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A ‘moral hazard' that means farmers may assume greater risks when insured against drought has been identified by researchers from The University of Western Australia as a major barrier to increased agricultural insurance options.
Hail, fire, flooding, frost and drought are all part of an increasingly unpredictable climate pattern which in recent years has caused havoc with crop yields and Australian farmers' livelihoods.
But of these five extremes, just two-hail and fire-are currently covered by any of Australia's private agricultural insurers.
The UWA Business School's Associate Professor Juerg Weber, with honours student Amy Khuu, recently interviewed a cross section of Western Australian farmers.
The researchers found if climate change continues to progress at the rate predicted by many scientists, increasing the variability of crop yield by 20 per cent, the willingness of farmers to pay for crop insurance would also increase by 20 per cent.
Despite this demand for insurance, multi-peril crop insurance (MPCI) is yet to emerge, and government assistance to drought-affected farmers remains limited.
Associate Professor Weber attributes this gap in insurance coverage to a potential ‘moral hazard.'
"Crop insurance shifts the risk of crop failure from the farmer to the insurance company, reducing the incentive [to farmers] to behave prudently," he says.
"For example, a farmer may not make an effort to salvage a crop that has been damaged by hail or drought if the insurance company covers the loss. In other cases, farmers may pay less attention to weather forecasts or other seasonal predictors when planting crops.
"While the risk of hail and fire are based on historical observations, the drought risk is dependent on the El Nino cycle and other meteorological factors and therefore means farmers must adjust their growing practices each season.
"As a result, drought insurance presents a significant ‘moral hazard,' making it a very risky product for insurers to offer."
‘How Australian farmers deal with risk' by Amy Khuu and Associate Professor Juerg Weber was published in Agricultural Finance Review earlier this year.