Crop Insurance Increases Water Withdrawals for Irrigation in Agriculture

Abstract:

Agricultural production remains particularly vulnerable to weather fluctuations and extreme events, such as droughts, floods, and heat waves. Crop insurance is a risk management tool that has been developed to mitigate some of this weather risk and protect farmer income in times of poor production. However, it is not clear what the implications of crop insurance are for crop irrigation. By providing a guaranteed level of income in case of crop failure, crop insurance can reduce the farmer's incentive to irrigate. Thus, crop insurance can decrease water use in times of drought and promote water sustainability. However, to minimize this “moral hazard”, the insurer may require farmers to irrigate crops more than necessary. Further, by shifting crop production, crop insurance may increase demand for water. Thus, it is unclear whether crop insurance increases or decreases crop water use. Here, we determine the empirical relationship between crop insurance and irrigation withdrawals in the United States. To establish causality, we exploit variation in crop insurance policies over time, using an instrumental variables approach. We find that a 1% increase in insured crop acreage leads to a 0.223% increase in irrigation withdrawals, primarily from groundwater aquifers.