Fasal Bima Yojana: Will The Crop Insurance Scheme Survive In Modi-II?

Making Fasal Bima Yojana voluntary would mean a reduction in area coverage and send actuarial premiums rise to sky-high levels.

A farmer walks through a field in Haryana, on May 8, 2019. (Photographer: T. Narayan/Bloomberg)
A farmer walks through a field in Haryana, on May 8, 2019. (Photographer: T. Narayan/Bloomberg)

One of the major initiatives of the Modi government’s first term was the Pradhan Mantri Fasal Bima Yojana or crop insurance scheme, which was launched in kharif 2016. It reduced farmers’ premium to 2 percent for kharif crops, 1.5 percent for rabi crops. For commercial crops, the premium was retained at 5 percent. PMFBY removed the cap on sum insured, a feature of Modified National Agricultural Insurance Scheme brought by UPA II. Due to the cap, farmers were receiving only a fraction of the cost of cultivation in case of crop loss. Modi-I linked it to cost of cultivation and farmers were able to claim much higher amounts in case of crop failure.

In 2015-16, only 22 percent of the gross cropped area was covered under crop insurance. PMFBY envisaged that by 2019, coverage should reach 50 percent of GCA. In 2016-17, the coverage increased to 29 percent but it came down to 26.37 percent in 2017-18. In 2018-19 the area coverage again expanded to 29.33 percent.

However, the scheme attracted a lot of criticism when commentators examined all-India figures of insurance premium received by the companies and claims paid by them. It was perceived to benefit private insurance companies.

Move To Voluntary Enrolment?

The BJP manifesto promises that the scheme would be made optional for farmers availing crop loans. If the government takes such a decision, most farmers are unlikely to insure their crops. Even in the case of motor insurance, some 60 percent of vehicles, most of them two-wheelers, are on the road without insurance. It will mean a drastic reduction in area coverage which will cause actuarial premiums to rise to sky-high levels.

The premium subsidy, which is shared equally by the centre and the states, will go up by many times and the concept of crop insurance will itself collapse.

Understanding Insurance Revenues And Costs

In 2017-18, there were 18 insurance companies in crop insurance business out of which five were in the public sector and 13 were in the private sector. At all India level, the premium collected by insurance companies was Rs 25,528 crore while claims paid were Rs 20,226 crore. Since there was an almost normal monsoon in most insurance clusters, the claims in most states were less than premium collected. In several other states affected by a calamity, however, the claims paid did exceed the premium collected. In 2016-17 and 2017-18, Chhattisgarh, Haryana, Kerala, Karnataka, Madhya Pradesh, Odisha and Tamil Nadu fall in this category.

One of the major items of expenditure for insurance companies is reinsurance. In order to reduce their liability in case of a claim, insurance companies take reinsurance and incur a cost. Some of the reinsured amount goes to foreign reinsurance companies.

Insurance companies retain only about 25 percent of the premium with them.

For this amount, they take stop-loss insurance from reinsurance companies. Here, they have to pay about 10 percent charges to reinsurance companies.

For the balance 75 percent, insurance companies generally go to GIC (37.5 percent) and foreign reinsurers (37.5 percent) for reinsurance. This is called quota share in insurance parlance. Reinsurance companies pay a ceding commission to insurance companies for bringing them business. However, in the last three years, the reinsurance companies have concluded that the possibility of claims is rising and the ceding commission has gone down from 9 percent to 3 percent.

The reinsurer, GIC in this case, also insures its risk through retrocession insurance with foreign companies. For this GIC has to pay about 14 percent commission.

Thus, some amount, possibly about Rs 2,500 crore, would have gone to foreign reinsurance companies in 2017-18 and 2018-19.

Let me explain reinsurance by an example.

Suppose an Indian insurance company, let us call it ABC Insurance, collected Rs 8,000 crore as premium. It would retain Rs 2,000 crore in its books and take reinsurance for Rs 3,000 crore each with GIC and foreign reinsurers. ABC Insurance is paid about 3 percent as the commission (down from about 9 percent in 2016) by the reinsurer for giving them business.

For Rs 2,000 crore retained in its own books, ABC Insurance takes stop loss reinsurance (also called protection cost) from GIC or a foreign company. For taking stop loss of Rs 2,000 crore, ABC Insurance has to pay Rs 200 crore as protection cost. If claims exceed Rs 2,000 crore, the insurance company pays Rs 2,000 crore from its own funds and reinsurer pays the balance.

Though GIC has received Rs 3,000 crore by means by way of quota share, it also takes further reinsurance (called retrocession) from a foreign reinsurance company by paying a premium of about 14 percent. The entire risk covered by GIC (Rs 3,000 crore) is then taken by a foreign company.

Thus, we see that there is a chain of insurance and reinsurance.

In addition to the cost of reinsurance through quota share and stop loss, the insurance companies have to pay about 0.75-1 percent service charges to banks, common service centres, agents and brokers. The companies also have to spend about 1 percent on supervision charges on crop-cutting experiments. In addition, they are now mandated to spend about 0.5 percent on publicity.

The total expenditure of an insurance company on reinsurance and administrative expenditure would be in the range of about 15 percent depending on the size of the company. Bigger companies like Agriculture Insurance Corporation and ICICI Lombard would have to pay less commission for reinsurance than smaller companies.

With the increase in area coverage, the premium rates should have come down. But in several states, the premiums have gone up in the last three years.

The reasons of increase in insurance premium are the uncertainty of policies, finalisation of bids after monsoon forecast is released by the Indian Meteorological Department, delay in payment of premium subsidy by state governments, unreliable crop cutting experiments and year to year tendering. From rabi 2018-19, the government has revised operational guidelines and the insurance companies are now required to pay 12 percent interest to farmers if there is a delay in settling the claim. This additional cost would also be reflected in higher premiums this year’s Kharif crop.

Retaining The Money Pool

If crop insurance is abandoned as a concept, the central government may provide its share to the State Disaster Relief Fund. The allocation for PMFBY in 2019-20 interim budget is Rs 14,000. It is possible to transfer this amount to the State Disaster Relief Fund in proportion to the gross cropped area in the states. In case of a calamity, the states can draw from SDRF to compensate the farmers. However, in case of large-scale damage to crops, as in Fani cyclone in Odisha, SDRF will be inadequate to meet the requirement.

If the government decides to continue with PMFBY, the question will be whether the premium paid to foreign companies for quota share and stop loss reinsurance (protection cost) can be retained within the country.

Several options could be considered in place of reinsurance. Primarily, it would mean that the government takes responsibility of the payment of claims if they exceed  the share retained by insurance companies. So, it will not really be an insurance policy.

One alternative could be to set up a trust which can provide reinsurance cover. The saving in a good season/year may be retained for payment of claims in a bad season.

In addition to reducing the cost of reinsurance and retaining the money in India, the real challenge before the government is to find a technological solution for quickly establishing the yield of a crop. Settlement of claims is delayed due to delay in receipt of premium subsidy and assessment of yield. On average, 60-70 lakh crop cutting experiments are required to be conducted every year. It is not really possible for insurance companies to supervise such a vast number of CCEs. A mix of mobile, satellite and drone technology can address this problem.

Unlike other insurance products, crop insurance is much more complex and risky. The government would do well to consult the states, insurance companies, reinsurers and seek expert opinion before taking a final decision on the future of crop insurance.

Siraj Hussain is Visiting Fellow at ICRIER. He retired as Union Secretary, Ministry of Agriculture.

The views expressed here are those of the author and do not necessarily represent the views of BloombergQuint or its editorial team.