Risk Management Strategies in Humid Production Regions: A Comparison of Supplemental Irrigation and Crop Insurance

Article excerpt

Recent federal agricultural programs have accelerated the devolution of enterprise risk management responsibility from the state to individual producers. Using a biophysical simulation model, the risk management benefits of federal crop insurance and supplemental irrigation are derived and compared to uninsured rainfed crop production in an expected utility framework. Federal crop insurance programs are inefficient at reducing producer exposure to weather-related production risk in humid regions, and the risk management benefits from supplemental irrigation are found to be scale and technology dependent. Environmental policies that regulate resource development will increase the investment cost of irrigation alternatives and reduce economic feasibility.

Key Words: insurance, risk, supplemental irrigation

Recent federal agricultural programs have accelerated the devolution of enterprise risk management responsibility from the state to individual producers. This devolution was initiated over 20 years ago after long-standing periods of crop relief in the 1970s where payments were made to producers without declaration of a disaster area. Multiple-peril crop insurance was established in the 1930s, but was used only on a limited basis through the 1970s. Major reforms in the 1990s have dramatically increased participation.

The 1996 Farm Bill initiated the devolution of crop risk management from federal relief programs to greater emphasis on producer risk management. Nonetheless, in 1998 and 1999, emergency marketand crop-loss assistance totaled $15 billion. The Agricultural Risk Protection Act of 2000 further stimulated interest in the integrated management of crop production risk through education, new crop insurance programs, higher premium subsidies, and additional market loss assistance monies.

By contrast, under the Farm security and Rural Investment Act of 2002, cost-share funding for ground and surface water conservation projects, under the Environmental Quality Incentives Program (EQIP), has accelerated interest in using supplemental irrigation to manage production risk. Many producers are comparing the cost of multiple-peril crop insurance with the investment and annual cost of risk-reducing production strategies. These comparisons are often limited by incomplete information on the costs and benefits of technologies, such as supplemental irrigation, that mitigate downside production risk.

Total irrigated cropland in the United States covers just 16% of the nation's land base, yet it produces over 49% of crop sales [U.S. Department of Agriculture/Economic Research Service (USDA/ ERS), 2003b]. Over the past three decades, acreage under irrigation has increased at an average rate of a half million acres per year, and there is increasing reliance on irrigation in the humid areas of the Atlantic, North Central, and Delta states (USDA/ ERS, 2003a). Twenty-two percent of irrigated cropland is located in the East, accounting for about 5.5% of the total regional cropland base, as opposed to the remaining 78% in the West, or 18% of western cropland1 (USDA/ERS, 2003a).

Over the period 1987-97, new acreage placed under supplemental irrigation in the humid East increased by 38%, while in the arid West, acreage increased by about 14%. In 1998, irrigation investment in the East amounted to nearly $420 million. At the same time, 2.4 million acres of irrigated land were retired from production. Numerous crops are produced under irrigation; however, irrigated acreage as a share of total acreage is greatest for rice (100%), orchard crops (80%), Irish potatoes (79%), and vegetables (70%) (USDA, 1999).

As the lack of information on revenue, investment, and operating costs can deter producer investment in new production technologies, or the wrong investment decision can increase the probability of insolvency, one objective of this study is to derive the risk management benefits of supplemental irrigation in humid areas using an expected utility framework. …