Production Risk Management: Running With The Bulls

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Production Risk ManagementRunning With The Bulls
Gary Brester MSU Department of Agricultural
Economics and Economics
Current Dynamics in Agriculture Energy Costs,
Global Markets, Ag Policy, Price Protection, and
Leasing Arrangements Great Falls, MT
May 6, 2008
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OUTLINE

• . Production Risk Management
• . Insuring Production Costs?
• . Insuring Crop Replacement?
• . Multiple Peril Crop Insurance
• . Revenue Insurance
• . Revenue Assurance
• . Crop Revenue Coverage
• . Questions

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OUTLINE

• . Production Risk Management
• . Insuring Production Costs?
• . Insuring Crop Replacement?
• . Multiple Peril Crop Insurance
• . Revenue Insurance
• . Revenue Assurance
• . Crop Revenue Coverage
• . Questions

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Production Risk Management

• . How Does A Bull Market Influence Crop
  Insurance Decisions?
• . Insuring Production Costs?
• . Increase In Crop Prices Between Planting And
  Harvest
• . Little Correlation
• . Not Really An Issue
• . Crop Replacement Costs
• . Expect To Use Corn Crop To Feed Cattle
• . Replacing Such A Crop With Higher Priced Corn
  Is An Issue

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Wheat
Insured Counties for Wheat, 2008 MPCI, RA, CRC
Coverage
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OUTLINE

• . Production Risk Management
• . Insuring Production Costs?
• . Insuring Crop Replacement?
• . Multiple Peril Crop Insurance
• . Revenue Insurance
• . Revenue Assurance
• . Crop Revenue Coverage
• . Questions

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Multiple Peril Crop Insurance

• . Original FCIC, Subsidized Crop Insurance
• . Producer Establishes An APH
• . Producer Chooses A Coverage Level
• . 50-75 (Or 85) Of APH
• . Producer Chooses A Price Election
• . 55-100 Of MPCI Price Forecast
• . Premium Equals The Maximum Indemnity
  Multiplied By The Premium Rate

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MPCI Spring Wheat Example
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MPCI Spring Wheat Example

• . Suppose You Actually Harvest 33 Bushels Per
  Acre
• . You Receive An Indemnity Because 33 Bushels Is
  Less Than Your Yield Guarantee Of 35 Bushels.
• . You Receive The Difference In Bushels
• . 35 33 2 bu/ac
• . Valued At Your Elected Price
• . 2 bu/ac x 9.00/bu 18/ac
• . Harvest Price Of 12.00/bu
• . 33 bu/ac x 12.00/bu 396/ac

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OUTLINE

• . Production Risk Management
• . Insuring Production Costs?
• . Insuring Crop Replacement?
• . Multiple Peril Crop Insurance
• . Revenue Insurance
• . Revenue Assurance
• . Crop Revenue Coverage
• . Questions

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Revenue Assurance (RA)

• . Can Insure Optional, Basic, Or Enterprise
  Units
• . Producer Establishes An APH
• . Producer Chooses A Coverage Level
• . 50-75
• . RMA Establishes A Projected Harvest Price
• . Formula-Based Off Of September MGE Futures
  Price

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Revenue Assurance (RA)

• . RA Basic Revenue Guarantee
• . APH Yield x Coverage Level x RMA
  Projected Harvest Price
• . Producers May Choose a Harvest Price Option
• . RA Harvest Revenue Guarantee
• . APH Yield x Coverage Level x RMA Harvest
  Price
• . Producers Receive An Indemnity If
  Crop Value Is Less Than The Basic
  Revenue Guarantee (Or, The
  Harvest Revenue Guarantee)

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RA Example
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RA Example Price Increase

• . Suppose You Actually Harvest 33 Bushels Per
  Acre
• . But, The Actual RMA-Determined Harvest Price
  Increased To 12.00/bushel
• . Rather Than The Projected Harvest Price of
  11.00/bu.
• . Your Crop Value Is
• . 33 bu/ac x 12.00/bu 396/ac

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RA Example Price Increase

• . You Do Not Receive An Indemnity From Basic
  Harvest Revenue Guarantee
• . 396/ac gt 385/ac
• . Under The Harvest Price Option, You Would
  Receive An Indemnity
• . Harvest Revenue Guarantee Is
• 50 bu x .70 x 12.00/bu
• 420/ac
• . 396/ac lt 420/ac
• . 24/ac Indemnity

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OUTLINE

• . Production Risk Management
• . Insuring Production Costs?
• . Insuring Crop Replacement?
• . Multiple Peril Crop Insurance
• . Revenue Insurance
• . Revenue Assurance
• . Crop Revenue Coverage
• . Questions

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CRC Insurance

• . Can Insure Optional, Basic, Or Enterprise
  Units
• . Producer Establishes An APH For Each Unit
• . Producer Chooses A Coverage Level
• . 50-75 (or 85)
• . RMA Establishes A Base Price
• . Producer Chooses 95 or 100 Price Election

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CRC Insurance

• . Minimum Revenue Guarantee
• . APH Yield x Coverage Level x RMA Base
  Price x Price Election
• . Producer Receives An Indemnity When
• . Actual Yield Multiplied By The RMA Harvest
  Price Is Less Than The Minimum Revenue
  Guarantee

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CRC Insurance

• . Producer Minimum Revenue Guarantee Is Adjusted
  Upward If
• . RMA Harvest Price Is Greater Than The RMA Base
  Price
• . CRC Insurance Results In
• . Downward Yield Protection
• . Downward Price Protection
• . Upward Price Participation

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CRC Wheat Example
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CRC Example Price Increase

• . Suppose You Actually Harvest 33 Bushels Per
  Acre
• . But, The RMA Harvest Price Increased To
  12.00/bushel (Rather Than The RMA Base Price
  of 11.00/bu.)
• . Your New Minimum Revenue Guarantee
• . 50 x 0.70 x 12.00 x 1.0 420/ac

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CRC Example Price Increase

• . Your New Crop Value Is
• . 33 bu/ac x 12.00/bu 396/ac
• . Your Indemnity Is
• . 420 - 396 24/ac
• . If The Price Increase Was Not Considered
• . Your Indemnity Would Be Zero
• . 396 gt 385/ac

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Summary Results
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Summary Results
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Summary Results
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Summary Results
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Summary Results
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10 Bushel Yield 8.00 Price
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Other Issues

• . MPCI Indemnity Price Was Increased To 9.25/bu
  Prior To Sign Up
• . An Administrative Decision
• . Huge Potential For Government Liabilities If
  A Disaster Occurs
• . Greatly Increases Potential For Moral Hazard
• . It Doubles The Premium, But Greatly Increases
  Protection

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Other Issues

• . CRC And RA Price Levels Are Set In February
• . They Could Be Below Actual Harvest Prices
• . Not A Major Factor Because This Simply
  Establishes The Revenue Guarantee Floor
• . Indemnities Increase With Price
• . This Means A Lower Premium
• . Upper Bounds On Price Increases

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What Is The Goal?

• . Insure Against Loss Of Variable Costs?
• . Increase Coverage Levels When Input Prices
  Are High
• . Maximize Indemnities?
• . Capture As Much Of The Government Subsidy As
  Possible?
• . Minimize Risk?
• . Minimize Premium Costs?
• . Maximize Expected Profits?

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QUESTIONS?