Who pays for health insurance?

1
Who pays for health insurance?

• It is important to relate health insurance
  benefits to the wage rate that workers are paid.
  
• The simplest way is to examine the supply and
  demand for labor, in the absence of insurance,
  and then institute health insurance and see what
  happens.

2
Who pays?
S

• Consider a labor market with a typically downward
  sloping demand for labor D,
• and a typically upward sloping supply of labor S.
  
• The demand for labor is related to the marginal
  productivity of workers. Employers will hire the
  workers as long as the value of their output
  (marginal revenue product) is greater than or
  equal to the wage that employers must pay them.

Wage rate
W1
D
L1
Employees
3
Who pays?
S

• The supply of workers is related to the wage in
  this industry relative to other industries.
• Workers will choose to work in this industry as
  long as the wage they can earn exceeds their
  opportunities in other jobs.
• The equilibrium wage is W1 and the equilibrium
  quantity of labor demanded and supplied is L1.

Wage rate
W1
D
L1
Employees
4
Who pays?
S

• Now suppose that workers in the market negotiate
  a health insurance benefit worth z/hour at that
  margin, and costs employers exactly z/hour to
  provide.
• What happens?
• Employers who before were willing to pay W1 per
  hour for workers, will now pay W1 less z. Other
  points on the demand curve will shift downward in
  a similar manner, so the demand curve will shift
  downward by exactly z to D?.

Wage rate
W1
D
z
D?
L1
Employees
5
Who pays?
S

• What will happen to the supply curve?
• Since the workers were willing to supply various
  amounts of labor at various wage rates according
  to the supply curve before, now that they are
  receiving a benefit worth z, they will offer
  their labor for z less.
• Hence, the supply curve will shift downward by
  exactly z to S?.

S?
Wage rate
z
W1
D
z
D?
L1
Employees
6
Who pays?

• New equilibrium is at L1, W2.
• What is the result? The net wage remains the
  same, but the money wage falls by z.
• The equilibrium wage has fallen to W2 or by
  exactly the amount of the benefit.
• Workers have taken their benefits in lower money
  wages, and the same number of workers L1 is
  employed at the same net wage.

S
S?
Wage rate
z
W1
W2
D
z
D?
L1
Employees
7
Who pays?

• By assuming that the marginal benefit was worth
  exactly what it cost to provide, the previous
  example ignored the moral hazard involved in
  health insurance.
• Recall that for many types of health care,
  fractional coinsurance leads consumers to consume
  health care past the point at which marginal
  benefits equal marginal costs.
• This provides benefits that, on average, may be
  worth less to the workers than what they cost to
  provide.

S
S?
Wage rate
z
W1
W2
D
z
D?
L1
Employees
8
Who pays?

• Suppose, for example, that workers negotiate
  subsidized coverage for pre-scription drugs.
  This benefit might induce workers to purchase
  drugs beyond the point at which marginal benefits
  equal marginal costs.
• If the average benefit is worth b/hour, or less
  to the workers than the z/hour that it costs to
  provide, then the new supply of labor curve S??
  will have fallen by less than the demand for
  labor (still D?, reflecting what it costs to
  provide the benefit).

S
S?
b
Wage rate
z
W1
W3
W2
D
z
D?
L1
L2
Employees
9
Who pays?
S

• Our new equilibrium yields wage W3, which is
  higher than W2.
• The net wage (W3 z) is higher than the original
  equilibrium wage W1 (without insurance).
• Not surprisingly, employers react to the higher
  net wage by reducing employment in the industry
  from L1 to L2.

S?
b
Wage rate
z
W3z
W1
W3
W2
D
z
D?
L1
L2
Employees
10
So who pays?

• Fundamentally, the employees pay for insurance,
  in the form of lower money wages.
• Some may pay in the form of unemployment.

For an interesting story see Montagne (2002),
on website.
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