88098 2 Mexico Agriculture Insurance Market Review October 2013 SAB Basic Crop Insurance: A Successful Public-Private Partnership A Demonstrated Need for Adequate insurance sales in Mexico, and approximately 80 Protection for Farmers percent of crop and 60 percent of livestock insurance is linked to loans. However, it is estimated that about In the fall and winter of 2010/2011 a severe frost 35 percent of farmers with loans do not have crop hit Northwest Mexico which nearly destroyed insurance. Farmers were trying to minimize their agricultural yields in the region. The State of Sinaloa premium cost by limiting sums insured, or the perils faced particularly dramatic damage, emerging from covered, or otherwise were managing to obtain a letter the growing season with MXP 2.61 billion in claims of exception from an insurance company (specifying and a loss ratio of 1,346 percent (claims divided that their crop or area is not coverable by insurance). by premiums as a percentage) for just those crops insured by farmer mutual insurance funds (Fondos).1 In the face of these challenges, the Government sought a more robust system that would provide The severe losses in 2010/2011 also demonstrated adequate agriculture insurance coverage and a deeper issue: farmers were only purchasing the increase penetration of the market, while at the minimum levels of agriculture insurance required by same time reducing the need for ex post or ad hoc credit providers to cover their loan amounts, and not governmental interventions. the farmers’ own proportion of the production costs. Most farmers facing crop losses did not have their The SAB Model own investment in the costs of production covered by insurance and were forced to take out new loans SAB (Seguro Agrícola Básico) is a basic crop in order to replant their crops, increasing the sum insurance scheme developed jointly by the Ministry insured by Fondos for 2012. This pattern was leading of Finance (SHCP), private banks, state banks to decapitalization, lack of resources for subsequent (FIRA), private insurance companies, Fondos, and crop cycles, and loss of income, and the Government the Ministry of Agriculture, Livestock, and Fisheries of Mexico frequently had to intervene to provide (SAGARPA). Officially launched in the autumn/ financial assistance after major loss events. winter season 2012/2013, SAB is intended to be a standardized crop insurance product to be marketed In addition, there were loopholes in the existing policy to commercial farmers by insurance companies and requiring crop insurance in order to access credit, Fondos and to increase market penetration for basic which allowed many farmers to avoid purchasing crop insurance. It is an extension of the existing any coverage. Credit is the main driver of agricultural Investment Cost Policy (Seguros a la Inversion), which is the principal cost insurance policy type in use in Mexico and has been the main crop insurance 1 Fondos are mutual insurance funds formed by local growers which only provide insurance to their members. They operate under policy linked to credit. Investment Cost Policy forms a differentiated legal framework and reinvest any underwriting the technical basis for SAB, though SAB attempts to surplus into contingency reserves or social services in the local community. incorporate production costs into its coverage and overcome the loopholes exploited under Investment cannot exceed 70 percent of the yield used to derive Cost Policy. the expected revenue, and the sum insured for Layers 1 and 2 combined is divided into the Insured Yield to Similar to the Investment Cost Policy, SAB offers two establish a sum per unit of production, which forms the loss adjustment versions: Named Peril Crop Insurance basis on which losses will be adjusted. The deductibles (NPCI), which is used mainly on irrigated land, and for Layers 1 and 2 vary between 10 and 30 percent of Multiple Peril Crop Insurance (MPCI), which is used the sum insured. mainly on non-irrigated land. Coverage is divided into three layers (see Figure 1 for more details): The Government plans to extend the existing premium subsidy level of 35-60 percent for Layer 1 to include • Layer 1: Credit amount normally loaned Layer 2, and 75 percent for Layer 3 (see Table 1 for per hectare as the standard seasonal crop premium subsidy levels by State). The market has production loan (currently required to receive advised that it intends to maintain the existing premium financing). Amounts to 75-80 percent of the rates which are in force for Investment Cost Policy and financeable costs per hectare. apply these same rates to the combined sums insured • Layer 2: Component which farmers are for Layers 1, 2, and 3. expected to contribute towards the financeable variable costs of production from their own Key Features of SAB resources. Amounts to 20-25 percent of the financeable costs per hectare. • SAB is based on the existing Investment Cost • Layer 3: Catastrophe Layer, which is only Policy, and will be operated using similar loss triggered once total loss or constructive total adjustment methods and premium rates. loss is declared. • Coverage is extended to Layer 2 to include Layers 1 and 2 combined form the core SAB policy farmers’ own financial contributions to the modeled on the Investment Cost Policy, with the costs of production, and to Layer 3 to include addition of the farmers’ own production cost coverage additional financial assistance in the event of (Layer 2). However, the Insured Yield under SAB catastrophic total loss. Figure 1. The Three Component Layers of the SAB Distribution of Sum Insured Layer 3: Risks: Catastrophic Before Emergence of Sum Insured Climatological Events Sum Insured Layer 2: Total Sum Insured (TSI): Risks: 25% of TSI At least 70% and 1. Before Emergence up to 90% of the 2. Climatological technological Sum Insured 3. Biological package (CTPT)* total Layer 1: 75% of TSI * In average, the amount associated to credit that is insured is around 60% of the CTPT (FIRA) Source: FIRA/SHCP/SAGARPA presentation. Table 1. Rates of Premium Subsidy for Basic Types of Crop* by State, for Layers 1 and 2 of SAB Region 1 Region 2 Region 3 Region 4 60% Subsidy 45% Subsidy 40% Subsidy 35% Subsidy Campeche Aguascalientes Chihuahua Baja California Guerrero Distrito Federal Coahuila Baja California Sur Oaxaca Guanajuato Colima Sinaloa Quintana Roo Hidalgo Durango Sonora Tabasco Edo. de México Jalisco Veracruz Michoacán Nayarit Yucatán Morelos Nuevo León Puebla Tamaulipas Querétaro San Luis Potosí Tlaxcala Zacatecas Source: Authors with data from Agroasemex, 2012. Note: *Eligible basic crops are Coarse and Small Grains as well as Oilseed crops. • The Sum Insured is determined by technological and Fondos. Premium rates in the market have packages provided by FIRA. increased as a result of the 2010/11 claims events, and the higher sums insured for SAB • For Layers 1 and 2 coverage, there is a 35-60 further increase the premium cost compared percent premium subsidy, and for Layer 3, a to the existing Investment Cost Policy (Layer 75 percent subsidy. 1 only). The level of demand for the product remains to be seen, and whether there is a Challenges, Observations and need in the future to strengthen directives Options for Strengthening SAB to link SAB to credit. The introduction of SAB does not substantially alter the product As SAB was only launched in 2012, there is little data range available to producers, but it provides available on the results of implementation. However, a logical and uniform marketing package. based on an analysis of the proposed policy, the Option: Issue directives from FIRA and following observations and options for strengthening encourage marketing of SAB by insurers SAB can be proposed: and Fondos to increase uptake of SAB. Alternatively, subsidize 100 percent 1. International experience has shown that of Layer 3 on a flat rate basis where demand on a voluntary basis for agricultural beneficiaries purchase Layer 2. insurance is often weak, and market volumes are highly dependent on compulsory linkages, 2. An actuarial review of the real premium rates particularly to credit. Since Layers 2 and 3 applicable to Level 3, according to crop, State, of SAB are not compulsory to producers, and farming system (irrigated or rainfed) would maintaining the status quo for producers allow the Government to consider whether by insuring only Level 1 is a possibility. The the current 75 percent premium subsidy is uptake of SAB is unknown and will be heavily sufficient to cover the actuarial needs of Level dependent on marketing efforts by insurers 3, in which case Level 3 could be provided at no cost to producers (as is the case with the as the actual commodity prices available basic weather catastrophe insurance program to farmers are higher than the conservative CADENA, on which Level 3 is modeled in figures used in the FIRA packages. Option: terms of sums insured). Option: Conduct Address the subsidy rules for Yield an actuarial review of the real premiums Guarantee Crop Insurance policies in applicable to Level 3. order to prevent paying more than the actual market crop value per ton in case 3. Insurers propose to maintain the same of production shortfall. principle of establishing an Insured Yield for each farmer, and to increase the Insured Value About the Authors per ton in order to accommodate both Level This paper contains a partial summary of the report 1 and Level 2 sums insured, whilst limiting the “Mexico: Agriculture Insurance Market Review” (June, Insured Yield to a maximum of 70 percent of 2013) which was authored by a World Bank team led Normal Average Yield. Where the costs in the by Diego Arias (Senior Agriculture Economist, LCSAR) and composed of Charles Stutley (Senior Agriculture FIRA packages of Level 1 and Level 2 sums Risk Management Specialist, LCSAR), William Dick insured exceeds 70 percent of Expected (Senior Agriculture Risk Management Specialist, Yield, this will result in an Insured Value per LCSAR), Sandra Broka (Senior Rural Finance Specialist, ton at a higher price than the value of the ECSAR), Michael Grist (Senior Financial Sector Specialist, FCMNB), Hector Peña (Economist, LCSAR), commodity stated within the FIRA package. Sophie Storm Theis (Environmental Specialist, LCSSD), The theoretical implication of this practice is Mildred Brown (Economist, LCSOS), Miguel Camarillo that, once the policy trigger point (Insured (Agriculture Insurance Specialist, LCSAR), Marcelo Yield, less deductible) is exceeded, the farmer Angione (Agriculture Insurance Specialist, LCSAR), Héctor Ibarra (Senior Financial Officer, FABBK), Erika will gain more from his or her insurance claim Salamanca (Project Assistant, LCSAR) and Ariel Donnini than he would achieve by harvesting the crop. (Senior Agriculture Reinsurance Specialist, LCSAR). This disincentive to harvest may be lessened This paper is a product of the staff of the International Bank for Reconstruction and Development / The World Bank. The findings, interpretations, and conclusions expressed in this paper do not necessarily reflect the views of the Executive Directors of The World Bank or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this paper do not imply any judgment on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries.