A DYNAMIC PROGRAMMING FRAMEWORK FOR USING WEATHER DERIVATIVES TO MANAGE DAIRY PROFIT RISK

Gang Chen and Matthew C. Roberts

No 20171, 2004 Annual meeting, August 1-4, Denver, CO from American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association)

Abstract: Dairy farms confront unique risks from weather conditions. Hot and humid weather induces heat stress, which reduces both the quantity and quality of dairy production. Traditional heat abatement technologies control the environment through ventilation, misting or evaporative cooling. Adoption of abatement equipment, however, is hindered by its high initial cost and possibly long payback period, especially for small- and medium-scale farms. Moreover, the abatement equipment is only seasonally useful as a fixed asset whose price rises with efficacy. Weather derivatives provide an alternative method of dairy farmers' risk management. Since abatement equipment can be used for many years once installed, and its maintenance costs will increase and efficacy will decrease with age, a decision that must regularly be made by a dairy farmer is when to maintain his abatement equipment and when to replace it with a new one. The decision affects both current and expected future revenues. Considering that weather derivatives can be purchased periodically, the objective of this study is twofold: first, to test the risk management value of weather derivatives for dairy plant operations; second, to examine how weather derivatives can affect dairy producers' abatement equipment decisions. In this study, we employ a dynamic programming framework to study the case that a representative dairy farmer maximizes his long-run utility using weather derivatives and abatement equipment.

Keywords: Risk; and; Uncertainty (search for similar items in EconPapers)
Pages: 30
Date: 2004
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://ageconsearch.umn.edu/record/20171/files/sp04ch07.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:ags:aaea04:20171

DOI: 10.22004/ag.econ.20171

Access Statistics for this paper

More papers in 2004 Annual meeting, August 1-4, Denver, CO from American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association) Contact information at EDIRC.
Bibliographic data for series maintained by AgEcon Search ().