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The effects of overconfident yield forecasting on cross-coverage level crop insurance demand

The effects of overconfident yield forecasting on cross-coverage level crop insurance demand This paper examines the effect of overconfident yield forecasting (optimism bias) on crop insurance coverage level choices across both yield and revenue insurance.Design/methodology/approachThis study simulates a representative producer’s preferred coverage level for both yield and revenue insurance under three potential models of decision-making and four potential manifestations of overconfident yield forecasting. The study then uses this framework to examine how coverage level choices change as overconfidence increases (decreases).FindingsAs overconfidence increases, producers prefer lower levels of crop insurance coverage than they would otherwise prefer, with extreme overconfidence inducing farmers to buy no insurance at all. While overconfidence affects cross-coverage demand for revenue and yield insurance similarly, this effect is more pronounced for yield insurance. Cross-coverage level demand for revenue insurance is relatively stable across changes in the correlation between prices and yields.Practical implicationsThis research has important implications for crop insurance subsidy design and crop insurance demand modeling.Originality/valueThere is a growing body of literature suggesting that producers are overconfident with regard to their future yield risk and that this bias reduces their willingness to pay for risk management tools such as crop insurance. This is the first study to look at how such overconfidence affects cross-coverage level demand for crop insurance. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Agricultural Finance Review Emerald Publishing

The effects of overconfident yield forecasting on cross-coverage level crop insurance demand

Agricultural Finance Review , Volume 82 (4): 18 – Jul 7, 2022

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Publisher
Emerald Publishing
Copyright
© Emerald Publishing Limited
ISSN
0002-1466
DOI
10.1108/afr-05-2021-0065
Publisher site
See Article on Publisher Site

Abstract

This paper examines the effect of overconfident yield forecasting (optimism bias) on crop insurance coverage level choices across both yield and revenue insurance.Design/methodology/approachThis study simulates a representative producer’s preferred coverage level for both yield and revenue insurance under three potential models of decision-making and four potential manifestations of overconfident yield forecasting. The study then uses this framework to examine how coverage level choices change as overconfidence increases (decreases).FindingsAs overconfidence increases, producers prefer lower levels of crop insurance coverage than they would otherwise prefer, with extreme overconfidence inducing farmers to buy no insurance at all. While overconfidence affects cross-coverage demand for revenue and yield insurance similarly, this effect is more pronounced for yield insurance. Cross-coverage level demand for revenue insurance is relatively stable across changes in the correlation between prices and yields.Practical implicationsThis research has important implications for crop insurance subsidy design and crop insurance demand modeling.Originality/valueThere is a growing body of literature suggesting that producers are overconfident with regard to their future yield risk and that this bias reduces their willingness to pay for risk management tools such as crop insurance. This is the first study to look at how such overconfidence affects cross-coverage level demand for crop insurance.

Journal

Agricultural Finance ReviewEmerald Publishing

Published: Jul 7, 2022

Keywords: Crop insurance coverage; Overconfidence; Yield forecasting; Optimism bias; Prospect theory; Risk management; Subjective probabilities; Risk perceptions

References