World Bank provides Malawi with first weather risk management contract, new instrument helps fight negative impact of drought
World Bank press release
The World Bank today announces its first-ever weather risk management contract to help Malawi protect itself against the risk of severe drought. It also marks the first time that a member of the International Development Association (IDA) is able to access World Bank market-based risk management tools. On behalf of the Government of Malawi, the UK Department of International Development (DfID) provided financial support to cover the premium payment for the contract.
The Government of Malawi approached the World Bank for help with managing the risk posed by severe drought. Malawi suffers from chronic drought that cuts agricultural yields and depresses farmer incomes, negatively affecting the government’s budget. When drought strikes, it increases the price of maize, the main source of food for a large part of the population. The purchase of the weather hedge is part of a larger framework designed to reduce agricultural risk in the country.
"Agriculture is a major sector and source of growth for the Malawian economy," said Honorable Goodall Gondwe, Minister of Finance. "Market-based weather risk management tools can not only help protect against the adverse effects of drought, but are also a potentially valuable tool for enhancing Malawi's food security."
“We see the Malawi contract as a natural complement to our work to help countries access market-based tools for managing a range of risks, including interest rate, currency, commodity and weather-related risks,” said Gloria Grandolini, Director of the World Bank Treasury’s Banking and Debt Management Department.
Weather risk management transactions can be adapted to countries’ specific needs, depending on the type of weather hazard, level of protection, and the estimated financial loss associated with a severe and catastrophic event. The potential application of this product spans diverse sectors, e.g., agriculture, energy production, and tourism.
The World Bank, working with Malawi, structured the contract as an option on a rainfall index. The index links rainfall and maize production so that if precipitation falls below a certain level, the index will reflect the value of the projected loss in maize production. Under the contract, if the maize production in the country, as estimated by the rainfall index, falls to 10% below the historical average, Malawi will receive a payout of up to a maximum of $5 million.
The new product is available both to low- and middle-income countries. “We see ourselves as a bridge between our clients and the market,” adds Ms. Grandolini. “We offer our experience in transacting derivatives when it is needed, but we also know that our role is temporary and the key is to build national capacity to facilitate future direct transactions between the client and financial markets.”
The World Bank Group (WBG) has developed a broad range of financing solutions to help countries prepare to respond to natural disasters. The Catastrophe Deferred Drawdown Option (CAT DDO) provides a committed line of credit that can be drawn on upon the occurrence of a major natural disaster. On September 16, 2008, Costa Rica became the first country to benefit from this product.
The WBG recently helped 16 Caribbean countries establish the Caribbean Catastrophe Risk Insurance Facility (CCRIF), the first multi-country facility to offer parametric insurance against major hurricanes and earthquakes. The International Finance Corporation, the private sector arm of the World Bank Group, is helping create the Global Index Reinsurance Facility (GIRIF), a multi-donor trust fund linked with a specialized index-based reinsurance company. Each of these solutions is most effective when integrally linked to a country’s wider disaster risk management strategy.
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