Issues in Merging the Individual and Small-Group Markets

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Issues in Merging the Individual and Small-Group
Markets

• Elliot K. Wicks, Ph.D.
• Health Management AssociatesJanuary 2007

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Only 5 of Population Has Individual Coverage, 14
Million
U.S., 2005
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Why merge? Poor individual market performance

• For high-risk people, premiums too high or even
  denied coverage
• Due to insurer risk rating/medical underwriting
• Coverage sometimes skimpy
• High deductibles, less comprehensive than typical
• Very few insurers participate risky, not much
  revenue compared to other markets
• Result many individuals dont buy coverage

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What expectations from merger?

• Spread risk/costs over more people, bring down
  costs in individual market, because . . .
• Small-group rating rules limit insurer latitude
• Cant deny coverage
• Allow less rate variation based on risk
• Thus merger expected to reduce premiums for
  higher-risk people now in individual market

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Why poor performance in individual market?

• Strong danger of adverse selection against the
  whole market
• Attract too many high-risk people, because . . .
• People can partially predict need for medical
  care
• Tend to enter market when expect to incur expense
• Violates the insurance principle high-risk and
  low-risk people contribute premium to avoid
  large, unpredictable loss/medical claim.
• Premiums would rise, low-risk people would stay
  out spiral of adverse selection
• Due to voluntary nature of buying insurance
  coverage

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People wait to buy individual coverage until they
need it, because

• Cost is high relative to often skimpy benefits
• Many are lower income (no employer coverage),
  just out of work, maybe poor health, just
  entering labor force
• No employer subsidy
• No tax subsidy, unlike employer coverage
• So to lower-risk people, may seem not a good value

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The Voluntary Market Dilemma

• Either allow risk-rating and denial of coverage,
  with resultant hardship for high-risk people, or
• Have adverse selection against the market, with
  consequent likely market failure

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The Individual Market Problems

• Potential for adverse selection against the
  market, which would cause high premiums
• Administrative costs are higher than in other
  markets
• No economies of scale
• More expensive to market and service on a
  one-to-one basis

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Merging individuals buy in small-group market
with those market rules

• The result high-risk individuals pay less
  because . . .
• Rating rules in group market allow less variation
  based on risk
• Cant deny coverage to any applicant
• But neither individual-market problem goes away
• Still potential for severe adverse selection
• Still higher administrative costs to serve
  individuals
• Thus individuals pay less because small groups
  pay moremathematical truism if same people
  covered
• Small groups subsidize individuals
• Perhaps OK if small-group market is very healthy

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What would mitigate negative effects on small
groups?

• If average small-group rates are substantially
  below average individual rates
• If number of people in small-group is very large
• If small-group market allows significant risk
  rating
• If merger causes rates for individuals to fall so
  much that many more low-risk individuals buy
  coverage

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What would make the negative effects worse for
small groups?

• Community rating
• Guaranteed issue
• Continuous open enrollment
• No penalties for prior conditions
• Practical problem How to apply group rating
  rules to individuals, because rating factors like
  industry, group size dont apply.

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Alternatives to merger

• All insurance involves subsidies from
  (temporarily) low-risk to (temporarily) high-risk
  people
• May be better, fairer ways than merger to spread
  risk/subsidize, such as . . .
• Direct government subsidies to just high-risk
  people
• Vouchers to buy normal market coverage
• High-risk pools (must be adequately funded, so
  low enough rates, good coverage, no waiting lines
  to get in)

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Alternatives to merger (cont.)

• Subsidies from all other insurers (like New
  Jerseys play or pay)
• Government-funded reinsurance in individual
  market
• Pay high-proportion of cost of high-cost cases
• If insurers pass on saving, lower price to
  everybody
• Creates social insurance program for
  catastrophic care
• But not target efficient aids those already
  voluntarily paying the whole bill when they buy
  coverage now
• Subsidies from government are probably fairer
  risk spread through tax system based on ability
  to pay.

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The ultimate solution individual mandate

• If everyone must acquire coverage, no potential
  for adverse selection against the individual
  market
• High-risk and low-risk individual would all be in
  the same pool all the time
• Community rating (adjusted or pure) would work
  across all markets
• Low-risk people cant stay out of the market
• High-risk people face no premium penalty
• Very hard to solve individual market problems
  without an individual mandate