The value and appropriateness of microinsurance for businesses and individuals has been a major research topic in EA’s work. Often, our team arrives at the conclusion that while insurance is an important complement to other financial tools, it is not sufficient on its own. This varies by insured risk and product. When households are faced with large shocks such as the death of a breadwinner, or a hospitalization, insurance can reduce the financing burden of a shock for low-income households and enterprises. For smaller shocks, insurance may have a lesser role, particularly when alternative mechanisms are available.
Weather events that severely damage crops can be classified as large shocks. As such, we might expect crop insurance to benefit clients in a similar way to a hospitalization or death shock. Yet crop risk is different, as the likelihood that multiple farmers will be affected by a shock (covariate risk) is high, and priced into a crop insurance product. To control for some of these risks, insurers might also cap pay outs, exclude crops, and include high deductibles, all which erode the value of a product to a farmer. As a result, crop insurance has to date failed to provide a sufficiently attractive value proposition to farmers. Our study with the Microinsurance Centre, of an agricultural loan insurance product in Burkina Faso, found that the product’s potential was curtailed by policy holder’s overestimation of benefits in the event a payout and poor linkages between coverage and users’ cash flows and debt structures.
In this study, we designed and tested a tool to test the relative value of covering various crops–Coverage Decision Tool, which plots crops’ profitability, risk, importance to households’ income and versatility (can be eaten or sold) against each other. This tool brings to light key choices that farmers are making when considering insurance, and can be effective for product design. In our example, maize was covered by the crop insurance, while the higher-yielding cotton, which was both risky and represented a large percentage of income, was left out—a clear limitation on the product’s client value.
This guide for insurance coverage has implications beyond agriculture, as it critically examines the priorities set by consumers. Like preferring to insure cotton over maize, for instance, many cash-constrained individuals prefer insuring against only a select few health issues rather than a more expensive, comprehensive plan. When insurance is poorly designed, microfinance institutions offering these products will find not only low insurance uptake, but low credit uptake. Recent research, notably Banerjee and Duflo, who tested a problematic microloan-health insurance bundle found that unwillingness to pay insurance premiums significantly reduced loan renewals. This reminds us of the importance of “getting the product design right” from the start.