Why agricultural insurance may slow down agricultural development

Abstract

How does agricultural insurance affect the modernization of farming in low income countries? We focus on institutional contexts without formal contract enforcement, where smallholders cannot access modern inputs via markets. Instead, farmers can engage in relational contracting with traders to sell their crop and gain access to inputs (as an advance in-kind payment). Although conventional theory assumes that insurance “crowds in” modern inputs by attenuating investment risk, we demonstrate that insurance reduces the number of farmers receiving modern inputs from traders. Insurance also reduces the quantity of inputs that traders provide to farmers who remain in a relationship. Insurance may impede the uptake of modern inputs when institutions are imperfect.