Risk management through agricultural insurances in the smallholder tea sector in Matara, Sri Lanka

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Risk management through agricultural

insurances in the smallholder tea sector in

Matara, Sri Lanka

Student: Anne van der Veen

Student number: 12236462

Supervisors: Jaap Rothuizen & Joeri Sol

Date: 28-05-2021

BSc Future Planet Studies – University of Amsterdam

Word count: 8801

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Acknowledgements

During an intensive period of three months I conducted research on agricultural insurances in Sri Lanka. I did not do this by own. Therefore, I would like to thank several people who have helped, and supported me with wise advice and feedback during my research.

First of all, I would like to thank my supervisor Jaap Rothuizen for the guidance he gave me while writing my thesis. He provided me with clear feedback, and when I got stuck while working on my thesis, I could always quickly reach him for advice. Jaap has constantly challenged me while writing my thesis.

Secondly, I would like to thank Maarten Bavinck. He helped me to find a good topic for my thesis. He also taught me a lot about how I could best define my subject and provided me with good feedback. Finally, my big thanks go to Dilshan Da Silva. He helped me very well and quickly with finding respondents for my interviews. He also conducted the interviews for me. The farmers did not speak English and Dilshan translated the interviews for me. Without him, this research would be impossible.

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Abstract

Globally, the earth is warming: causing a rise in temperature, a rise in sea levels, and more extreme weather events. The agricultural sector will be affected by this. In Sri Lanka, a large part of the agricultural sector consists of the tea industry. More than 4 percent of the country is covered with tea plantations, and the tea sector is responsible for more than 2.2 million jobs on a population of 21.4 million. However, the tea industry is highly sensitive to climatic changes. Smallholder farmers in particular, are expected to experience the impact of climate chan ge the most because of their low adaptive capacity. One way farmers can reduce the effects of climate change is to insure their crops. With agricultural insurance, the farmers are still paid, despite their failed harvest. However, there are some knowledge gaps in the barriers to implementing agricultural insurances that are important to identify. This thesis investigated how tea smallholder farmers from the Matara region deal with the existence and obstacles that exist in the use of agricultural insurance. In the past, there have been many agricultural insurance programs in Sri Lanka. These were mainly aimed at the paddy industry and almost not at tea. Two programs were started to ensure the tea sector, but both were terminated because the farmers were not aware of the programs. There are two types of agricultural insurance: indemnity-based and index-based insurance. Indemnity-based insurance covers the actual losses of a farmer, index-based insurance covers the estimated damage based on a model which correlates crop yield with weather conditions. Index-based insurance is best suited for developing countries, such as Sri Lanka. Three smallholder farmers were interviewed, and it seems that they are not really aware of climate change. They see weather events and the (negative) consequences of these events: crop failure and reduced income. Secondly, even though there are at present no agricultural insurances for the tea sector in Sri Lanka, the interviewees in this research project knew about agricultural insurances and had a positive attitude towards them. They want more information from a central point and prefer to make use of indemnity-based insurance. They have little faith in insurance companies and are afraid that the system of index-based insurance will be used to commit fraud. To conclude, farmers obviously do not have enough information about insurance to make a necessary and rational choice.

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1. Introduction

Global climate change is an ongoing trend and will go on for decades. Temperature and sea level will rise, and extreme weather events will occur more often (IPCC, 2018). This will affect humans as well, especially the food system and agricultural sector will be affected directly (Brown & Funk, 2008). Sri Lanka is the fourth largest tea producer in the world (Jayasinghe, Ku mar, Hasan, 2020). More than 4 percent of the country is covered with tea plantations. The tea sector is responsible for more than 2.2 million jobs (Jayasinghe, Kumar, Hasan, 2020) on a population of 21.4 million (Worldometer, 2021). Production of tea in 2020 was 278.5 mln kg. The largest part of tea production is exported (265,6 mln kg or 95%), mainly to Turkey, Russia, China, and the Middle East. In value, Ceylon Tea is the second most important export product of Sri Lanka, with a global value of USD 1.24 Billion (Tea Exporters Association, 2021; Daily FT, 2021). Ceylon tea is considered a high -quality brand, with auction prices/kg higher than in India, Indonesia, and Kenya (Forbes and Walker Tea Brokers, 2021). The tea industry is important for its contribution to the GDP (Esham & Garforth, 2013), poverty reduction, employment opportunities, and health benefits (Jayasinghe, Kumar & Hasan 2020). The high elevation of the subtropical mountains, the alternation of dry and wet seasons, and the monsoonal climate of Sri Lanka are perfect conditions for tea production. Sri Lanka experiences two monsoons per year, the southwest monsoon (Yala) from May till September and the northeast monsoon (Maha) from October to April (Manawudu & Fernando, 2008)

1.1 Social relevance

However, Sri Lanka’s tea production has experienced a decline in recent years (Hilal, Ismael, 2020). Tea production is highly sensitive for climatic changes (Esham & Garforth, 2013; Jayasinghe & Kumar, 2020), and future climatic changes will stress the agricultural system of Sri Lanka. Mainly the shift in precipitation, increasing temperatures, the shifting of the time of the seasons, and the

increasing number of insect pests will affect the quantity of tea cultivation (Nowogrodzki. 2019). Because of their low adaptive capacity, smallholder farmers in developing countries are expected to experience the impact of climate change the most (Esham & Garforth, 2013). In the tea sector of Sri Lanka, smallholders are accountable for more than 70 percent of the tot al production (ILO, 2018). Because the tea sector consists mainly of smallholders, it is an extremely vulnerable sector. Tea production by smallholders is mainly in the low country in the southwest of Sri Lanka, in Galle, Matara, and Ratnapura districts. This thesis will focus on the smallholder industry of Matara.

1.2 Scientific Relevance

As mentioned above, tea production is highly sensitive for climatic changes. This means that farmers run income risks. One way to reduce these risks is with agricultural insurance: insurance that pays out when the harvest of a farmer fails (Ray, 2013).

However, according to the research of Wijenayake, et al. (2019), there are some structural problems to climate-related agricultural insurance. There is a lack of data about ch anging weather conditions, a lack of communication and coordination, and gaps in laws and policies. Furthermore, the farmers are not well informed about the existing insurances. Farmers are not aware of the insurances, and therefore there is a lack of trust. Wickramasinghe (2016, par. 10) states that: “It is important to identify gaps

with regard to crop insurance take-up as a risk management strategy. In particular, the aspects of crop insurance demanded by farmers have to be researched in the case of Sri Lanka.”

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1.3 Problem definition

In conclusion, the smallholder tea sector is expected to be affected by climate change (Esham & Garforth, 2013; Jayasinghe & Kumar, 2020). An opportunity to adapt to these changes is the risk management strategy of agricultural insurances (Ray, 2013). As Wickramasinghe (2016) stated, there are some knowledge gaps in the barriers of the implementation of agricultural insurances that are important to identify. Therefore, this thesis will answer the following research question:

How do smallholders in the tea sector from Matara, Sri Lanka, deal with the existence and obstacles that exist in the use of agricultural insurances?

In order to answer the research question, several sub-questions have been formulated: - What has been the historical development of agricultural insurances in Sri Lanka?

- What are the characteristics of the various climate vulnerability insurances and what are the advantages and disadvantages of each type of insurance?

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2. Theoretical Framework

The food sector is expected to be affected by climate change. The sub-tropical countries in South Asia, like Sri Lanka, are expected to suffer the most because of their dependence on agriculture (Swain, 2014). Farming is a hazardous activity because of its independence of climatic factors, which are hard to be predicted by humans. The impact of climate change is mainly based on the variability of rainfall, the increasing insect pest, and the increase of extreme weather events (Nowogrodzki. 2019), which may cause damage to the harvest. This will increase th e risk of loss of income, which can theoretically be secured by agricultural insurance. This theoretical framework will further elaborate on the concepts of risk, climate adaptation, and agricultural insurances. Lastly, it will focus on the barriers to

implementing agricultural insurances.

2.1 Risk

Risk can be defined in several ways. The three most common ways of defining risk are the chance of a bad outcome and the chance that something will happen that does not meet the expectations. Second, the variability in outcomes, the change in outcomes per cultivation, loss of stability. Thirdly, the uncertainty of an outcome, since there is not one statistic mean that can measure risk, because of the dependence on climatic factors (Hardaker, 2000).

Climate change mainly affects natural uncertainty and risk, which implies uncontrollable events (Aimin, 2010). The uncontrollable events will mainly cause a production risk; the events are hard to predict and go beyond human control (Swain, 2014). Because of this, agricultu ral risk will not only increase but will also become very complex and much more difficult to tackle (Swain, 2014).

2.2 Climate adaptation

Climate change is increasingly affecting agricultural production (Brown & Funk, 2008). In order to meet their income needs, farmers will have to anticipate risks. In other words, they have to adapt to the expected climatic change. Climate adaptation is defined by the IPCC (2018, p. 542) as: “The process

of adjustment to actual or expected climate and its effects. In human systems, adaptation seeks to moderate or avoid harm or exploit beneficial opportunities. In some natural systems, human intervention may facilitate adjustment to expected climate and its effects.”

The literature distinguishes four types of adaptation: react ive, anticipatory, planned, and autonomous adaptation (Fankhauser, Smith & Tol, 1999). Reactive adaptation is a response after the fact has taken place. Anticipatory adaptation is done in advance of climate change events, to prepare. Autonomous adaptation is a spontaneous change because of the changing climate. Planned adaptation is a conscious intervention; these measures are taken by governmental bodies or other stakeholders (Fankhauser, Smith & Tol, 1999). These can be reactive or anticipatory (Schneider, et al., 2001).

A concept linked to climate adaptation is vulnerability: the degree to which a system is susceptible to climate change (Schneider, et al., 2001). Vulnerability consists of sensitivity, adaptive capacity, and exposure to climatic changes. Sensitivity is how the Earth reacts to a change in the climatic system. Adaptive capacity is the combination of means available that can be used to reduce the effects of climate change (IPCC, 2018). The adaptive capacity is not only influenced by economic and

technological means but also by social norms, values, and rules (Nielsen & Reenberg, 2010). Exposure is the degree to which a place is exposed to climatic changes (IPCC, 2018). Farmers of low-income, developing countries are the ones that have high exposure to climate change, but they have the least adaptive capacity and therefore the most vulnerable (Swain, 2014).

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2.3 Agricultural climate insurance

Agricultural climate insurance is generally seen as a tool to compensate for the financial impacts on farmers due to climate change (Wickramasinghe, 2019). It can be adopted as a tool for the farmers to pay for the losses due to a climate-related disaster; it will create a safety net for farmers and stabilize their incomes. It can reduce both the short and long-term economic impacts of cultivation loss due to climate change (Wijenayake, et al., 2019). Agricultural insurances are a type of anticipatory

adaptation, an ex-ante adaptation measure (Swain, 2014). The risk the agricultural sector experiences is moved from the insured to the insurer.

Agricultural insurances are seen as a risk management strategy, an ex-ante process in which risks are approached proactively to minimize threats and maximize opportunities and results and achieve optimal success (Mahul & Stutley, 2010). They are a type of anticipatory adaptation, an ex-ante adaptation measure (Swain, 2014). The risk the agricultural sector experiences is moved from the insured to the insurer.

Agricultural insurances have several benefits. As mentioned, they create a safety net for farmers; they will stabilize the farmers' income, provide economic support and encourage farmers to invest in agricultural techniques and reduce debts (Swain, 2014). But, the effectiveness of insurance is based on the demand. When there is low demand, the premiums are high, and the insurance is not profitable. It is expected that the future agricultural insurances are largely demand-driven (Raju & Chand, 2008). Therefore, it is important to determine what influences the willingness of farmers to take out agricultural insurance.

2.4 Types of insurances

There are two main types of agricultural insurances. Indemnity-based insurance is based on the actual observed losses (Wijenacke, et al., 2019). The farmer receives an indemnity for the dam aged crops by a weather event due to climate change (Sinha & Tripathi, 2014). Indemnity-based insurances are implemented by Sri Lanka’s Agricultural and Agrarian insurance board (AAIB) and private parties (Wickramasinghe, 2019). Indemnity-based insurances only cover the types of events and losses

covered in the contract (Mombauer, 2019), which can be a problem because farmers have to prove that the damage is caused by a type of event that is covered. Moreover, indemnity-based insurance is based on reliable information from the farm, which is frequently missing at smallholder farmers (Prasada, 2020). Also, indemnity-based insurance has high administration costs and must be assessed

individually (Wijenacke, et al., 2019).

In index-based insurance, the actual payment is not based on actual damage incurred (observed losses) but based on estimated damage based on a model correlating crop yield with the weather as defined by the weather index (Wijenacke, et al., 2019). The weather index is determined on a regional level (Hazell, et al., 2010).

Because no one has to inspect individual damage, index-based insurance can be cheaper than

indemnity-based insurances (Wijenacke, et al., 2019). Furthermore, because data from a regional index is used, the data is more reliable and faster (Hazell, et al., 2010), therefore farmers will be paid more quickly. There are also several disadvantages. Index-based insurances are expensive to implement; resources and technical expertise are necessary to conduct the right data and create the weather index model (Hazell, et al., 2010). Furthermore, there can be a lack of weather data because of a lack of satellites and weather stations (Sinha & Tripathi, 2014).

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2.5 Barriers

Barriers are defined as obstacles that reduce the efficiency of climat e adaptation strategies. One main barrier is a lack of financial resources to implement adaptation strategies (Antwi-Agyei, Dougill & Stringer, 2015). Furthermore, there are socio-cultural barriers, which include cognitive barriers, the psychological process of the individuals, and normative barriers, the cultural norms, and values (Adger, et al., 2007). The farmers in Sri Lanka are very traditional and not used to changes in their farming program. Furthermore, there are also institutional barriers: the lin k between governmental bodies and the farmers' access to capital. A supportive institution can create a successful

implementation of climate adaptations (Mahul & Stutley, 2010). There are technological barriers as well; these consist of a lack of infrastructural development. Agricultural insurances are highly dependent on data. When there is a poor quality of data, this can cause negative effects for the development of agricultural insurances (Mahul & Stutley, 2010). The lack of infrastructural development cause information barriers. There is a lack of information on climate change characteristics, therefore the risks are very insecure.

2.6 Willingness to take

According to a study by Falola, Ayinde and Agboola (2013), it is also important to look at the willingness of farmers to take agricultural insurance. As Wijenayake, et al. (2019) stated, there is a lack of awareness and trust. Falola, Ayinde and Agboola (2013) did research on the willingness of farmers to take out insurance in Nigeria and concluded that even though most farmers in Nigeria were aware of the insurances, only half of them were willing to take it. The study showed that several factors influence willingness. First, the access to information services: if the farmers do not have enough information, they are unable to determine whether the insurance is beneficial to them or not (Falola, Ayinde & Agboola, 2013; Ali, et al., 2020). The farmers' level of education and income are factors that influence the willingness as well (Falola, Ayinde & Agboola, 2013).

Furthermore, a study by Liu, Tang and Miranda (2019) and a study by Ali, et al. (2020) showed t hat in China and northern Togo, the extent of previous damages is a crucial factor. The higher the experience of previous damage, the higher the willingness will be to take agricultural insurance. Abbas, et al. (2015) stated that the willingness of rural farmers from Pakistan is not influenced by their perception of climate change but by their financial situation.

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3. Methodology

In this chapter the methods to answer the following question will be elaborated: How do smallholders

in the tea sector from Matara, Sri Lanka, deal with the existence and obstacles that exist in the use of agricultural insurances?

3.1 Research strategy

This research aimed to investigate which factors influence the willingness of tea smallholder farmers from the region of Matara to take out agricultural insurance. In order to answer this question,

qualitative research methods are used. Qualitative research focu ses on inductive research; the research forms the theory (Bryman, 2012). The research is focused on the smallholder farmers because, at this moment, there are knowledge gaps in the aspect of the awareness of farmers of agricultural insurances. Filling in the knowledge gaps will generate a theory about agricultural insurances and the willingness to take them. Therefore the proposed research is explorative; it is done since there is no research done about agricultural insurances in the tea smallholder sector of Sri Lanka (Bryman, 2012). The research is a single-case study focused on the region of Matara.

3.2 Case study

According to Bryman (2012), a case study is based on a location, for example, a community or organization. This research is a single-case study since it was focused on one area, the Matara region. Matara is chosen because my fellow student from Sri Lanka (Dilshan Da Silva) has contact with the tea smallholder development authority from Matara. Dilshan is a student at the University of Ruhuna. His degree program is BSc Agribusiness Management.

With a case study, the case is selected to understand the underlying bigger issue (Cresswell, et al., 2007). In this thesis, the researcher first focused on the issue of the willingness to take out agricultural insurance, and then a case was selected to demarcate this issue. The unit of analysis was focused on the tea smallholder farmers from the Matara region. Smallholder farmers can be defined as individual privately owned tea estates.

3.3 Data gathering and analysis

According to Cresswell, et al. (2007), a case study involves multiple sources of data. This research can be best studied through primary as well as secondary data.

For the primary data collection, semi-structured interviews have been used. This is a qualitative method of data collection. Semi-structured interviews are used so that the researcher has a more open mind and concepts and theories can emerge out of the collected data (Bryman, 2012). The interviewer had a list of questions during the interview, but the order of topics that will be addressed during the interview was not fixed. There was also room for additional questions, and it was possible to continue longer on a single topic (Bryman, 2016). The topic list consists of concepts based on other scientific research and is shown in the appendix.

Given the sensitivity of the research problem, a lack of awareness and trust, in -depth interviews are the most appropriate. In this way, the experiences can be described in the own words of the farmers. Due to challenging circumstances, such as the COVID-19 crisis, the purpose was to use

snowball-sampling, since potential participants were hard to find. However, the intention was to conduct a research that is as representative as possible.

The purpose was to do one more interview with Till Below. He is an agricultural economist by training and works for the Deutsche Gesellschaft für Internationale Zusammenarbeit (GIZ) as a

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12 climate change adaptation expert. He currently works on a German -Zambian development cooperation project to develop climate risk insurance and information for farmers.

The interviews are recorded (with permission of the respondent), and during the interviews, notes are taken.Dilshan Da Silva translated the interviews and wrote the answers down. The interview with Till Below is recorded as well, but due to privacy reasons not shown in the appendix. The recorded

interviews are used to quote an interviewee when this is important to answer the research question. Apart from the primary data collected through semi-structured interviews, additional information was gathered through literature. Scientific literature was used to create a context and acquire knowledge about the agricultural insurance situation in Sri Lanka. The history and global trends were elaborated based on scientific sources. Policy documents were used to analyze the different acts related to agricultural insurances.

3.4 Limitations and ethics

This research is done during the Covid-19 pandemic; this entailed various limitations. Interviews were not held on-site and were conducted via Zoom or another medium. This presented multiple obstacles: a bad internet connection, a language barrier, and a lack of personal contact.

Furthermore, there was intercultural communication because the subject was located in Sri Lanka. As a Dutch student, I took these cultural differences into account. I have been as open and transparent as possible.

Lastly, I was very dependent on Dilshan, the Sri Lankan ‘buddy’ student I worked with. He made contacts for me in Sri Lanka and acted as an interpreter. Here too, cultural differences were taken into account. In Sri Lanka, people are not easily inclined to say 'no'; I have been open towards Dilshan and left him free in his choices.

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4. Context tea and agricultural insurances in Sri Lanka

4.1 History

The Sri Lankan agricultural sector structure changed during the period of colonization, especially in the British era (Sandika, 2018). Until 1869 the agricultural sector was based on the export of coffee, but due to leaf fungus, Coffee Leaf Rust, in 1870, most coffee plants were destroyed (Peebles, 2006). Since then, tea was introduced as an alternative. The area of coffee plantations was not big enough, and the agricultural region for tea production expanded further. This led to enorm ous infrastructure development: the government invested in roads, a railway from Colombo to the plantation districts, and the Colombo harbor (Peebles, 2006). At that time, tea plantations were owned by large

corporations, such as Lipton's. (Most of the) Profits were for the British owners, and the plantation employees were amongst the poorest inhabitants of Sri Lanka.

In 1948 Sri Lanka gained independence from the British. At that time, tea, together with rubber and coconut, made up for 92% of the export incomes of Sri Lanka (ILO, 2018). In 1971 the British's tea estates were nationalized by the government of Sri Lanka (ILO, 2018). After the nationalization, land redistribution programs were started by the government. The tea land was distributed among rural people and two-state corporations, which increased the number of tea smallholders in the country (Ganewatta & Edwards, 2000). The Tea Small Holdings Development Authority (TSHDA) was established in 1977 in order to develop, regulate and manage the smallh oldings, increase the

production, develop effective coordination and support the tea smallholder farmers of Sri Lanka (Tea Small Holdings Development Law).

4.2 The role of tea in Sri Lanka

Sri Lanka is the fourth largest tea producer in the world (Jayasinghe, Kumar, Hasan, 2020). More than 4 percent of the country is covered with tea plantations, and the tea sector is responsible for more than 2.2 million jobs (Jayasinghe, Kumar, Hasan, 2020) on a population of 21.4 million (Worldometer, 2021). Production of tea in 2020 was 278.5 mln kg. The largest part of tea production is exported (265,6 mln kg or 95%), mainly to Turkey, Russia, China, and the Middle East. In value, Ceylon Tea is the second most important export product of Sri Lanka, with a global value of USD 1.24 Billion (Tea Exporters Association, 2021; Daily FT, 2021). Ceylon tea is considered a high -quality brand, with auction prices/kg higher than in India, Indonesia, and Kenya (Forbes and Walker Tea Brokers, 2021). The tea sector plays a significant role in the economy of Sri Lanka

(Ganewatta & Edwards, 2000). Even though a negative growth of 1.3 percent in 2019 in production, due to extreme weather

conditions (CBSL, 2019: N.B. this shows the possible importance of climate insurances), tea still accounts for 2 percent of the GDP.

4.3 The role of smallholders in the tea supply chain

The tea sector of Sri Lanka consists of two groups of main producers: the large plantation companies and the tea smallholder sector. There is also a 2% contribution of state-owned plantations (Wickramasinghe & Cameron, 2003).

According to Perera (2014), tea smallholdings can be defined as tea lands less than 10 acres. 95 percent of the tea smallholders own less than two acres of land, whereas 0.5 percent own lands

between 10 and 50 acres (ILO, 2018). The average land of a tea smallholder in Sri Lanka is about 0.9 acres. Tea smallholder farmers

Figure 1: Major tea production areas Sri Lanka (Jayasinghe, Kumar, Hasan, 2020)

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14 are mainly positioned in the low country, the southwest of Sri Lanka (Ganewatta & Edwards, 2000). This can be seen in figure 1. “Low” is the classification of tea cultivation below 600m. Of low country, tea smallholders cultivate 95 percent of the tea (Perera, 2014)

The tea smallholder sector accounts for more than 75 percent of the national tea leaf production; these leaves are converted into “made tea” in a factory. After that, the tea can be used to drink (ILO, 2018). Because of their contribution to the national tea leaf production, smallholders play a vital role in the tea sector of Sri Lanka. Wickramasinghe and Cameron (2003) stated that the performance of smallholder farmers is relatively speaking much more productive compared to the large plantation companies. On the plantations of the large companies work twice as many employees as on the smallholder farms, while the smallholder sector contributes three times more to the national income.

4.4 Where and how is tea produced?

Tea in Sri Lanka is cultivated in three elevation levels, namely high -grown tea, with an elevation 1200 meters above sea level. Mid-grown tea, with an elevation between 600 and 1200 meters above sea level, and low-grown tea, with an elevation between 0 and 600 meters above sea level (ILO, 2018). The teas from the different regions differ in flavor and color. The tea producers of low elevation cultivate 64 percent of the national tea, medium elevation produces 21 percent, and h igh elevation has a contribution of 15 percent (Sri Lanka Tea Board, 2017). This can also be seen in figure 2.

Figure 2: Comparison of monthly tea production per zone in 2016 and 2017 (Sri Lanka Tea Board, 2017)

The Matara district is located in the low country, and, as mentioned above, the low country is responsible for the production of 64 percent of the national tea. Smallholder farmers cultivate 95 percent of this. The Matara district, located in the low country, produces more than 13 percent of the total production of Sri Lanka’s tea (Bandula, Abeywickrama & De Zoysa, 2016). In 2017 the

production of tea in Matara increased by 14.47 percent (Sri Lanka Tea Board, 2017). The types of tea most commonly produced in the Matara region are: Ceylon black tea, Black and White Blend, Oolong tea, White tea, and Chai tea(RateTea, n.d.)

No specific climate is required for growing tea (Marx, Haunschild & Bornmann, 2017). However, the optimal conditions are 210mm of rain and 5 hours of sun per day (Ahmed, et al., 2018). The

monsoonal climate of Sri Lanka Lanka creates the perfect condition for growing tea. Sri Lanka experiences two monsoons per year, the southwest monsoon (Yala) from May till September and the northeast monsoon (Maha) from October to April (Manawudu & Fernando, 2008). But, due to climate change, more extreme weather events affect the stability of the cultivation of tea (ILO, 2018).

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15 Harvesting a tea plant is a labor-intensive activity: leaves need to be plucked by hand every seven days. The plucked leaves are collected in a tarpaulin bag. At the end of the day, the leaves are

weighed, and the pickers receive an amount of money for the leaves. If the tea-picker has reached the desired amount of kilograms (18kg), then the picker will receive around 600 Sri Lankan Rupees (LKR); if not, the picker will receive only 300 LKR (BBC, 2018). After the leaves are plucked, they go to the factory to be processed into tea.

4.5 Agricultural insurances

Agricultural insurance is a way in which the insurer addresses the vuln erability of farmers to extreme weather events. On a micro-level, the insurance provides direct financial protection to the losses of farmers (Jarzabkowski, et al., 2019). A farmer takes out insuran ce, whereby the insurer accepts a certain risk. The farmer pays a premium for this. A contract is drawn up in which the terms and conditions are included. After signing the contract, the insurance company is responsible for potential future financial losses. When an event occurs, and the farmer's crop is damaged, insurers will pay the claim (Jarzabkowski, et al., 2019). The insurer provides insurances to move the risk away from farmers and compensate for the impacts of losses due to climate change (Mombauer, 2019).

4.6 Historical development

Agricultural insurances in Sri Lanka were introduced in 1958 as a project to protect the cultivation of rice. The first fifteen years of the project were experienced very positive: 16 percent of the rice cultivation was insured (Prasada, 2020). The insurance scheme helped the paddy farmers to get out of the vicious circle of poverty. As a result, the paddy farmers could make greater investments to improve their production (Nilwala & Jayarathna, 2018).

In 1973 a second project was established under the Agricultural Insurance Law No. 27. This law included paddy and all such other crops. However, this was not for tea. The insurance covered lack of water, extreme weather events, insect pests, diseases, and damage due to wild animals (Prasada, 2020). In 1985 the insurance was extended to even more crops. Later, in 1999 the system was further

expanded by the Agricultural and Agrarian Insurance Board (AAIB) Act No. 20. This act further expanded the scope of insurances; even fisheries and forestry were included now. The broad scope also opened a way to private insurers (Prasada, 2020). In 2006 the government created the National Insurance Trust Fund and the National Insurance Trust Fund Act No. 28 (Wijenayake, et al., 2019). This was designed to cover damages by drought, flood, and wild elephant attack in the paddy production.

SANASA Insurance, a public limited liability company, introduced index-based insurance for tea farmers in 2012, which covered losses when the weather conditions were not suitable for the cultivation of their crops (Wijenayake, et al., 2019). Nevertheless, a study by the Institute of Policy Studies of Sri Lanka showed that 31% of the respondents were unaware of the crop insurance schemes (Oxford Business Group, 2019). There was not enough data about rainfall available.

4.7 Tea Shakti Fund

The Tea Shakti Fund was introduced by the TSHDA to take the steps that may be necessary for the improvement of the well-being of those engaged in tea production as small holders. The purpose was to promote the saving of money among tea smallholders. To stimulate necessary investments and to facilitate tea factories necessary for the production of tea (Tea Shakti Fund Act, No. 47 of 2000). The Tea Shakti Fund is no more functioning (reasons why the act is terminated could not be identified, we could not access the documents at the moment of writing as an interprovincial travel restriction was imposed). I assume that the act was terminated because they were not profitable for the insuran ce

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16 companies/insurance funds. The insurance payout (including administrative costs) probably was higher than the collective premiums that the insured farmers could afford. Thus, at the moment there are no insurance policies for the tea industry.

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5. Differences in agricultural insurances

Agricultural insurance is traditionally seen as a tool for farmers to recover from the disasters caused by climate change (Jarzabkowski, et al., 2019) and is increasingly seen as a risk management strategy (Wickramansinghe, 2019). Agricultural insurances make the rural communities more resilient since they minimize the short- and long-term economic impacts (Wijenayake, et al., 2019).

It is clear that agricultural insurance is seen as a tool for financial resilience, but beyond the payout of insurance, taking out insurance also promotes physical resilience (Jarzabkowski, et al., 2019). Till Below1_{stated in the interview that farmers are better informed about the weather conditions and}

climate change due to the agricultural insurances. Since the farmers are more informed about the risk, they can manage their farm better and take better actions. In the long run, this will also decrease the insurance premium because the risk of damage is reduced.

There are two types of agricultural insurance policies: indemnity-based insurance and index-based insurance. Indemnity-based insurance covers the actual losses of a farmer, index-based insurance covers the estimated damage based on a model which correlates crop yield with weather conditions (Wijenayake, et al., 2019).

5.1 Indemnity-based insurance

Since indemnity-based insurance covers the actual losses, the insurance price is based on the cost of repairing the damage and the chance that the harvest of a farmer completely or partially fails. This means that in areas with a high probability of damage and a high physical value, the farmer will have to pay a higher insurance premium than areas with a low likelihood of damage and a lower physical value (Jarzabkowski, et al., 2019).

If the specific insured event happens, an assessment of the losses is made by a representative of the insurance company. The damages are assessed per farmer in the field (Wijenayake et al., 2019). When the damage is assessed, and the production falls below the insured coverage, the insurer determines the indemnity and pays for the losses.

One of the advantages of indemnity-based insurance is that the actual losses of a farmer are covered. This ensures stability of the farmers' income (Aditya, 2016). When the income of farmers is stable, the problem of rural indebtedness is minimized as well. According to Aditya (2017), the indebtedness of farmers is caused by the failed harvests. When the failure is covered, the indebtedness will disappear, and the farmers can invest more in sustainable cultivation. Sustainable cultivation lowers the risk of crop failure. Therefore, the premium of insurance will be lower.

There are also disadvantages to indemnity-based insurance. Firstly, only specific events are covered with indemnity-based insurances: the current insurance schemes are mainly focused on extreme weather events. When a different event causes the damage or loss of the harvest, the farmer is not insured (Wijenayake, et al., 2019). Secondly, since the insurance is based on the actual losses of a farmer, so the damages need to be documented: the farmers need to prove their actual losses. Therefore they need reliable information about the farm, but this information is often missing. The farmers cannot prove their actual losses (Yallarawa & Prasada, 2020). Thirdly, since every loss of a farmer needs to be assessed individually, there are high administrative costs (Wijenayake, et al., 2019). Lastly, the individual assessment causes a slow payout of the compensations. (Wickramasinghe, 2019).

1_{The interview with Till Below is recorded, but due to privacy reasons, not openly available. When you want the}

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5.2 Index-based insurance

The price of index-based insurance is identical for all smallholder farmers in the same region. The farmers are offered a contract with the same terms for every farmer. Because all farmers pay the same premium, they will all get the same payout once an event caused damage (Hazell, et al., 2010). The payout of insurance is based on a pre-defined minimum or maximum level for a specified period. The farmers sign a contract with terms about the threshold, and once the specified threshold is crossed, the farmers get a payout of 100 percent. For example, a minimum of rainfall for a certain period is

defined; when the rainfall for that specified time is below the minimum, the farmers get a 100 percent payout. The payout of the insurance is triggered when the weather station or satellite notes that the limit is being reached (Jarzabkowski, et al., 2019).

Till Below stated that index-based insurance is specifically well-suited for developing countries since the payout depends on a trigger level from weather conditions. He noted that the biggest advantage is the cut on administrative costs. Since no one has to go to the field and assess the claim, there are no administrative costs on the damage verification. Administrative costs per hectare correlate inversely with the size of the farm: the bigger the farm, the lower the assessment costs for each hectare. And since the main production of tea in Sri Lanka is done by smallholders, the administrative costs per farm are high, and there is no real market for indemnity-based insurance; this is simply not profitable for an insurance company.

In the case of index-based insurance, the damage is determined on a regional level, and therefore much more profitable. The reduction in administrative costs that this implies means that the premiums for the farmers can be reduced (Below & Nalwimda, 2021). Secondly, the weather stations used by weather-index insurances could forecast the weather conditions. The change in weather con ditions can be communicated to the farmers. The farmers can adjust their practices and prepare themselves for the changing weather conditions (Till Below, personal communication, 03-05-2021). And even when the farmer adapted to the changing weather conditions, the payout is still based on the pre-defined minimum weather conditions; the farmer will not be mistreated compared to the other farmers in that region (Singh, 2010). Thirdly, since the data used is more reliable and faster, the payouts of insurance can be done right after the weather conditions stay below the pre-defined minimum (Hazell, et al., 2010). Because of these advantages, Till Below stated that: “Index-based insurances is a good

opportunity to start with for smallholder farmers, but it has also disadvantages.”

The first disadvantage is the basis risk; there is a certain risk that the reality of the farm differs from the payout because the payout is based on either the weather station recording the weather conditions and or on satellite images of weather conditions (Hazell, et al., 2010). Rainfall is very location-specific, so often, the reality in a certain location differs from the average in the wider area or, for example, the average in 20 km away from the weather station. This means that in some cases, the weather condition observed by the weather station or satellite can be good, while the farmer has a harvest failure or damage. In that case, there will be no payout, while there are actual losses. The opposite can also be the case, where the farmer receives compensation but did not have a harvest loss (Jarzabkowski, et al., 2019). These kinds of events create much confusion among farmers (Till Below, personal communication, 03-05-2021). It is hard to convince the farmers that they are not mistreated. In addition, in developing countries, there is only a limited number of weather stations (Sinha & Tripathi, 2014). In this case, the basis risk will become bigger because the chance of different weather conditions between farm and weather station is bigger when the distance from the station to farm is longer. Thirdly, the weather-index-based insurance is expensive to implement; since there is a need for data and technical expertise, a lot of weather stations need to be built. This is an expensive operation (Hazell, et al., 2010)

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6. Results

In this chapter I will present the results of my research, gained through semi-structured interviews with three tea smallholder farmers from the region of Matara, Sri Lanka.

6.1 Perception

The farmers interviewed for this research do not really seem to be aware of climate change. When being provided with information about climate change, all three farmers react with the fact that they experienced dry periods and periods with heavy rainfall. The farmers do not see the difference between the weather and the climate. Climate is the long-term modeling of weather conditions, while the weather is the conditions they can perceive at the moment , . The farmers see changes in the weather, which have always been there, but not the overall climate change: they only see the changing weather as a snapshot. They see weather events and the (negative) consequences of these events: crop failure and reduced income. Their view is short term, and they seem not aware that bad weather events are increasing in occurrence because of climate change. They do have a high-risk exposure but are not aware of this. As stated by Liu, Tang and Miranda (2019) and Ali, et al. (2020), the extent of exposure and their perception of exposure is a crucial factor to the willingness of farmers. Therefore, the high-risk exposure of these three farmers does lead to the farmers wanting insurance. Also, in terms of adaptation to the weather conditions, they are not so much concerned with the changing climate, but mainly with their own economic situation. This can be seen particularly because two out of three farmers indicate that they have switched to hybrid seeds. These are seeds that are more resistant to extreme weather events. The interview shows that they use hybrid seeds mainly for a higher yield. What they have in their possession, in this case, the tea plants must be cherished. According to Völker, et al. (2011), a high perception of climate change can be positively linked with the use of adaptation strategies. As mentioned before, the farmers do not have a good idea of climate change, and therefore they did not use more adaptation strategies than the change in the use of hybrid seeds.

6.2 Willingness

The second interesting point is that there is a very high willin gness for taking out insurance. Two of the three farmers agree with the statement that they would like to make use of agricultural insurance. And even one strongly agrees with this statement. In the interview, all three of them indicate that they want to make use of an insurance policy. This is very striking compared to the literature from other countries. Firstly, as mentioned above, all three farmers do have no real perception of climate change. A study by Guo and Bohara (2015) showed that farmers from Bahunepati, Nepal are more likely to purchase crop insurance when they expect that climate change will go on for ten years, compared to the farmers that do have a bad perception of climate change. Since the three farmers from Sri Lanka have a bad idea, it is striking that all three indicate that they would like to use crop insurance. Furthermore, as Falola, Ayinde and Agboola (2013) concluded, despite the farmers of Nigeria were aware of the presence of insurance, only half of them were willing to take it. Th ey pointed out several factors that influence farmers’ preferences in participating in the agricultural insurance market. However, these factors mentioned in the theoretical framework seem to play a smaller role for the interviewed farmers from Sri Lanka. The interviewed farmers are interested in their own economic situation and not so much in the changing climate. This can be seen in particular in the benefits of insurance that the farmers appoint. S.P. Thalika (farmer 1, see appendix) mentioned that the reduction of tea harvest and the reduced tea productivity reduced her income. After that, she mentioned that the government did not have proper compensation plans for that, which is why she needs insurance. With this information, we can conclude that she is particularly interested in restoring her own economic situation. C. Ranaweera (farmer 2, see appendix) mentioned that if the production of her tea lands fails, she faces many problems. This also shows the main focus on the production of the farmer and,

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20 therefore, her/his own economic situation. Thus, the willingness of the farmers from Sri Lanka is not based on their perception of climate change but the changing weather conditions that influence the productivity of their tea lands.

What is extra striking is that the willingness of farmers increases as more farmers make use of insurance. This could be because a large group of farmers is part of the TSHDA, which aims to achieve effective coordination between the farmers. As indicated by Wickramasinghe (2019), lack of trust is a major factor in the demand for insurance. But when the farmers are in good contact with each other through the TSHDA, and several farmers have good experiences with insurance, the farmers will share this information. The trust in insurances will increase, and more farmers will make use of insurance.

6.3 Information flows

Thirdly, despite the high willingness and the fact that all three farmers have heard of agricultural insurances, two out of three farmers indicate that they would first like to receive more information before taking out insurance. Research in Zambia has sh own that smallholder farmers have limited demand for agricultural insurances since they are often unaware of these kinds of products (Daura, et al., 2021). Therefore, it is good that the farmers indicate that they want more information. It is also striking that the farmers indicate that insurance will not solve their problems. This could be due to the fact that farmers receive so little information about insurance that they do not have a good idea of what insurance is and what it is good for. Even two of the three farmers do not think that insurance will solve their problems. This indicates that the farmers need more information.

All three farmers have heard about agricultural insurances in another way. S.P. Thalika did get information through extension officers, which are the intermediaries between farmer and science. C. Ranaweera received information from Dilshan when he was doing his fieldwork in the same region three months ago; he had never heard of it before. E. Premarathna (farmer 3, see appendix) did not get information directly through government officers but got his information through his friends and word of mouth. This indicates that there are different channels of information flows, the farmers do not receive the same information, which can lead to confusion and a decrease in trust. The fact that all three farmers receive little information could be due to their reactive attitude towards the information channels. However, C. Ranaweera indicates that he went to the TSHDA to talk about the problem s he is experiencing due to the changing weather conditions. The TSHDA then only told him that a program was once established for agricultural insurance in the tea sector, the Tea Shakti Fund, but, as also indicated in chapter 4 that it has been terminated. All three farmers are a member of the TSHDA, but as mentioned above, this does not necessarily mean that they get more information about

agricultural insurance.

6.4 Indemnity-based insurance

The fourth interesting point is that two of the three farmers indicate that they prefer to use indemnity-based insurance instead of index-indemnity-based insurance. This is striking against the background and existing literature on the various insurance policies. As Till Below stated, index-based insurances are a good opportunity to start with; since there is no market for indemnity-based insurances, this is simply not profitable.

C. Ranaweera and E. Premarathna stated that they could not trust th e index-based insurance companies because frauds are made by these companies. What t hey forget is the basis risk. They experience losses, but the insurance does not payout. This can be so since the situation around the farm can differ from the situation around the weather station (Till Below, personal communication, 03-05-2021). To the farmers, it seems like the insurance companies are committing fraud here, but this is not true. The

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21 farmers are not mistreated. It is striking that the two farmers do not tru st the insurance companies since, in general, an index-based is characterized by a higher level of trust (Wickramasinghe, 2019; Yallarawa & Prasada, 2020). E. Premarathna prefers to have indemnity-based insurance and stated that the region where he grows his tea does not face long periods of rainfall or drought. He looks more at the concrete situation and is less model-oriented. He wants a payout whenever he experiences an extreme weather event. But, indemnity-based insurance is not suitable for immediate disaster response since the damage has to be assessed individually (Jarzabkowski, et al., 2019). Index-based insurance is still useful when the weather conditions are very different from each other, the situation E.

Premarathna experiences. There is no requirement for long periods of rain or drought. The weather conditions need to be below the pre-defined minimum or above the pre-defined maximum (Singh, 2010). The weather stations can forecast the weather, and so the farmer can adapt to changing weather conditions right away. Even when the farmer adapted to the forecasted weather condition s, he still gets a payout. The farmer will therefore not be mistreated.

Also, two farmers stated that the insurance premium should not be too high since their income is very low. If the premium is higher than 1000 Rs (= 4,17 Euro) per month, they cannot pay for it. Therefore it is very striking that the farmers want indemnity-based insurance since the biggest advantage of index-based insurance is that the premium is not too high. Because there is no one who does not have to record the actual damage, cuts can be made on administrative costs, and the premium is lower (Below & Nalwimda, 2021). These costs are added to an indemnity-based insurance policy. The other problem with the premium costs is that farmers have to determine whether they take insurance much earlier before planting their seeds. When they have to determine this, there is often no money for it (Till Below, personal communication, 03-05-2021). Because at the index-based insurance, there has already been research on the risks beforehand. Therefore the premium is more realistic. Such research is much more difficult with indemnity-based insurance, and so, just to be sure, there is only a high premium (Jarzabkowski, et al., 2019). With indemnity-based insurance, the premium can be much higher than the risk at which the farmer actually has. So here too, it is remarkable that the farmers opt for indemnity-based insurance.

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7. Conclusion

This thesis answers the question: How do smallholders in the tea sector from Matara, Sri Lanka, deal

with the existence and obstacles that exist in the use of agricultural insurances?

The farmers interviewed for this research do not really seem to be aware of climate change. They see weather events and the (negative) consequences of these events: crop failure and reduced income. Their view is short term, and they seem not aware that bad weather events are increasing in occurrence because of climate change.

In the past there have been many agricultural insurance programs in Sri Lanka. These were mainly aimed at the paddy industry and almost not at tea. In 2012, SANASA Insurance, a public limited liability company, started to insure tea smallholder farmers, but this programme was, as previous research has shown, not well known: 31% of the respondents were not aware of this insurance. This insurance is however not existing anymore. Also Tea Shakti fund, with the same goal, was terminated. Even though there are at present no agricultural insurances for the tea sector in Sri Lanka, the

interviewees in this research project knew about agricultural insurances and had a positive attitude towards them. The farmers would like to make use of agricultural insurance. This is not so much to do with the overall fact that climate change is going on; they are interested in safeguarding their

economic situation.

There are two different types of agricultural insurance: indemnity-based and index-based insurance. Both insurance policies have advantages and disadvantages, but the research results show that index-based insurance works well in developing countries. This is mainly because there are low

administrative costs and there is no need to look at the losses per farm. The insurance premiums are lower than with indemnity-based insurance, so that smallholder farmers are (better) able to pay for the insurance. Pay out in case of weather events is also faster.

The farmers we interviewed however, indicate that they prefer to make use of indemnity-based insurance. They have little faith in insurance companies and are afraid that the system of index-based insurance will be used to commit fraud. Farmers obviously do not have enough information about insurance to make a necessary and rational choice.

7.1 Recommendations

The government of Sri Lanka can play an important role in insurance schemes. There are several ways in which the government can support the development of agricultural insurances.

First, it is important that the government takes action to re-introduce agricultural insurances in the tea sector. Although, within the limited scope of this research (and hindered by Covid-19 which

obstructed information gathering in Sri Lanka on this topic), we could not identify the reasons why previous insurances were terminated, we assume that this happened because they were not profitable for the insurance companies/insurance funds. The insurance payout (including administrative costs) probably was higher than the collective premiums that the insured farmers could afford.

Although data are lacking (and research this also goes beyond the scope of this paper), implementing an index based insurance could reduce costs so that the collective premiums would cover payout and administrative costs. There are however high costs for implementing and researching such an

insurance that can be easily copied by other companies once this information is known (Hazell, et al., 2010). The government could solve this first-mover problem by subsidizing the first mover costs: installing an adequate amount of weather stations, satellites and infrastructure (this reduces the basis risk, and may increase trust in agricultural insurances). When the data required for using index-based

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23 insurance is available, and the farmers are aware of the product, a market for agricultural insurances may be created (Hazell, et al., 2010).

To stimulate this further, the government should improve the market conditions for private companies by improving the regulatory framework and make the regulation around insurance consistent with the international standards (Hess, Hazell & Kuhn, 2016). Finally, the government can, in climate change negotiations, ask for financial guarantees /re-insurance as compensation from the rich countries. Once the insurance is available, it also important that the smallholder farmers are aware of the insurance and receive enough information about agricultural insurances. As mentioned in chapter 6, there are now many different channels of information flows. Three out of three farmers have indicat ed that they want to receive more information from the government. Therefore, the government should provide information from a central point, then the farmers will all receive the same, reliable

information, and there will be no confusion. Since this research shows that farmers are preferring (the not commercially viable) indemnity based insurances, the government should also educate the farmers on insurance value (Hess, Hazell & Kuhn, 2016 But,

7.2 Discussion

This research aimed to find out why the smallholder tea farmers had a low awareness of agricultural insurances; this has been answered. However, several limitations can be mentioned. Three farmers were interviewed, which means that a theoretical saturation is unlikely. It is difficult to get in touch with the farmers, given the language and cultural barrier, and the Covid-19 situation.

Also, the interviews were not conducted by myself, which could have affected the reliability of the study. Because the interviews have been translated, other interpretations may have taken place. On the other hand, the fact that the farmers were able to do th e interview in their own language may have made them feel more comfortable and speak more freely.

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Risk management through agricultural insurances in the smallholder tea sector in Matara, Sri Lanka