Shawn Cole Harvard Business School

1. Innovative Financial Services for the Poor:Managing Rainfall RiskReport on a Field Project with SEWA Shawn Cole Harvard Business School

2. Acknowledgements • SEWA • Leadership, cooperation, and guidance • USAID/BASIS • Funding • IFMR/CMF • Funding, Technical Assistance, Research Support • Terrific implementation and implementation team • Dozens of SEWA members; Aparna Krishnan, Monika Singh, Nilesh Fernando of CMF • HBS DFRD • Financial support

3. Today’s Talk • Weather Insurance Description • Project Overview • Why Randomized Trials? • Results • Looking towards the future

4. An Urgent Need • Two-thirds of India’s population is rural • Hundreds of millions are very poor, with very limited ability to come with monsoon risk • NGO, Government help insufficient • Result: Stress, suffering, farmer suicides, reduced educational investments, costly diversification, under-investment

5. Price and Output Risk are Aggregate Shocks • Cannot turn to friends, family, neighbors • Asset prices (e.g., livestock) may be depressed • Monsoon correlated with Indian economic growth (e.g., ability to borrow)

6. Financial Innovation: Rainfall Insurance • Financial derivative on local rainfall • Costs Rs. 50-250, pays Rs. 500-2000 • First sold in India in 2003 (Andhra Pradesh) • Pioneered in Gujarat by SEWA in 2005 • Indian monsoon risk uncorrelated with global financial markets: in principle, insurance rates should be very low • Subsequently copied in dozens of countries

7. Product Description • Coverage during Kharif (monsoon) • Payout designed to correlate to economic loss from deficit / excess • Limitations on how complex product can be • Transparency • Pricing • ICICI, IFFCO, and AIC Policies • Policy starts after 20-50 mm accumulated • Three phases: sowing, flowering, and harvest • Each phase pays out or not separately

8. The Promise • Low-cost, scalable intervention • Implement in other developing countries, as well as at the developed world • Absence of such products has puzzled academics for decades

9. Key Benefits • No adverse selection • No moral hazard • Easy to price • Divisible: policies as cheap, but individuals may purchase many • Easy to purchase (private company and government provide) • Fast claim settlement

10. Research: The Challenge • Selling a custom-designed financial derivative to individuals with primary education and no experience with formal financial contracts • “If I purchase the insurance, and the rains are good, so the policy doesn’t pay out, do I get a refund of my premium?”

11. Key limitations • Basis Risk • Water needs perhaps not linear • Distance between plots and gauge • No cover for pests, prices, etc • Complicated • Potentially expensive • Limited re-insurance market

12. Research Programme • SEWA and CMF Researchers • Identified 1,500 households in 100 villages • From 2006-2009, offered weather insurance in ca. 50 villages • Periodic household surveys • A host of ‘marketing’ experiments

13. Research Agenda • Impact Evaluation: • (How much) better off are agricultural laborers and farmers who obtain weather insurance • Developing Sustainable Product • Most effective ways to sell • Optimal design of product • Pricing of products • Willingness to pay

14. Study Context • SEWA • NGO in Gujarat • SEWA members: very poor, limited education, limited landholdings • Ongoing project: 2006-2010 • BASIX • AP MFI, pioneered weather insurance • Groundnut farmers, landowners, high level of trust with BASIX • 2006, 2009 • Large-Scale Project • Ca. 3,500 households visited, involving up to 50 staff

15. Randomized Evaluation Methodology • Select sample population • Randomly assign ‘treatment’ and ‘control’ groups • Evaluate outcomes following intervention • Similar to drug trials • Very expensive and time-consuming Key advantages • Randomly assign ‘treatment’ and ‘control’ groups • Avoid selection problem • Estimate ‘average’ effects on population • Produce extremeley credible results (cf, drug trials)

16. Initial Product Take-Up “Low” • Approximately 5% of households in a village purchase insurance in Andhra Pradesh • Purchasing households tend to purchase only one policy • Makes it difficult to offer the product in a sustainable fashion: marketing cost spread over few purchasers

17. Research Questions: What are the important barriers to adoption? • Price • Expected Return • Liquidity • Trust • Product Education / Financial Literacy

18. Research Methodology • Understanding demand for product crucial to success • Can’t simple ask people: what is your elasticity of demand? • Experimental approach: offer each household a random discount, measure how purchase decision varies • In cooperation with insurance providers • Similar to medical studies

19. Key Results: Price • Logic: Expected returns an important determinant of demand, at least in theory; but households have limited ability to calculate expected return • Method: Randomly assign discount coupons to different households to measure price elasticity of demand (cf. Capital One) • Result: A 10% decrease in price increases product demand 6.5 percentage points • Analysis: Even when product is positive NPV (183% gross return), only 47% purchase

20. Key Results: Product Awareness • Logic: Most households unaware of rainfall insurance; indeed, most have never entered a formal financial contract • Method: (Costly) door-to-door marketing visits • Result: Increases purchase of the product substantially: 13% • Analysis: Not a cost-effective marketing tool (unless respondent becomes a subscriber)

21. Key Results: Product Education • Logic: Households unfamiliar with index insurance • Method: Additional education module as part of household visit • Result: No increase in take-up • Analysis: Surprisingly, education not effective

22. Key Results: Trust • Logic: Insurance is a promise of a future contingent payment; ICICI/Lombard relatively unknown • Method: BASIX representative, known to household, accompanies insurance salesperson and endorses product • Result: Increases product demand 6.5 percentage points • Analysis: May help explain success of AIC product

23. Key Results: Liquidity • Logic: Insurance purchase decision made during planting, competing with other inputs (fertilizer, seeds) • Method: Randomly assign cash compensation for survey of Rs. 125 to households (price of policy Rs. 100-Rs. 150) • Result: Larger cash compensation increases take-up by 35 percentage points • Analysis: Dramatic effect: suggests timing of insurance sales important; loans for policies might be effective; possible priming effect

24. Key Results: Willingness to pay • Sustainability of product depends on willingness to pay • Difficult to elicit willingness to pay with hypothetical questions • Innovative field experiment measuring willingness to pay: • Given scratch card with a price sought • Asked to indicate willingness to pay • Number written down • Scratch off result: if reported number is above scratch card price, then purchase is made; if number below price, no sale

25. Key Results: Willingness to pay for 1 policy

26. Key Result: Willingness to pay for 4 policies

27. Conclusion and Discussion • Product has tremendous theoretical merit and practical promise • Attractive alternative to crop insurance • Substantial barriers to adoption • Difficult to effectively educate consumers • Consumers have difficulties evaluating product • Liquidity constraints bind • Technological improvements my substantially improve product • Developing reinsurance market may improve pricing • Group negotiations for policies quite desirable

28. Aawar