crop insurance and 2012 drought
TRANSCRIPT
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www.ewg.og
1436 U Street. NW, Suite 100
Wasington, DC 20009
environmental
working group
April 2013
Taxpayers,
Crop InsuranCe,
and The droughT
of 2012
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Taxpayers, Crop Insurance, and te Drougt of 20122 EWG.og
CAuthos
Bruce Babcock P.D.
Professor of Econoics
Iowa State University
peface
Craig Cox
Vice President for Agricuture
and Natura Resources
EWG
Edto
Nis Bruzeius
Executive Editor and VP for
Pubications
EWG
Desgnes
Aan Anderson
Ty Yaniz
3 Preface
4 Fu Report
5 Crop Insurance in 2012
7 Preius and Subsidies
10 Crop Insurance Progra Costs
14 2012 Payouts witout Revenue Protection
14 Wat Constitutes an Adequate Safety Net?
19 Notes
Acnowedgements:
EWG tanks te Waton Faiy Foundation for its
support for tis researc.
Te autor tanks Xiaoong Zu for er data
assistance.HEADQUArTErS1436 U Street. NW, Suite 100
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Aout EWG
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rent pemsson
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prEFACE
by CrAiG COx
ViCE prESiDENT FOr AGriCUlTUrE AND NATUrAl rESOUrCES, EWG
ThERE WERE TWO REASONS ThAT
ENVIRONmENTAl WORKING
GROUP (EWG) COmmISSIONED
AGRICUlTURAl ECONOmIST BRUCE
BABCOCK OF IOWA STATE UNIVERSITY TO
ANAlYZE hOW ThE hEAVIlY SUBSIDIZED
FEDERAl CROP INSURANCE PROGRAmPERFORmED DURING ThE CORN BElT
DROUGhT OF 2012.
First, te 2012 drougt drasticay cut crop yieds
across severa states just te kind of event tat
many economists agree justies a role for taxpayers
in providing farers wit a safety net. Second,
Congress is about to take up te far bi again under
serious pressure to cut spending. Te taxpayer cost
of crop insurance as grown steadiy since 2000 and
now is te ost expensive governent progra
supporting far incoe. EWG tougt te 2012
drougt woud be te perfect case to test weter
its possibe to save federa tax doars wie sti
providing an eective safety net for farmers facing
potentiay cripping osses.
Dr. Babcocks concusions soud be a wake-up ca
for taxpayers and te senators and representatives
in Congress charged with creating a more scally
responsible safety net. His key ndings:
Over-generous subsidies ave turned crop
insurance into ore of a far incoe support
progra tan a risk-anageent progra.
Taxpayers coud provide farers wit a secure
oor under their nances for less than half of
wat te current progra costs.
Atoug avoiding ad hocdisaster reief
expenses as been one of te ost-often cited
justications for subsidized crop insurance, the
current insurance progra cost taxpayers far
ore in 2012 tan traditiona disaster reief
woud ave.
Taxpayers wi bear te burden of aost 75
percent of te 2012 insurance payouts; and
since 2001, insurance copanies ave enjoyed
$10.3 biion in underwriting gains wie
taxpayers ave ost $276 iion.
Tis atest report fro Bruce Babcock adds to te
growing evidence tat coon sense refors to
crop insurance woud save biions of doars wie
still providing a solid safety net, cutting the decit and
investing in progras tat iprove uan eatand te environent. So far, owever, te subsidy
obby as anaged to pus Congress in te opposite
direction. If eiter te faied Senate or house
Agricuture Coittee far bi proposas fro ast
year were to becoe aw, taxpayers woud be asked
to pay even ore for crop insurance wie funding fo
conservation and nutrition progras went under te
budget knife.
Congress soud and coud do far better as it takes upte far bi again tis year.
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Taxpayers, Crop Insurance, and te Drougt of 20124 EWG.og
FUll rEpOrT
Taxpayers, Crop Insurance and te Drougt of 2012
by brUCE bAbCOCk pH.D.
prOFESSOr OF ECONOMiCS, iOWA STATE UNiVErSiTy
lOW FARm YIElDS IN CORN BElT
STATES DUE TO ThE 2012 DROUGhT
hAVE lED TO ThE hIGhEST CROP
INSURANCE PAYOUTS IN hISTORY.
PAYOUTS (INDEmNITIES) FOR ThE YEAR
WIll EXCEED $16 BIllION, AN AlmOST 50
PERCENT jUmP FROm ThE ThEN-RECORD
$10.8 BIllION PAID OUT ThE YEAR BEFORE.
Te big payouts are ardy surprising. A arge
proportion of US crop acreage is now insured, and
farers experienced record-breaking drougts and
proonged periods of ot teperatures during te
growing season in bot years. Furterore, ig
coodity prices ade te insured crops orevauabe, driving up te size of te payouts.
Supporters of te current crop insurance progra
argue tat te record-setting payouts sow tat te
program is working exactly as it should: by covering
farmers losses, the insurance provided the nancial
safety net tat tey need to be abe to pay teir bis
and survive to pant anoter crop.
But the truth is very dierent. A close analysis reveals
tat crop insurance as it is currenty structured and
arketed is a boated, taxpayer-funded incoe
support progra tat in any cases aows growers,
particuary te industria-scae operations tat ave
been enjoying record prots, to make more money
fro insurance payouts tan tey woud fro a
eaty arvest.
Teres no question tat farers, wo ust cope wit
the vagaries of weather and other dicult-to-predict
risks, deserve a safety net. And a propery structured
insurance progra tat worked ike oter types of
insurance woud provide tat safety net.
But crop insurance is not ike te auto, eat
and property poicies sod by private copanies
to custoers wo vaue te coverage and pay a
preiu tat is adequate to cover teir possibeosses and te insurers processing costs, as we as to
generate a prot for the agents and the companies.
Tose copanies, in turn, contro teir risk exposure
by buying private reinsurance wen needed and by
anaging teir portfoio of poicies.
In contrast, te preius paid by farers for crop
insurance cover ony 40 percent of te anticipated
payouts. It is taxpayers wo foot te bi for te
oter 60 percent, aong wit deivery costs, agent
commissions and company prots. Taxpayers alsosouder a arge sare of te osses wen payouts
exceed preius, as tey did in 2012. Because
tax dollars nance such a large share of the costs,
farers decisions about ow uc and wat type of
insurance to buy do not reect their true valuation
of te insurance. And because taxpayers take uc
of te it for excess osses, insurance copanies
decisions on wat types of poicies to se ikey do
not reect prudent risk management. In addition, the
abiity of insurance copanies to anage teir risk
is restricted by te governents requireent tat
copanies ust se crop insurance to a farers
wo want it.
Overa, taxpayers outsized support akes crop
insurance ore of a far incoe support progra
tan an insurance pan. And because it is te
governents costiest far progra, it is iportant
to assess weter taxpayers are getting good vaue
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for teir doars. Te answer is no. Taxpayer subsidies
distort farmers insurance choices and inate the
progras costs.
Te detaied anaysis tat foows sows tat because
of te taxpayer subsidies, farers ave powerfu
incentives to buy Cadiac insurance poicies tat
draaticay drive up te cost of te progra.Witout tose subsidies, for exape, corn and
soybean crop insurance payouts woud ave been
ust over $6 biion in 2012 ess tan af of te
actua aounts. And farers woud sti ave ad a
solid oor under their revenues a far more cost-
eective farm safety net.
Crop InsuranCe In 2012
Tere is no better pace to begin tis anaysis tan
by reviewing ow crop insurance perfored in te
drougt year of 2012.
Figure 1 sows te nuber of acres insured and
panted in 2012 for te 11 crops wit te ost
insured acreage. Fuy 84 percent of panted acreage
for tese 11 crops was insured. Overa, tey
represent about 95 percent of tota insured crop
acreage. The top ve crops clearly dominate the crop
insurance progra, accounting for 90 percent of
tota insured acreage, 87 percent of tota preius
paid and 82 percent of te tota aount of insurance
purcased in 2012.
Fi 1. I pl C ac,ui s
Source: USDA: Risk Management Agency Summary of Business Reports and National Agricultural Statistics Service
Con so
yWhe
at
Cotto
n
soghu
m
Bale
yric
e
Sunf
ower
Cano
laBe
an
pean
ut
I
plt
millionacres
100
90
80
70
60
50
40
30
20
10
0
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Taxpayers, Crop Insurance, and te Drougt of 20126 EWG.og
Tere are tree aor insurance products avaiabe
for growers of these ve crops. Yield Protection (YP)
poicies cover osses due to ow yieds. Revenue
Protection-harvest Price Excusion (RP-hPE) protects
against ow revenue. Revenue Protection (RP)
cobines te two, protecting against osses due to
ow prices wen prices drop and against ow yieds
wen prices rise.
A farers crop insurance guarantee is set before
panting. It is deterined by te proected arvest
tie price of te crop and te farers istory, wic
is used to estiate te expected yied. Te foowing
example of how the dierent products work is based
on te case of a corn farer wit an expected yied of
200 buses per acre and a springtie-proected 2012
arvest tie price of $5.68 per buse.
YP: Insuring Against Low Yields
Under a yied protection poicy, a farers buys
insurance against ow yieds. Te yied guarantee
equas te product of a fars expected yied eve
and te coverage eve te farer seects. Coverage
eves range fro 50 to 85 percent in 5 percent
increents. Wit an expected 200-buse yied, te
farer in tis exape can seect a yied guarantee of
fro 100 to 170 buses per acre.
In te fa, te farers arvested yied per acre
is copared to te yied guarantee to deterine
weter an insurance payent is due. If te
arvested yied is ess tan te guaranteed yied,
tere is a payout equa to te yied guarantee inus
actua arvested yied (te yied oss) utipied by
te projected arvest price.
Wen defenders of crop insurance cite crop disasters
brought about by drought, ood, wind or pestilence
to argue tat crop insurance is necessary to protect
farers fro te vicissitudes of nature, teyre
taking about YP poicies, te type tat protects
against tese disasters. But very few farers actuay
buy YP. Instead, tey buy protection against revenue
decines, not just yied decines. Te two products tat
protect revenue are RP-hPE and RP.
RP-HPE: Pure revenue insurance
Wit an RP-hPE poicy, a farer cooses to protect
doars per acre, rater tan buses per acre.
Avaiabe poicies guarantee fro 50 to 85 percent of
projected revenue, wic equas springtie projected
crop price ties expected yied. Tus te corn farer
in our exape coud seect revenue guaranteesranging fro $568 to $965 per acre.
Coe fa, te arvested yied per acre is utipied
by te actua (not te projected) arvest price to
deterine arvest revenue. Tis arvest revenue is
copared to te revenue guarantee to deterine
weter tere soud be a payout. If te arvest
revenue is ower tan te guarantee, te poicy
payout makes up the dierence.
Soe farers ay prefer a revenue guarantee to a
yied guarantee because tey typicay pay production
expenses in doars, not buses. Even a buper crop
igt not generate adequate revenue to pay te bis
if te arvest price turns out to be uc ower tan
anticipated.
Advocates of crop insurance seldom tout the benets
of protection against ower-tan-expected arket
prices, peraps because a grower as ore ways to
protect against ow prices tan against ow yieds. A
farer can use forward contracts to ock in a price
we before a crop is panted, or, if e or se doesnt
want give away upside price potentia, use put
options on futures contracts as price insurance.
RP-hPE provides pure revenue insurance, since any
cobination of yied and arvest price tat generates
revenue beow a farers revenue guarantee triggers
a payout. If te cobination of price and yied
generates revenue tat exceeds te guarantee, tereis no payout. In 2012, for exape, ow corn yieds
increased te arvest price to $7.50 per buse.
Our 200-buse corn farer wo purcased an 80
percent revenue guarantee under RP-hPE (at $908.80
per acre) woud not ave received a payout if is
arvested yied exceeded 121.2 buses per acre
(908.80/7.5 = 121.2). In contrast, te farer woud
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ave received a YP payout for any yied ower tan
160 buses per acre. Tats because te iger
harvest-time price is reected in the calculation of a
farers oss under pure revenue insurance, but not
under yied insurance. Tis feature of RP-hPE akes
for ecient insurance, because it appropriately
reduces payouts wen prices rise. But te very
features that make RP-HPE ecient for taxpayersake it unpopuar wit farers.
RP: The Cadillac Crop Insurance Policy
Fro a farers perspective, te probe wit
Yied Protection is tat it does not protect against
ow prices, and te probe wit RP-hPE is tat its
coverage against ow yieds is reduced if arvest
prices are iger tan projected. RP does awaywit tese perceived probes by cobining te
coverages provided by YP and RP-hPE. RP provides
pure revenue insurance wen te arvest price fas
and pure yied insurance wen it rises. Furterore,
wen te arvest price increases, yied osses are
vaued at te iger actua arket price rater tan
te projected price.
If te farer wit te expected 200-buse-per-acre
yied ad purcased 80 percent RP and arvested
just 125 buses per acre, te yied oss woud ave
been 35 buses (0.8 X 200 125 = 35) and te RP
payout woud ave been $262.50 per acre (35 X 7.50 =
262.50). Te Cadiac nature of tis coverage becoes
obvious wen you copare wat te payouts woud
ave been under YP and RP-hPE. If te farer ad
purcased 80 percent YP, ten te payout woud ave
been $198.80 per acre. If te farer ad purcased
80 percent RP-hPE, tere woud ave been no payout
at a, because te price increase generated enoug
extra revenue to copensate for te yied oss.
Of course, Cadiac coverage coes wit a Cadiac
price. A simple analysis of costs and benets easily
expains wy farers overweingy coose tis
type of coverage.
premIums and subsIdIes
Figure 2 sows te per-acre insurance preius in
2012 for a corn farer in Capaign County, I. a
county ard-it by te 2012 drougt wo ad an
expected yied of 200 buses per acre. RP preius
averaged 80 percent iger tan RP-hPE and 90
percent iger tan YP across te coverage eves
sown.1 If crop insurance were ike oter insurance
arkets, one woud expect tat farers wo paid
iger preius for te Cadiac poicies did so
because tey vaued te additiona coverage ore
tan te cost of te preius tey paid. If tey
didnt, tey woud not buy it. But crop insurance is not
ike oter insurance arkets, because farers can
get te Cadiac coverage witout paying te Cadiac
preius.
Figure 3 sows te preiu subsidy doars avaiabe
for te tree types of crop insurance. Because te
subsidies are proportiona to te coverage aounts,
RP subsidies are 80 percent iger per acre tan
RP-hPEs and 90 percent iger tan YPs. Figure 3
sows ceary tat farers wo want to axiize
teir subsidies can do so by buying 85 percent RP
coverage a coice tat substantiay increases te
cost to taxpayers. most farers, owever, ake ore
sopisticated cacuations tan just axiizing tesubsidies.
Suppose tat preiu subsidies were equaized
on a doar-per-acre basis across a products and
coverage eves. Farers considering iger coverage
eves woud copare te increenta cost to te
additional benet. Similarly, farmers considering
weter to ove fro RP-hPE to RP woud copare
the incremental cost of RP with its additional benets
Te increenta cost of coosing a iger coverage
level or RP is reected in the dierence in premiums
sown in Figure 2. As wit any oter insurance,
the incremental benet of the additional coverage
depends on a farers abiity and wiingness to
absorb risk. When the incremental benets of higher
coverage or RP are greater tan additiona costs,
farers wi coose te ore expensive insurance.
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But as sown in Figure 3, preiu subsidies are not
equa. Farers wo buy RP and ig coverage eves
benet from higher premium subsidies. Farmers
considering iger coverage eves or RP do not ave
to pay te fu increenta costs. And tat eans
that many more will nd that the benets of higher
coverage eves and RP exceed teir subsidized cost.
Weter farers decide to increase coverage or buy
RP because of preiu subsidies depends on ow
uc of te increenta cost tey are asked to pay.
If tey dont ave to pay any of te increenta cost,
they will all nd the additional insurance attractive. If
tey ave to pay 100 percent of te increenta cost,
on the other hand, premium subsidies dont inuence
teir coices.
Figure 4 sows te proportion of increenta cost
tat te Capaign County corn farer ust pay for
iger coverage eves for a tree types of insurance
Te farer pays ony 40 percent of te additiona cos
of oving fro 65 percent to 70 percent coverage.
The costs are so low that almost all would nd that
this move generates benets that exceed their costs.
In contrast, a saer proportion of farers woud
nd that moving from 80 percent to 85 percent
coverage generates sucient benets to make it
wortwie because tey ave to pay 88 percent of
te increenta cost.
Te actua coverage eves cosen by Capaign
County corn farers are sown in Figure 5. Aost 89
Fi 2. 2012 p-ac C Ic pif Chi Cy C F
Source: Calculated from premium calculator located on USDAs Risk Management Agencys website.
rp
rp-hpe
yp
$eracre
0
85% 80% 75%
Cv Lvl
70% 65%
10
20
30
40
50
60
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percent calculated that the articially low incremental
benets of moving to the 80 percent and 85 percent
eves exceeded te increenta costs. Tat so any
farmers found that the incremental benets of 85
percent coverage to exceed te increenta costs
is soewat surprising, since tey ad to pay 88
percent of te additiona costs. One expanation istat any farers wo bougt 85 percent coverage
insured teir acreage under an enterprise unit tat
qualied them for even higher subsidies and lower
increenta cost requireents tan sown in Figure 4.
Te sae type of cacuation can be ade for te
coice of insurance product. Figure 6 sows te
proportion of increenta cost tat te Capaign
County corn farer ust pay for oving to RP
fro eiter RP-hPE or YP at various coverage eves.
Farers are ony asked to pay 41-to-62 percent of te
cost of oving to RP at te sae coverage eve. For
exape, farers insured at te 85 percent eve pay
62 percent of te cost of oving up to RP. Farers
insured at te 80 percent eve pay just over 50percent of te cost of securing te Cadiac coverage.
As a resut, youd expect tat ost farers woud
nd that the benet exceeds the costs. And you
woud be correct. Ony 11 percent of corn farers
in Capaign County wo bougt crop insurance
cose to buy RP-hPE or YP. Wen you can get Cadiac
coverage at a fraction of te actua cost, ost opt to
buy it.
Fi 3. 2012 p-ac pi sii f Chi Cy C F
Source: Calculated from premium calculator located on USDAs Risk Management Agencys website.
rp
rp-hpe
yp
$eracre
0
85% 80% 75%
Cv Lvl
70% 65%
5
10
15
20
25
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Taxpayers, Crop Insurance, and te Drougt of 201210 EWG.og
Giving farers incentives to buy RP poicies and
increase teir coverage eves increases taxpayers
costs because te aount te progra costs
taxpayers is argey proportionate to te cost of
subsidizing te preius. An exaination of
progra costs in 2012 deonstrates tat wen
preius go up, so too do progra costs.
Crop InsuranCe programCosts
Tabe 1 suarizes progra data tat can be used
to cacuate ow uc te crop insurance progra
cost taxpayers in 2010, 2011 and 2012. Tree years
of data are sown to iustrate ow uc tese costs
can vary fro year to year.
Row 1 sows te tota preiu te preiu paid
by farers pus te preiu paid by taxpayers. Row
2 is te tota payout to farers wo ade cais
against teir insurance. Gross underwriting gain
(Row 3) is cacuated by subtracting payouts (Row
2) fro preiu (Row 1). In bot 2010 and 2011
tere were gross underwriting gains, but in 2012
tere was a arge gross oss. Gross underwriting
gains are sared between taxpayers and te crop
insurance copanies. Te saring rues for osses are
copicated, but in genera, te arger te oss (cais
exceeding preius), te greater te taxpayers
sare.
Fi 4. pi f Icl C f HihCv pi y F
Source: Calculated from Figures 2 and 3.
pe
rcentage
100%
90%
80%
70%
60%
50%
40%
30%
85% m 80% 80% m 75%
Cv Lvl
75% m 70% 70% m 65%
20%
10%
0
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Row 4 sows te preiu subsidy. Tis is te
aount of tota preiu paid by taxpayers, not
farers. Te aount of te preiu paid by farers
sown in Row 5 is cacuated by subtracting te
preiu subsidy (Row 4) fro tota preiu (Row
1). In 2012, farers paid $2.882 biion in preius,
wie taxpayers paid $4.126 biion.
The net cash benet farmers gained from the crop
insurance progra (Row 6) is found by subtracting
te farer-paid preiu (Row 5) fro te payouts to
farers (Row 2). In 2010, farers netted $1.37 biion.
In 2012, farers netted aost $12 biion.
Payents to insurance copanies for teir
anageent and deivery (adinistrative and
operating costs, or A&O) of te progra in 2012
totaed $1.4 biion (Row 7). Row 8 sows te
copanies underwriting gain. In 2012 tis gain was
negative, eaning crop insurance copanies ost
$1.3 biion. Taxpayers ost ore tan twice as uc,
$3.7 biion (Row 9). Te net cas paid to copanies
in 2012 was $105 iion (Row 7 pus Row 8). Tenet cost to taxpayers was $12.1 biion (Row 11),
cacuated by adding te net cas paid to farers to
te net cas paid to insurance copanies.
Tabe 1 sows soe of te pecuiarities of te crop
insurance progra. First, note tat in 2010, taxpayers
paid insurance copanies ore tan farers
Fi 5. pi f rp, Yp rp-Hpeac I Vi Cv Lvl iChi Cy, Ill.
Source: Summary of Business Reports. USDA-RMA.
pe
rcentage
50%
45%
40%
35%
30%
25%
20%
15%
85% 80%
Cv Lvl
75% 70% 65%
10%
5%
0
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Taxpayers, Crop Insurance, and te Drougt of 201212 EWG.og
received in net payouts. In fact, taxpayers paid
copanies ore tan farers in six of te ast 12
years. Tis iustrates bot te ig cost of deivering
te progra and te arge year-to-year swings in
payouts. Tese are a direct resut of so uc of te
progra being concentrated on corn and soybeans.
Wen tose two crops do we, te progras costs
are doinated by payents to te copanies.
Second, wen tere are underwriting gains, insurance
companies benet more than taxpayers. In 2010,
57 percent of te gross underwriting gain went to
te copanies. Taxpayers got 43 percent. In 2011,
copanies gained $1.7 biion wie taxpayers ost
$550 iion, even toug te progra as a woe
ad a gain of $1.1 biion.
In 2012, taxpayers wi absorb aost 75 percent
of te gross underwriting oss. Tis is because te
copicated forua for saring gross underwriting
gains ensures tat taxpayers send ots of oney to
copanies wen osses are sa and greaty iits
te oss to copanies wen overa osses are ig.
Since 2001, taxpayers have paid companies signicant
underwriting gains in every year except 2002 and2012. Over te 12 years, copanies ave enjoyed
$10.3 biion in underwriting gains at taxpayers
expense. Taxpayers have suered a net loss of $276
iion over te sae period.
Te structure of te crop insurance progra ensures
tat taxpayer costs are argey proportionate to te
tota preiu paid by farers and taxpayers. Te
Fi 6. pi f Icl C pi yF mvi rp f ih rp-Hpe Yp
Source: Calculated.
perc
entage
60%
50%
40%
30%
20%
85% 80%
Cv Lvl
75% 70% 65%
10%
0
-
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cost of preiu subsidies increases as te tota
aount of preius goes up, and te net cas paidto farers goes up and-in-and wit preiu
subsidies.
Average underwriting gains paid to copanies are
also proportionate to total premiums. And nally,
adinistrative and operating reiburseents (A&O)
aso go up as preius rise, atoug tey ave been
capped since te Standard Reinsurance Agreeent
was renegotiated in 2011 as ong as tota preiusdont fa beow about $8 biion.
Figure 7 iustrates te strong positive reationsip
between taxpayer costs and tota preius, wic
is te ain reason taxpayers costs for te crop
insurance progra ave expoded.
tl 1. C Ic p C
a Nationa Suary of Business Reports, USDA- RmA as of Apri 1, 2013.
bRow 1 inus Row 2.
cRow 1 inus Row 4.dRow 2 inus Row 5.
eCost and outlay estimates http://www.rma.usda.gov/aboutrma/budget/cycost2003-12.pdf
fFor 2010 and 2011, Reinsurance Reports, USDA-RmA. Cacuated for 2012.
g Row 3 inus Row 8.
Row 7 pus Row 8.
i Row 6 pus Row 9.
Co yea
2010 2011 2012
row # $ mons1 Tota Preiusa 7,593 11,968 11,083
2 Payoutsa 4,250 10,855 16,089
3 Gross Underwriting Gainsb 3,343 1,113 -5,006
4 Preiu Subsidiesa 4,711 7,461 6,957
5 Farer-Paid Preiusc 2,882 4,507 4,126
6 Net Cas to Farersd 1,368 6,348 11,963
7 A&O Reiburseentse 1,371 1,383 1,411
8 Copany Underwriting Gainsf 1,915 1,666 -1,306
9 Governent UnderwritingGainsg
1,428 -553 -3,700
10 Cas to Copanies 3,286 3,049 105
11 Taxpayer Costi 4,654 9,397 12,068
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Taxpayers, Crop Insurance, and te Drougt of 201214 EWG.og
Premiums have risen for two reasons. The rst is
tat ig prices ave ade crops ore vauabe,
aking te ore expensive to insure. Te second
is tat te powerfu incentives farers ave to buy
iger eves of te far ore expensive RP poicies. To
understand the magnitude of these eects and the
resuting escaation in costs, it is usefu to cacuate
wat te progra woud ave cost in 2012 if farerswo bougt RP poicies ad instead purcased YP or
RP-hPE.
2012 paYouts wItHout rp
Preius for RP coverage are iger tan for YP and
RP-hPE because farers ave a iger cance of a
payout and typica payouts are iger. If te arvest
price is ower tan te springtie price, ten RP andRP-hPE payouts wi be te sae and bot wi be
iger tan YP payouts. If, owever, te arvest price
is iger tan projected, payouts for RP coverage wi
be iger soeties far iger tan for YP. And
YP payouts in turn wi be iger tan for RP-hPE .
Te drougt year of 2012 provides a good case study
to understand wy payouts fro RP are so uc
iger tan fro YP or RP-hPE wen disaster strikes.
Wen farers ocked in teir insurance yied or
revenue guarantees for 2012, projected prices were
$5.68 per buse for corn and $12.55 per buse
for soybeans. As it turned out, te actua prices at
arvest were $7.50 and $15.39 per buse as te
drougt owered yieds and drove up crop prices. A
straigtforward cacuation sows ow uc ower
payouts woud ave been if every corn and soybean
farer ad purcased a YP poicy instead of an RP
poicy at te sae coverage eve. Wen te arvest
price is iger tan te projected price, RP poicies
pay for any yied oss at te iger vaue, wie a YP
poicy woud pay out at te ower projected price. Te
percent dierence between an RP and a YP payout is
equa to te ratio of te projected price to te arvest
price.
Witout knowing eac farers actua yied, it isnt
possibe to deterine exacty wat payouts woud
ave been if every farer wo purcased an RP
poicy ad instead purcased RP-hPE. however, its
possibe to estiate te payouts by using te actua
per-acre payouts for RP-hPE at eac coverage eve
for eac state and aking te assuption tat te
per-acre payouts woud ave reained constant if a
RP poicies been RP-hPE instead. Its a sipe atter
of utipying te per-acre payouts by te nuber ofacres insured under RP at eac coverage eve..
Tabe 2 sows te resuts for corn and soybeans,
wic accounted for aost 80 percent of a payouts
for insured crops in 2012.
In reaity, ore tan 94 percent of corn and soybean
payouts in 2012 resuted fro crop osses covered
by RP poicies. If tey ad been YP poicies instead,
payouts woud ave been cut by 22 percent, fro$12.7 biion to $9.9 biion. Because RP vaues crop
osses at te iger of te arvest price or te
projected price, payouts were $2.8 biion iger.
Wit RP-hPE poicies, te cost to taxpayers woud
ave been even ess. Corn and soybean payouts
woud ave been cut by ore tan af to just over
$6 biion. Tis cacuation sows te iportance
of a proper denition of what constitutes a loss. If
the eects of drought-induced higher prices are
appropriatey accounted for, te ipact of te
drougt is substantiay saer tan if te iger
prices are ignored. RP-HPE policies eectively account
for drougt-induced iger prices. RP poicies do not.
wHat ConstItutes anadequate saFetY net?
It is cear tat current preiu subsidies give farers
incentives to buy RP poicies, greaty increasing te
progras costs. Te two questions poicyakers
should ask are:
1. Given te iits on agricuture subsidy doars,
does it ake sense to spend te on RP
coverage?
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2. Woud farers ave an adequate safety net if
tey purcased YP or RP-hPE poicies? It woud
be easy to answer tis question if we knew wat
kind of safety net farers woud purcase if
taxpayers were not subsidizing soe of teir
coices. Unfortunatey, teres no way to know
ow farers woud spend teir own oney if
their decisions were not heavily inuenced bysubsidies. A usefu aternative, owever, is to
examine the dierent degrees of safety provided
by te ain tree insurance products.
Return now to te corn farer wit an expected
yied of 200 buses per acre. Suppose tat before
panting corn in 2012, tis farer anticipated getting
a price of $5.68 per buse and a yied of 200 buses.
Tat is, tis farer expected revenues of $1,136 per
acre ($5.68 x 200 buses). Suppose furter tat tis
farer purcased crop insurance at te 85 percent
coverage eve. At tis eve RP and RP-hPE provide an
insurance guarantee of $965.60 per acre. Under YP
te guarantee is set at 170 buses per acre. Beow
tis yied eve te ost buses woud be vaued at$5.68 eac. Tabe 3 sows payouts, arket revenues
and tota revenues for tis farer if is 2012 yied
was 0, 50, 100 or 150 buses per acre, assuing tat
the farmer sells the corn at the 2012 ocial harvest
price of $7.50 per buse.
Because te arvest price of $7.50 per buse was
Fi 7. C Ic p C tlpi sic 2001
Taxayer
costs($million)
14,000
12,000
10,000
8,000
6,000
4,000
2,000 4,000
Ttl pmim ($ milli)
6,000 8,000 12,00010,000 14,000
2,000
0
Source: Calculated by author.
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Taxpayers, Crop Insurance, and te Drougt of 201216 EWG.og
iger tan te projected price of $5.68, RP payouts
are iger tan YP and RP-hPE payouts at a treeyied eves. YP payouts occur wenever RP payouts
occur but are ower because YP poicies pay out at
te ower projected price. Tere is no RP-hPE payout
wen yied is 150 buses per acre because revenue
fro seing te saer crop at te drougt-induced
iger price is above te guaranteed eve.
Tota revenue equas te arket revenue pus te
insurance payout. RP tota revenue is constant at
$1,275 per acre because te RP payout copensatesfor ost buses at te sae price tat te farer ses
arvested buses. Note tat tota revenue under RP
is $139 per acre iger tan anticipated revenue. Tis
sows tat wen prices increase and tere is a yied
oss, farers wo buy RP actuay net ore revenue
tan if tere ad been no drougt.
Te sae situation can occur wit YP coverage if te
yied oss is not too great, but wit YP te reasonwy tota revenue is iger tan anticipated revenue
is tat arvested buses are sod at a iger price.
Wen yied is ow enoug, tota revenue wi fa beow
anticipated revenue, but it wi never fa beow te
insurance guarantee of $965.60.2
Because RP-hPE provides pure revenue insurance,
te farer can never coect an insurance payout
tat produces ore revenue tan te insurance
guarantee. If tota revenues rise above teguaranteed eve, it is because te farer as
beneted from the drought-induced higher prices,
which oset part or all of any loss from lower yields.
Supporters of te crop insurance industry cai
tat te 2012 Corn Bet drougt was devastating
to farers.3 But Tabes 2 and 3 sow tat ow
tl 2. Ic f rp 2012 C sypy ($ illi)
Source: Summary of business reports, USDA-RMA and author calculations.
Actua paouts Con Soean Totarp $10,064 $1,899 $11,962
yp $378 $105 $328
rp-HpE $223 $20 $398
Tota $10,665 $2,024 $12,688
paouts f yp eaced rp
yp $8,000 $1,631 $9,631
rp-HpE $223 $20 $243
Tota $8,223 $1,651 $9,874
paouts f rp-HpE eaced rp
yp $378 $105 $483
rp-HpE $4,775 $764 $5,539
Tota $5,153 $869 $6,022
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devastating te drougt was depends on your
denition of devastation. Given the high proportion
of acres insured in 2012, te size of te payouts is
one easure of devastation. Actua payouts to corn
and soybean farers totaed $12.7 biion. Wen cropinsurance contracts were signed before panting tie
in 2012, corn and soybean farers expected to earn
a tota of $116 biion in arket revenue. Insurance
payouts, ten, wi account for about 11 percent of
tota anticipated revenues. But RP poicies accounted
for aost a of tese payouts, and RP payouts
overstate actua econoic osses because tey do not
account for te iger revenues farers captured
because of drougt-induced iger prices.
Tabe 1 provides a better easure of te degree
of devastation. Payouts woud ave been just over
$6 biion if farers wo bougt RP coverage ad
instead bougt RP-hPE poicies ess tan af of
te actua payouts. As sown in Tabe 3, farers
with RP-HPE coverage would have had a solid oor
under teir revenues. By te RP-hPE easure of
devastation, osses due to te drougt aounted to
about 5 percent of anticipated revenues.
Te point is not to argue tat te drougt did not
seriously aect crop yields. Clearly it did. But givente ig cost of te crop insurance progra, it is
reasonabe to ask weter it akes any sense to
entice farers to buy Cadiac coverage wit taxpayer
doars wen a basic revenue guarantee is possibe at
uc ower cost.
It is no ystery wy farers want to buy RP
coverage: it is more heavily subsidized and it pays out
more, hence farm prots are higher. There is only one
possible risk management benet for farmers who
buy RP. Farers wo forward se teir crop face te
risk tat tey wi not ave enoug yied to deiver on
te contract. If te price of te contracted coodity
rises, producers wit a sort crop wi ose oney
because tey ust purcase ore expensive grain to
onor teir contract. Farers wo forward contract
te exact sae proportion of teir crop tat tey
insure with RP will nd that the additional payout
tl 3. oc f Ic py f dh-sick C F
Source: Calculated.
Havested yed (u/ace)
0 50 100 150Maet revenue ($/ace) $0 $375.00 $750.00 $1,125.00
paout ($/ace)
rp $1,275.00 $900.00 $525.00 $150.00
rp-HpE $965.60 $590.60 $215.60 $0.00
yp $965.60 $681.60 $397.60 $113.60
Tota revenue
rp $1,275.00 $1,275.00 $1,275.00 $1,275.00
rp-HpE $965.60 $965.60 $965.60 $1,125.00
yp $965.60 $1,056.60 $1,147.60 $1,238.60
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Taxpayers, Crop Insurance, and te Drougt of 201218 EWG.og
under RP copensates te exacty for tis edging
oss. Tus purcasing RP owers te risk to farers of
forward seing teir crop.
Given te pressure to cut funding for a agricutura
progras, it is a stretc to argue tat every doar
currenty being used to encourage farers to buy RP
and ig coverage eves is needed, wen te onypossible risk management benet is to reduce some
farers edging risks. If farers ad to pay te fu
increenta costs of RP, ony tose wo igy vaue
te additiona edging risk protection woud buy
it. Te rest woud opt for RP-hPE or YP. Tis woud
draaticay ower te cost of te crop insurance
progra wie sti providing a generous safety net.
Te considerabe savings coud be sared between
decit reduction and other programs in which bothtaxpayers and farers ave a fundaenta stake
in te outcoe, suc as conservation and researc.
making farers pay a arger sare of te increenta
cost of Cadiac insurance coverage woud be a good
pace to start.
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notes
1. Te preius sown in Figure 2 are designed to be actuariay fair in tat tey woud generate enoug revenue to pay
out expected indenities over tie.
2. If te arvest price is ower tan te projected price, ten tota revenue for te farer wo buys YP can fa beow te
insurance guarantee if yied is positive because arvested buses wi be sod at a price tat is ess tan te price at
wic any yied oss is vaued.
3. See, for exape, To Zacarias, Farers Rey on Crop Insurance wen Nature Turns Against Te. Te hi, marc 1,
2013.