Insuring Against Bad Weather: Recent Thinking

This paper argues for the need to have insurance against adverse weather events and focuses on the experimentation going on in India with ‘'rainfall index insurance'.

The paper describes:

• The following features of ‘area-based index insurance:
  • Has less adverse selection;
  • Is less expensive to administer;
  • Has the potential for a secondary market;
  • Can be sold to non-farmers;
  • Can be linked to microfinance;
  • Can clear the way for innovation in mutual insurance.
• Challenges for index insurance contracts;
• The issues that need to be addressed in creating sustainable area-based index insurance. These include:
  • Secure rainfall measures;
  • Sea temperature oscillation;
  • Finding of efficient and affordable mechanisms to share covariant risk;
• Experiences with index insurance contracts from around the world;

The paper concludes that:

• Creative forces within financial markets could use index insurance contracts to handle covariate risk;
• Microfinance entities could use the contracts to handle major risk, hedging their portfolio of loans and offering better terms of credit;
• The government and other involved institutions must consider whether to facilitate and regulate secondary markets of exchange for the contracts;
• By making insurance available, government may not have to provide free disaster aid except for the poorest and most vulnerable groups;
• Market-based insurance can serve the risk management needs of the rural poor, and also help redress important food security problems.