Premium subsidy designs and crowding out of insurance demand

Crop insurance is an important instrument to protect farmers against extreme weather events. Many countries provide subsidies for crop insurance products to make insurance more affordable for farmers. The Federal Crop Insurance Program in the United States and major European crop insurance programs such as in Spain, Italy, and France focus on subsidized multi‐peril crop insurance contracts that cover losses from various natural hazards (e.g., hail, wind, drought, frost). We study how making premium subsidies more flexible and allowing farmers to buy subsidized single‐peril contracts affects insurance demand. We theoretically show that single‐peril subsidies are more effective than multi‐peril subsidies at increasing insurance demand against specific perils. Single‐peril subsidies may, however, crowd out insurance demand against other risks, when risks are correlated. Using a series of premium subsidies introduced by different German states aimed at increasing frost insurance demand of winegrowers, we compare the effects of subsidies for single‐peril (frost only) insurance contracts to the effects of subsidies for multi‐peril (hail and frost) insurance contracts. We empirically show that both subsidies lead to a similarly strong increase in frost insurance demand. We also find that single‐peril frost insurance subsidies do not crowd out hail insurance demand which is in line with our theory as frost and hail are independent risks. Our results demonstrate that allowing for more flexibility in contract choices can make subsidy programs more effective without reducing coverage against other, uncorrelated risks.