Maximizing Agricultural Potential in Nigeria Through Index-Based Insurance
This post was written by Nneka Eze, founding partner of Dalberg Advisors' Lagos office.
Once an agricultural powerhouse that held a dominant position in Africa in exports in the 1960s, Nigeria has become a net importer of agricultural produce in the past decades. The agricultural sector in Nigeria is now characterized by low productivity, low quality inputs, limited market access and inadequate use of agricultural land. Despite the challenges, agriculture is still central to the economy, accounting for 42 percent of GDP and employing approximately 70 percent of the workforce. Agriculture — one of the more labor intensive sectors — provides income to at least one in five adults in Nigeria and accounts for 45 percent of total employment in the country. If managed well, the agricultural sector holds enormous potential to grow output by 160 percent to reach USD $256 billion by 2030.
Transformation of the sector requires addressing key bottlenecks, focusing on agricultural finance. Access to finance is a major challenge, mainly taking the form of low availability of capital. Where available, price of capital is often unaffordable for smallholder farmers. Nearly 40 percent of Nigerian adults are financially excluded with higher incidence in rural areas. The challenges faced in the agriculture sector in Nigeria thus require a suite of innovative solutions that encourage the uptake of good agriculture practice and help to mitigate risks faced by actors.
Agriculture insurance uptake in particular remains significantly low, with penetration currently standing at 3 percent (based on farmers enrolled and crop area covered). The sector remains largely underdeveloped and has been characterized by very few players in retail agriculture insurance. In particular, there exist very few providers of weather index-based insurance, such as the weather index insurance program launched in 2014 by Doreo Partners, Swiss Re Corporate Solutions and the Hollard Insurance Group. Figure 1 indicates how the product is structured. While index-based insurance in Nigeria is still at a nascent stage, it faces several challenges that have limited it from achieving full scale. These challenges are both on the farmer’s end and on the insurer’s end.
There are several hypotheses outlining why agri-insurance has not taken off in Nigeria. According to a feasibility study conducted by the World Bank Group in 2011, the main challenges that hinder the traction of index insurance products are mostly due to climate variability, low access to finance and financial information by farmers, and insufficient data for creating insurance products.
First, the variability of climate patterns is increasing, and insurance companies are increasingly vulnerable to taking on risks in the agricultural value chain. For instance, in the first half of 2017, farmers experienced losses due to heavy rains in December 2016 — two months after the end of the normal rainy season. While this context could provide a ripe justification for agricultural index insurance, particularly in value chains such as tomatoes and pepper that are even more vulnerable, insurance companies lack the skills to develop appropriate products and the appetite to develop and sell the products (i.e., to develop the partnerships).
Low access to finance and a poor understanding of it
Second, the majority of farmers in Nigeria are mostly subsistent and often lack access to formal finance, lack storage access and have do not have guaranteed markets for their produce. These challenges constrain the ability of insurance companies to forecast revenues. This pressure — along with a culture that does not include payment of insurance premiums — needs to be addressed in scaling agri-insurance. For example, current insurance packages provided through National Agriculture Insurance Commission (NAIC) that integrate agricultural insurance into products such as loans, or those that consider variability in incomes, may fare better in Nigeria. Additionally, there is an inability of small-scale farmers and other users to understand the operational dynamics of index insurance contracts and low acceptability of weather-based insurance, which is mono-peril, considering that NAIC has been offering comprehensive insurance covers to farmers that cover multiple risks (i.e., diseases, pests and floods).
Finally, insurance companies and agricultural value chain actors struggle to get credible information on inputs, agricultural practices and yields, which makes it hard to price insurance products on the part of insurance companies and compromise the “willingness to pay” on the part of consumers. A few existing companies and projects, from drone technology to the development of seed entrepreneurs, have attempted to address this gap in information in the value chains. More structured value chains such as those in cocoa, aquaculture, shea butter, poultry and perhaps potato may offer potential opportunities for agri-insurance interventions addressing these challenges. There is also a lack of access to high-quality weather data and infrastructure, particularly weather stations to provide credible weather data in production areas. Further, the companies seeking to enter the index insurance business face extremely stringent terms and conditions both locally and from overseas reinsurers in providing reinsurance covers for weather index insurance.
The potential for agri-finance and insurance is high. Index-based insurance in particular has great potential to mitigate risks for the farmer and financial institutions and lower transaction costs for insurance companies. The Agricultural Promotion Policy (APP) aims to increase the current insurance penetration from 3 percent to 10 percent by 2021. FMARD aims to reform the agricultural insurance sector by developing new products such as microinsurance, weather-index insurance and allowing private insurance companies to participate to government-sponsored insurance programs. NAIC remains the dominant supplier of agriculture insurance, despite the Insurance Commission licensing a host of providers to deliver these services. Improved agri-insurance supply can address the complex risk-averse behaviors and decision-making processes common to many smallholder farmers and value chain actors. If the key challenges in agricultural insurance can be resolved, Nigeria will be a few steps closer to maximizing its agricultural potential.