Economics

The ACA: When Insurance Isn’t Insurance

We will be blunt. Hidden under the cloak of expanding health insurance, the Affordable Care Act (ACA) has fostered a massive subsidization of healthcare goods and services.

These subsidies often have little or anything to do with what economists would consider the “insurance” part of health insurance – providing protection against financial catastrophe.

Perhaps more troubling, if the past is prologue these subsidies will continue to grow, transferring huge amounts of money to politically favored groups and doing very little to decrease aggregate health spending – a presumed goal of health reform.

In order to understand these claims, it is necessary to take a step back and explain why insurance (of any form) is a good thing in the first place. Simply stated, insurance provides individuals with protection against unpredictable financial hardships not of their own making.

Most of us don’t like risk, and therefore we are willing to pay other people to avoid uncertain outcomes. Therefore the benefits of insurance are to protect us from uncertain events.

The key here is the uncertainty. If something is not going to cause financial distress, or the expense is relatively predictable, then, by definition, the service is not insurable. A health plan could cover the service, but that is a subsidy, i.e. other people in the insurance pool or an outside actor such as the government are simply paying for your service. It is not insurance.

Sadly, most of the discussion around what constitutes “real” health insurance under the ACA bears only a passing resemblance to the protection against financial risk that is the hallmark of insurance. For example, Secretary of Health and Human Services Kathleen Sebelius said: “Some of these folks have very high catastrophic plans that don’t pay for anything unless you get hit by a bus … They’re really mortgage protection, not health insurance.”

What does Secretary Sebelius think insurance is? We don’t expect auto insurance to pay for our gasoline.

Indeed, we buy auto insurance precisely so that we can meet our mortgage payments (or similar vital financial obligations) in the event that our car is stolen or worse. For a Cabinet Secretary to preside over the largest expansion of insurance since Medicare and not understand or care what insurance is supposed to be for…well, frankly we are shocked (and not in a Casablanca sort of way).

Secretary Sebelius mistakenly believes that a health plan isn’t an insurance plan unless it covers things such as routine annual visits to a physician or other services that we expect will occur each year and that we can budget for in advance. These types of services (while valuable and necessary) carry little to no associated financial risk and as a result, there is little insurance benefit to forcing the coverage of these services. It should be noted, though some may not like this fact, that this is also the case for many maternity services or for contraception.

These have been two of the more controversial mandated services and they are effectively uninsurable in most cases. In fact, when maternity services are covered by insurance, the payments for these services are largely a subsidy with little risk sharing benefits. Perhaps the most apparent example of this is when an individual seeks to purchase insurance when they are already pregnant.

While insurance companies were castigated for considering pregnancy to be a “pre-existing condition,” they were entirely correct in their assessment.

If Secretary Sebelius wishes to state, as a matter of policy, that Americans should subsidize maternity care, then she should say so. Perhaps the majority of Americans will agree. But let’s not invoke the myth that this is some sort of insurance. Furthermore, there are probably better ways to subsidize this care then forcing its coverage into the premiums of everyone on the exchanges.

Even when our health insurance plans provide protection against financial risk, this protection comes at cost known as moral hazard. Full insurance, which drives the marginal cost of a service to zero, will cause folks to buy medical goods and services even if they don’t really need it. (Either patients will demand more of it or their providers will prescribe more of it, knowing that cost is not an issue.)

This drives up health spending without a commensurate increase in benefits. Moral hazard may be inconsequential for services such as open heart surgery, but it can be quite large for other services, such as many prescription drugs, eyeglasses, contraception and even mental health care. And if the latter are not too costly, or are predictable, then coverage entails a subsidy with little or no insurance benefit making the coverage mandate even more problematic.

Insurers counteract moral hazard by requiring deductibles, copayments, and coinsurance. These measures balance risk spreading benefits and moral hazard. Low income individuals may feel the bite of financial uncertainty with relatively low medical spending.

But most of these individuals will be enrolled in Medicaid and not in the exchanges. Most participants in the exchanges can plan for nontrivial annual deductibles and can bear the financial uncertainty associated with nontrivial cost sharing.

Many of the lower tiered plans on the exchanges have relatively large amounts of cost-sharing – which makes them more like insurance than many products offered by employers. But actual catastrophic insurance plans are primarily available (likely for a political reason such as this long being a popular policy among the Republican opponents to the ACA) to individuals who are under 30 and these plans can’t be purchased using tax subsidies from the government.

Beyond limiting access to catastrophic plans, the ACA inhibits innovation in the design of health plans by setting a fairly rich set of minimum benefits for all insurance plans in the United States. This lack of innovation in plan design may be one of the largest and under discussed long term costs of the ACA. Perhaps more galling, Congress demonstrated their infinite wisdom by deciding to use the current employer-provided health system as a model for the future of health insurance.

Under the ACA, the Secretary of HHS was tasked with determining a set of essential health benefits that were similar to a “typical employer.” Yes, the ACA has decided that the structure of benefits that has led to ever increasing health spending will be codified as the definition of insurance for every American.

The rule making process of determining the “typical employer” actually left Secretary of HHS with a good deal of latitude about what would be covered. There was an opportunity to move towards a mandate that each American have true insurance. But given Secretary Sebelius’ twisted definition of insurance, it shouldn’t be surprising that she ended up choosing a very generous package of services as the “minimum.”

And coverage for some services known to be at risk for moral hazard, such as mental health and substance abuse coverage, must be covered with the same cost sharing as other services, which as we wrote about before has its own problems.

We believe that starting with generous existing employer plans as a basis for the services that should be covered is a fundamentally flawed strategy. Many features of these plans are more about quirks in the federal tax code than optimal insurance design. Employee health benefits are not taxed as income. Purchase eyeglasses on your own, and you use after tax dollars. Buy them through employer-sponsored insurance, and you use before tax dollars.

Given these tax rules, it’s no surprise that employer provided health insurance evolved into pre-paid medical services plans. Of course, taxpayers pay for a good portion of these costs – a regressive subsidy that economists have long protested (in vain, of course.)

For a long time, individual insurance policies were far less generous than employer-sponsored policies. One likely reason is that these policies did not get the same tax deduction as employer-sponsored policies. As a result, many of these policies actually looked like true insurance. Lest sound economic thinking wear out its welcome, states have mandated minimum benefits standards for individual policies. (The mandates do not apply to the self-insured plans offered by the vast majority of large employers.)

Today, the average state mandates 45 benefits, ranging from asthma management, alcoholism treatment, and treatment for HIV/AIDS to acupuncture, circumcisions, and mammograms.

A small percentage of these mandates are for services that economists would describe as insurable. Politics, not economics, explains the rest. A small number of providers and patients who pool resources to lobby for their cause prosper from these mandates. Taxpayers who are too diffuse to stand in opposition bear the costs. Congress will not be immune from this simple calculus and we expect the minimum benefit package to steadily grow.

The ink was barely dry on the EHB rules from HHS before groups that were not included began their lobbying campaigns to demonstrate their importance. As this occurs, the ACA will be less and less about providing Americans with health insurance, and more and more about subsidizing favored interest groups.

The President has said that his second administration is all about creating jobs. What we didn’t realize that he must have been referring to creating lobbying jobs for healthcare interest groups.

David Dranove, PhD is the Walter McNerney Distinguished Professor of Health Industry Management at Northwestern University’s Kellogg Graduate School of Management, where he is also Professor of Management and Strategy and Director of the Health Enterprise Management Program. He has published over 80 research articles and book chapters and written five books, including “The Economic Evolution of American Healthcare and Code Red.”

Craig Garthwaite, PhD is an assistant professor of management and strategy at Northwestern University’s Kellogg Graduate School of Management.

Dranove and Garthwaite are the authors of the blog, Code Red, where this post originally appeared.

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Dorothy MollerDavid DrnovelegacyflyerAllanNate Recent comment authors
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legacyflyer
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legacyflyer

Peter1, “I had a new hip joint in 2012, first major medical in my life. Could have had it fixed here for about $35k, which would have been what I’d have spent on premiums over the years if I was insured” You are making my point for me. In one bad year, the insurance company spent everything you had paid them for multiple previous years. And although nobody loves insurance companies they have expenses to pay too. So you would have been a net loser to the insurance company for all the years they covered you. I admire you for… Read more »

Peter1
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Peter1

“You are making my point for me. In one bad year, the insurance company spent everything you had paid them for multiple previous years.” I do get your point, but that was the cash pay price, insurance would have cost less, and along with my deductible they still made money. I’m actually what insurance companies hope for in an insured – work at staying healthy and try to use the system as little as possible. It was BCBSs attitude and poor service to a small legitimate claim I attempted to get reimbursed for that really drove me away. Here in… Read more »

legacyflyer
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legacyflyer

Peter1

You said:

“Not sure how old you are legacy, but have you had a major claim every 8 years? I think you overstate the odds.”

That is just math. If one has a 15% chance of something happening in one year, then on average it will happen once every 8 years.

I am 60 years old and you are correct, I have not had a major claim every 8 years in the PAST. However, I am more concerned about what the FUTURE holds.

Peter1
Guest
Peter1

I agree that this is a bit of a stupid discussion, but insurance is all about selling fear – no matter how remote. I guess we’d have to get inside the actuarial math just as we’d need the math for Vegas odds. If you think you will get a major medical in the future that will balance off the, “every 8 years” prediction you’ll have a lot of catching up to do and I’m not sure life would be bearable then. I had a new hip joint in 2012, first major medical in my life. Could have had it fixed… Read more »

Barry Carol
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Barry Carol

Bob —

The maximum deductible in Switzerland is 2,300 CHF or about $2,500 per person as of two years ago. The minimum is 300 CHF.

Bob Hertz
Guest

Note to Peter1: If it was up to me, the 8% of income would be for premiums. Deductibles would be capped at something like $1500 a year, which is the maximum in Switzerland. The maximum deductibles in Germany and France were about $500 but my information is dated. There would be no deductibles for hospital care, cancer care, rehab after accidents, etc where the patient has effectively no choices. The trade off is that discretionary office procedures need not be covered at all by insurance. People pay $200 to fix their cars all the time, they can pay the same… Read more »

Bob Hertz
Guest

Barry you are correct that full single payer would require more taxes than Americans are ready to pay.

But all I was advocating in my post was that the O’Care subsidies should be extended to everyone in the individual marketplace, not just those under 400% percent of poverty.

This would defuse some of the tremendous bitterness that is building up toward the ACA among some independent voters.

Barry Carol
Guest
Barry Carol

Bob – What you’re suggesting sounds reasonable in isolation but I think it would have significant unintended consequences on the employer based system where at least 150 million people currently get their health insurance. If everyone in the individual market and the currently uninsured were told that they wouldn’t have to pay more than 9.5% of income for health insurance with the rest of the 2nd cheapest Silver level plan premium covered by subsidies, people in the employer market who are implicitly paying considerably more than that now are going to want the same deal. Unions and other interest groups… Read more »

Aurthur
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Aurthur

If anyone still is not convinced that The Act is nothing more than a very expensive distraction as well as a jumble make work maze to wear people down and a propaganda tool to smooth the way for federal government control of health care and health insurance, please begin to notice how many times the 9.5% of earnings figure (sometimes alternating with 8%) but fewer times mentioning it is actually household income (including your kids living in the basement and your uncle living in the attic). Even knowledgeable, intelligent people are being conditioned to this number. I suggest the “single… Read more »

Bob Hertz
Guest

Barry asks ‘what is a reasonable amount for a 55-60 year old to pay for health insurance?” My answer is: about 8% of their income! Granted I sound like a Tommy Douglas-Manitoba socialist circa 1965…. and I like the sound of it. Every other advanced country ties health insurance to income, whether we refer to France, Germany, Switzerland, Scandinavia, etc. The ACA makes some baby steps to do this with their subsidies, but then you have these ridiculous artbitary limits of certain percents of poverty. I have heard it said that if we subsidize everyone, then the costs to the… Read more »

Bobby Gladd
Guest

“just $12 billion a year.”
__

Less than 2 QTRs recent Goldman Sachs net profit. Net.

Barry Carol
Guest
Barry Carol

Bob – I think the European average is about 10% of income. In Germany, the payroll tax is around 15% for employees and employers combined but it’s capped at around €45,000 or roundly $62,000. In Switzerland, a typical policy for someone 26 and older costs the equivalent of about $350 per month per person while a child would cost between $90 and $100 per month. I don’t know what the subsidy criteria are in Switzerland though I do know that 45% of the population qualifies for a subsidy. Remember too that the European healthcare systems cost between 9% of GDP… Read more »

Peter1
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Peter1

“Barry asks ‘what is a reasonable amount for a 55-60 year old to pay for health insurance?” “My answer is: about 8% of their income!” Bob, would that include the deductibles or just the premiums? My beef with insurance companies is them trying to hoodwink us into thinking that high deductibles are a good thing – a product “innovation”. High deductibles are a symptom of failure and an outcrop of the continued rise in unaffordable health care. It’s a way to make the premiums palatable and reduce peoples access to medical care. I wonder how many with high deductible plans… Read more »

Barry Carol
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Barry Carol

Peter1 – I think you overstate the importance of deductibles. In any given year, less than 15% of the population incurs more than $5,000 of medical claims at contract rates. Even among the elderly, less than 15% of them don’t have enough drug claims to reach the donut hole and more than two-thirds of them don’t come out the other side of it into the catastrophic coverage zone. Even I, who had some significant health issues over the last 20 years, had only four years with claims, excluding drugs, above $5,000 and zero years before that. Drugs are usually covered… Read more »

Peter1
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Peter1

“In any given year, less than 15% of the population incurs more than $5,000 of medical claims at contract rates.”

So we’re paying these exorbitant rates for an 85% chance we’ll never need the coverage? Staying uninsured seems a pretty good bet.

legacyflyer
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legacyflyer

That comment reminds of the man who jumped out of the 50th story of a building.

As he was passing the 10th floor someone yelled out:
“How is it going”
He yelled back:
“So far so good”

So with a 15% chance of incurring a large claim, on average you will be hit with such a claim once every 8 years.

Clint Eastwood: “Do you feel lucky punk?”

Peter1
Guest
Peter1

Not sure how old you are legacy, but have you had a major claim every 8 years? I think you overstate the odds.

Dorothy Moller
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Dorothy Moller

Wow! The first truly lucid and thoughtful evaluation of the true impact of this law. The real, most insidious impacts of the ACA already have been, and will continue to be, the impact it has on innovation. I’ve described the law, in my own work, as a “yawner” in that it codifies concepts that are old, hackneyed and ineffective. I can only hope that the power of the marketplace will drive innovation in those few areas where openings exist (direct primary care, EPOs, etc.) for development of new products.

Peter1
Guest
Peter1

Direct Primary Care – less patients, more dollars. If you think getting a primary care appointment is difficult now then it will be even more so if this model of medical club memberships becomes wide spread.

EPO – where did the opposition to, “You can keep your doctor” go? This narrow network approach reduces consumer choice.

Where are the “innovations” that actually cut health care prices rather than cutting benefits?

Nortin M Hadler MD
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Nortin M Hadler MD

We published the results of a conjoint analysis last year titled “Choosing among employer-sponsored health plans. What drives employee choices” (J Occup Environ Med 2013;55:3055-9) that probes some of the issues raised in this string: Abstract Objective: To probe employee basis for choosing health plans. Methods: In a Web study, 337 employees from large private and public employers were asked to choose among health plans varying on several common dimensions. Results: On per-dollar basis, respondents were more willing to spend $3 to $4 on out-of-pocket copayments than $1 on premiums. Nevertheless, sensitivity to monthly premium is greatest among those who… Read more »

legacyflyer
Guest
legacyflyer

Bob Hertz,

“What is puzzling is that the USA seems to have all the medical bankruptcies”

It becomes a whole lot less puzzling if you read Elizabeth Warren’s article and realize how she tortured the definition of a “medical bankruptcy” to fit her agenda.

The reason that the US has so many “medical bankruptcies” is that Elizabeth Warren has cooked the books.

Peter1
Guest
Peter1

legacy, are you claiming medical debt is inconsequential in bankruptcy because there is no proof of it’s percentage of the total debt?

I’ve never seen a creditor claim it was their portion of debt that pushed the debtor over the edge to finally claim bankruptcy. Since 2005 it’s been harder to file for bankruptcy.

http://theincidentaleconomist.com/wordpress/where-we-stand-divided-on-medical-bankruptcy/

Pick your analysis, but health care spending is not going down while incomes and savings rates are not really rising for most. High deductibles are a ticking time bomb.

legacyflyer
Guest
legacyflyer

Peter1,

Thanks for the reference, I had not seen that before. I read the original article and found it to be suspect.

Don’t put words in my mouth, I am saying that Elizabeth Warren exaggerated the number of bankruptcies that are due to medical debt.

Of course I am not in favor of people being driven into bankruptcy by medical debt. But it makes a big difference in terms of policy making whether this occurs frequently or infrequently.

Bob Hertz
Guest

My source for our medical prices is a piece by Uwe Reinhardt, ‘US Health Care Prices are the Elephant in the Room’, NY Times 3-29-2013

My source for medical debt is a Commonwealth Fund study, Seeing Red, 8-20–08.

I am not an academic researcher, so I may not have the whole picture. Actually I agree that medical bankruptcies are hard to measure, that was kind of a rhetorical flourish on my part.

Nate
Guest

Very well-presented argument here, especially distinguishing between preventative and catastrophic coverage.

We’ve been advising our self-employed clients to purchase a high deductible catastrophic plan with an HSA, then finding a doctor that prefers cash. A roundabout solution but quite effective.

– Nate –
BudgetDoc

Rob
Guest

I think this is spot on. Insurance IS about risk, but health care services do little to reduce risk – in fact, they reward disease (with larger rewards for those treating more serious conditions). Reducing risk is bad for business in health care. You get what you pay for, and most people in the business make money off of disease and treatment. That is the antithesis of what insurance is for. What is needed is a business model that rewards early intervention, decreased spending, and avoiding unecessary services. Hmm….I wonder who is doing that kind of thing…

Bob Hertz
Guest

Very good point about hospitals receiving part of their budgets through general revenues in Sw’land (and Germany and France) When an American hospital charges $40,000 for a surgery and a European hospital charges $15,000, this is not because the Europeans are wildly more efficient. Nor are they using cheap labor of course. The reason is that general tax revenue covers a lot of their overhead. Translated to America, this means that we could in theory lower our insurance premiums if we would increase our sales or income taxes. Not sure if I could trust any current polticians to do this,… Read more »

Michael Battaglia
Guest

The medical bankruptcy numbers are always skewed. if you notice they always say bankruptcy with medical bill attached. That means if they were going bankrupt because of $100,000 of bad credit, they also declare all their bills to wipe them out too. So if they had a $100 medical bill, it would show up in the stats.

Allan
Guest
Allan

Bob, it could also be that you are looking at the charges and not the actual amount paid.

Why don’t you let us in on what surgery cost $40,000 in the US and say only $15,000 in France, Germany or Switzerland. I would like to hear real numbers.

Michael already commented on the bankruptcy question you had. The bankruptcy numbers provided by Himmelstein were bogus. A billionaire could be declared a medical bankruptcy by Himmelstein if his medical bills were $1,000.

Nortin M Hadler MD
Guest
Nortin M Hadler MD

“Moral hazard”, “Skin in the Game”, and handmaiden notions are the century-old legacy of econometrics and actuarial science that is appropriate to home owner’s, automobile, life, and other forms of insurance. Do they pertain to insuring “health”, insuring for disease treatment, or assuring “health”? Would anyone want a useless intervention even if it came without deductible or co-pay? I would argue that the American “health care” system is largely a profitable exercise in selling a pig-in-the-poke and, as Professors Dranove and Garthwaite assert, ” the Affordable Care Act (ACA) has fostered a massive subsidization of healthcare goods and services” rather… Read more »

Bobby Gladd
Guest

“All we need to do is stand up to the 17% of the GDP invested in the status quo.”
__

“Every misspent dollar in the health care system goes into someone’s paycheck.”

– Brent James, MD, M.Stat

Bob Hertz
Guest

I happened to be reading about Switzerland’s health system last nite. The highest possible deductible (in 2010) was $1500, and the highest out of pocket limit was $2100. (and this is a rich nation) Any health premium that exceeds 8% of income is subsidized (none of this tortuous 400% of poverty limit) The largest age ratio is 1.2 to 1, in other words there is nearly total community rating. This breaks all the rules of the Heritage crowd, and most of the rules of Prof Dranove. But it works, what are they doing right? (a national fee schedule with no… Read more »

Bobby Gladd
Guest

Far too simple and rational. We in the U.S. are addicted to useless hypercomplexity.

Barry Carol
Guest
Barry Carol

Bob – Health Affairs published a lengthy interview with Switzerland’s healthcare czar a couple of years ago. He noted that there were, at the time, 84 insurance companies in Switzerland, a country of a bit over 7 million people though the six largest insurers control 80% of the market. The insurers negotiate as a group with providers who also negotiate as a group in each canton. So, each insurer pays a given provider the same price for a given service, test or procedure in that canton. We would need an anti-trust exemption to replicate that approach in the U.S. Also,… Read more »