Chapter 11: The Private Health Insurance Industry Health Economics

1. Chapter 11: The Private Health Insurance Industry Health Economics

2. Outline • Industry structure. • Industry conduct. • Industry performance.

3. Health Insurance Industry Structure The Competitors • Market exhibits perfect competition - large # of health insurance companies of different types. • Commercial (for-profit) • BCBS • HMO’s • Self-insured companies

4. Health Insurance Industry Structure Types of Private Health Insurers and Number of Enrollees (million) 1994 1995 Total private insurance 182.2 185.3 Insurance companies 75.8 76.6 Group policies 82.4 83.3 Fully insured 37.1 ASO 39.9 MPP 6.3 Individual/family policies 7.0 7.0 Blue Cross/Blue Shield 65.2 65.6 Self-insured 112.9 61.0 HMO 59.1 Blue Cross /Blue Shield 8.8 Insurance Companies 8.5 Independent 41.8

5. Health Insurance Industry Structure Persons with Private Health Insurance Coverage, Selected Years, 1950-1995 Year Number (millions) % of Population 1950 76.6 50.3% 1960 122.5 67.8 1970 158.8 77.4 1980 187.4 82.3 1990 181.7 72.7 1995 185.3 70.5 Source :Source Book of Health Insurance Data 1997-1998, Washington DC : Health Insurance Association of America, Table 2.5

6. Health Insurance Industry Structure 1. Commercial Health Insurers • > 500 in operation, most national or regional in scope 1996 Total accident & health premium 1. Prudential $9b 2. Metropolitan 3. CIGNA 4. Aetna 5. The Principal Fin. Group 6. John Hancock 7. AFLAC, Inc. 8 Guardian 9. Mutual of Omaha 10. Anthem • 1992 4-firm concentration ratio : 22% premium • < 40%, which defines mild oligopoly

7. Often exempt from state property taxes, have lower premium taxes. • Can pass on savings to consumers. • Higher demand from lower prices also • market share, so can negotiate discounts with providers. Health Insurance Industry Structure 2. Blue Cross Blue Shield • 52 in 1998, organized regionally as not-for-profits. • tend not to compete with each other. • Blue Cross - hospital insurance • Blue Shield - Physician insurance

8. 1970 : 8.1 m members 1994 : 112.9 members Health Insurance Industry Structure 3. “Other” Insurance Plans A. Self-insured plans (large employers) • Exempt from premium taxes (as high as 2%) • Under 1974 Employment Retirement Income Security Act, exempt from state mandate benefits. Type of Self-insured Plan 1) Administrative Services Only (ASO) • Employer establishes self-funded health plan, pays an insurance carrier to process claims. 2) Minimum Premium Payment (MPP) • Employer self-funds, but purchases stop-loss insurance for excessive claims.

9. Health Insurance Industry Structure 3. “Other” Insurance Plans (cont.) B. HMOs : 593 in the US, 48m enrollees (c.a. 20% of population in 1995) • Penetration varies widely by region (lowest in South, highest in the coasts). • HMO providers, 1995 1) 51% National managed care firms 2) 13% Blue Cross/Blue Shield 3) 36% Independent ownership/sponsorship

10. Health Insurance Industry Structure Are there economies of scale to insurance provision? 1) Evidence from cost regressions (cross section) (Blair et. al. 1975) OPCOST = .464 - . 0000002P - .0003GI/T + other factors. (34.32) (3.152) (19.693) R2 = .589, N = 307 insurance companies OPCOST = average administrative costs = total operating cost/health premiums written P = premiums written GI/T = group insurance premiums/premium written • Coefficient on P : economies of scale • Coefficient on GI/T : lower admin. cost for group policies

11. Health Insurance Industry Structure Who is the Consumer? Majority of commercial insurance purchased by groups. (e.g. employers or union representatives). Why? 1) Monopsony buying power 2) Group expert makes informed choices 3) In large group, health status uncorrelated with employment status • Commercial group insurance premiums unregulated, unlike benefit/premium ratios of individuals.

12. Premium = E(Benefit) + Admin + Tax + Profit Loading Fee • Common measure of price : Premium-to-benefit ratio. = 1 + Premium Admin + tax + profit + e Ben Ben Health Insurance Industry Conduct Price Components • Ex ante, insurance comp. does not know exact amount of benefits any individual will receive. • E(Benefit) = Ben + e

13. Price competition in 2 forms drives down loading fee. 1) Normal price comp. competes away profits. 2) Managed care contains health care costs • ben • But managed care is costly; e.g. utilization review • admin. Costs loading fee. Health Insurance Industry Conduct (cont.) • Price competition forces insurer to balance marginal cost saving vs. marginal admin. costs.

14. Health Insurance Industry Conduct (cont.) • Do managed care organizations (MCOs) actually lower health insurance premiums? • MCOs, especially HMOs, lower medical costs 15- 20% through medical costs. • 1993 average family monthly premium for conventional insurance = $439, vs. $415 for HMO insurance.

15. Health Insurance Industry Conduct (cont.) • However, the higher monthly premiums for conventional insurance may just reflect the decision of sicker individuals to buy more generous insurance policies. • Regression analyses that control for health status differences find no significant difference in premiums between conventional and HMO premium. Why?? 1) Admin. costs may outweigh cost saving 2) HMO’s may “shadow price”. 3) Lack of consumer price consciousness.

16. Pricing Strategies • Community rating - premium based on risk characteristics of entire membership. • Rates for each individual do not vary according to health history or health status. • Low risk individuals subsidize high-risk individuals. • Disadvantages : 1) low risk individuals discouraged from purchasing insurance premium that are too high. 2) no incentive for individuals to adopt healthy lifestyle.

17. Pricing Strategies (cont.) • Experience rating - premiums for individuals (or groups of individuals) vary by risk status (e.g. age, gender, industrial occupation, prior illness). • Individuals or groups of individuals pay price closer to expected medical costs. • Disadvantages : 1) “unfair” to make sickest pay more - illness uncontrollable. 2) encourages “cherry picking”

18. Non-Price Business Strategies • Cherry-picking and benefit denial. • Once an insur. comp. sets health insurance premiums, there is an incentive to keep low-risk consumers and exclude high-risk consumers. e.g. demand even higher premiums for patients w/ chronic health problems or high-risk conditions (e.g. hypertension, diabetes) or, exclude coverage for pre-existing conditions. • More problem for individual vs. group policies.

19. Non-Price Business Strategies (cont.) • Limited enrollment period to deal w/ adverse selection. a) High risk consumers may know more about their own health than insurers. b) High risk consumers may get into cheaper plans designed for lower risk persons. c) High cost eventually drives up premiums, until high-risk consumers switch to next cheaper plan. d) Instability -- high adjustment costs for insurers.

20. Health Insurance Industry Performance Output (Quantity of Health Insurance) • 42.6 m = 15.5% of the population remains uninsured. young adults, unmarried adults, minorities, part-time & self-employed, poor less likely to be insured. • Resulting inefficiencies. a) uninsured eventually receive emergency care • insured indirectly subsidize uninsured health care. • inefficient vs. planned financing mechanism. b) uninsured may “wait too long” for care, when earlier treatment may have been cheaper.

21. Health Insurance Industry Performance (cont.) • One measure of the health insurance “price” is the amount of premiums the insurance company receives, divided by the amount of medical benefits paid out. • Using this measure, the relative “price” of health insurance has declined over time. • The overall price hasn’t fallen, because medical care expenditures are rising dramatically.

22. Health Insurance Industry Performance Price of Private Insurance in the United States, Selected Years, 1950-1995 Insurance Companies . Self Insured Blue Cross & Year Total Group Individual and HMOs Blue Shield 1950 $1.62 $1.44 $2.01 --- $1.17 1960 1.57 1.23 2.47 --- 1.08 1970 1.26 1.09 2.11 --- 1.04 1980 1.18 1.12 1.73 $1.07 1.03 1990 1.22 1.19 1.55 1.11 1.12 1995 1.22 1.19 1.46 1.08 1.13 Source :Source Book of Health Insurance Data 1997-1998, Washington DC : Health Insurance Association of America, Table 2.5

23. Health Insurance Industry Performance (cont.) • Job lock - Health insurance often tied to worker’s job. • New job may require long waiting period for enrollment, no coverage for pre-existing conditions, less generous coverage. • Cooper & Monheit (1993) - Married men who expect to lose health insurance 23% less likely to change jobs.

24. Over-insurance/Moral Hazard. Definition : Insured person no longer bears full cost of her actions may probability or magnitude of loss covered by insurance. Health Insurance Industry Performance (cont.) analogy : restaurant bill splitting.

25. Health Insurance Industry Performance (cont.) • Over-insurance/Moral Hazard (cont.) Causes and Implications : 1) Consumer pays coinsurance only 2) Less incentive to practice healthy lifestyle/preventive medicine 3) Greater willingness to experiment w/ new, expensive technologies 4) Less incentive to monitor providers 5) Less incentive to comparison shop Practical Solution : increase copayment, w/ stop-loss

26. Cost Containment • Industry has been slow to adopt cost containment. • Tax exemption on employer-sponsored health insurance reduced consumer’s demand for lower premiums. • Health insurance also used by employers as a symbol of their generosity. • Eliminating tax exemption may help to restrain cost growth.

27. Conclusions • The health insurance industry is structurally competitive. • However, price and non-price strategies still lead to disparities in access to appropriately priced health insurance. • The cost of health insurance continues to rise. • In part due to rising costs of medical care. • But also due to moral hazard problems.