2017

Developing the
Philippines’ Parametric
and Crop Insurance
Industry
MSFIN 296 – FINANCIAL REGULATIONS AND ETHICS
FRANCIS ADRIAN H. VIERNES
Contents
Introduction .................................................................................................................................................. 2
What is Agricultural Insurance: Parametric and Crop Insurance? ............................................................ 2
Agricultural Insurance in the Philippines .................................................................................................. 2
Why is Parametric Insurance Important for the Philippines?....................................................................... 3
Issues Surrounding Parametric and Crop Insurance ..................................................................................... 4
Costs of Operations are higher than Premiums Collected........................................................................ 4
Low Number of Farmers that Subscribe ................................................................................................... 4
Lack of Reinsurance Companies ............................................................................................................... 4
Policy Recommendations.............................................................................................................................. 5
Agri-Agra Credit Act: Expansion of scope and tighter implementation.................................................... 5
Subsidies by the Government ................................................................................................................... 6
Expansion of PCIC or Establishment of a New Commission for Parametric Insurance ............................ 7
Reinsurance Companies ............................................................................................................................ 7
Conclusion: Alternative Way of Developing Microfinance ........................................................................... 8
References .................................................................................................................................................... 9
Appendix ..................................................................................................................................................... 11
Appendix 1 – Philippine Development Plan (2011-2016) – Chapter 4: Competitive and Sustainable
Agriculture and Fisheries Sector ............................................................................................................. 11
Appendix 2 – Philippine Development Plan (2011-2016) – Chapter 4: Competitive and Sustainable
Agriculture and Fisheries Sector ............................................................................................................. 12
Appendix 3 – Premium Sharing for Rice and Corn insurance, by Type of Farmer, by Insurance Cover . 13
Introduction
What is Agricultural Insurance: Parametric and Crop Insurance?
As of 2016, the Agricultural sector continues to be prominent for the Philippines as it employs 35%1 of its
total labor force, almost all of which are classified to be low-income workers (Corong, 2005). Venturing
into the agricultural sector, however, would entail substantial risks due to the fact that crop production is
hugely dependent on the weather. One bad weather, therefore, could mean that farmers lose their
investments. On top of that, recovery for investments in agriculture is slow due the fact that it is a cyclical
industry (Magno & Bautista, 1989).

One way to manage this risk is through the use of agricultural insurance such as crop and parametric
insurance. This can be an effective safety net that would enable farmers, particularly the transient poor
(those who are moving in and out of Poverty), to recover more quickly from the shock (Reyes C. , 2015).

Crop insurance pays once the farmer experiences a loss due to natural calamities, plant diseases and pests
infestations. This works like a normal insurance policy wherein the payout is dependent on some
contingent event requiring the insured to experience a loss that will be verified by the insurance company.

Parametric insurance, on the other hand, is based on an independent parameter (hence parametric) or
index that is correlated to insured’s losses (Soliman, 2017). Basically, one does not wait for the insured to
suffer losses; it pays out once a certain parameter (e.g. water level, temperature) is reached. For example,
suppose that the water level for an agricultural province reached a certain level, the insurance company
immediately hands out the claim, as this can be verified through satellites.

Thus, parametric insurance provides means to resolve claims faster, as opposed to crop insurance. The
development, however, of parametric insurance is harder than that of crop insurance because actuarial
models are different and that it is relatively new. Thus, one can gauge on whether a parametric insurance
industry is feasible depending on the development of crop insurance industry2.

Agricultural Insurance in the Philippines

In the Philippines, the Philippine Crop Insurance Corporation (PCIC) is the government-controlled
corporation that provides rice, corn, high-value commercial crop, livestock, non-crop agricultural asset,
fishery, and term insurance (Reyes C. , 2015). A quick review of the purpose of the PCIC would reveal that
it was instituted to support agrarian reform by guaranteeing the loans made by the agrarian reform
beneficiaries and was capitalized by the government using the P.D No. 1467. Currently, PCIC accomplishes
this mandate by providing subsidized crop insurance to agrarian reform beneficiaries.

Despite being created by a government mandate, Bangsal and Mamhot (2012) found that the shares held
by the government are subscribed but not fully paid. In addition, government remittances to PCIC were
deemed to be insufficient and often delayed (Reyes & Domingo, 2009).

1
This figure remains relatively stable even as of 2016, as cited by the NEDA in the drafting of the PDP (National
Economic and Development Authority, n.d.).
2
Parametric insurance, however, are supposedly easier when the technical aspects or actuarial models are being
asked (Skees, 2007). Therefore, one can reasonably infer that as soon as the crop insurance is successful, the
parametric insurance can follow relatively easier.
Under the 2011-2016 Philippine Development Plan (PDP), the government intends to develop the rural
and agricultural sector as means to increase the income and food security of Filipinos (Appendix 1). One
of the strategy in attaining this is to ‘strengthen the agriculture and fisheries insurance system as an
important risk sharing mechanism’ (National Economic and Development Authority, n.d.). These can be
further reified into two ways:

a) Improve risk-reducing mechanisms (i.e., guarantee, insurance) to encourage more banks and
other lending conduits such as cooperatives and NGOs to lend to agriculture and fisheries;
and
b) Introduce innovative risk-transfer mechanisms such as weather-based/ index insurance
systems.

Thus, granted that this is part of the PDP, it is disappointing to know that after 2016 this goal is not
achieved, as shown in the report produced by NEDA (Appendix 2)3.

Despite the disappointing result, however, there is hope in the development of these innovations because
this is once again included in the PDP for 2017 – 2022, Subsector Outcome 2 (National Economic and
Development Authority, n.d.).

An interesting news in this aspect is that of AXA, a leading French insurance company which primarily
offers life insurance, targeting to offer parametric insurance in the Philippines for 2017. This shows that
private sector companies see potential in doing business here amidst certain key issues hindering
development.

This paper will try to analyze the issues that are preventing the growth in this area of microfinance and
will attempt to provide concrete solutions to attain these goals.

Why is Parametric Insurance Important for the Philippines?

The obvious reason to buy insurance is to manage risks and mitigate loses. Interestingly enough, for the
Philippines and other developing economies such as Brazil, Mexico and Indonesia, insurance serves
another purpose; it is purchased as both a risk management tool and a credit reduction mechanism4
(Reyes C. , 2015).

This means that lenders in these countries lower the interest charged to loans, when crop collaterals that
are secured by agricultural insurance. This is intuitive because the crop harvests provide the means for
repaying the loans and banks are wary that without insurance, loans might not be repaid.

Thus, therein lies a strong reason to develop the agricultural insurance: to lower the risks for banks
which in turn leads to robust credit markets for the agricultural sector.

3
This simply meant that no weather-based insurance are created as of 2016. The first attempt is in 2017.
4
It was also said that insurance is a form of “surrogate collateral”. This means that in place of collateral, banks
accept the fact that crops are insured to be as good as accepting collateral.
Issues Surrounding Parametric and Crop Insurance
Given that potential of the agricultural insurance such as crop and parametric insurance to be that catalyst
for the proliferation of microfinance, one would wonder why these have not been given the required
attention.

The following issues are identified as being the root causes of the slow development of agricultural
insurance: 1.) high costs of insurance operations (relative to premium collection), 2.) low number of
enrollment and 3.) lack of reinsurance. As will be shown, these causes and issues are correlated with one
another, implying that the resolution of one could resolve the other issues as well.

Costs of Operations are higher than Premiums Collected

A study done by Reyes, et al. in 2015, reveals that the costs of insurance operations, marketing and
administration for these crop insurance companies are higher than the premiums collected. Estacio &
Mordeno (2001), and Corpuz (2013) confirmed the same finding.

There are subsidies provided by the government, but even with these, the overhead costs are still high.
Note, however, that increased number of subscriptions or sale, as with every business model, can resolve
this as overhead costs diminishes with more sale. The issue of low sales or subscription will be discussed
in the next paragraph.

Another issue with the subsidy being provided to the crop insurance is that not all that wants to avail the
have equal subsidy from the government. From Appendix, crop insurance that are availed because it is
part of the loan agreements, are subsidized to up to 70% of the total cost while the self-financed farmer,
without the lending institutions help, are only subsidized up to 50% of the cost (Reyes C. , 2015).

Note that due to the novel nature of the parametric insurance, such products are not included in the
scope of the PCIC and therefore not subsidized.

Low Number of Farmers that Subscribe

As of 2012, the enrollment rate for agricultural insurance were around 6.96% (GIZ - RFPI Asia, 2017).The
primary reason cited for the not buying crop insurance is that this adds to the production costs of the
farmers. The government should therefore review the cost motive if it would like to improve the
subscription of agricultural insurance.

In addition, the study done by Reyes (2015) reveals that that the only reason that farmers are buying crop
insurance is that this is a requirement to secure a loan from the Land Bank of the Philippines. In other
cases, crop insurance were not offered in some provinces primarily because formal lending institutions
are not available. Clearly, the development of microfinance is integral to the development of these
insurance products.

Lack of Reinsurance Companies

If insurance companies were to assume all the risks themselves, the costs of insuring, and therefore
premiums, would be very high. Under these conditions, it is difficult to imagine insurance companies
thriving. Thus, insurance companies turn to other insurance companies to share some of these risks in a
process known as reinsurance.
In the Philippines, however, there is an astounding lack of reinsurers for the PCIC. One probable reason is
that this is not within the scope of responsibility of the Insurance Commission (IC). Being regulated by the
Insurance commission provides additional layer of security as under regulation, insurance companies have
check and balances.

Policy Recommendations
There is much hope in this area of development finance. The framework and awareness are present. It is
simply that they are weak and ineffective. Therefore, this paper will simply take the approach on how to
strengthen these which is actually easier and more practical to recommend as oppose to drafting new
ones.

There are institutions and frameworks that support crop insurance; therefore, policy recommendations
will be made separately for crop and parametric insurance.

Agri-Agra Credit Act: Expansion of scope and tighter implementation

The Agri-Agra Reform Credit Act imposes a credit quota for the farming sector, wherein banks must
allocate at least 10% of total loanable funds to agrarian reform beneficiaries, and 15% for farmers and
fisherfolk (Lopez, 2017).

Banks, however, have alternative ways to comply with this such as through investing in bonds, securities
and special deposit accounts that are approved by the Department of Agriculture for agricultural and
agrarian reform beneficiaries’ purposes (Bangko Sentral ng Pilipinas, 2011). Included in the alternative
compliance is the investment in paid-in-capital or shares of companies that are directly supporting crop
insurance.
Subsec. X341.5 Allowable alternative compliance:

"(iii) Paid subscription of shares of stock in the following institutions, subject to existing rules and regulations
governing equity investments of banks:
"(1) Accredited rural financial institutions (preferred shares only),
"(2) Quedan and Rural Credit Guarantee Corporation (Quedancor), or
"(3) Philippine Crop Insurance Corporation (PCIC).

The BSP, therefore, can expand the list available for investments, as a form of alternative compliance,
to include microfinance institutions that offer parametric insurance. It should be noted that even big
players could offer parametric insurance. They should not be included nor defined as “microfinance”
institutions and should therefore be offered a different incentive (See Government Subsidies below).

Big banks, however, fail to meet this quota as only the small and rural banks lent enough to the sector.
This has been a consistent trend (Lopez, 2016). This is due to the laxity of BSP in the implementation of
its own laws. There are two problems regarding this:

1. Conversations with people working in banks have revealed that the BSP, while imposes penalty
for falling below the Agri-Agra quota, do not actively collect penalties. The penalties imposed to
banks are the following.

The penalties imposed are calculated as the following:

 "Annual penalty of one-half of one percent (0.5%) of amount of non-compliance/under-compliance shall be
computed on a quarterly basis following this formula:

"Penalty = 0.00125 x amount of non-compliance/under-compliance as of the end of the reference quarter

2. In addition to not being binding, the second problem regarding this is that the penalty is not big
enough to alarm banks, particularly the big players which consistently do not comply.

The BSP should therefore increase this penalty, in addition to strictly enforcing and collecting fees, to
ensure that funds can flow to the sector, which would indirectly benefit the crop and parametric insurance
industry.

In addition to that, it is possible for the BSP to apply a layered approach wherein bigger banks such as
commercial and universal banks have higher penalties as opposed to the current setup where all banks
face the same penalty5.

Subsidies by the Government

To make the parametric insurance feasible in the Philippines, the government must subsidize it (Soliman,
2017). Subsidy has always been the answer for a welfare (socially-desirable) good that is not, or at least
at the moment, economically feasible.

There are two ways this action can be reified:

1. As discussed in the preceding sections for issues, the costs of operating an insurance company is
higher than the premiums being collected. Thus, government subsidizing operational costs would
help close the gap between the costs and premiums.

Under the General Appropriations Act of 2014, the government gave PCIC funds to cover for the
full cost of insurance premiums of subsistence farmers and fisherfolk who are registered in the
government’s Registry System for Basic Sectors in Agriculture (RSBSA). This covers rice, corn, high-
value commercial crops6 (HVCC) within the 20 priority provinces. However, outside these 20
provinces, only rice and corn are covered (Teves, 2014). Therefore, the recommendations for each
insurance are as follows:

A. Crop Insurance – The government should consider increasing the share of subsidies
(even though it may be arguably high already). The point is that the premiums do not
leave enough margins for the insurance companies for these to be economically

5
This layered approach is common in BSP’s circulars. For example, the required reserve requirements for universal
and commercial banks are set to 20% while for rural banks, this is set to 4% (Bangko Sentral ng Pilipinas, 2014). The
required capitalization differs as well among these bank classes.
6
High-value commercial crops include HVCC covers the following crops: abaca, ampalaya (bitter gourd), avocado,
baguio beans, banana, broccoli, cabbage, cacao, cacao nursery seedlings, calamansi tree, carrot, cashew tree,
cassava, cauliflower, celery, chayote, Chinese pechay, coffee, coconut, commercial trees like falcate/mahogany and
rubber, cotton, cucumber, durian, eggplant, garlic, ginger, guyabano, honeydew, jackfruit, lanzones, lettuce, melon,
mango (fruit and tree), mangosteen, marang, melon, mongo (mung bean), onion, oil palm, okra, oil palm, onion,
onion leek, orange tree, paper tree, papaya, patani, patola, peanut, pechay, pepper, pineapple, pole sitao, radish,
rambutan, sayote, shallot, snapbeans, sorghum, soybeans, squash, star apple, strawberry, stringbeans, sugarbeet,
sugarcane, sweet corn, sweet peas, sweet potato, sweet/hot/bell pepper, tiger grass, tobacco, tomato, upo,
watermelon, white potato, winged beans, yam, and zucchini.
 viable. An alternative yet almost similar way would be to increase the premiums for
these companies with the increase being shouldered entirely by the government.

B. Parametric Insurance – The subsidies applied to the crop insurance should likewise
be applied to parametric insurance. As noted earlier, commercial companies are
planning to issue this in the Philippines and knowing that subsidies can be enjoyed
would entice private companies to participate in this, ultimately speeding
development.

Most studies earlier cited high overhead costs for insurance companies (Corpuz, 2013) (Estacio &
Mordeno, 2001) (Magno & Bautista, 1989) (Reyes C. , 2015). Thus, another alternative way to
subsidize operations can be through another government decree to once more recapitalize the
PCIC or at least pay the remaining balance of its subscribed shares.

A drawback of this approach is that there may be more inefficiency created than if the subsidy is
applied on a per policy level. Thus, subsidizing on a per policy level, at least pushes the company
to be efficient with regards to its overhead78.

This is, in fact, being done in the United States since 2006, where the farmer only pays a third of
the premium and the rest is paid by the Federal government. The same can be done here in the
Philippines whose agriculture is more important to its economy, than the United States
(Gullickson, 2014).

2. A second suggestion is to provide subsidies, tax probably, to banks who are able to comply with
the Agri-Agra requirement. This is to be contrasted to the penalty suggested above, although
having the same goal, as depending on the current legal and regulatory environment, it may be
easier to move people with rewards, rather than through punishments. This is likewise the
appropriate reward for big companies that could not be classified as microfinance institutions
which plan to offer parametric insurance.

Expansion of PCIC or Establishment of a New Commission for Parametric Insurance

For both the crop and parametric insurance, the Insurance Commission should include these in its scope
of responsibility. The reason for this is that the IC has the experience in regulating highly similar products.
The inclusion of these would likewise make it more secure for reinsurers to initiate business.

Reinsurance Companies
If the government were successful in lowering the costs for agricultural insurance, more microinsurance
companies would do business and therefore naturally increase reinsurance companies. A faster way,
however, is to require companies to reinsure the risks of these agricultural insurance companies.

7
Note that if a farmer took out loans from the Agrarian Production Credit Program (APCP) of the Landbank, as
member of the Agrarian Reform Beneficiaries, then the crop insurance premiums are free. Likewise, the insurance
premium is free for “subsistence” farmers. This policy recommendation states that those should be expanded to
include all farmers as the costs of insuring is simply too high. At this rate, only those who can avail freely will do so.
In terms of global reinsurance, the Philippines should consider establishing relationship with Swiss
Reinsurance, a global reinsurance company offering services for agricultural insurance, including
parametric ones. This company has already been offering reinsurance for the United States since 2006
and can do so with experience when the Philippines started to implement parametric insurance.

Conclusion: Alternative Way of Developing Microfinance

The private sector simply shies away from the microfinance because the risks are simply too high.
Providing agricultural insurance such as crop and parametric ones, therefore, lower these risks for the
investors and private market players, making them want to participate in it.

The following issues are identified as being the root causes of the slow development of agricultural
insurance: 1.) high costs of insurance operations (relative to premium collection), 2.) low number of
enrollment and 3.) lack of reinsurance. As will be shown, these causes and issues are correlated with one
another, implying that the resolution of one could resolve the other issues as well.

This paper attempted to provide recommendations to these causes. The thread that sows these
recommendations together is that of government assistance. There is no greater influencer, in the case
of these insurance products, than the support or even mandate of the government. Although the
government has assisted the birth of the industry, later studies show that these are not sustained which
slowly dragged the development of the industry. Thus, the right government assistance would
tremendously lower the cost of agricultural insurance for both the insurance company and the farmer,
which need not always be through monetary assistance. Both the BSP and IC have a huge capacity as well
to move the industry forward. The BSP can do this through the expansion of its Agri-Agra framework and
strictly enforcing it. The IC, on the other hand, can help lower the costs of agricultural insurance by
adopting it as part of its regulatory responsibility which in turn would increase reinsurers for the service.
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Appendix
Appendix 1 – Philippine Development Plan (2011-2016) – Chapter 4: Competitive and
Sustainable Agriculture and Fisheries Sector

Source: National Economic and Development Authority

Appendix 2 – Philippine Development Plan (2011-2016) – Chapter 4: Competitive and
Sustainable Agriculture and Fisheries Sector

Source: National Economic and Development Authority

Appendix 3 – Premium Sharing for Rice and Corn insurance, by Type of Farmer, by
Insurance Cover

Note from above that the self-financed farmers shoulder more expense for insuring themselves as
compared to farmers who borrow from lending institutions. Thus, crop insurance is disadvantages self-
financed farmers against those who borrows for production.