Banks : Offers protection in adverse conditions - A deeper study into Pradhan Mantri Fasal Bima Yojana - Agriculture Insurance scheme - Kotak

Offers protection in adverse conditions. Our initial study of Pradhan Mantri Fasal Bima Yojana (PMFBY) shows it offers hope to banks lending to agriculture in adverse conditions. The new scheme has seen ~100% increase in the sum insured in FY2017, greater interest from private insurance players and higher participation of farmers. Strict timelines, mandatory use of technology and a relatively transparent mechanism amenable to quick/easy audits could effectively reduce the risk of sharp rise in impairments for banks.

Significant increase in outlay; more than the cumulative allocation in all previous years

There are some positive signs that the lending to agriculture is taking a better form that should lower the "volume" risk associated to famers as new schemes offer greater protection. The government has modified the crop insurance program under the new scheme, PMFBY, which is seeing greater levels of participation by all segments. The government has budgeted to spend Rs130 bn in FY2017 for the scheme as compared to the initial budget of Rs55 bn, which is ~6X increase over FY2016 and similar to the total funds allocated to the scheme since FY1997. The budget for FY2018 is lower at Rs90 bn but we wait to see the year end given that the focus is to increase the area under the scheme to ~50% over the next two years from ~25% currently.

Participation made compulsory, entry of private insurers at market rates provide comfort

Key changes to the scheme: (1) compulsory participation of all loanee farmers; it is optional for non-loanee farmers making the business viable from an insurance standpoint (2) the sum insured is higher and linked to production history in local markets (3) participation of private insurers has been encouraged and we are seeing market linked pricing (4) strict timelines to upload data, compulsory use of technology with greater involvement of government, nodal agencies, lenders, insurance companies and borrowers (5) premiums have been capped for the end borrower with the balance subsidized by central and state governments equally

100% increase in sum insured gives comfort, but a few more years needed to ensure stability

We are seeing some early success of the scheme as there has been more than 100% growth in premium in FY2017 across key players like Agriculture Insurance Corporation, ICICI Lombard, HDFC Ergo. The total sum insured has doubled in the Kharif crop for 2016 to Rs1.4 tn and one should expect this to have increased further as some bottlenecks resulted in select states that did not implement it last year. The government is extending this scheme for non-loan farmers as well giving a wider business opportunity for private insurers. FY2017 may not be a good test case as there is likely to be lower claims given the bountiful rainfall witnessed. Private insurance companies gave away a substantial portion of risk to reinsurers and we need a stronger reinsurance market till market players get confident in the underlying data.

Banks stand to benefit as well; a weak monsoon is probably of lesser concern

The key objective of the note is to understand the impact on bank's portfolio given the spate of debt waiver announcements. In a prudish manner, the success of this scheme will imply that volume related risks have been taken away. This also implies banks are relatively better off during the weak monsoon but a surplus monsoon, as in FY2017 creates 'price-risk' where the current solution is not effective. A strong commodity derivatives market along with adequate infrastructure for post-harvest storage could be useful to address a part of these risks.

Understanding the scheme

Post May 2014 the Government in consultation with all stakeholders undertook a comprehensive review of the then extant crop insurance schemes namely, National Agricultural Insurance Scheme (NAIS) and components of National Crop Insurance Programme (NCIP) i.e. Modified NAIS (MNAIS), Weather Based Crop Insurance Scheme (WBCIS) and Coconut Palm Insurance Scheme (CPIS) and started Pradhan Mantri Fasal Bima Yojana (PMFBY) and Restructured Weather Based Crop Insurance Scheme from Kharif 2016 season. CPIS continued to be implemented as a separate scheme. The PMFBY operates under the principle of "Area Approach" where each state is divided into clusters. Key highlights of the scheme:

The following stages of the crop and risks leading to any losses would be covered under the scheme.

- Prevented sowing/planting risks. Coverage of risks in case the insured area is prevented from sowing/planting due to deficit rainfall or adverse seasonal conditions.

- Standing crops. Comprehensive risk insurance to cover yield losses due to non-preventable risks such as draughts, dry spells, floods, inundation, pests and diseases, landslides, natural fire and lightening, storm, hailstorm, cyclone, typhoon, tempest, hurricane, tornado etc.

- Post-harvest losses. Up to a maximum period of two weeks from harvesting for crops which are needed to be dried and spread against specific perils of cyclone, cyclonic rains and/or unseasonal rains.

- General exclusions. War, nuclear risks, malicious damage and other preventable risks.

- Premium has an upper limit for farmers. The maximum premium rate is 2% for Kharif crops, 1.5% for Rabi Crop and 5% payable by farmers for annual commercial/ horticultural crops; there premium rates are also applicable under RWBCIS. The balance of actuarial/ bidded premium is shared by the central and state governments on 50: 50 basis.

- Implementing agencies. There is a bidding process announced by each state. Individual states decide on the number of participants required in each cluster and the winner is decided based on the premium quoted. Participation of private players is allowed in all clusters.

- Farmers to be covered. All farmers availing loans from financial institutions for the notified crops would be covered compulsorily. However, this scheme is open for non-loanee farmers as well if covered under the notified crop scheme.

- Indemnity level. The indemnity of shortfall is decided by individual states. For example, the indemnity level in Haryana for Kharif 2016 was at 90%.

- Monitoring of the scheme. There is likely to be variance across states on the steps taken to monitor the scheme. However, most insurance companies would need to verify at least 5% of the beneficiaries and the report is subsequently sent to District Level Monitoring Committee (DLMC). The DLMC would cross-verify 10% of the beneficiaries.

Addressing the shortcomings of previous schemes

Earlier schemes had a few serious shortcomings: (1) high premium rates for farmers (2) cap on premium with resultant reduction in sum insured and claims if any, (3) poor induction of technology, (4) delay in submission of yield data by States/Union Territories and resultant delay in settlement of claims etc..

In an effort to provide more realistic assessment of losses, the unit area of insurance has been reduced from Tehsil/district level to village/village panchayat level for major crops and to individual farm level for identifying localized risks. The settlement of claims is done on the basis of yield loss assessment at the end of season, but some measure of immediate relief is also provided to insured farmers in case of adverse seasonal conditions during the crop season.

To address probability of delay in settlement of claims, timelines have been stipulated for completion of every activity, be it submission of proposals by banks to insurance companies, assessment of yield by State Government agencies, processing and settlement of claims by insurance companies, the last to be done within three weeks of receipt of yield data from the state. To expedite yield data submission, the Department has deployed CCE (Cutting Crop Experiments) Agriculture application and made it mandatory for states to transmit data through CCE Agri App/smartphones (android based platform). Further, remote sensing technology is also being experimented with to achieve more accurate yield loss assessment for purposes of accurate claim settlement. Most importantly, the National Crop Insurance Portal (http://agri-insurance.gov.in) has been launched to facilitate online flow of information and service delivery among stakeholders.

Source : Equity Bulls

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