Taking a holistic approach to agricultural risk management
Farmers are exposed to a wide range of risks arising from weather variability, natural hazards, and pests and diseases because agricultural production relies heavily on the natural resource base and climate conditions. Similarly, shocks to the market from both domestic and international sources, like supply shortages due to drought or fluctuations in exchange rates, can result in price volatility. These risks directly affect the economic returns from agriculture, the livelihood of farmers, and in the long run, the capacity of farmers to invest and innovate.
Agriculture needs to be more resilient to the uncertainties ahead
There is a need for the agricultural sector to become more resilient to production and market risks, as risk and uncertainties in agriculture are increasing. Climate change is projected to increase the intensity and frequency of climate-related shocks as well as the level of uncertainty about these risks, and will compound the pressures from other risks. Resource scarcities will contribute to increasing uncertainities in agriculture, including on water use. Agricultural policy reforms may also increase farmers’exposure to world markets – for example, by reducing barriers at the border – which will bring some risks to manage at the farm level, although reforms are likely to reduce international price fluctuations overall.
Risk management strategies and tools can help farmers adapt to climate change and manage future risks. Policymakers and the agro-food industry are also looking for ways to strengthen the resilience of the sector to risks from weather, markets or other shocks and facilitate its adaptation to climate change. By building resilience – the ability to plan and prepare for, absorb, recover from, and adapt to adverse events – farmers are better placed to cope with risks and uncertainties, and could even benefit from the new opportunities they may offer.
A holistic approach to risk management in agriculture
An efficient and effective policy approach to risk management in agriculture must take into account the interactions and trade-offs between different risks, on-farm strategies, and government policies. It is also important that risk management policies do not try to increase the incomes of farmers now at the expense of a resilient and sustainable agricultural sector in the future. For example, risk management policies should not encourage farmers to adopt unsustainable production strategies that prevent on-farm adaptation to climate change.
Risk management policies can help to build the resilience of farmers and the food system more broadly. An optimal approach will include appropriate ex ante and prevention policies, and emphasise the capacities farmers need to adapt to – or transform in response to – a more uncertain future.
To design effective policies, the OECD has identified three layers of risks that require different responses:
Normal variations in production, prices and weather do not require any specific policy response. Such frequent but relatively low impact risks can be directly managed by farmers as part of a normal business strategy, by diversifying production or using production technologies which make yields less variable.
At the other extreme, infrequent but catastrophic events that cause significant damage and affect many or all farmers over a wide area will usually be beyond farmers’ or markets’ capacity to cope – for example, a severe and widespread drought, or the outbreak and spread of a highly contagious disease. Governments may need to intervene in such cases.
In between the normal and the catastrophic risk layers lies a marketable risk layer that can be transferred through market tools, such as insurance and futures markets, or through co-operative arrangements between farmers. Examples of marketable risks include hail damage and some variations in market prices. One challenge with climate change is that the increasing frequency of severe weather events can lead to debate over whether they should be treated as marketable risks.
Governments play a critical role in creating an enabling environment for risk management and resilience
Work at the OECD underscores the need for governments to adopt a holistic approach to risk management, promoting the assessment of all risks and their relationships to each other, and avoiding focusing on a single source of risk, such as prices. In particular, agricultural risk management policies should focus on catastrophic risks that are rare, but that cause significant damage to many farmers. The procedures, responsibilities and limits of the policy response – including explicit triggering criteria and types and levels of assistance – should be defined in advance of the event. All stakeholders should clearly understand their responsibilities for managing risks.
In addition, policies should not provide payments or market support for the management of “normal” risk, which should be the responsibility of farmers. Minimum intervention prices or payments triggered by low returns may actually be counter-productive, as they tend to induce more risky farming practices. Policies should also avoid crowding out the development of private insurance markets by subsidised insurance. Subsidising insurance can be costly for governments and has not deterred pressure for additional ad hoc government assistance after catastrophic events.
Finally, governments should provide an enabling environment for investments that strengthen resilience to risk by building farmers’ capacities to absorb, adapt and transform in response to weather, market or other shocks. This includes effective regulation in such diverse areas as insurance and water markets, as well as cross-cutting investments in information, training and advice to farmers, facilitating access to knowledge, and the development of on-farm and market-based risk management tools.
Strengthening Agricultural Resilience in the Face of Multiple Risks
Amidst unprecedented uncertainty and a shifting risk landscape in agriculture, this report argues that a new approach to risk management is needed – one that enhances the sector’s resilience to risk instead of merely helping farmers and other stakeholders to cope with the impacts of adverse events.