Economist Bernard Manganyi and researcher Khathutshelo Rambau, both from the National Agricultural Marketing Council, explore the pressing challenges small-scale maize farmers face, including significant climatic risks like drought, with many remaining uninsured. They examine the limitations of traditional agricultural insurance and highlight the exciting potential of index-based insurance as a game-changer for farming risk management.
In South Africa, maize production is vulnerable to climatic risks such as drought, fuelled largely by the El Niño phenomenon. According to the department of Aariculture, about 83% of the country’s maize is cultivated under rain-fed conditions.
Maize planting is time-sensitive, occurring during the rainy summer when soil moisture levels are critical for optimal germination and growth. Smallholder maize farmers employ ex-post and ex-ante strategies to cope with drought.
Ex-post measures include bootstrapping, taking loans, or relying on state disaster relief. Ex-ante measures involve adopting drought-resistant crops or limited irrigation.
Despite these efforts, many smallholder farmers remain uninsured against drought risks due to expensive premiums.
Moreover, trade-offs are associated with the available survival strategies.
The South African agricultural insurance market offers options such as: (i) named peril crop insurance; (ii) multiple peril crop insurance (MPCI); and (iii) revenue crop insurance. The most common product is named peril insurance, which covers specific events such as hail.
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The uptake of MPCI is minimal due to expensive premiums that are exacerbated by insufficient government support aimed at driving uptake. Farmers are required to bear the total costs of the cover.
The increasing frequency of natural disasters such as (i) floods; (ii) storms; (iii) drought; and (iv) wildfires worsens the low uptake of MPCI. Additionally, the geographic dispersion of farmers in remote areas increases transaction costs, driving premiums even higher.
Premium pricing in traditional insurance relies on the “law of large numbers,” which depends on large datasets to estimate outcomes. The limitation of this model is severe covariance risks, such as widespread drought.
Moreover, simultaneous impacts on multiple policyholders create systemic challenges for insurers. Information asymmetry adds to the complexity, and these challenges manifest in adverse selection.
The promise of index-based insurance
Index-based insurance has emerged as a cost-effective alternative. Index insurance relies on objective triggers such as rainfall, area yields, or satellite imagery, unlike traditional insurance that requires field-level assessments.
For example, payouts occur when an index falls below a pre-determined threshold, bypassing on-site evaluations. While this approach reduces administrative costs and moral hazard, it introduces basis risk, which is the mismatch between the index and actual losses experienced by farmers. Basis risk can arise from design flaws or spatial discrepancies, such as the distance between weather stations and farms.
Alternatively, temporal mismatches may occur, such as failure to account for crop-specific growth stages. However, recent advancements aim to minimise basis risk and enhance index accuracy. Soil moisture has emerged as a promising index variable due to its direct impact on crop growth.
Unlike rainfall, soil moisture reflects the water available for plants, offering a more precise measure of drought stress. Remote sensing technologies enable accurate monitoring of soil moisture, providing timely and reliable data to support index-based insurance.
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Soil moisture insurance in SA
The South African regulatory framework currently does not accommodate index-based insurance. However, progress is underway to develop and test products that align with regulatory requirements.
The South African regulatory framework currently does not accommodate index-based insurance. However, progress is underway to develop and test products that align with regulatory requirements.
For instance, Santam has tested soil moisture insurance products and is awaiting approval from the Prudential Authority. Additionally, Land Bank Insurance Company (LBIC) partnered with CelsiusPro in 2024 to pilot drought insurance for crops and livestock over the next two years.
Soil moisture insurance would offer noticeable advantages for smallholder farmers, particularly amidst the adverse effects of the El Niño phenomenon. Unlike traditional insurance that requires field-level damage assessments, payouts are triggered automatically when soil moisture levels fall below a critical threshold.
This eliminates subjective claims processes, reduces administrative costs, and provides farmers with timely financial relief. Furthermore, satellite data mitigates moral hazard and adverse selection. Neither farmers nor insurers can manipulate the index.
Path forward
Soil moisture insurance could transform drought risk management for South African smallholders, stabilising rural incomes and reducing state expenditure on disaster relief. However, its success depends on careful planning and implementation.
Capacity building through educational programmes is essential to ensure farmers understand the benefits, terms, and conditions of an insurance product.
Accessibility must also be prioritised to ensure the insurance reaches the most vulnerable farmers.
Soil moisture index insurance offers a robust, transparent, and cost-effective solution to the persistent challenges of drought risk in South Africa.
Addressing the shortcomings of traditional crop insurance and leveraging advancements in remote sensing presents an opportunity to strengthen the resilience of smallholder farmers while promoting sustainable agricultural practices.
- Bernard Manganyi, an economist, and Khathutshelo Rambau, a research assistant, both work in the smallholder market access unit at the National Agricultural Marketing Council (NAMC). The views and opinions expressed in this article are those of the authors and do not necessarily reflect the views or positions of Food For Mzansi.
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