4. Addressing Index Gaps

The section will check if the insurance company has thought of ways to detect and address potential the mismatch between the index and their losses. It will also estimate the gap due to this misalignment in monetary value to guide any efforts to compensate farmers for losses not covered by the index.

Questions

🔍 Do you have a system in place to detect the mismatch?

• Follow up: If yes, how would you detect it?
• Potential answers: farmer hotline to request an audit, scheduled visits to farmers, etc.

🛠️ What grievance and remedy mechanisms do you have in place to ensure payouts align with actual farmer losses or compensate farmers for actual losses, if any?

• Potential answers: ex-gratia payments, satellite-based plus audits, contingency fund, etc.

💸 If all uncovered losses were compensated, how much more would farmers need to pay as a premium?

• Follow up: Is this a gap you could include in the design of the product?

🛠️ What avenues can be explored to address these gaps?

• Potential answers: donor support, contingency funds, subsidies, etc.

The assessment method consists of two primary stages, each with a set of sub-processes.

Calculate Additional Premium Paid by the Farmer

This stage focuses on calculating the premium farmers would need to pay if they were compensated for past payout gaps, and assessing how including this difference would impact the total premium.

Step 1: Calculate the Index Insurance Premium

This is the process reflecting the most dominant fundmental pricing elements:

Of course, additional items may be added to actual pricing, such as fees, field assessment costs, and the cost of uncertainty (see this research on cost of uncertainty in insurance premiums

Step 2: Calculate Basis Risk Premium

Step 3: Calculate the Total Premium

Once the index insurance premium and basis risk premium are calculated, the total premium can be computed by adding the two premiums together.

Interpretation

The key metric of this verification is % of basis risk premium as a share of total premium .

To evaluate this metric, it is worth asking the question: is this a reasonable additional amount for farmers to pay?

Calculate Initial Fund Size for the Insurance Company

This stage focuses on estimating the total cost in monetary terms if this adjustment were applied to all farmers.

Step 1: Calculate the total potential highest/worst-case payout($)

Step 2: Calculate the total mismatch of the index would-be-farmer expected payout ($)

Step 3: Arrive at Initial Fund Size

This calculation results in an initial fund size that is large enough to cover any potential compensation to villages in the first few years that falls above the average downside difference between the index's would-be payout and farmer's expected payout and below the worst-case year.

🔗 Illustrative Verification Sheet

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