The terms “risk” and “uncertainty” are associated with exposure to events that can result in losses. Although these terms are often used interchangeably, risk can be defined as imperfect knowledge where the probabilities are known, whereas uncertainty exists when these probabilities are not known. Many of the expected losses from the risks facing modern agri-food systems are really related to uncertain events for which there are no known probabilities, although subjective probabilities can be conjured by expert opinion. Even if “risk” and “uncertainty” are used interchangeably, it is critical to consider whether subjective perceptions of probabilities of events taking place are merely conjured or are based on risky or uncertain events. Clearly, there is no risk without some uncertainty, and most uncertainties typically imply some risk, but it is wise to be aware of the subtle differences between the two concepts.
In relation to poverty, the term “vulnerability” is often used to define the likelihood that a risk will result in a significant decline in well-being (in other words, whether there is resilience or lack of resilience against a given adversity). The vulnerability of individual supply chain participants and of the overall supply chain, therefore, depends on the nature of the risks (correlation, frequency and timing, and severity) and the effectiveness of the risk management instruments in use. Risk, combined with the farms’ and firms’ modus operandi, including their risk management responses, leads to performance outcomes. The magnitude, timing, and history of risks and the timing and effectiveness of responses determine the outcome. For the farm or firm, and for the supply chain as a whole, the outcome of the risk and response process, in terms of performance loss relative to a given benchmark, is an indicator of major interest. To make the concept of vulnerability useful, appropriate performance benchmarks need to be selected for each participant in the supply chain.
The alternative instruments for managing agricultural risks can be grouped into categories that include technology development and adoption, enterprise management practices, financial instruments, policy and public programs, and private collective action, among others. For a subset of risks within these categories, solutions can be provided by the markets, such as the virtually instinctive measures that farmers use to cope with risks (selling financial assets, saving, or obtaining credit, for example). Other instruments are designed specifically to spread or pool risks through market mechanisms. Examples of these instruments include futures and options, insurance, and contracts and other forms of vertical integration. Some characteristics of the risks are very important for understanding the possibilities for developing appropriate market-risk instruments, including the systemic nature of the risks (idiosyncratic or more correlated risks), the availability of information about the risks and the sharing of that information, and the existence of potential actors willing to share/pool the risks, among others.
Even though supply chain actors are typically interdependent and need to manage several different types of risk, frequently actors focus their attention on addressing one type of risk faced by particular stakeholders (for example, the weather risk facing farmers or the price risk facing traders). A holistic and integrated approach to risk management is based on understanding the nature and correlation of risks faced by different stakeholders and on the transmission of that risk across supply chains. Measures applied to address specific risks faced by farmers, for example, can have implications for other supply chain actors, which is why integrated approaches recognize such considerations and take them into account. Integrated approaches rely on the implementation of a combination of measures to address critical risks faced by supply chain actors.
Resilience is the farm’s or firm’s ability to resist the potential negative impacts of risky events – especially when assets are degraded—and the extent to which farms or firms can recover from the negative impacts of risky events. An entire supply chain can also have a greater or lesser capacity for resilience. Given the different portfolios of assets among and between farms and firms, the same risky event can affect performance outcomes differently. Farms and firms with similar assets but differing risk management responses might also experience dissimilar outcomes.
Insurance represents only one element in a broad ag-risk management framework, and it is not a panacea for all of the impacts of risks. Insurance can help manage costs that cannot be addressed by development partners, local governments, or farmers and firms themselves and that play a crucial role in decreasing the vulnerability of supply chain actors by providing products that spread financial risks. Many risks cannot be insured through markets, however, mainly because of the systemic nature of those risks, the lack of information on probabilities, and distribution and information asymmetry with respect to those probabilities. That is the case for catastrophic risks, for example. Ag-risk management, as a discipline, is, therefore, more integrative and convenes a set of broader instruments to address risks with potentially significant negative impacts on farmers and other supply chain actors.
Risk transfer is the concept of utilizing insurance and other risk transfer mechanisms to manage risks that would otherwise be too large for people or companies to bear on their own. Put more simply, risk transfer consists of actions that will reduce the exposure to risk by transferring risk from some participants and institutions onto others that might be better able to cope with it. Examples include financial transfer mechanisms that will trigger compensation or reduce the losses such as purchasing insurance, reinsurance, or financial hedging tools.
Risk management actions taken before an event to reduce exposure to, severity of, or probability of loss from the event. Risk mitigation can be physical (for example, building a flood wall) or financial (for example, purchasing insurance). Others authors and practitioners include risk transfer mechanisms, such as insurance, as an independent category (risk transfer mechanisms).
Coping with risks involves accepting the loss when the event occurs. Risk coping involves activities for facing risks and dealing with resulting losses by, for example, precautionary savings, selling productive assets, seeking temporary employment, and other measures.
Production risks derive from the uncertain natural growth processes of crops and livestock. Weather, disease, pests, and other factors affect both the quantity and quality of commodities produced.
It relates to the risk associated with the activities involved with putting the products in the market place or getting productive inputs from the market place. These include for example price risks (referring to the uncertainty about the prices producers will receive for their commodities or the prices they must pay for inputs), contract failure, a fall in consumption, breaks in the supply-chain logistics, etc.
The enabling environment encompasses macroeconomic and microeconomic aspects relevant to the performance of a sector and/or business activity. In agriculture, shocks generated by sudden changes in exchange rates, wars, tax policies, technical regulations and standards, the terms of trade (e.g. changes/expiration of preferential agreements, etc.), all constitute examples of enabling environment-related risks, with important impacts on the performance of sectors and individual enterprises (including farming enterprises).