for internal use only presentation by shahid vaziralli, center for microfinance, ifmr january 12,...

for internal use only

Presentation by Shahid Vaziralli,

Center for Microfinance, IFMR

January 12, 2011

Barriers to Household Risk Management: Evidence from India

Shawn Cole Xavier Gine Jeremy Tobacman(HBS) (World Bank) (Wharton)

Petia Topalova Robert Townsend James Vickery(IMF) (MIT) (NY Fed)

2for internal use only

Introduction Theory suggests households should diversify idiosyncratic risk.

Yet, most individuals (and countries) hold idiosyncratic risk even when publicly observable / exogenous: e.g. exposure to house price risk, local weather fluctuations,

commodity prices, regional income growth etc. Sometimes hedging markets have simply not developed, in other

cases they exist but are not widely used.

Shiller (1998): “It is odd that there appear to have been no practical proposals for establishing a set of markets to hedge the biggest risks to standards of living”


Introduction Research Question: Why don’t more households

participate in formal markets when available?

We study participation in a retail-level rainfall insurance product offered to rural Indian households. Test theories of insurance demand using a randomized evaluation in

Gujarat

Setting where diversification benefits appear particularly high: Nearly 90% of households in our study area cite rainfall shocks as

most important risk faced by the household.


Outline

Motivation

Product Description

Setting, Sample, and Research Design

Determinants of Adoption

Conclusion and Future Research


Motivation

Agriculture is the primary activity of 2/3 of India (and 40% of the world)

Rainfall is an important determinant of yield and revenue

Lasting, successful, unsubsidized crop insurance is practically non-existent National Agricultural Insurance Scheme has been disappointing


Motivation (cont…)

Is it strange why enough people don’t buy it? Households use a range of ex-ante and ex-post mechanisms to

smooth consumption and labor Saving, intra-household transfers, grow safer crops etc.

Some evidence that these are: Insufficient, especially for poor households. Costly, in the sense that they trade-off risk for lower return. Poor hedges against shocks that are aggregate to all households

in a village, such as a drought.

Demand for weather insurance if the product can be used to hedge risk more cost effectively.


Outline

Motivation

Product Description

Setting, Sample, and Research Design

Determinants of adoption



Product Description Index-based Insurance on rainfall

Payouts based on rain measured at local rainfall station, relative to different thresholds

Sold within 30km of station by partner NGO Coverage period spans from June 1 to August 31

Expected payouts range from 50% to 57% of premium

Catastrophe insurance

Policies underwritten by IFFCO-Tokio


Expected Payouts

IFFCO-Tokio Policies

Year Station Premium Rs.% of

premiumGujarat

2007 Ahmedabad 44 25 57%2007 Anand 72 n.a. n.a.2007 Patan 86 43 50%

Expected payout

Normal Rain

607.4783.6389.9


Key Benefits of Product

Reduces transaction costs

Data collection is relatively cheap

Objectivity of index construction

Historical rainfall data can be used to set prices

Divisible (policies as cheap as Rs. 44) and easy to purchase

Fast settlement and payment


Key Limitations

Basis Risk (Rainfall imperfectly correlated with income and consumption) Correlation between rainfall and crop yields Correlation between rainfall at gauge and plot

Expensive, in part due to small scale. Payout 50-57% of unsubsidized premium

Complicated to understand and evaluate


Outline

Motivation

Product Description and Simple Calibration

Setting, Sample, and Summary Statistics

Determinants of adoption



Gujarat Setting and Sample

100 villages in three districts (Ahmedabad, Anand, Patan)

Part of a five-year impact evaluation study

Fifteen households interviewed in each village

SEWA (NGO) sells IFFCO policies


Education and Financial Literacy

Low level of financial literacy (as good as guessing)

Limited understanding of insurance product

Highest level of education:Primary school or below 42.0%Secondary school 28.7%High school 11.6%College or above 17.6%

Average Score, Financial Literacy 35.8%

Average Score, Insurance Questions 68.2%


Uptake and persistence

Significant correlates of insurance uptake Wealth Financial literacy and probability skills (measured through a series of

questions in the survey) Household has other types of insurance products Surprisingly, aversion to risk does not increase uptake

Of the households who purchased the policy in 2006, 40% purchased the following year Indicating that rainfall insurance has yet to receive widespread

acceptance amongst farmers


Outline

Motivation

Product Description and Simple Calibration

Setting, Sample, and Summary Statistics

Determinants of Adoption



Field experiments

Design of treatments guided by potential barriers to adoption:

Theoretical determinants of willingness to pay Price (relative to actuarial value) Aversion to risk Not enough cash on hand Perception of basis risk Size of risk

Non-standard – financial literacy, trust in the provider, religious cues in marketing materials


Experiment: Price

Motivation: Financial services expensive to provide in poor areas

Insurance premium ranges from Rs. 44 - Rs. 86 (USD 1 – USD 2)

Sample: 1,415 households

Intervention: Randomly assign discounts to households

Offer discount of Rs. 5, 15, or 30 for first policy purchased Expected payout ranges from 54%-181%

Price elasticity of demand on order of 0.8 (significant at 1%)

53% of households decline policy with expected gross return of 181% return over four months


Experiment: Trust

Motivation Households may be less inclined to purchase products from unfamiliar

sources

Sample: 2,391 households

Interventions 1: Including religious symbols and cues on flyers 2: Emphasizing the SEWA brand through videos

Results Intervention 1

Muslim households are 33% less likely to purchase a policy when the flyer includes Hindu symbols (significant at 5% level)

Hindu households are 10% less likely to purchase a policy when flyer includes Muslim symbols (significant at 5% level)

Intervention 2 Surprisingly, SEWA Brand emphasis has main effect of zero despite

evidence from other studies that branding is significant


Conclusions

Adoption of innovative products may be slow Overall uptake was 26% among households receiving a video or flyer

Insurance demand is sensitive to price

Non-standard factors such as trust are important. First experimental evidence for role of trust in financial market participation


Policy Recommendations

Increase density of rainfall gauges

Foster competition in the market

Combine rainfall and crop-yield insurance

Combine product with a loan

Group policies


FIN

for internal use only presentation by shahid vaziralli, center for microfinance, ifmr january 12,...

Documents