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The first session of the afternoon here at the Microfinance Impact and Innovation conference was focused on microinsurance. Microinsurance is one of those maddening products in development circles because it makes perfect sense (so much so that its a bit surprising it hasn’t evolved on its own) but the existing offerings haven’t had much success—take-up rates are typically very low.

The basic theory of why microinsurance should be popular is that the poor face lots of risks that they have no control over and which have a huge impact on their lives. For instance, farmers are highly susceptible to rainfall variances—if the rain falls too hard, too soon or too late, an entire harvest can be wiped out. Paying a small sum to be protected from this risks is only logical. So why has microinsurance struggled in the marketplace?

There are a number of theories as to why including:
* Information and experience: the people who insurance should appeal to simply don’t know or understand the product
* Trust: for someone unfamiliar with the concept of insurance or the provider of insurance, its pretty logical to be skeptical of the idea that someone will hand you money if it doesn’t rain.
* Connection: it may be hard for potential clients to judge the cost/benefit of insurance because of the many different types of risk they face and the many influences on their income, e.g how valuable is rainfall insurance when rainfall is an issue on average every third year while pests and crop price fluctuation also have a big influence on my yield and income?
* Cost/Liquidity: potential clients may just not have the cash on hand to buy an insurance contract when it is offered to them at the price it is offered.
* Benefit: there is always the possibility that, in fact, insurance doesn’t really help that much.

Chris Udry of Yale presented an experiment in Ghana that tackles these questions. The experiment was based on a large question: why do farmers underinvest in their farms? Is it that they lack investment capital or that they are risk averse? To take this on, the program provided some farmers with rainfall insurance, some with cash grants, some with both and of course a control group. Bucking the trend of small impacts, the study found significant impacts on farm investment: farmers in the treatment group bought more fertilizer, planted more acreage, and hired more labor. Unsurprisingly come harvest time they had higher yields and more income. They missed fewer meals and their children missed less school.

With such large and positive impacts you would expect that the farmers would be interested in buying insurance for the following year—and they were. But subsidizing a year of insurance to generate clients isn’t a great way to scale microinsurance. So Udry’s team looked at demand among friends, neighbors and acquaintances of the participants to see if word spread and generated demand beyond the original participants. They found that demand did spread along social networks with those who knew multiple participants more likely to be interested in purchasing insurance, particularly if they knew someone who had gotten an insurance payout. But the really exciting thing about Udry’s research is the significant benefits participants achieved.

James Vickery presented another microinsurance experiment in India primarily designed to understand the economics of a rainfall insurance product, whether it could be offered profitably at a price that would generate significant uptake. Using the standard tools of insurance product creation and analysis, they created a rainfall insurance product that would pay out at a much lower rate than insurance programs in the United States (payout on the rainfall insurance was expected to account for about 50% of premiums collected; payout on US auto insurance is around 75%). This difference is important because the costs of selling and administering a microinsurance product are much higher.

The experiment in India found that demand was very price elastic. In fact if you could bring premiums down so that payout was at a similar rate as in the US, uptake would increase by around 100%. They also found that trust in the product and the provider and liquidity (simply having enough cash on hand to buy the insurance) limited demand but were not nearly as important as price. In terms of effects on farmers behavior, they found that having insurance moved the farmers from planting subsistence, low value crops to higher risk, but higher value cash crops—thus increasing their incomes.

Two practitioners were also part of the panel and made important points. Michael McCord gave a rule of thumb for insurance product design: products have to be simple, understood, accessible, valuable and efficient or SUAVE. But his best point was probably noting that selling insurance is much harder than selling credit everywhere in the world. Thus, there is no reason we should expect the average microcredit loan officer should be able to effectively sell insurance products. They need significant training to be effective.

Barbara Magnoni of EA Consultants, which helps MFIs design products also noted a key factor missing in many microinsurance product designs: not taking into account who bears the cost of loss without insurance. As she pointed out, in many communities, if a family goes bankrupt or is wiped out by a disaster, the extended family or even the whole village provides for the family. Thus, a big part of the risk is born not by the household but by the family and community. That lessens the value of insurance to the individual household. She noted that it was very hard to sell flood insurance after the Asian tsunami because people saw that if there was a catastrophic flood the government and foreign donors would arrive and rebuild houses. She also pointed out that convenience also remains an important factor. A program in Nicaragua found that uptake of a free (yes, free) health insurance program increased 30% when it was marketed door-to-door.

In summary, the various studies showed that there is tremendous potential for microinsurance—it has large benefits if the barriers to adoption are overcome. It seems that the most important area for innovation is around the cost of delivery and administration. If insurance providers can bring down those costs, they will find demand and will be able to grow a sustainable business that provides substantial benefits to clients.

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