How Basis Risk and Spatiotemporal Adverse Selection Influence Demand for Index Insurance: Evidence from Northern Kenya
57 Pages Posted: 3 Aug 2014 Last revised: 5 Jan 2018
Date Written: November 28, 2017
Weather-related shocks are a major threat to the health and livelihoods of vulnerable farmers and herders in low-income, arid, and semi-arid regions of the world. Index insurance represents a promising tool for mitigating the impacts of such risk but in practice has exhibited low uptake rates by potential clients. Basis risk—the remaining risk faced by an insured individual—is widely acknowledged as the Achilles heel of index insurance, and yet direct measurements of basis risk have never been used to study its role in determining demand for index insurance. Further, client knowledge of season-specific environmental information and spatial variation in basis risk introduces the possibility of adverse selection, a feature often presumed to be absent for index products. We used longitudinal household data to determine which factors affected demand for index based livestock insurance (IBLI). While both price and the non-price factors studied previously are indeed important, our findings indicate that basis risk and spatiotemporal adverse selection also play a major role in determining demand for IBLI.
Keywords: Pastoralists, Uninsured Risk, Livestock, Adverse Selection, Basis Risk
JEL Classification: D81, O16, Q12
Suggested Citation: Suggested Citation