Premium subsidy for crop insurance as an incentive device in China: In which respects might it work wrongly?

Abstract

Direct subsidy for crop insurance premiums paid by producers is widely adopted by policy-makers in many countries. It is generally believed to be a good device for income transfer to rural producers. In the recently launched crop insurance program in China, it is also employed as an incentive tool to encourage per-producer output and discourage rural-to-urban migration besides its traditional role. This research develops a dual-economy model to check three essential hypotheses that may support the Chinese government’s decision. The model incorporates subsistence constraint in consuming agricultural products, which essentially changes the yield-revenue relationship of agricultural products. The analytical results from the model do not support these plausible hypotheses. When rural producers insure their crops with partial coverage, output at the individual level drops rather than increases. Meanwhile, the provision of insurance plus premium subsidy crowds the agriculture sector with too many laborers engaged in agricultural production. In this sense, government subsidy for crop insurance premiums induces efficiency loss rather than gain. The authors suggest that a comprehensive cost-benefit analysis should be carried out comparing premium subsidy and other types of risk-reduction and income-transfer programs, for the better use of government budget.