Adverse Selection in Crop Insurance: Actuarial and Asymmetric Information Incentives

Abstract

Abstract Adverse selection is often blamed for crop insurance indemnities exceeding premiums plus subsidies. However, nationwide empirical evidence has been lacking or based on inadequate county‐level data. This article uses nationwide farm‐level data on corn and soybeans to decompose incentives for participation in U.S. multiple peril crop insurance into a risk‐aversion incentive (the conventional justification for insurance), an actuarial or subsidy incentive (reflecting government subsidization), and an asymmetric information incentive (which reflects farmers' information advantage). Results show that the risk‐aversion incentive is small. Farmers participate in crop insurance primarily to receive the subsidy or because of adverse selection possibilities.