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Sunday, February 24, 2008

Health Insurance Markets

Markets don't always work the way we'd like them to, and sometimes it's necessary to impose a change in the incentives faced by firms in the industry in order to steer them in the right direction:

Not-their-fault insurers, by Ezra Klein, Commentary, LA Times: 'The state's largest for-profit health insurer is asking California physicians to look for conditions it can use to cancel their new patients' medical coverage," said the first line of an expose in the Los Angeles Times earlier this month. The subject was Blue Cross' practice of enlisting doctors to help them deny the claims of sick individuals.

What's strange, however, is that everyone acted like the insurer was doing something wrong. ... But Blue Cross officials weren't doing anything wrong. They were doing exactly what we've asked them to do: They were following the incentives of the modern insurance market. ...

There's no law that says we all must have insurance or that insurance companies must agree to cover us. Given that, it's natural that insurers ... turn their attention to making deals with the most profitable among us and avoiding deals (or finding ways to break contracts) with the least profitable. ...

So is it any surprise that they compete over which of them can be the most sophisticated about cherry-picking the healthy from the unhealthy ... and which is the most adept at canceling policies once they become unprofitable?

This is the competition within our insurance industry, and it is not good for us. That can be a bit counterintuitive..., competition is thought to benefit the consumer. But ... competition among insurers does not aid the ill. It might if they were competing to deliver better care to the sick, rather than trying to figure out how to avoid delivering any care to the sick at all. But they're not. ...

It is actually against their interest for insurers to compete on giving us the best care ... given the structure of the marketplace...

Imagine that Insurer X works with its providers to develop the best diabetes protocols in the country. And it begins advertising this fact. What happens on Day Two? It's flooded with individuals suffering from diabetes, or individuals who fear they will one day be suffering from diabetes. These people ... are a bad deal. Not only is it nearly impossible to insure them at a profit, but pooling their costs (which is what insurers do, after all) raises premiums for all the insurer's other customers.

Over time, that encourages healthy folks ... to quit the pool and go find a cheaper deal with an insurer that caters to healthier individuals, which forces the insurer to raise premiums yet again, driving out more healthy folks, which forces it to raise premiums again, which drives out more healthy folks, and so on. It's what industry experts call an insurance death spiral, and it ends with the collapse of the insurer.

Given those incentives, insurers cannot be expected to compete on the basis of better care, because if they encouraged better care, all that would happen is they would attract worse deals. Which is why, in the current system, insurers make things worse.

But it doesn't have to be that way. If insurers existed in a market in which they had to compete on delivering better care, rather than competing on developing better techniques to deny care, we'd be far better off.

Here are the principles such a market would require...1) Universality... The system has to be universal. 2) An end to cherry-picking... Insurers should have to offer insurance to anyone who wants it for the same price. No exceptions. 3) Risk adjustment... At the end of the day, it has to be as profitable for an insurer to insure a sick person as a healthy one. 4) Benefit floors... 5) Information transparency:...

It's not impossible to imagine a scenario in which insurers actually compete to offer better service... But none of this will happen as long as insurers operate in a perverse market in which their incentives are to make the system, and our care, worse. ...

    Posted by on Sunday, February 24, 2008 at 03:03 AM in Economics, Health Care, Market Failure | Permalink  TrackBack (0)  Comments (45)


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