Does Risk Management Improve Productivity? Evidence from the U.S. Agricultural Industry

This paper exploits a unique dataset to examine the impact of risk management on productivity. I use crop yields as a measure of productivity and crop insurance data to capture risk management practices. An instrumental variables approach suggests that the exogenous portion of the choice to manage risk secures capital which producers use to finance productivity-enhancing investments. This result is robust to alternative instrument choices and a variety of fixed effects specifications. Subsample analysis reveals the choice to use insurance plans with payoffs based on one’s own productivity leads to smaller gains in productivity than the choice to use insurance plans with payoffs based on county-average productivity. I find that risk management is particularly helpful for securing capital to finance short-term investments, and that greater risk taking behavior is not the primary channel through which risk management affects productivity. I also find that banks play an important role in the decision to manage risk, as they provide producers with better access to finance when they manage risk. *Indiana University Kelley School of Business. I am grateful for comments from my dissertation committee: Alex Butler (Chair), Ted Day, Robert Kieschnick, and Dave Mauer. I thank seminar participants at American University, Boston University, Indiana University, Notre Dame University, Southern Methodist University, U.S. Commodity Futures Trading Commission, University of Michigan, University of Nebraska – Lincoln, University of Oklahoma, University of Toronto, Washington University in St. Louis, and the 2009 WFA Annual Meeting for helpful comments. I have also benefitted from conversations with Robert Battalio, Craig Doidge, Chitru Fernando, Radha Gopalan, Mark Laplante, Kimberly Rodgers, René Stulz, Rex Thompson, Jay Li, Akiko Watanabe (WFA discussant), Alan White, and James Weston. I thank Keith Begley for help with interpreting the Summary of Business Data. Any errors belong to the author. Send correspondence to: Kelley School of Business, Indiana University, Finance Department 370A, 1309 East Tenth Street, Bloomington, IN 47405. E-mail: [email protected]. Does Risk Management Improve Productivity? Evidence from the U.S. Agricultural Industry