Tips from TAPS: The Multi-Peril Crop Insurance (MPCI) Decision

“Tips from TAPS” highlights lessons from the University of Nebraska–Lincoln’s Testing Ag Performance Solutions (TAPS) program, where producers compete by testing farm management decisions in real-world scenarios.

Multi-Peril Crop Insurance (MPCI) is one of the most important risk management tools available to producers. The goal for any producer is not to choose the 'best' policy after the fact, but to choose the best policy before the growing season begins that fits their cost structure, yield risk, and marketing strategy. In this article, we identify, review, and discuss the seven different expected conditions that may occur while choosing a crop insurance policy. 

These conditions directly affect the usefulness of the three general types of MPCI, i.e., Revenue Protection (RP), Revenue Protection Harvest Price Exclusion (RP-HPE), and Yield Protection (YP). The driving factors that affect different MPCI policies are the harvest price, projected price, market or crop price risks and production or yield risks. For easy reference. a decision matrix with six areas, Table 1, captures these three insurance types and their associated risks.

Because MPCI policies perform differently under the six illustrated conditions, an understanding of these differences is paramount to making use of them. While RP, RP-HPE, and YP each insure against production losses, only RP and RP-HPE account for within season price risk. In the table, each policy is ranked by indemnity and then cost. The indemnities can be substantially different depending on the policy type and coverage level. Understanding how these differences affect indemnities across conditions, along with their associated probability of occurrence, helps producers select a policy and coverage level that aligns with their risk exposure and management strategy. Premium costs follow a consistent ranking across all scenarios, with RP being the most expensive, followed by YP and RP-HPE. 

Table 1 shows the indemnity rank for Multi-Peril Crop Insurance (MPCI) for RP, RP-HPE, and YP policies under six conditions defined by production and price outcomes. The table shows the risk situations: price risk (Areas I and II), yield or production risk (Areas V and VI), and simultaneous price and yield risk (Areas III and IV). It also shows price outcomes, representing scenarios (Areas I, III, and V) where the harvest price is lower than the projected price, and others representing scenarios (Areas II, IV, and VI) where the harvest price is higher than the projected price. A seventh condition, not shown, occurs when there is neither price nor production risk; in such cases, no indemnity is triggered and insurance provides no benefit.

The information in the table is also represented in a decision matrix graphic available here. It is intended to be a tool to make it easy to identify the policy that best suits the expected circumstances, represented by the six areas. Each area ranks the policy types by the size of their potential indemnity given that a claim is made. Policies are ranked from greatest to least potential indemnity for the condition represented in that area. Cost Ranking (all scenarios): RP > YP > RP-HPE.
 

Table 1. Indemnity and cost rank matrix for Multi-Peril Crop Insurance (MPCI) showing how YP, RP-HPE, and RP policies perform under the six conditions of expected production, price and trend risks.

Notes

• A seventh condition exists when neither production risk nor price risk is present.
• Historically, low-price scenarios occurred 69% of the time and high-price scenarios occurred 31% of the time.

Infographic: View the decision matrix graphic representing the same information in the table above.

Key takeaways and implications about MPCI: 

• Insurance is a risk-transfer tool with many degrees of varying risk.
  • Insurance coverage level should align with preferences for cost protection and/or financial stability.
  • If the concern is a seasonal market price decline, revenue policies are more appropriate (Areas I and III), with RP-HPE being the most economical.
  • If forward pricing is a critical component of your marketing strategy, exposure to upside price risk becomes important (particularly in Areas II and IV of the figure, where harvest price exceeds the projected price). In these scenarios, forward contracts can lock in lower prices, and RP provides value through the harvest price feature, helping offset losses when yields decline and prices increase. When the likelihood of price increases is low (Areas I and III), this added protection has limited benefit, and RP-HPE is often more cost-effective since it avoids paying for coverage that is unlikely to trigger.
  • Where prices are stable and yield is the real concern, with some chance of an in-season positive price trend, YP (Area VI) performs better than RP-HPE and the expense of RP may not be warranted.
  • Where there is concern about a potential in-season price increase (Area V), RP may be preferred despite its higher cost, as it provides protection if higher prices occur alongside a production loss.

The right selection as just demonstrated depends on aligning policy design with the operational objectives, clear and realistic expectations, and the amount and type of risk exposure that is acceptable. 

• The above figure reflects the historical frequency of price movements, with harvest prices lower than projected prices about 69% of the time and higher about 31% of the time. Both the likelihood and the magnitude of price changes are important for decision-making. Because crop insurance operates with a deductible (coverage level), smaller price changes may not trigger indemnities, while larger changes can have greater financial impact. Since the projected price already reflects available market information at the time of the decision, the choice between RP and RP-HPE should consider the balance between how often price increases occur and how large those increases could be, rather than relying on either factor alone.
   
• Yield risk affects both the coverage level and the type of insurance selected. Operations with greater yield variability (e.g., dryland production) may prefer higher coverage levels and revenue-based policies to manage combined production and price risk. Where yields are more stable (e.g., irrigated systems), the insurance decision may depend more on price risk expectations when choosing between RP and RP-HPE.
   
• RP only provides additional value relative to RP-HPE when the harvest price exceeds the projected price (an in-season price increase). The in-season price increase provides an increase in coverage protection for RP should a yield shortage occur. However, as stated above, the likelihood of a higher harvest price is low, reducing the likelihood an RP policy provides this extra benefit. The magnitude of the benefit would depend on the magnitude of the yield loss that triggered it. So, the profile of possible yield loss outcomes relative to market price movements is important to consider when choosing between RP and RP-HPE. Producers with production risks that are more representative of a large region (i.e., drought) and more likely to affect market prices are better served by RP-HPE than producers with production risks that are more farm-level focused (i.e., hail).
   
• Lower coverage levels are less costly for a reason; They are less likely to pay indemnities and will have smaller indemnities than higher coverage levels. Consequently, their effectiveness in managing shallow risk events (i.e., a 25% loss) also minimized. However, lower coverage levels may be an efficient way to cover catastrophic losses at an acceptable level given a producer’s financial situation. Bottom line: an indemnity payment does not guarantee meaningful financial protection unless the coverage level is sufficiently high to match financial needs. The amount of indemnity matters as well as the frequency, and it is directly affected by both the coverage level and the policy type.