Recurrent water deficits in various arid and semi-arid Mediterranean basins are largely covered by illegal groundwater abstractions uncontrolled by the water authorities. Aquifers thus play the role of buffer stocks and are used by farmers as a reliable, although informal, insurance system. This has led to continuous groundwater depletion and increased scarcity and drought risk over the last few decades. An effective solution to this problem requires the replacement of this spontaneous, informal and uncoordinated insurance scheme with a formal and planned system that can be coordinated with the objective of reducing overexploitation. In this paper we develop a methodology to estimate the fair risk premium and the potential water savings associated with drought insurance for irrigated agriculture. This method is illustrated with its application to the Campo de Cartagena Agricultural District in the Segura River Basin (Spain). Results show that although the potential for illegal abstractions is high (9.5 hm3/year), the cost of the insurance system is ten times lower than the amount that risk-averse farmers are willing to pay for water security. This information may serve as the starting point for the design of a drought insurance system able to cope with other relevant institutional challenges.

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