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Natural Disaster Insurance and Markets Under Pressure: New Challenges to Managing Risk in Rural Communities

In October of last year, The Progressive Corporation announced that it would not be renewing about half of its homeowner’s insurance policies in the state of Florida. The notice went into effect last month, with letters going out to homeowners stating,

“Dear Policyholder, your policy will expire at 12:01 on July 1, 2024, for the following reasons. After careful consideration we are unable to offer you a renewal policy due to a reduction in our hurricane exposure. Please contact your agent to find replacement coverage”.

They were not the first insurer to do so and are not expected to be last. Damage from natural disasters across the Gulf Coast, whether in the form of windstorms, flooding, or hail, has led to a rise in the payouts insurers are making to their policyholders. The Insurance Information Institute’s 2023 annual report wrote of the 28 US weather events exceeding damages of $1 billion, breaking a previous record of 22 in a single year. These disasters led to total insured losses of approximately $60 billion in 2023 (Insurance Information Institute, 2023). To remain solvent these insurers are managing through two courses of action, passing on costs via increased premiums for consumers, and exiting regions where the risk is deemed too high to justify any premium at all. With insurance a requirement for almost all property under lien (commercial, residential, or agricultural), a relatively less stable insurance market threatens a community’s very ability to build capital, by threatening its ability to take advantage of credit.

Among the policy proposals intended to shore up these markets are new allowances for premium hikes, adaptation policies such as more stringent building compliance codes, and an increased reliance on reinsurance and “catastrophe bonds” intended to spread out risk among global investors. New research has studied the threat of adverse selection in these markets, particularly as it relates to one’s own perceived vulnerability to a natural disaster (Wagner, 2022). In short, natural disaster insurance markets are adversely selected if homeowners with a higher willingness to pay for insurance are also more costly to insure. Akin to the problem health insurers have with smokers seeking insurance without disclosing their smoking, those homeowners who feel most at risk to natural disasters are the most likely to seek insurance for them. When this is the case, an increase in premiums tends to crowd out those with the lowest willingness to pay, which also tend to be those with the lowest risk among policy buyers. If this occurs, no progress is made toward an insurer’s goal of improving the cost/risk profile of their portfolio, while making insurance more expensive for those who remain insured. The administrators of the National Flood Insurance Program considered this a top concern during their latest meetings on long-term authorization (Wagner, 2022).

Reinsurance has long been an effective tool for disseminating local risk to a global investor base. Firms such as Swiss Re and Munich Re are the largest global buyers of natural disaster risk, allowing regional insurers to offload policy risk for commensurate fees. As Gulf Coast disaster risk has grown in recent years due to climate change, so has the cost of reinsurance, to the point that regional insurers find it no longer cost effective to offer certain policies, particularly those with high property valuations and/or low disaster resilience. These tend to be disproportionately located in rural communities and include many agricultural structures, as well as those categorized as “secondary homes”. The increased use of catastrophe bonds is one-way reinsurers have continually enticed third-party investors to assume this risk. If a natural disaster occurs within the bond’s predetermined lifespan (usually three years) then the principal is lost and used to reimburse those impacted, via payments to the reinsurer and then the regional insurer. The trigger for a catastrophe bond can be a natural disaster of a certain size hitting the area under coverage, or damages exceeding a predetermined threshold. If no disaster occurs, then the investors simply get back their capital, with interest (Keucheyan, 2018).

These flexible financial instruments, along with ongoing policy changes, have had enough of a positive impact on insurance markets over the first half of 2024 that some homeowners are seeing insurers returning to areas they had once abandoned. However, this short-term success is one continually threatened by the next set of natural disasters and the increased severity and frequency climate change has imbued them with.

References:

2023 Annual Report. (2024). Insurance Information Institute. Retrieved from https://www.iii.org/sites/default/files/docs/pdf/triple-i_2023_annual_report.pdf

Keucheyan, R. (2018). Insuring climate change: New risks and the financialization of nature. Development and Change, 49(2), 484-501. doi:10.1111/dech.12367

Lopez, Benjamin. “Natural Disaster Insurance and Markets Under Pressure: New Challenges to Managing Risk in Rural Communities.” Southern Ag Today 4(28.5). July 12, 2024. Permalink

July 12, 2024
Challenges for U.S. Fruits and Vegetables

In a previous article title U.S. Fresh Fruit and Vegetable Supply we discussed the increasing importance of fruits and vegetables imports to U.S. demand. Several factors could explain this increase in dependance such as high labor costs and availability relative to other countries, mainly Latin American countries, high cost for technology to help increase labor efficiency (if equipment is even available for the specific crop), longer seasonality and climate more suited for specialty crops, trade agreements, increasing regulatory costs, and subsidies to infrastructure or production in other countries. Labor cost and availability is identified by the literature as the main challenge that the U.S. fruits and vegetable industry faces; therefore, the next couple of articles will focus on this issue.

The average number of hired farmworkers has steadily declined over the last 50 years, from roughly 2.33 million to just over 1 million (Figure 1).  Hired farmworkers make up less than 1 percent of all U.S. wage and salary workers, but they play an essential role in U.S. agriculture. Labor expenses are a major concern for agricultural producers in general, but even more for fruits and vegetable producers.  Labor expenses for agricultural production accounts for around 10 percent of total operating expenses, however, labor expenses for fruits and vegetables are 38.5 percent and 28.8 percent, respectively.

According to the U.S. Department of Labor’s National Agricultural Workers Survey (NAWS) estimates from data spanning fiscal years 2018–20, just 30 percent of crop farm workers in manual labor occupations were U.S. born, therefore around 70 percent were foreign-born.  Imported labor, primarily from Mexico, seems to be the major source of farm labor for fruits and vegetable production in the U.S.  However, the decline of farm workers from Mexico has caused U.S. farm labor shortages.  The main reasons for the decline are the sharp decline in the Mexican fertility rate, a significant expansion in rural education, and an increase in per-capita income, which is now close to $20,000 per year (adjusted for the cost of living). The good news for U.S. farmers is that there is a great deal of persistence in farm work. If a rural Mexican does farm work for one year, there is more than a 90 percent likelihood that he or she will do farm work the following year. The bad news is that a transition away from farm work is underway. The supply of agricultural workers will not disappear immediately, but U.S. agriculture can expect to see a gradual decline in the availability of Mexican farm workers over time.

This decline in migration along with increasing the state minimum wage, and removal of overtime pay exemptions by some states appear to have increased U.S. farm labor costs.  The federal minimum hourly wage is $7.25 and has not increased since 2009, but some states set their minimum wage higher than the federal one. Also, the Raise the Wage Act of 2023, introduced in the U.S. House of Representatives and U.S. Senate on July 25, 2023, if approved would gradually raise the federal minimum wage to $ 17 an hour by 2028. Nevertheless, farm wages in the U.S. often exceed state minimum wages and are considerably higher than the Mexican minimum wage of $14 per day.

Figure 1. Family and Hired Farmworkers on U.S. Farms, 1950-2000

References

Economic Research Service (ERS). “Farm Labor.” Accessed February 2024. https://www.ers.usda.gov/topics/farm-economy/farm-labor/. Updated August 7, 2023.

Foreign Agricultural Service (FAS). Global Agricultural Trade System (GATS). Online database. https://apps.fas.usda.gov/gats/default.aspx. Online public database accessed February 2024.

Ribera, Luis, and Landyn Young. “Challenges for U.S. Fruits and Vegetables.” Southern Ag Today 4(28.4). July 11, 2024. Permalink

July 11, 2024
The Disparity Between Crop Prices Received and Input Prices Paid

The United States Department of Agriculture National Agricultural Statistics Service (USDA-NASS) releases monthly indexes for input prices paid and output prices received. These indexes include collecting survey responses for output and input prices for agricultural production, crops, livestock, and food commodities. The spread between these two indices often helps understand where farmers are getting price squeezed and how their profit margins are impacted. Current farm income instability from inflationary pressures, high interest rates, and several supply chain disruptions (e.g., the Russian-Ukraine war and Panama/Suez Canal) are forcing farmers to pay higher input costs while receiving lower commodity prices, emphasizing the need to consider these indexes into the future.

These price indices measure the change in prices paid (and received) relative to a point in time—2011 in this case (Figure 1). The base year is often chosen during a time without prevailing inflation or major supply chain disruptions (Schulz, 2022). 2011 was a good year for agricultural production and profitability. As such, using 2011 as a base year is a way to highlight how better or worse-off agricultural producers are compared to a good year.

Figure 1. Crop Output Prices Received vs. Input Prices Paid

Figure 1 compares the annual index value from 2000-2024 for the two indices with 2011 as the base year. The price received index in 2012 was 102.8%, meaning that the crop price received, on average, in 2012 was 2.8% higher than in 2011 (base year = 100%). The red circle in Figure 1 shows the beginning of a divergence between input and output prices. In 2013, when writing the 2014 farm bill, the index for input prices paid was almost exactly the index for output prices received. This is where most of our current farmer safety net support stems from, and since then, we’ve seen a major divergence in the two indices, with the widest gaps between 2014 – 2020 (USDA-NASS). From 2021 – 2022, we saw both indices increase, but the gap remained, and the divergence has grown wider in 2023 and 2024 due to declining commodity prices.

Another way to view the indices is to calculate how they change year to year. Figure 2 plots the same indices as Figure 1 but shows the yearly change between the index values. Using this percentage change helps producers understand 1) the volatility of crop output prices and 2) the magnitude of change as compared to the previous year. A key takeaway is that input prices are less volatile (in terms of yearly % change) than output prices. Secondly, the percentage change in crop output prices between 2023 and 2024 (-13.8%) is much larger than the percentage decrease in input prices (-1.38%) during that period.

Without any relief in the form of improved crop prices received, figure 1 suggests farmers will continue to suffer from cost/price squeezes and eroding profit margins. Further, figure 2 shows the magnitude of that spread between the indices in Figure 1; if input and output prices continue this trajectory, an improved farm safety net will be warranted. This will be at the forefront of every producer’s mind, with ongoing Farm Bill debates in 2024.

Figure 2. Year-over-Year % Change in Input and Output Crop Prices

References

Schulz, L. (2022). Disentangling Input and Output Price Relationships. Retrieved from: https://www.extension.iastate.edu/agdm/articles/schulz/SchSep22b.html

The Observatory of Economic Complexity (OEC). (2024). Fertilizers in Russia. Retrieved from: https://oec.world/en/profile/bilateral-product/fertilizers/reporter/rus

USDA-Economic Research Service (2024). Farm Sector Income & Finances: Highlights from the Farm Income Forecast. Retrieved from: https://www.ers.usda.gov/topics/farm-economy/farm-sector-income-finances/highlights-from-the-farm-income-forecast/

USDA- Economic, Statistics, and Market Information System. (2024). Agricultural Prices. Retrieved from: https://usda.library.cornell.edu/concern/publications/c821gj76b?locale=en

Loy, Ryan, and Hunter Biram. “The Disparity Between Crop Prices Received and Input Prices Paid.” Southern Ag Today 4(28.3). July 10, 2024. Permalink

July 10, 2024
Falling Corn Prices, Higher Calf Prices

Two big USDA reports in the last week have boosted livestock prospects at the expense of corn prices.  The annual Acreage report included larger-than-expected corn acres which put downward pressure on corn prices. The report listed corn acres at 91.5 million acres which was 1.4 million acres higher than the March Prospective Plantings report projected. After corn prices surpassed $6 for the 2022/23 marketing year, prices fell below $5 for the current marketing year, and are projected to be closer to $4 for the 2024/2025 marketing year.

While higher than previously projected, corn acres will be slightly lower than 2023 totals. However, good growing conditions are supporting higher yield expectations when compared to 2023. The latest WASDE report included a yield estimate of 181 bushels per acre which would be higher than the 177.3 from a year ago. Stronger yields could lead to corn production for 2024 not being far off from the 2023 total.

Also released last week was USDA’s Quarterly Grain Stocks Report which includes estimates of corn stocks held on farms and in elevators. Total corn stocks on June 1^st were estimated to be 5 billion bushels, up 22 percent from 2023 and the highest June 1 total since 2020. Most of these stocks are still being held on farms as farmers await better pricing opportunities. But, the old common problem arises of holding stocks while supplies grow and prices continue to fall.  On farm corn stocks were just over 3 billion bushels, which is roughly 800 million more than last year and is the largest June 1 total since 1988.

Overall, the news is positive for livestock producers. The simple takeaway is that corn production and stocks are expected to be plentiful, and corn prices are back to lower levels after surging a few years ago. This should continue to bring relief to livestock feed costs and reduce the cost of gain for cattle.  This year’s corn crop is not in the bin yet, so production risks remain that could influence price. Falling corn prices should continue to push calf prices further into record territory.  Returns to hog and poultry production will get a much needed boost from lower feed costs.

Maples, Josh, and David Anderson. “Falling Corn Prices, Higher Calf Prices.” Southern Ag Today 4(28.2). July 9, 2024. Permalink

July 9, 2024
Revenue Protection Weighted Average Coverage Levels by County and Crop

Producers make several important marketing and risk management decisions throughout the year. One of the most important decisions is the choice of coverage levels when purchasing crop insurance. Revenue Protection (RP) – by far the most popular plan of insurance – provides an indemnity if realized revenue (combination of yield and price) drops below the guarantee (or a percent of expected revenue) for the insured unit. RP coverage levels range from 50% to 85% of expected revenue, increasing in 5% increments. Producers must weigh the choice of varying RP coverage levels against the changes in premium costs. Premium costs vary and consider factors such as the risk of loss for the insured crop in the specific county, coverage level, insurance product purchased, and production practices. This article examines the weighted average coverage level (WACL) by county and crop from 2011-2022 for corn, cotton, soybean, wheat, and peanut RP insurance plans. RP insurance plans from 2011 to 2022 covered 88% of all insured acres for corn, cotton, peanuts, soybeans, and wheat (USDA Summary of Business). The WACL is calculated as RP coverage level multiplied by acres insured for the coverage level divided by total RP acres insured for each county crop and year.

Corn

The Corn Belt states of Indiana, Illinois, and Iowa show most counties have a WACL of 81% to 85%, indicating higher insurance coverage purchases. Most counties in North Dakota, South Dakota, Nebraska, and Kansas exhibit a WACL of 71% or greater. However, there is more variability in the southern and eastern states, with coverage levels generally lower than in the Midwest.

Figure 1. Corn Acre-Weighted Average Coverage Level Revenue Protection 2011-2022

Data Source: USDA RMA Summary of Business

Cotton

Southern Arizona has a concentration of 76% to 80% WACLs for cotton, while the majority of Western Oklahoma and Texas counties have a WACL for cotton of 66%-70%. The rest of the south’s cotton production is concentrated along the Mississippi River, the east coast, South Georgia, and South Alabama with a 71-75% WACL being the most prominent coverage level. Nationally, there are very few counties with a WACL above 80% for cotton.

Figure 2. Upland Cotton Acre-Weighted Average Coverage Level Revenue Protection 2011-2022

Data Source: USDA RMA Summary of Business

Peanuts

The southern regions of Alabama, Georgia, and the eastern Carolinas show a WACL between 66% and 75%. About half of the counties in Northeast Arkansas and Northwest Mississippi have a WACL of 76% or higher. The counties along the border of Western Oklahoma and Texas have lower WACLs, while those along the border of West Texas and Eastern New Mexico mainly have WACLs of 71% or higher. Like cotton, peanuts have few counties with WACLs that exceed 80% – fewer than twenty counties have WACLs greater than 76%.

Figure 3. Peanuts Acre-Weighted Average Coverage Level Revenue Protection 2011-2022

Data Source: USDA RMA Summary of Business

Soybeans

Trends for soybeans mirror those for corn, with counties in Ohio, Indiana, Illinois, Iowa, and Kentucky showing WACLs of 76% or higher, with many reaching 81% or higher. From North Dakota to Kansas, counties have WACLs of 71% or better. In the southern states, the WACL varies significantly.

Figure 4. Soybeans Acre-Weighted Average Coverage Level Revenue Protection 2011-2022

Data Source: USDA RMA Summary of Business

Wheat

Northwestern states and parts of the Midwest exhibit WACLs of 76% or greater. In Texas, many counties show lower WACLs, ranging from 50% to 70%. Wheat production varies by season (spring or winter) and type (hard, soft, and durum). Wheat production in the northwestern states is typically soft spring wheat, whereas Texas wheat is mostly hard red winter wheat that produces lower yields than soft wheat.

Figure 5. Wheat Acre-Weighted Average Coverage Level Revenue Protection 2011-2022

Data Source: USDA RMA Summary of Business

Since the early 1990s, buyup coverage levels for crop insurance have trended higher (Smith, 2015). From 2011 to 2022, across commodities there is greater variability in WACLs in the South than the Midwest and Northern Plains. Variability in WACLs by crop and region highlights differences in risk levels, risk preferences, insurance premiums, and production costs. Regions with higher WACLs often have more consistent yields; regions with lower WACLs typically face higher premium costs due to greater production variability. Understanding trade-offs in risk and premium cost can help producers determine the correct RP insurance coverage level to meet their specific risk management needs.

References and Resources:

Biram, H.D. 2024. The Fundamentals of Federal Crop Insurance, University of Arkansas. Link

Smith, S.A., J. Outlaw, and R. Tufts. 2015. Surviving the Farm Economy Downturn. Chapter 10. Crop Insurance: Basic Producer Considerations. https://afpc.tamu.edu/extension/resources/downturn-book/.

USDA Risk Management Agency. Summary of Business. https://www.rma.usda.gov/SummaryOfBusiness

Duncan, Hence, and Aaron Smith. “Revenue Protection Weighted Average Coverage Levels by County and Crop.” Southern Ag Today 4(28.1). July 8, 2024. Permalink

July 8, 2024