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Separating Moral Hazard from Adverse Selection: Evidence from the U.S. Federal Crop Insurance Program

Author

Listed:
  • Michael J. Roberts

    () (Department of Economics, University of Hawaii at Manoa & Sea Grant)

  • Erik O'Donoghue

    () (USDA Economic Research Service)

  • Nigel Key

    () (USDA Economic Research Service)

Abstract

We use data from the administrative les of the U.S. Department of Agriculture's Risk Management Agency to examine how the distribution of crop yields changed as individual farmers shifted into and out of the federal crop insurance program. The large panel facilitates use of fixed effects that span each combination of farmer and production practice to account for unobserved differences in farmer abilities, risk preferences and soils, in addition to fixed effects for interactions between all years and all counties to account for geographically-specific technological change, local prices, and weather. We also account for farm-specific yield variances. Conditional on this large set of fixed effects, we estimate the mean shift in yield and non-parametrically estimate the shift in the distribution around the conditional mean associated with enrollment incrop insurance. Because differences between farmer and land types have been accounted for (i.e., controlling for adverse selection), the estimated shifts in yield distributions likely reflect moral hazard. For most crops in most states we find insurance is associated with statistically signi cant but small downward shifts in average yield. The largest shifts occur for cotton and rice, the highest-value of ve crops considered. By integrating the estimated shift in yield distributions over actual indemnities paid, we provide estimates of the total indemnities paid due to moral hazard. Our results indicate moral hazard accounted for an estimated $53.7 million in indemnities between 1992 and 2001, which amounts to 0.9% of indemnities paid to the insured crops and states considered.

Suggested Citation

  • Michael J. Roberts & Erik O'Donoghue & Nigel Key, 2014. "Separating Moral Hazard from Adverse Selection: Evidence from the U.S. Federal Crop Insurance Program," Working Papers 201410, University of Hawaii at Manoa, Department of Economics.
  • Handle: RePEc:hai:wpaper:201410
    as

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    File URL: http://www.economics.hawaii.edu/research/workingpapers/WP_14-10.pdf
    File Function: First version, 2014
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Moral hazard; asymmetric information; insurance; agricultural policy;

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
    • Q18 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Agriculture - - - Agricultural Policy; Food Policy

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