By Colin Packham
SYDNEY, Aug 19 (Reuters) - When a scorching drought struck eastern Australia in 2006, cattle farmers Robyn and Paul Kendal had to slaughter nearly all their livestock and spend around a year of their normal turnover on feed to keep the remainder alive.
With a recurrence of El Nino, the weather pattern behind the drought, looming and dry conditions already affecting an area larger than South Africa, another major drought could be one struggle too many for farmers such as the Kendals.
"In 2006, we saw the lowest amount of rains here since records began...and we still haven't recovered from that even today," said Robyn Kendal, whose 3,000-acre (1,215 hectares) cattle farm is about 500 km (300 miles) southwest of Sydney.
Already one of the world's top agricultural producers, Australia has ambitions of becoming a "food bowl" to Asia as it tries to diversify its economy to counter the waning of a decade-long mining boom that brought the country riches.
That goal is threatened by its harsh climate - private insurance to protect against drought is generally too expensive for farmers, undermining their capacity to invest to boost output as they must if Australia is to feed more of Asia's fast-growing middle class.
Drought is a traditional foe in Australia, the world's third-biggest beef exporter and a big producer of crops such as wheat and sugar. But an inability to contain the risk means less money available to channel into new equipment or technology for farmers already saddled with a record A$64 billion ($59 billion) of debt.
"In Queensland, farmers' interest payments as a proportion of their receipts is twice what it is elsewhere in the country," said Peter Gooday, head of farm analysis at the Australian Department of Agriculture.
"If you are struggling to meet your interest payments then that is your first thought rather than investing."
Australia and New Zealand Banking Group estimates that an additional A$600 billion in additional capital will be needed between now and 2050 to generate growth and profitability in agriculture, but current investment levels are well short.
According to a recent farmer survey by Rabobank, only 25 percent of farmers said they planned to increase investment this year, amid concerns over forecasts for an El Nino - the chances of which the Australian Bureau of Meteorology has put at at least 25 percent.
The government does provide federal loans during tough times, as well as subsidies for fuel and tax breaks but, unlike in agricultural rivals such as the United States and Brazil, it does not subsidise insurance to pay out if drought hits output.
According to an Organisation for Economic Co-operation and Development report, just 3 percent of total Australian farm receipts come from subsidies, ranking it the second lowest in a group of 34 countries, behind only New Zealand.
Traditional crop insurance in Australia typically covers only sudden disasters such as fire or hail. Drought damage is seldom covered and, when it is, the price is prohibitive.
Drought insurance would cost around A$15-30 a hectare, a government report estimated, so for the average farm size of 3,000 hectares (7,400 acres) that would mean A$90,000, more than half of the profit the average grain farmer made last year, data from the government's commodity forecaster shows.
Other more exotic financial instruments such as weather futures - which pay out if a predetermined amount of rainfall does not materialise - have also failed to take off in Australia, with farmers complaining that rainfall is measured at weather stations often far from their land.
Insurers say the reason drought cover is so expensive is due to a lack of historical data or knowledge of the productivity and yields of different pieces of land under dry conditions.
Some major insurers plan to use satellite technology to get better data on things such as biomass and soil moisture to use in models that, based on weather forecasts, can determine yield estimates and make drought crop insurance more affordable.
Farmers could buy insurance against the risk of yields falling below that estimate, while insurers could share the burden using the reinsurance market, lowering costs.
Using specialised sensors, satellites can zoom in and gather data from a single agricultural plot, monitoring crop growth.
Satellites are already monitoring land in Europe to verify subsidy claims under the Common Agricultural Policy, and they are being used in Asia and Africa to monitor food production in nations most vulnerable to extreme weather.
John van Vegt, Managing Director of insurance broker AgriRisk Services Pty Limited, said yield index products could emerge in a few years, though there was a lot of work to do.
"I think there would be an appetite from farmers," he said. "It would be in a language they could understand."
DROUGHTS AND PRODUCTIVITY
The 2006 drought resulted in Australia's agricultural GDP falling by nearly 30 percent, according to government data, and the country's weather bureau is forecasting that such events will become harsher and more frequent.
The drought in Queensland alone last year meant farmers in the state recorded their lowest income on record, with the average farmer making a loss of A$77,000, according to government data.
With more than 80 percent of Queensland declared by the state government to be in drought, the outlook for the state's agricultural producers looks bleak.
The dry weather means that the current wheat harvest for the 2014/15 crop year in Queensland is seen falling to 1.33 million tonnes, the Australian Bureau of Agriculture and Resource Economics and Sciences (ABARES) said in June, 12 percent below the five-year average. And analysts say that figure could fall even more with dry weather seen continuing until October at least.
Cattle farmers in the state, Australia's largest livestock producing region, are also struggling. Unable to find enough food or water for their animals, farmers have been forced to slaughter their livestock at record levels, pushing prices to all-time lows earlier in the year.
With such poor returns, farmers in Queensland will remain hamstrung in their capacity to invest in new technology - a key driver behind Australian agricultural productivity gains.
A 2011 study by ABARES said around two-thirds of the increase in the monetary value of agricultural production in the last 50 years in Australia was down to gains in productivity, primarily driven by new technology.
"You do need investment to improve productivity but I think it goes both ways," said Graydon Chong, senior grains analyst, Rabobank in Sydney. "In order to encourage investment, Australia's agricultural sector needs to show growth in yields."
For an interactive graphic on drought and agriculture in Australia, click on: http://graphics.thomsonreuters.com/14/drought/index.html
(1 US dollar = 1.0792 Australian dollar) (Editing by Ed Davies and Alex Richardson)