Determinants of Anomalous Prevented Planting Claims: Theory and Evidence from Crop Insurance

Agricultural and Resource Economics Review, Oct 2003 by Rejesus, Roderick M, Lovell, Ashley C, Little, Bertis B, Cross, Mike H

This study examines the factors that determine the likelihood of submitting a potentially fraudulent prevented planting claim. A theoretical model is developed and the theoretical predictions are empirically verified by utilizing a binary choice model and crop insurance data from the southern United States. The empirical results show that insured producers with higher prevented planting coverage, lower dollar value of expected yield, and a history of submitting prevented planting claims are more likely to submit an anomalous prevented planting claim. The empirical model also suggests revenue insurance plans may be more vulnerable to prevented planting fraud than the traditional yield-based insurance plan. Results of this study can be valuable to compliance offices in their efforts to find "indicators" of fraudulent behavior in crop insurance, especially with regard to prevented planting.

Key Words: crop insurance, falsification, fraud, moral hazard, prevented plantings

The prevented planting provision is a standard element of crop insurance contracts. This provision allows an insured producer to receive an indemnity payment if, due to a valid cause of loss, the producer fails to plant an insured crop before a designated planting date. The cause of loss must be "general" in the surrounding area and must have prevented similar producers in the area from planting their crops. However, there are cases where insured producers receive a prevented planting payment due to a cause of loss not common to other producers in the area [U.S. Department of Agriculture/Office of the Inspector General (USDA/OIG), 1999; U.S. General Accounting Office (U.S. GAO), 1999]. For example, a prevented planting claim with drought as a cause of loss may have been paid out to a single producer even if no other producer in that county received a prevented planting payment due to this cause of loss. These are anomalous cases which may be suggestive of fraud, waste, or abuse in the crop insurance program (USDA/OIG, 1999; U.S. GAO, 1999).

The Risk Management Agency's (RMA's) Compliance Office views prevented planting as a potential source of program vulnerability because producers can receive this payment without incurring the major costs of production associated with carrying the crop to harvest. Payment received due to prevented planting is a positive cash flow to the producer without expending the effort and financial resources to grow, tend, and harvest the crop. Hence, insured dishonest producers may have incentives to take advantage of this provision and submit a fraudulent prevented planting claim, instead of bringing their crop to harvest.

The objective of this analysis is to examine how producer choices of certain crop insurance contract elements may affect the likelihood of submitting potentially fraudulent prevented planting claims.

A better understanding of this issue can provide information helpful to the RMA in formulating strategies for reducing the incentives for this kind of behavior. Crop insurance contract provisions can be revised or additional provisions can be incorporated to mitigate incentives for filing a fraudulent prevented planting claim, thereby reducing the number of excessive indemnity payments. Furthermore, if producers' choices of contract elements can provide an indication of whether or not a particular producer is likely to submit a fraudulent prevented planting claim, then the RMA Compliance Office can be proactive in investigating individuals making contract choices consistent with fraud behavior. Through these efforts, crop insurance program integrity may be improved.

Despite the strongly held belief of experts within the Risk Management Agency that about 5% of all claims are associated with fraud, waste, or abuse (U.S. GAO), studies assessing fraud behavior in crop insurance have been limited. Most studies of crop insurance have focused on moral hazard and adverse selection problems, rather than fraud, as sources of excessive losses in crop insurance (Knight and Coble, 1997).

Agricultural economists have examined various aspects of the moral hazard problem in crop insurance (Chambers, 1989; Horowitz and Lichtenberg, 1993; Quiggin, Karagiannis, and Stanton, 1993; Smith and Goodwin, 1996; Coble et al., 1997; Hyde and Vercammen, 1997), but no analyses have concentrated specifically on moral hazard related to prevented planting fraud behavior. A study focused explicitly on prevented planting claims may be of greater direct value to RMA compliance, in terms of attempting to identify insured producers prone to fraud, than more general studies of moral hazard. Therefore, this study contributes to the literature by providing further understanding about the factors affecting potential fraud behavior in the context of prevented planting in crop insurance.

The remainder of the article is organized as follows. A theoretical model elucidating the hypothesized effects of several insurance contract elements on the probability of filing a prevented planting claim is developed in the next section, followed by a discussion of the empirical methods and data. Results and conclusions are provided in the final two sections. An appendix is included to offer proof of the theoretical model's comparative statics.