More crop insurance subsidies, more problems?

Helen Fessenden at the Richmond Fed recently published an informative article in Econ Focus on the history and development of the federal crop insurance program — and on why many are criticizing it.

Under the new farm bill, crop insurance is estimated to be nearly 20% more expensive than under the previous 2008 bill. It is expected to cost $41 billion over five years.

Flickr.

Some contend that the program should be viewed as a success. For one, its reach is nearly universal: 90% of farmland is covered. They claim that the substantial benefits provided by the program negate the need for one-off disaster relief packages — for damages caused by a natural disaster such as a hurricane or severe drought — that are often expensive and inefficient. The new crop insurance programs cover even more crops.

But as Fessenden notes, economists, taxpayer groups, and the GAO all point to the program’s core problem:

…[T]he program is still a transfer from taxpayers to farmers and private insurance companies, and as constructed, it is more income support than classic insurance. The government covers about 60% of the cost of farmers’ insurance premiums as well as 100% of administrative and operating costs for insurers, which means farmers can sign up for policies that provide payouts far more generous than reflected by their out-of-pocket cost.

And it isn’t just expensive—it changes farmers’ behavior. As AEI’s Vincent Smith says, “The paradox is that crop insurance may be intended as risk management for farmers, but it actually encourages more risk-taking…It’s a transfer of risk away from the insurance firms and the farmers.”

Practically, this means that, in addition to being very costly for taxpayers, highly-subsidized coverage creates moral hazard. As Fessenden notes, the evidence indicates that farmers tend to plant on high-risk or marginal lands more often, and use less fertilizer and pesticide to guard against crop loss, than they otherwise would in the absence of crop insurance subsidies.

What would happen if there weren’t subsidized crop insurance? Smith points out that:

If farmers had to pay commercial rates for insurance, most would be priced out because the insurers would pass along the considerable administrative and operating costs to the customers…It’s more likely they would go back to older, cheaper ways of risk management, like crop diversification, better input use, storage, and so on.

from AEI » Latest Content http://ift.tt/1PuzI0x