Weather indexes, index insurance and weather index futures

Abstract

This paper compares the weather insurance, weather index insurance and index futures and focuses on why China needs to develop weather indexes and adopt and trade weather index futures. It further discusses how to construct the indexes and futures and how to price them. Different from the Heating Degree Days (HDDs) and Cooling Degree Days (CDDs) used at Chicago Mercantile Exchange (CME), it develops the Extremely Heating Days (EHDs) and Extremely Cooling Days (ECDs) to derive relevant temperature-based weather index futures. Recently China has started using weather index insurance to cover farmers’ risk. Through comparisons of weather index futures with index insurance, this study shows the necessity and importance of using the weather index futures to better protect farmers and better develop China’s financial markets.

The impact of natural disasters on China’s macroeconomy

“…In terms of catastrophe insurance compensation, there is a huge gap in China compared with developed countries and the world average (Pu et al 2018). For example, in 2008, southern China suffered from rain and snow disasters, resulting in direct economic losses of 151.65 billion Yuan, of which insurance compensation was only more than 5 billion Yuan, accounting for less than 3%, and government and social donations accounted for 2% and 1%, respectively (Swiss Reinsurance 1999-2019).…”

Modelling the switch from hail insurance to antihail nets

“…A better modelling of the interplay between these instruments with the aim of providing more precise indications at the policy level is a promising field of research. We also note that alternative insurance schemes, such as weather index insurance (Clement et al, 2018; Pu et al, 2018) or the newly proposed EU Income Stabilization Tool (Cordier & Santeramo, 2020; Meuwissen et al, 2018), which insures both losses from reduced production and from price variations, may further complicate the picture increasing the choice set of farmers and policymakers. As shown in this paper, potential interactions and externalities among these instruments may create detrimental conflicts.…”

Weather Based Index Insurance and Its Role in Agricultural Production

“…Another advantage of weather-based index insurance is the absence of moral hazard (Pu, Chen, & Pan, 2018). When people engage in concealed behaviors that raise their exposure to risk as a result of acquiring insurance or seeking to control the outcome of claims, this is referred to as a moral hazard.…”

“…Farmers, on the other hand, frequently lack adaptive ability, making them subject to climate fluctuations. Index-based insurance transfers risk from farmers to insurers by providing compensation in the case of climatic or weather-related crop loss (Pu et al, 2018). Total yearly rainfall is employed as a 'index' in this project to trigger insurance payouts.…”

“…Farmers are thus compensated when dry spell or extended drought spells have a significant effect on crop yield, and the compensation enables farmers to purchase agricultural inputs (specifically seeds) to replant lost crops, thereby assisting farmers' adaptive capacity and increasing their resilience to climate change. According to Pu et al (2018), CTA assisted industry and farmers' organizations in scaling up successful insurance products for smallholder farmers in packaged packages that included, among other things, farmer organization enrollment, weather information predictions, and extension financial advisory.…”