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Too Cold for Comfort: A Theoretical Analysis of Index-Based Insurance for Frost Damage to Crops

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Abstract

In this article we reconsider the economic theory of index insurance. In the previous literature on this topic, the only choice variable that the insurance demander was permitted to choose was the amount of the payment to be received should the index be verified. However, it is clear that the index itself is an integral element in the contract, and it is an element about which the insurance demander has clear preferences. We analyse the optimal demand for index insurance under the assumption that the demander can choose both the payment to be received when the index is verified, and the index value itself. We find that there is always an interior solution to this problem. We also consider the market equilibrium under a variety of settings in regards the position of the insurer. The article is cast within the scope of insurance for frost damage to a crop, but all of the results are directly applicable to any peril for which a publicly observable signal exists.

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  • Amogh Prakasha Kumar & Laura Meriluoto & Richard Watt, 2024. "Too Cold for Comfort: A Theoretical Analysis of Index-Based Insurance for Frost Damage to Crops," Working Papers in Economics 24/02, University of Canterbury, Department of Economics and Finance.
    • Handle: RePEc:cbt:econwp:24/02
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    References listed on IDEAS

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    1. Nathaniel Jensen & Christopher Barrett, 2017. "Agricultural Index Insurance for Development," Applied Economic Perspectives and Policy, Agricultural and Applied Economics Association, vol. 39(2), pages 199-219.
    2. Leigh Johnson, 2013. "Index Insurance and the Articulation of Risk-Bearing Subjects," Environment and Planning A, , vol. 45(11), pages 2663-2681, November.
    3. Alexander Sarris, 2013. "Weather index insurance for agricultural development: introduction and overview," Agricultural Economics, International Association of Agricultural Economists, vol. 44(4-5), pages 381-384, July.
    4. Mario J. Miranda & Katie Farrin, 2012. "Index Insurance for Developing Countries," Applied Economic Perspectives and Policy, Agricultural and Applied Economics Association, vol. 34(3), pages 391-427.
    5. Daniel J. Clarke, 2016. "A Theory of Rational Demand for Index Insurance," American Economic Journal: Microeconomics, American Economic Association, vol. 8(1), pages 283-306, February.
    6. Alan Fuchs & Hendrik Wolff, 2011. "Concept and Unintended Consequences of Weather Index Insurance: The Case of Mexico," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 93(2), pages 505-511.
    7. Ayako Matsuda & Takashi Kurosaki, 2019. "Demand for temperature and rainfall index insurance in India," Agricultural Economics, International Association of Agricultural Economists, vol. 50(3), pages 353-366, May.
    8. Anita Mukherjee & Shawn Cole & Jeremy Tobacman, 2021. "Targeting weather insurance markets," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 88(3), pages 757-784, September.
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    More about this item

    Keywords

    Index insurance; crop insurance; agricultural economics;
    All these keywords.

    JEL classification:

    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty
    • G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
    • Q1 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Agriculture

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