Government’s role in adverse events assistance

Abstract

Despite the many factors that contribute to the annual variations in agricultural production, climatic fluctuations explain much of the variability. Although these fluctuations include flood, snow, hail and wind damages, the report concentrates on drought. Given that droughts occur with varying frequency to many parts of the country, the important question from an efficiency perspective is how to ameliorate the cost of these droughts. We are not concerned with measuring the cost of drought by making comparisons with a perfect world that is the so called nirvana fallacy. We are concerned with finding a least cost solution to the whole issue of adverse events. Historically, one of the justifications for government involvement has been that adverse events relief is a so called public good which cannot be accommodated within the private sector. Externalities are said to exist when costs of an action are borne by persons other than those able to be directly affected by the outcome of that action, and it is considered that an externality exists because people other than farmers are affected by droughts or floods. However, recent literature in welfare economics suggests that the existence of externalities do not necessarily require government action. Does the private sector offer a better solution, and, if so, what are the impediments to transferring the role of adverse events relief to the private sector? Government has provided grants and subsidies to mitigate the effects of both droughts and floods in recent years. These schemes, as well as other government policies, are shown to alter the private solution to adverse events. Farmers alter management strategies if it is considered that ad hoc drought relief packages will be available from government. Irrigation is not considered to present an economically viable option for drought risk management, as the costs of premiums are too high. The futures market has little potential for handling climatic risk, as yield and not price is generally affected by droughts and floods. The role of insurance schemes is investigated in detail. Among American, Canadian, Australian and New Zealand programs for adverse events insurance, the Canadian forage crop programs, although in the early stage of development, would appear to have most relevance to New Zealand. All the schemes reviewed, however, lack financial viability without government subsidies. The justification for subsidisation of insurance schemes is that it allows government to withdraw completely from providing solutions on an ad hoc basis and the associated cost involved with these policies. The responsibility passes from a public to a private solution, even though some form of subsidisation would be necessary.