It’s been more than 3 years since the launch of first weather insurance contract in India. Newer ideas have been tried and implemented and the segment has grown sizably in last 3 years. Lot has been said and discussed about weather derivatives and their application for Indian agriculture sector. The concept even found mention in the budget speech of Finance Minister in 2005.
As the pioneers of weather risk management in India, we have been through the thick and thin of this debate. To help people better understand the concept and its application, we have devised a set of FAQs which highlight both the benefits and the limitations of the product. The FAQs also give a brief overview of future challenges for the growth weather risk management industry in India.
1. How does weather impact farm productivity?
Adverse weather conditions can impact crop yields in multiple ways:
a. Creating water imbalance that affects the photosynthesis process of the plant resulting in decline in crop yields in a rain-fed area. (see adjacent figure)
b. Extreme weather conditions which some crops are very sensitive to, like - thunderstorm, extremely high / low temperature, hail etc.
c. Weather conditions resulting in higher than normal pest infestation or disease outbreak in plants
Extent of impact on the crop would depend on various other factors like crop type, soil conditions and farm management practices being employed by individual farms.
2. What is weather insurance in its existing form?
Weather insurance seeks to provide farmers a compensation incase of happening or non-happening of specific weather event that is likely to have bearing on the crop yields. For e.g. if inadequate rainfall generally results in drop in yield due to water scarcity, weather insurance would compensate the farmer incase the rainfall recorded at the benchmark weather station is less than the specified threshold as per the policy.
Many of the weather insurance schemes currently operating are based on location and cover same weather parameters irrespective of the crop. Thus, a rainfall deficit cover for Khammam would cover for rainfall of less 100 mm in July irrespective of the crop sown.
3. What are the advantages of weather insurance vis-à-vis existing crop insurance schemes?
Since weather events can be captured real time, loss of yields due to a specified weather event can be settled real time….say within 10-15 days of the occurrence of the event. The present crop insurance schemes settle claims based on actual area yield, the settlement process is generally delayed (say upto 6-12 months from the occurrence of the event). Further, the existing crop insurance schemes are available for select crops and leave out horticulture, plantation and many other commercial crops.
4. Drawbacks in current weather insurance schemes?
However, current weather insurance schemes have proved to be inadequate in compensating the farmers for the actual loss incurred by them due to adverse weather conditions. The primary reasons for this are:
a. Large basis risk: Most covers provide for compensation on the basis of weather parameters recorded at the weather station situated quite far from the actual farm location. Since the spatial variation in weather parameters (especially rainfall) is high, the compensation usually doesn’t reflect the actual impact of adverse weather condition at the farm location. If the weather station in more than 5-7 kms away from the farm location incase of plains, it is likely that quantity and time of rainfall at farm location is significantly different from that of weather station. Impact of basis risk is felt more incase of covers close to mean or covers for very short duration. Also, rainfall measurements have higher basis risk than temperature.
b. Disregard to plant physiology and soil conditions: Most weather insurance structures whether generic or crop specific don’t take into account specific aspects relating to physiology of the crop and nature of soil at the location. Plant physiology, soil type and other weather variables like temperature and humidity play a crucial role in identifying the water requirement of crop. For e.g soil type would affect its water retention capacity thus impacting the water requirement. Similarly, high temperature would result in higher rate of evapo-transpiration increasing the water requirement.
Weather insurance product designed without paying attention to the above factors would not be beneficial to the farmers and they would end up paying premium for an insurance that doesn’t cover them adequately.
5. What should and can be covered under weather insurance?
Ideally, weather insurance should be customized according to crop, geography, soil condition etc. The product can incorporate the following features
a. Yield losses due to Stage-wise water imbalance caused on account of deficit rainfall, changes in temperature and humidity measured at a weather station.
A particular crop requires 150 mm of water in stage 1 at a normal rainfall, temperature and humidity condition. Given all other parameters as constant, if the rainfall is less than 150 mm, the water availability would go down resulting in water imbalance. On the other hand, if the temperature is very high and results in higher evapo-transpiration, water requirement would increase to 160 mm and given all other conditions as constant, it will lead to water imbalance.
Farmers should be compensated for cumulative yield loss on account of water imbalance at various stages of crop duration. E.g. if the cumulative yield loss on account of water imbalance in stages 1,2 & 3 is resulting in non-recovery of farmers total cost of cultivation (incl. imputed labor), farmer would be compensated to the extent of cost not recovered at a pre-agreed sales price of the crop.
b. Cover losses on account of certain extreme weather events which specifically impact these crops only and where the extent of impact can be quantified fairly accurately.
c. Cover accelerated and abnormal incidences of pest on account of specific weather events resulting in abnormally high cost of pest management or yield losses.
However, weather events (except temperature) are very location specific Individual farms should be covered if and only if a weather station is within 5-7.5 km radii of the farm. However Banks and other agri-stakeholders can take a cover for a larger geographic region based on data from a basket of rainfall stations located at various coordinates within the geographic region.
6. Limitations of weather derivative / insurance?
a. Extreme weather events happening in short durations generally have high basis risk. To ensure that model closely predicts actual loss at farm location on account of happening of weather event would require weather station to be based in vicinity (within around 5 kms) of the farm location.
b. Normal incidence of pest infestation even if induced by weather conditions, shouldn’t be covered as it can be managed by more effective and cheaper crop protection measures. Only abnormally high incidences of pest and disease that have been accelerated and elongated because of conducive weather should be covered by weather insurance.
c. Heightened impact of weather on account of specific farm level problems cannot be presently covered under weather insurance. E.g. high flood losses on account of farms being located near the foothills cannot be covered through weather insurance.
d. Weather insurance cannot cover yield losses happening on account of anything other than specified weather events. E.g. fire, pest, disease, rodents etc.
e. Currently weather insurance products are not designed to cover yield losses on account of weather events like hail and frost injury.
For further info. or query Pls contact: Anuj Kumbhat -
anuj@weather-risk.net 
In order to take care of this situation, the financer can buy a weather insurance policy at @ annual premium of 3-4% of the project cost (i.e. approx. Rs. 200,000) and can be easily built into the user fees i.e. approx Rs. 200 per family per annum. Weather insurance would reduce the lock the maximum payback period of the project at a level that is acceptable to the stakeholders (see graph above). This mechanism would make the program more sustainable.
