A form of parametric insurance in which the trigger is conditioned on the value of a measurable index, such as accumulated rainfall or temperature, without examination of the individual loss.
Index-based insurance is a form of parametric insurance in which the payout trigger is an aggregate index measured at the level of a geographic area, rather than an individual measurement specific to each policyholder. This model is particularly used in agriculture in emerging markets, where individual loss verification is too costly, and for the coverage of climate risks of states and communities. The index used is generally meteorological, a rainfall deficit, excess heat or cold measured by certified stations or by satellite, but may also be linked to a physical hazard such as the magnitude of an earthquake or the wind speed of a cyclone. The payment is triggered automatically if the index crosses a predefined threshold, without the policyholder having to prove an individual loss. The essential advantage of this model is its very low administrative cost, which makes it accessible to unbanked or geographically isolated populations. Its limitations lie in basis risk, which can be high when the index does not faithfully reflect the individual loss, and in the need for reliable data infrastructure. Major agricultural index insurance programs, such as India's PMFBY scheme launched in 2016, or the mechanisms deployed by Swiss Re and Munich Re in emerging markets, have made it possible to cover tens of millions of smallholders who had never had access to insurance protection.
In the Indian state of Maharashtra, thousands of cotton producers benefit from index-based insurance based on satellite rainfall data. In 2023, a prolonged drought episode from June to August pushes the cumulative index below the trigger threshold set at 220 mm. The farmers automatically receive 80 dollars per insured hectare within ten days of the official data publication, without having to prove their individual losses. Several thousand smallholders were able to repay their agricultural loans thanks to this payment, illustrating the emergency liquidity function of index-based insurance in fragile rural economies.
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