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Underwriting Area-based Yield Insurance to Crowd-in Credit Supply and Demand Michael R. Carter

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Underwriting Area-based Yield Insurance to Crowd-in Credit Supply and Demand Michael R. Carter University of Wisconsin. The Problem. Risk rationing & restricted demand (and its costs) Restricted Credit supply (& its costs)

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Underwriting Area-based Yield Insurance to Crowd-in Credit Supply and Demand

Michael R. Carter

University of Wisconsin

the problem
The Problem
  • Risk rationing & restricted demand (and its costs)
  • Restricted Credit supply (& its costs)
  • Insurance as solution, but moral hazard & adverse selection can make standard insurance (based on individual outcomes) infeasible
  • Can limited area-based yield insurance against correlated risk solve credit market problems?
    • Should resolve credit supply problem (economic & political-economic)
    • But will it help producers?
outline of remainder of talk
Outline of Remainder of Talk
  • Illustrate Two Types of Moral Hazard-Proof Area-based Yield Insurance:
    • Based on Measured Average Yields
    • Based on Estimated Average Yields (weather index)
  • Estimate Benefits to Farmers/borrowers (using data on rice in Peru’s Lambeyeque Valley)
  • Estimate benefits to lenders
  • Argue that must move results into policy & practice by superseding past public good failures
so in theory crowd in credit supply demand
So in Theory, Crowd-in Credit Supply & Demand
  • Analysis above indicates that:
    • Substantial reduction in default risk for lenders
    • When default remains, should be largely idiosyncratic
    • Should crowd-in credit supply
  • Analysis also indicates that:
    • $100 ($200) typical smallholder willingness to pay for estimated (measured) ARBY insurance above & beyond the actuarially fair premium
    • Together with reduction in default risk, should reduce risk rationing & crowd-in entrepreneurial risk taking and demand for credit
  • Together imply large social & private returns
market failures follow public good failures
Market Failures Follow Public Good Failures
  • So why is market not providing?
    • Costs of innovation
    • Scarcity of reliable data for probability estimates and measurement of payoff condition
    • Costs of marketing product to smallholders
  • Note that all of these have a public good element
from theory to policy practice
From Theory to Policy & Practice

Time to stop wringing hands about past public good failures and:

  • Follow example of micro-health insurance and bundle product with MFI loans
  • Create a policy trajectory which
    • Initially underwrites risk (& parameter uncertainty)
    • Creates institutions to collect better information and mover from less to more valuable forms of ARBY
  • Paper illustrates risk exposure related to public underwriting of initial risk
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