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Precipitation or water capacity indices? An analysis of the benefits of alternative underlyings for index insurance

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  • Kellner, Ulla
  • Musshoff, Oliver

Abstract

Eastern Germany is often hit by drought causing income risk for crop farmers. Index-based risk management instruments could help crop farmers to reduce their farm income risk. Such instruments have some important advantages over damage-based insurance, like e.g. less moral hazard and adverse selection. At the same time they typically have a high level of basis risk. Up to now, mainly precipitation-based weather derivatives have been discussed as an appropriate risk management instrument for farmers in Germany. As a potentially more effective alternative, we propose water capacity-based index insurance. In order to show the benefits of a precipitation-based and water capacity-based index insurance, several contract designs are compared. Using a whole farm risk program planning approach, we show that for an average agricultural producer in Eastern Germany water capacity-based index insurance offers greater benefits than precipitation-based index insurance.

Suggested Citation

  • Kellner, Ulla & Musshoff, Oliver, 2011. "Precipitation or water capacity indices? An analysis of the benefits of alternative underlyings for index insurance," Agricultural Systems, Elsevier, vol. 104(8), pages 645-653, October.
  • Handle: RePEc:eee:agisys:v:104:y:2011:i:8:p:645-653
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    References listed on IDEAS

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    Cited by:

    1. Buchholz, Matthias & Musshoff, Oliver, 2014. "The role of weather derivatives and portfolio effects in agricultural water management," Agricultural Water Management, Elsevier, vol. 146(C), pages 34-44.

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