Alex Tabarrok and then Megan McArdle take a little time to consider the point I’ve been making here for some time: adverse selection as an explanation either for high costs of healthcare insurance administration or for the number of uninsured does not correspond with actual practice.
Be sure to look at the data that Alex links to. From Megan:
How many people are being pushed out of the insurance market because of their poor health status? It can’t be many; there are only 4.6 million people without health insurance who report poor or fair health status. And not all of those people are very sick. I’d be hard pressed to call my health better than fair because of my asthma and my Hashimoto’s Thyroiditis. But neither of those diseases costs my insurance company, or me, much.
If there were no evil insurance companies involved, what would those percentages look like? A slightly higher percentage of the insured market would report fair health, and a slightly lower percentage of the uninsured market. But the difference would be less than 1 million people: 0.3% of the US non-elderly population, and 0.2% of the total population.
What this means is that even if this is a problem, it is not a big problem. You don’t gut rehab the US health system because of a “market failure” affecting a small fraction of one percent of the population.
Those who are proposing adverse selection as the singular problem with our healthcare system need to produce data to support that position. I haven’t seen any so far.
This is not to say that our healthcare system doesn’t have a problem. It does. Healthcare costs are too high, trending higher, and that’s unsustainable. None of the plans currently being considered in the Congress address that problem and there are other plans that do.
The advocates for universal coverage are using an Alka-Seltzer strategy (“Try it—you’ll like it”). Whether we like it or not unless we take serious remedial action to lower costs as a prerequisite for extending coverage we’ll be left with an upset stomach.
I think what Megan is missing is that individuals aren’t the typical consumers of healthcare INSURANCE. It’s the businesses.
For example, five years ago an employee where I work came down suddenly with about three mysterious, potentially fatal conditions. The following renewal period the insurance premiums just about tripled for all employees. We were able to find quotes for premiums that were merely double, but when we asked the insurance broker what we could do, we were told “Fire her.” That we would not do and as a result the employer-sponsored health-care plan became affordable to many employees, pushing out many based upon their financial situation. It didn’t push out the sick employee, she needed the coverage more than anything besides food and water. But ultimately she couldn’t work enough hours and she left and went on Medicaid.
I don’t want to over-extrapolate the personal, but I think this example shows that where the employer is the source of healthcare insurance, the insurance company’s attempts to weed out bad risks effect the entire employee pool.
(And hidden in here is my view that not only is the employer-based system inefficient, it is immoral)
“became affordable” should read “became unaffordable” of course.
The continued existence of the health insurance industry that faces adverse selection depends on their keeping information from the public, information like their “loss ratio.”
The way adverse selection, even in the face of incomplete information, works like this: first the 21 year-old single male cancels insurance (or quits and takes a contract job with no health “benefits”) once he realizes how much he pays indirectly for the breeding ($8000 for an uncomplicated pregnancy) of his female cohorts. Of course, the childfree career woman will do the same. There will be some, less smart, who continue to subsidize the sick and breeders, since the cost is still “tolerable.”
Next time around when the employer negotiates with the insurer, the rates go way up, since the employees are older, more likely to breed, and potentially sicker. Now those not-so-bright healthy young non-breeders cancel out too, and the cycle repeats, until the employer is left with nothing but the old, the sick and the breeders. The premiums are sky high! You can’t run a company that way (unless you hire lots of contractors), especially since all the advances in human civilization have been made by non-breeding young men like Alexander the Great.
BTW/ Dave there’s an interesting interview with Kenneth Arrow at the Atlantic that discusses a 1960s economic paper he did on the dynamics and problems with insured medical care. Plus ça change, plus c’est la même chose.
http://correspondents.theatlantic.com/conor_clarke/2009/07/an_interview_with_kenneth_arrow_part_two.php
The paper linked appears to the interview appears to me to be abridged.
A trip down memory lane. I read that paper decades ago. Yes, it’s abridged.
Here’s a snippet that’s stuck with me:
That’s what I’ve referred to elsewhere as a cartel (which Drew has taken exception to).
In some ways the paper is rather quaint. For example, I’m not convinced that what Arrow characterizes as the “behavior expected of sellers of medical care” is relevant any more. I also note that the uncertainty in the practice of law is greatly increased by the prevalence of contingency fees. The practice of medicine has no equivalent; in fact, such would be a violation of the canon of medical ethics.
Bryan Caplan has made a similar point. He points to automotive insurance and notes that mandates aren’t to bring in safe drivers with good records who are less likely to get into accidents, but to make sure the rotten drivers with crappy records and who are likely to get into accidents get insurance. And it is these latter types that get subsidized.
Caplan also argues that simple tests can often let an insurance company detect which “type” a person is (high risk, low risk, etc.). In other words, while it isn’t a “first best” outcome when there is money to be made (or saved) firms and individuals can and will find ways to deal with adverse selection.
Suppose you know you are a good driver. You drive the speed limit, haven’t been in an accident, follow all the practices of a good driver, etc. Can you signal this to the insurance company? If so, then you could get a cheaper rate as you’d be in a low risk pool vs. a higher risk pool.
The original paper for adverse selection was for used cars. The conclusion was that only the market for lemons obtained. But since there are profits to be had either the buyer or the seller or both could pay for an independent mechanic to check out the car. If the seller knows the car is a “peach” (i.e. not a lemon) then he could offer a warranty. Solutions exist to solving the adverse selection problem. But you have to let the market work.
When it comes to health care this is patently seen as bad. If an insurance company can determine if a person has a pre-existing condition and wont insure them that is bad and the insurance company is evil. In fact, the insurance company is doing what every company does, even one’s that many liberals work for…make a profit. Insurance companies CANNOT make a profit off of a person with a pre-existing condition.
The problem really is that people think that health care should be something that should be given to people based on need. Health care is when everyone becomes a Marxist/Communist. From those according to their ability and to those according to their need.
Steve Verdon,
Yes, in NH and WI you can signal to the insurance company that you are a good driver by not subscribing to insurance — perfectly legal. Unfortunately, the insurance oligopoly has forced all the other states to force good drivers into the pool.