Coping With Production Risk: Effects of Sown Plant Diversity on the Attractiveness of Crop Insurance in Grasslands

Increased frequency of extreme weather events, particularly droughts, threatens grassland farming by destabilizing yields and farms' economic viability. We examine, theoretically and through numerical simulations, how sown plant diversity (natural insurance) influences the attractiveness of indemnity and drought index insurance (formal insurance) in grassland systems across Europe. Our analysis shows that higher sown diversity reduces farmers' willingness to pay for indemnity insurance, suggesting adverse selection. In contrast, drought index insurance remains equally attractive regardless of diversity. These effects hold across different insurance designs and risk preferences. Our findings offer valuable insights for farmers, insurers, and policymakers aiming to build resilient, sustainable agricultural systems.