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Concerns about hydrological drought risk and irrigation water supply reliability have grown in recent years due to the increasing demand for water for irrigation and other uses, and the decline in water availability due to climate change. Hydrological drought insurance hedging against water supply gaps can be a key instrument for adapting irrigated agriculture to this new scenario, since it improves the resilience of the irrigation sector, which is having to cope with increasing uncertainty and vulnerability. The objective of this paper is to assess farmers' willingness to pay (WTP) for index-based hydrological drought insurance under different policy designs, considering several different amounts of insured capital, insurance deductibles, and contract terms. To that end, it uses a discrete choice experiment as the valuation method and the Sector BXII irrigation district (southern Spain) as a case study. The results show that farmers would be willing to pay for the proposed hydrological drought insurance, stating a higher preference for policy designs with lower amounts of insured capital, lower deductibles, and shorter contract terms. Moreover, the results also show the existence of heterogeneity among farmers' preferences, depending on their socio-economic characteristics. Finally, we compare the distribution of farmers' WTP for different policy design options of the proposed insurance with the commercial premium estimated using actuarial analysis. The comparison confirms that only the options with lower levels of insured capital present a mean WTP below the commercial premium, while the rest of the policy design options would need to be subsidized like other agricultural insurance schemes to make them attractive to most farmers. • Farmers are willing to pay for hydrological drought insurance. • Farmers prefer policies with low levels of insured capital, low deductibles, and short contract terms. • WTP is heterogeneous depending on farmers' socio-economic characteristics. • Only policy designs with low levels of insured capital are currently commercially viable. • Once the new drought insurance is implemented, it will become more attractive for farmers. [ABSTRACT FROM AUTHOR]

• New index-based insurance to cover irrigation water supply gaps is proved to be technically feasible. • Although the proposal is tailored to Spain, its main features can also be implemented worldwide. • An innovative actuarial analysis based on a stochastic hydrological model is implemented. • Simulation results show irrigation in southern Spain is expected to become more vulnerable to droughts. • New water management rules mean that the proposed insurance scheme has relatively high premiums. In Mediterranean-climate regions, irrigated agriculture is especially vulnerable to the risk of hydrological drought, and irrigators are particularly concerned about the negative effects of water supply failures. This paper proposes a new index-based drought insurance scheme to cover the risk of water supply failures in irrigated agriculture that overcomes the problems currently hindering the development of this kind of insurance, especially those related to arbitrariness in annual water allotments decision-making. Although the proposal is tailored to Spain, it can be easily adapted to other countries or regions because its main features can also be implemented worldwide. The scheme proposed is a promising instrument to help irrigators manage the risk related to hydrological droughts since it has been proved to be technically feasible. The main contribution of this paper is the innovative actuarial analysis implemented, which is aimed at calculating fair premiums. Considering that recent changes in the institutional framework (new demands, new storage capacity, and revised basin and drought management plans) make historical records unsuitable for this purpose, the actuarial analysis applied is based on a stochastic hydrological model able to simulate future hydrological situations under updated settings. Simulation results have shown that irrigated agriculture in southern Spain is expected to be more vulnerable to hydrological droughts. In fact, incidence rates are likely to increase because of the new institutional framework, leading to relatively high fair premiums. Only by implementing high ordinary deductibles can the hypothetical cost of commercial premiums be affordable for irrigators, accounting for less than 10% of their current variable costs. [ABSTRACT FROM AUTHOR]