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Abstract

This paper investigates the implication of the cost of risk exposure on farm diversification, farm insurance premium payment and investment behavior in agriculture using an extensive Farm Accountancy Data Network (FADN) panel data of arable farms and weather data from 1989 to 2009 from France and Germany. For this purpose, we develop a two stage empirical model. First, we estimate the full profit moments distribution using the major inputs of production with quadratic function. Following this, we estimate the major responses of farmers for exposure to risk (farm diversification, investment decisions and purchase of insurance) via three-stage least squares (3SLS) estimation procedure. Our empirical analysis confirms that risk exposure measured with variance and skewness of farm profit can significantly influence the level of farm diversification, insurance premium payment and farm investment and disinvestment in arable farms in both countries. As these strategies seem not to be completely substitutable, this evidence can be used to support the discussion of improving the availability of market based instruments to strengthen the adaptive capacity of farms in the developing world. We do find an evidence that farms can see disinvestment as a response to extreme shock and risk exposure at least in a short run. Improving the adaptive capacity of farms might not only secure them pervasive impacts of risk exposure, but also can influence their investment and disinvestment behavior.

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