Hydrological drought insurance for irrigated agriculture in southern Spain

In Mediterranean-climate regions, irrigated agriculture is especially vulnerable to the risk of hydrological drought, and irrigators are particularly concerned about the negative effects of water supply failures. This paper proposes a new index-based drought insurance scheme to cover the risk of water supply failures in irrigated agriculture that overcomes the problems currently hindering the development of this kind of insurance, especially those related to arbitrariness in annual water allotments decision-making. Although the proposal is tailored to Spain, it can be easily adapted to other countries or regions because its main features can also be implemented worldwide. The scheme proposed is a promising instrument to help irrigators manage the risk related to hydrological droughts since it has been proved to be technically feasible. The main contribution of this paper is the innovative actuarial analysis implemented, which is aimed at calculating fair premiums. Considering that recent changes in the institutional framework (new demands, new storage capacity, and revised basin and drought management plans) make historical records unsuitable for this purpose, the actuarial analysis applied is based on a stochastic hydrological model able to simulate future hydrological situations under updated settings. Simulation results have shown that irrigated agriculture in southern Spain is expected to be more vulnerable to hydrological droughts. In fact, incidence rates are likely to increase because of the new institutional framework, leading to relatively high fair premiums. Only by implementing high ordinary deductibles can the hypothetical cost of commercial premiums be affordable for irrigators, accounting for less than 10% of their current variable costs.