crop insurance markets (Glauber, 2012;Lusk, 2016;Smith, Glauber, and Dismukes, 2016). Ker and Ergun (2007) show that insurance companies can use private information in the reinsurance market to generate excess returns, which go uncaptured by the government's premium-setting mechanism. ...
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... Crop insurance represents one of the most investigated subjects in agricultural economics. There is a large amount of literature addressing crop insurance demand (Enjolras et al. 2012;Santeramo et al. 2016), pricing and subsidies (Skees et al. 1997;Lusk 2017), impact on farming decisions (Ahsan et al. 1982;Nelson and Loehman 1987;Ramaswami 1992;Mieno et al. 2018) and moral hazards (Horowitz and Lichtenberg 1993;Quiggin et al. 1993;Smith and Goodwin 1996). Additionally, there is wide range of literature examining the effect of crop insurance on input use (Wu 1999;Goodwin et al. 2004;Möhring et al. 2020aMöhring et al. , 2020b and input demand under crop insurance (Ramaswami 1993;Babcock and Hennessy 1996). ...
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... Piggott et al. (1995), Kinnucan, Xiao, and Yu (2000), and Cranfield (2002) extended the EDM to analyze the impact of advertisements on different multistage agricultural industries. EDMs have been used to investigate implications of wheat breeding programs (Nogueira et al., 2015), country of origin labeling (Brester et al., 2004;Hahn et al., 2019), biological productivity growth in the crop sector (Takeshima, 2009), animal disease outbreaks (Pendell et al., 2007;Holderieath et al., 2018), drought in the crop sector (Bauman et al., 2013), and insurance subsidies (Lusk, 2017). With advances in algorithm programing, Harrington and Dubman (2008) combined the EDM with mathematical programing models to analyze sector-wide agriculture at the U.S. Department of Agriculture-Economic Research Service (USDA-ERS). ...
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In this paper, we explore the usefulness of nonparametric methods in the investigation of production behavior and the estimation of price elasticities of output supply and input demand functions. The approach can handle the situation where some data points are not consistent with production theory. The method is illustrated by estimating supply-demand elasticities of outputs and inputs in U.S. agriculture.
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Knowledge of factors affecting farmer purchases of crop insurance is essential for evaluating the soundness and profitability of crop insurance programs. Despite this importance, the demand for crop insurance has received limited empirical attention. The present paper reports on an empirical assessment of the demand for crop insurance by Iowa corn producers. Adverse selection in the insured pool suggests that producers with differing levels of loss-risk have different demand elasticities. Loss-fisk is included in the empirical analysis and is found to influence the elasticity of demand. Results show average demand elasticities of about -0.32 for relative insured acres and -0.73 for liability per planted acre. Implications for the actuarial soundness of the industry are provided.
Article
This research explores the viability of an alternative design for crop insurance based upon farmer-owned savings accounts that are regulated, monitored, and marginally assisted by the government. Such accounts could be an effective risk management tool for many farmers and could operate without major government subsidization. Relative to the current program, the proposed design should exhibit minimal moral hazard and adverse selection problems, and since farm-level risk does not have to be priced, the proposed design eliminates the premium rating difficulties that weaken actuarial soundness and trigger the need for substantial external subsidies. In addition, administrative costs should be considerably lower.
Article
The farm policy debate in the US continues to evolve rapidly as priorities and perceptions change. For some time now risk protection has been the primary rationale used to justify federal farm programs; hence the commonly expressed need for a farm safety net. As the 2008 farm bill neared its expiration and debate began on a new farm bill, direct payments became perceived as the least politically defensible of the existing farm programs, since direct payments provide no risk protection. Thus, it became widely agreed that direct payments would be reduced or eliminated to reach budget reduction targets. Some may argue that policy-makers adopted and maintained crop insurance premium subsidies simply as a mechanism for transferring federal dollars to crop farmers. It is certainly true that if crop insurance policies are priced correctly, premium subsidies effectively transfer income from taxpayers to crop insurance purchasers.
Article
Since 1980, the Multiple Peril Crop Insurance (MPCI) program has occupied a prominant role in U.S. farm policy. MPCI coverage offerings have been greatly expanded to try to effectively substitute for other forms of federal crop disaster assistance. In this paper, we survey a substantial body of agricultural economics literature that has examined issues relating to the MPCI program. We give an assessment of research findings along with suggested directions for future research.
Chapter
Federal subsidized crop insurance has been a major fixture of US agricultural policies for the past several decades. In recent years, the program has expanded rapidly and now constitutes the largest and most expensive agricultural subsidy initiative in the United States. Similar programs have been introduced around the world. All these programs have one common denominator: Absent generous subsidies, participation is minimal. Such subsidies introduce the potential for a wide range of distortions. Intensive margin distortions may result from moral hazard as insured growers alter their production practices. Distortions at the extensive margin may arise as acreage decisions reflect the presence of subsidized risk management, resulting in lands with alternative uses being planted to crops. Arange of environmental effects may arise as a result of these distortions. Not all those effects are negative, because subsidized insurance may result in less intensive use of chemical and fertilizer inputs. We review the history and operation of the current program and discuss the options currently being deliberated for future crop insurance programs.
Article
Barnett and Skees' interesting comment raises two objections to my analysis of the demand for multiple peril crop insurance. The first is that my contention that across-the-board premium increases could "possibly raise overall industry loss-ratios" (p. 434) is incorrect. The second is that the demand specification that uses liability per planted acre as a measure of insurance purchases is incorrect because it imposes the assumption of equal expected yields across counties. I appreciate their comments and the opportunity to reply. Barnett and Skees' comments contribute to the ongoing policy debate regarding the future of crop insurance and disaster relief programs and should stimulate further discussion. However, the points raised in their first objection may be misleading to policy makers' efforts to improve the actuarial performance of the crop insurance program. The arguments put forth in their second criticism are incorrect.
Article
Supply equations for five output groups and demand equations for four input groups in ten regions of the United States are estimated and evaluated. The econometric estimation is conducted for complete regional product supply and input demand systems subject to competitive theory. The results document the extreme diversity of production relationships within the United States. They clearly indicate the unequal effects of changes in economic conditions and government policies on major production regions.
Article
Efficiency in redistribution is measured in terms of deadweight loss generated per dollar of economic surplus transferred between consumers and producers of a commodity by means of market intervention. The implications of supply and demand elasticities for efficiency in redistribution are examined with special attention to the comparison of production control and deficiency payment programs. The results may be used to aid in the evaluation of commodity programs and as a basis for consideration of the hypothesis that observed policies are efficient, given the political power of interest groups.
Article
A definition of moral hazard in multiple peril crop insurance is proposed that focuses on expected indemnities rather than input use. Five years of production and insurance data for a panel of Kansas wheat farms is used to empirically test for this type of moral hazard. Results suggest that moral hazard affects multiple peril crop insurance indemnities in poor production years but that no significant moral hazard occurs in years when growing conditions are favorable.
Article
Many commentators have speculated that agricultural policies have contributed to increased obesity rates in the United States, yet such claims are often made without any analysis of the complex links between real-world farm commodity support programs, prices and consumption of foods, and caloric intake. This article carefully studies the effects of US agricultural policies on prices and quantities of 10 agricultural commodities and nine food categories in the United States over time. Using a detailed multimarket model, we simulate the counterfactual removal of measures of support applied to US agricultural commodities in 1992, 1997, and 2002 and quantify the effects on US food consumption and caloric intake. To parameterize the simulations, we calculate three alternative measures of consumer support (the implicit consumer subsidy from policies that support producers) for the 10 agricultural commodities using information about government expenditures on agricultural commodities from various sources. Our results indicate that-holding all other policies constant-removing US subsidies on grains and oilseeds in the three periods would have caused caloric consumption to decrease minimally whereas removal of all US agricultural policies (including barriers against imports of sugar and dairy products) would have caused total caloric intake to increase. Our results also indicate that the influence of agricultural policies on caloric intake has diminished over time. Copyright © 2012 John Wiley & Sons, Ltd.
About Crop Insurance: How It Works. http://www. cropinsuranceinamerica.org/about-crop-insurance/how-it-works
  • America Crop Insurance
Crop Insurance America. About Crop Insurance: How It Works. http://www. cropinsuranceinamerica.org/about-crop-insurance/how-it-works/.
The Welfare Economics of Public Policy: A Practical Approach to Project and Policy Evaluation
  • R E Just
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Just, R. E., D. L. Hueth, and A. Schmitz. 2005. The Welfare Economics of Public Policy: A Practical Approach to Project and Policy Evaluation. Northampton, MA: Elgar.
Renegotiation of the Standard Reinsurance Agreement (SRA) for Federal Crop Insurance
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Shields, D. A. 2010. "Renegotiation of the Standard Reinsurance Agreement (SRA) for Federal Crop Insurance. Congressional Research Service Report, Washington, DC, August 12. ---. 2013. Federal Crop Insurance: Background. Congressional Research Service Report, Washington, DC, December 12.
Federal Crop Insurance: Background
— — —. 2013. Federal Crop Insurance: Background. Congressional Research Service Report, Washington, DC, December 12.
Premium Payments: Why Crop Insurance Costs Too Much
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Smith, V. H. 2011. Premium Payments: Why Crop Insurance Costs Too Much. In American Boondoggle: Fixing the 2012 Farm Bill. American Enterprise Institute, Washington, DC, July 12.
Multiple Peril Crop Insurance. Choices
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Wright, B. D. 2014. Multiple Peril Crop Insurance. Choices. 3rd Quarter. http://www. choicesmagazine.org/choices-magazine/theme-articles/3rd-quarter-2014/multipleperil-crop-insurance.
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Harrington, D. H., and R. Dubman. 2008. "Equilibrium Displacement Mathematical Programming Models Methodology and a Model of the U.S. Agricultural Sector. USDA Economic Research Service, Technical Bulletin 1918, February 2008.
History of the Crop Insurance Program
United States Department of Agriculture, Risk Management Agency. History of the Crop Insurance Program. Available at: http://www.rma.usda.gov/aboutrma/ what/history.html (accessed April 22, 2014).
Double Indemnity: Crop Insurance and the Failure of the U.S. Agricultural Disaster Policy. Paper prepared for American Enterprise Institute Project Agricultural Policy for the 2007 Farm Bill and Beyond
  • J Glauber
Multiple Peril Crop Insurance
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