“Livestock Insurance Schemes:

demand for and application by small

holders and pastoralists”.*

Wyn Richards

Livestock Development Practice UK

* Based on a review funded by IFAD CoP-PPLD.

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Poverty and Insurance

• Risk and poverty are inextricably linked

• Susceptibility to risk is a defining feature of what

it means to be poor – and it is the poorest who

have the fewest tools to cope with the effects of

weather(drought, floods) disease, conflict etc.

• Breaking the link between risk and poverty by

insuring poor people lessens poverty, increases

resilience and enables them to take part in

income growth.

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Market research• 97% of the poor have no access to insurance.

• Insurance companies wary of insuring the poor; conventional policies have high transaction costs. Need for new ‘fit for purpose policies’ for the poor. Interest increasing rapidly; yet it is very hard to sell insurance to the poor- difficult concept.

• Principal insurance interests of the poor are for:

i)Health –highest demand but hardest to provide. 24% of those entering hospital leave totally impoverished due to costs involved. In India, 1.7 million poor people pay $8pa for $500 medical cover.

ii)Life -funeral expenses often account for 3-6 months income each year for the poor.

iii)Property/assets – including crops/livestock. Largely based on individual losses and covered traditionally by informal mechanisms.

iv)Weather – without formal insurance, smallholder farmers (0.5-3ha) are perceived as a bad risk by Banks and other FIs .

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Reaction and consequences of shocks

• Households lose income, resilience, assets (and their lives).

• They cut back on consumption, reduce investments in education, sell productive assets such as land and livestock, borrow from relatives and friends, seek employment, migrate.

• They reduce risky new ventures which might prove profitable in favour of retaining as many assets as possible in easily disposable forms – so perpetuating their poverty.

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Types of insurable risk

• Classification based on whether they affect a large population(covariate risk) and their frequency, or individual risk.

• Standard insurance contracts difficult to offer when risks are covariate – complex/transaction c.

• Weather events (droughts/floods) tend to affect farmers more than other risks – and are covariate in nature.

• Human health risks are normally individual in nature but transaction costs are normally too high for insurance providers in developing world.

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Who can help poor farmers share risk?• Government-run social protection schemes that protect the poorest households

against extreme risk through providing assets and transfers - but costly and

difficult to deliver in a timely manner. Few and far between.

• Commercial (formal) insurance and re-insurance markets – growing in

importance but conventional products not suitable. Need for new product – eg.

micro-insurance. Most insurance companies need support of large re-insurance

co.

• Financial institutions and farmers associations can make it easier for poor

householders to save and borrow – but they require clients to have collateral and

formal insurance cover.

• Informal networks that can make it easier to save and borrow – but exposed to

default risks and high interest.

• Traditional societal systems from relatives/friends – most common and trusted

but cannot cope with extreme events as everyone in network normally affected by

extreme effects. Traditional systems tends to perpetuate poverty.

• In Mongolia, good example of integrated protection system where catastrophic

levels of livestock death due to the Dzud are covered by a public social protection

scheme, large risks are covered by private insurance and the residue by farmers 6

Insurance as a business

• Sustainable and affordable insurance schemes depend on satisfying the basic equation

(A+I)/P <1, where

A = administrative costs,

I = indemnities paid, and

P= premiums paid.

• Historically most insurance schemes using conventional policies have incurred financial losses where A+I/P is >1. Scant information on viability of livestock insurance.

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Financial performance of conventional crop

insurance programmes in 6 countries***

*** Skees et al 1999

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Livestock Losses

• As a proverb in the Horn of Africa goes: if the animals die, then

the people will die too. Ca.1 billion poor people in the

developing world rely on livestock for their nutritional

wellbeing, for social standing, for financial security, for draft

power, for dung for fuel and fertilizer, and for skins for myriad

purposes.

• Despite many new developments in animal nutrition, breeding,

husbandry practices, reproduction and animal health over the

last 50 years, there are still annual losses of 50 million cattle

and water buffalo, over 100 million sheep and goats and

countless poultry from parasitic and infectious diseases alone.

Many more succumb from inadequate feed and water

supplies, climatic stresses, poor husbandry practices and poor

policies. 9

Type of Livestock Insurance

Product

Description Pros and Cons

Individual coverage approach The herder is compensated for the number

of livestock lost.

A good approach but susceptible to high

administrative costs, to moral hazard and

adverse selection

A weather-based insurance

index

Uses weather indicators as its basis. It

requires reliable historical weather data in

order to develop the necessary weather

index and good weather stations in the

vicinity of the livestock population.

Predictability of data for assessing risk and

computing premium affected by global climate

change and renders the approach questionable

and expensive; additional data system support

might be required

A Vegetation Index A proxy for a weather based index which

assesses vegetative cover (as a result of

weather conditions) through satellite

mapping

Satellite imagery not developed sufficiently yet

for every location/country – but this index likely

to be preferred by insurance companies once

satellite coverage complete.

A mortality-based insurance

index

The insurance compensates individual

herders whenever the livestock mortality

rate in a local region exceeds a specific

threshold. The scheme postulates that

herders retain small losses that do not

affect the viability of their business, while

the larger losses are transferred to the

private insurance company and the

government.

The system is not prone to moral hazard, or

adverse selection but it requires an inventory of

livestock species and census every year in all the

local regions. The popularity of this method is

increasing in Mongolia and has proved to be a

good basis for insurance, even though it is not a

perfect solution.

Indigenous or traditional risk

avoidance and or coping

mechanisms – informal

insurance

Relatives, friends, others provide support

and/or financial and material resources in

event of catastrophic losses.

Despite its negative features, it is the system

most widely practiced. However, its use in

conjunction with a formal insurance system is

likely to be the most favored in future.

Different livestock insurance schemes

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More on index-based insurance schemes

• They allow farmers to protect themselves against catastrophic agricultural production risk by paying out when an independently observable trigger (such as a specific level of rainfall at a local weather station or satellite assessment of vegetative growth or livestock mortality within a defined geographical area) shows that an insurable event has occurred. This reduces the cost of providing insurance against a number of agricultural risks and allows insurance companies to reach poor households.

• Index-based insurance schemes hold significant appeal for both commercial and development purposes because they allow for management of covariate risk –such as that associated with weather fluctuations, disease outbreaks, price shocks, etc. – and avoid the serious adverse selection and moral hazard problems that have long plagued conventional crop and livestock insurance programs throughout the world.

• The creation of micro-insurance markets for risks whose likelihood of occurrence can be precisely calculated and associated to a well defined index is increasingly being championed as a way by which the benefits of insurance can be utilized by the poor. However, livestock insurance lagging far behind the crop insurance sector.

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1. Pros to IBLI

Very low transactions costs associated with measuring losses

Preserves effort incentives (no moral hazard) as no single individual can influence

index

Adverse selection does not matter as payouts do not depend on the riskiness of

those who buy the insurance

Available on near real-time basis: faster response than conventional humanitarian

relief

Can be used to create a productive safety net needed to alter poverty dynamics

Encourages financial institutions to provide loans ( Skees and Barnett, 2006)

Specific Lessons on Index-based Livestock Insurance

IBLI – pros, challenges and solutions (mostly from Barrett 2009)

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2. Challenges to sustainable IBLI Solutions to challenges

High quality data (reliable, timely, non-manipulable,

long-term ) needed to calculate premium and to

determine payouts

Satellite data (remotely sensed

vegetation: NDVI)

Innovation incentives for insurance companies to

design and market specific new products for discreet

audiences/locations.

Researchers do product design work,

develop awareness materials

Establish informed effective demand, especially among

a clientele with little experience with insurance much

less a complex index insurance product

Simulation games with real

information & incentives – see Carter

et al 2008

Low cost mechanism for making insurance available for

numerous small and medium scale producers

Delivery through partners

Index insurance is new, and can be difficult for

stakeholders to understand

Resources must be invested in

explaining how it works

Index insurance is vulnerable to basis risk viz.

insurance payouts do not match actual losses – either

there are losses but no payout, or a payout is triggered

even though there are no losses

Obviously, if either of these

situations occurs too frequently the

insurance scheme will not be viable,

and even damage livelihoods

(Skees,2008).13

It is best to offer poor livestock keepers a package of rural financial services rather than solely livestock insurance

viz a blend of savings, lending, financing and risk minimizing opportunities ( see Pearce et al 2004; Hofmann and

Brukoff, 2006; Vargas etal 2009)

Government needs to be involved from the start of insurance schemes to address the public financial burden, at

least initially

Risk must be sufficiently high to make banks and customers feel that insurance is useful, but not so high as to make

the premium unaffordable or scare off insurance companies

Get the big risk out of the way first. When agricultural insurance is placed into a broader framework motivated by

helping smallholder households smooth consumption over time, focusing on catastrophe insurance is likely to be

considered more optimal.

Involve users in insurance product development. Experience from pilot programmes stress the value of user

involvement in developing and refining prototypes

Need reliable historical data and contemporary data on livestock losses at national and regional levels to provide

necessary risk indicators and levels of confidence for engagement by private sector insurance community.

Incentives should be provided for poor livestock keepers to access suitable schemes.

Need modeling and modelers. Greater user involvement in product development would provide vital information

and feedback to modelers and product developers. Need to develop more modeling capacity in-country.

Give explicit consideration to the characteristics of different risk layers; this is part of the development of broader

financial services for development between the poor and the insurance industry

Promote partnership between users and providers of insurance services. Inclusive mix and shared responsibility

between livestock keepers, government and the private sector.

Appreciate client concerns. Low-income clients often live in remote rural areas, requiring a different distribution

channel to urban insurance products

Generic lessons learned from review.

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Understand the target audience, identify the specific risks for which insurance and/or financial services

requirements would result in reduced livestock mortality/losses and improved livelihoods.

Identify the most important factor for the poor farmer to insure. Is it catastrophic events resulting in

herd/flock mortality, individual animal losses or perhaps in some cases, loss of performance?

Identify trusted historical and contemporary sources of information/data on livestock mortality,

weather/climate data over the same time period, and other information on national

instability/insecurity

Appreciate/understand the insurance and financial services in-country and the business opportunity

afforded by high volume/low margin potential of insuring poor livestock keepers/pastoralists – and

access to willing re-insurance institutions.

Perform a pilot scheme (see ‘how to’ guide) and note the costs associated with implementing the

required monitoring of a potential scheme in distant rural communities.

Identify possible complementary roles for the government and for the private sector.

Decide on the most appropriate mix of traditional and commercial insurance and/or financial service

products for different levels of insurance – and their cost.

Market the schemes to livestock keepers with initial support/subsidy from government and increased

involvement of private sector actors. Identify trusted institutions who can market insurance/train poor.

Initiate market potential studies in a limited number of countries. It is also recommended that the

outcome of the studies be implemented through timely, pilot, ‘learning by doing’, micro-insurance

initiatives that are based on sound business models and practices premised on well - defined market

and comprehensive market analysis.

A basic guide to implementing livestock insurance

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