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This study will evaluate an innovative, market-based credit solution that embeds within its structure an insurance contract, called Risk Contingent Credit (RCC), for maize farmers in Kenya.
Financial institutions in rural Kenya often face challenges in providing credit to smallholder farmers who either do not have adequate collateral or are unwilling to bear the risk of losing collateral if they are unable to repay the loan. Crop insurance provides an effective tool to improve farmers’ ability to repay such loans, but crop insurance coverage is almost universally low due to myriad reasons including basis risk, liquidity constraints, lack of trust, and ambiguity aversion. With RCC, insurance payments if triggered, are applied to the underlying debt obligation, thereby reducing default risk. Because the insurance component of RCC substitutes for collateral, it is in theory more inclusive than conventional credit products.
- Does RCC increase quantity- and risk-rationed farmers’ access to credit?
- Does uptake of RCC differ among farmers with different preferences or characteristics?
- How does RCC affect farmers’ productive behaviour and welfare, both in the short- as well as medium-term?
- How do these impacts differ from those of traditional loans?
- Do the impacts of RCC differ among farmers with different preferences or characteristics?
The intervention offers Risk-Contingent Credit (RCC), an innovative product for providing finance to households in rural Kenya, particularly those that are quantity- or risk-rationed in access to credit. In particular, the product embeds an index-based insurance product with a conventional credit product, thereby eliminating the need for borrowers to provide collateral as a condition for accessing credit. The product has been rigorously developed and simulation exercises have demonstrated its effectiveness. The intervention is being implemented in Machakos County in eastern province of Kenya.
Theory of change
The embedded insurance component of RCC substitutes for collateral and can attract risk-rationed farmers into the credit market. In RCC, the indemnity from the insurance reduces farmers’ debt obligation when droughts threaten agricultural production, thereby reducing default risk, improving risk-bearing ability and trust, increasing the uptake of RCC, and ultimately increasing investments in agricultural inputs. RCC does not require farmers to pay the insurance premium upfront; rather farmers receive credit upfront and loan repayment depends on the production risk they face. Consequently, RCC can contribute to high and sustained uptake by farmers.
This study will randomly assign 1050 households to three groups: conventional credit, RCC, and control group with no credit. An additional 100 households will be part of a sub-experiment of demand estimation where households will receive random subsidy (25%, 50%, 75%, and 100%) on risk premium. This sub-experiment will help elicit demand elasticities for RCC that can provide important policy perspectives.