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On the Systemic Nature of Weather Risk

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Listed:
  • Xu, Wei
  • Filler, Gunther
  • Odening, Martin
  • Okhrin, Ostap

Abstract

Systemic weather risk is a major obstacle for the formation of private (nonsubsidized) crop insurance. This paper explores the possibility of spatial diversification of insurance by estimating the joint occurrence of unfavorable weather conditions in different locations. For that purpose copula methods are employed that allow an adequate description of stochastic dependencies between multivariate random variables. The estimation procedure is applied to weather data in Germany. Our results indicate that indemnity payments based on temperature as well as on cumulative rainfall show strong stochastic dependence even at a national scale. Thus the possibility to reduce risk exposure by increasing the trading area of the insurance is limited. Irrespective of their economic implications our results pinpoint the necessity of a proper statistical modeling of the dependence structure of multivariate random variables. The usual approach of measuring stochastic dependence with linear correlation coefficients turned out to be questionable in the context of weather insurance as it may overestimate diversification effects considerably.

Suggested Citation

  • Xu, Wei & Filler, Gunther & Odening, Martin & Okhrin, Ostap, 2009. "On the Systemic Nature of Weather Risk," 2009 Annual Meeting, July 26-28, 2009, Milwaukee, Wisconsin 49131, Agricultural and Applied Economics Association.
    • Handle: RePEc:ags:aaea09:49131
    DOI: 10.22004/ag.econ.49131
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    1. Vedenov, Dmitry V., 2008. "Application of Copulas to Estimation of Joint Crop Yield Distributions," 2008 Annual Meeting, July 27-29, 2008, Orlando, Florida 6264, American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association).
    2. Martin Odening & Oliver Musshoff & Wei Xu, 2007. "Analysis of rainfall derivatives using daily precipitation models: opportunities and pitfalls," Agricultural Finance Review, Emerald Group Publishing Limited, vol. 67(1), pages 135-156, May.
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    5. Zhu, Ying & Ghosh, Sujit K. & Goodwin, Barry K., 2008. "Modeling Dependence in the Design of Whole Farm---A Copula-Based Model Approach," 2008 Annual Meeting, July 27-29, 2008, Orlando, Florida 6282, American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association).
    6. Barry K. Goodwin, 2001. "Problems with Market Insurance in Agriculture," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 83(3), pages 643-649.
    7. Härdle, Wolfgang Karl & Okhrin, Ostap & Okhrin, Yarema, 2008. "Modeling dependencies in finance using copulae," SFB 649 Discussion Papers 2008-043, Humboldt University Berlin, Collaborative Research Center 649: Economic Risk.
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    Keywords

    Risk and Uncertainty;

    JEL classification:

    • C14 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Semiparametric and Nonparametric Methods: General
    • Q19 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Agriculture - - - Other

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