Crop Insurance 101

What is crop insurance?

Crop insurance in America can trace it roots all the way back to 1880, when private insurance companies first sold policies to protect farmers against the effects of hail storms. These Crop-Hail policies are still sold today by crop insurance companies and are regulated by individual state insurance departments. In 2017, farmers spent $956 million on Crop-Hail insurance to protect $36 billion worth of crops.

In addition, farmers may also purchase Federal Crop Insurance, also known as multi-peril crop insurance, a risk management tool that protects against the loss of their crops due to natural disasters such as drought, freezes, floods, fire, insects, disease and wildlife, or the loss of revenue due to a decline in price. This form of crop insurance is federally supported and regulated and is sold and serviced by private-sector crop insurance companies and agents.

Participation in multi-peril crop insurance has grown rapidly since the private sector began delivering it in 1981. Back then, only 45 million acres and $6 billion worth of crops were insured. By 2017, 1.1 million policies were sold protecting more than 130 different crops covering 311 million acres, with an insured value of $106 billion.

The Federal program provides timely assistance to farmers when they need it most, while reducing taxpayer risk exposure. Today, crop insurance is the cornerstone of U.S. farm policy.

Is crop insurance like other forms of insurance?

All insurance, from auto to life, health, and crop insurance works best when it expands the number of people it covers – a concept known as the “risk pool.” That is because the greater the participation, the more widely risk can be spread. And by spreading the chance of loss among a diverse group of insureds, premiums become more affordable for everyone involved.

Additionally, participants in all forms of insurance must pay premiums and shoulder deductibles. This gives the insured some ownership of their own protection and prevents participants from engaging in risky behavior – sometimes referred to as “moral hazard.”

In this sense, crop insurance works like other forms of insurance. However, the parallels are not perfect because agriculture is a unique kind of business that suffers unique kinds of losses. Unlike other insurance lines, agricultural losses tend to be geographically targeted and severe.

For example, there is little chance that every car in a city will be simultaneously totaled, or that every person in a state will need medical help at the same time. But a single flood, storm, or drought can cause a catastrophic loss for every farming operation in a county or region, which makes it more difficult to insure.

Because of this higher risk, the concentration of losses, and the likelihood for wide-scale disaster, crop insurance policies would be cost prohibitive and very limited without some form of government support. Thus, America has a crop insurance system based on a public-private partnership between private insurance providers and the U.S. Department of Agriculture.

Under this arrangement – spelled out in a contract known as the Standard Reinsurance Agreement – companies that sell crop insurance must sell a policy to any eligible farmer at the premium rate set in advance by the Federal government. In addition, insurers cannot refuse to provide protection, raise the premium rate or impose special underwriting standards on any individual eligible farmer, regardless of risk.

Who benefits from crop insurance?

Farmers use crop insurance to financially recover from natural disasters and volatile market fluctuations; pay their bankers, fertilizer suppliers, equipment providers and landlords; purchase their production inputs for the next season; and give them the confidence to make long-term investments that will increase their production efficiency.

This may explain why most farm leaders across the country have called crop insurance their top risk management tool and a policy priority heading into the Farm Bill debate. Of course, others also benefit when farmers have proper protection against uncontrollable risks. For example:
         •The rural economy is largely dependent on farmers’ ability to rebound after disaster strikes. A study by Farm Credit Services of America explained this relationship following the historic 2012 drought, noting that crop insurance saved 20,900 jobs – with an annual labor income of $721 million – in Iowa, Nebraska, South Dakota, and Wyoming alone.
         •Absent crop insurance, the cost of natural disasters that harm farmers would fall directly on U.S. taxpayers, which happened repeatedly before the widespread use and availability of crop insurance. In fact, 42 emergency disaster bills in agriculture cost taxpayers $70 billion from 1989 to 2012, according to the Congressional Research Service. Since crop insurance emerged as the cornerstone of farm policy, farmers shoulder a portion of the risk along with private-sector crop insurance companies, and the federal government.
         •Every American consumer relies upon agriculture for food and clothes, and agriculture accounts for nearly five percent of America’s economy and around 10 percent of U.S. employment. Therefore, it is in the public interest to have a financially stable agricultural sector and a publicly-supported safety net for farmers, who increasingly face variable weather patterns and unfair competition from foreign countries that subsidize heavily and violate international trade rules. Crop insurance is a critical part of this safety net.

Who shoulders risk in crop insurance?

Absent crop insurance, the cost of natural disasters that harm America’s farmers would fall solely on the laps of taxpayers.

The 2014 Farm Bill cemented crop insurance as the cornerstone of farm policy. Today, farmers are asked to pay for part of their own safety net and risk is more evenly distributed among three parties through a cost-sharing structure.
         •Farmers must first purchase crop insurance before being protected, and must shoulder a portion of the losses through deductibles before receiving an indemnity for the verifiable loss. On average, a farmer in the United States must lose at least 25 percent of the value of their crop before a crop insurance policy kicks in – losses that taxpayers may have been asked to cover in ad hoc disaster bills.
         •Crop insurance providers pay indemnities from their own coffers on most claims, thus minimizing cost to taxpayers. And when indemnities paid are greater than premiums received, companies experience an underwriting loss and lose money. Since the inception of the public-private partnership, insurers have experienced net underwriting losses in 1983, 1984, 1988, 1993, 2002 and 2012.
         •The Federal government acts as a reinsurer by providing insurance for the insurance companies. As such, the government bears an agreed-upon portion of the companies’ underwriting losses, and in return, the government takes a share of the companies’ underwriting gains. In short, as a reinsurer the government will help shoulder excessive losses in bad years like 2012, but will receive underwriting gains from farmer premiums in good years.

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