Subscribe to E-Bulletin Donate to CEGA

Productivity, Credit, Risk, and the Demand for Weather Index Insurance in Smallholder Agriculture in Ethiopia

Development Challenge

Although total agricultural output has risen in the past decade, food production in Africa has not kept up with the increase in population, and food security remains a pressing issue. When used correctly, inputs such as fertilizer and improved seeds can raise agricultural yields, yet adoption of such inputs remains low in many African countries. Recent research suggests that farmers are averse to the risks associated with adopting new agricultural inputs, and may not have the cash available to finance new inputs or cushion financial loss. 

Context

In Ethiopia, 80 percent of the population is employed in the agricultural sector and 95 percent of cultivated land is held by smallholder farmers. Farmers often face unpredictable weather which, in turn, leads to unpredictable yields. While several programs promote fertilizer use, volatile weather and inconsistent rates of return on fertilizer use make it a risky investment and prevent high adoption rates. Moreover, fertilizer and other inputs are expensive and the cost of credit is high. The result is that investments in inputs that could increase yields are considered too risky and expensive to take up.

Evaluation Strategy

A randomized evaluation in the Amhara region of Ethiopia explored whether the availability of Weather Index Insurance (WII) interlinked with credit can increase the demand for fertilizer and thereby improve agricultural productivity and ultimately reduce poverty.

The evaluation had two treatment arms. In the first treatment, farmers were offered a standalone index insurance product, provided by Nyala insurance, which insured the cost of inputs (fertilizer and improved seeds), and paid out in the event of low rainfall. The second treatment arm linked credit with the insurance product and was offered as a state-contingent loan. The same insurance was offered, but in the event that the insurance paid out, the loan (including premium costs) and interest did not need to be repaid. Otherwise the loan must be repaid.

Nyala Insurance helped select 49 villages included in the sample. 34 village cooperatives were randomly selected to be in the treatment group; of these 34, half were offered standalone insurance only while the other half were offered the choice of either standalone or interlinked insurance.  In the first year of sales vouchers that enabled households to receive a small quantity of free insurance were randomly distributed to study households, and in the second year they were distributed to all households in treatment cooperatives, resulting in almost 3,000 insurance contracts being issued in 2013.  Uptake for insurance when given a voucher was over 40%, but remained less than 1% when no subsidy voucher was received. 

Results and Policy Implications

The preliminary results indicate that WII has a palliative rather than transformative effect. It protects farmers who already have relatively high rates of fertilizer use against risk. It does not, however, increase fertilizer demand among farmers who do not invest in inputs. The driving determinant of WII uptake, regardless of whether it is a standalone or interlinked offer, is an insurance subsidy voucher greater than zero. Those offered a zero percent subsidy voucher were very unlikely to take up either product. Among those offered a subsidy only 21 percent paid above the value of their voucher indicating that the majority of farmers will only insure the percentage of their land that is fully covered by the subsidy. The take up rate for standalone insurance was 44.5 percent while it was only 35 percent for the interlinked insurance; however, among those who opted for interlinked insurance the average was sum was approximately 700 Birr more.

Researchers faced several challenges to effective implementation, which may have affected the results. Cooperative Unions were expected to guarantee the loans, but they refused so the credit never materialized. Additionally, local extension agents were tasked with explaining WII leading to concerns about accurate and consistent spread of information.

The results suggest that introducing WII is a challenging process that requires a coordinated effort. Specifically, it requires the coordinated and persistent effort between all involved parties including agriculture extension programs, banks and insurance companies. Insurance subsidy vouchers can be an effective tool to promote the uptake of vouchers in these new markets. 

Timeline

2011-Ongoing

Photo Credit: Sana Khan, J-PAL, Ethiopia 2010