Insurance Market Behavior

and
Health Insurance
Topic 3: Health Insurance Environment

2009, Howard J. Bolnick All Rights Reserved

The Healthcare Environment

Goals, Objectives, and Perpetual Stresses
The Environment
Economic Insights
Structural Constraints
Political Implications

Is Healthcare Different? (Kenneth Arrow)

Plausible Alternative Futures
Resolving the Dilemma: Is There a Preferred
System?

Healthcare Systems Goals

World Health Organization

New Universalism
Delivery to all of high-quality essential care,
defined by criteria of:
effectiveness,
cost, and
social acceptability

Healthcare Systems
Goals and Objectives

Goal #1: COST

Equitable - Fair financing of healthcare
Affordable Cost no barrier to access (society, individual)
Sufficient Adequate funding for healthcare resources
Goal #2: QUALITY
Effective Achieve attainable population health outcomes
Efficient Maximize use of scarce resources
Uniform No relatively disadvantaged groups
Autonomy - Medical decisions made by patient & physician

Goal #3: ACCESS

Socially Acceptable Responsive to citizens wants
needs
Universal - Healthcare for all citizens

and/or

Healthcare Systems
Goals and Objectives

Inherent Conflict Among Goals

Access

1. Universal Access
2. High Quality
3. Cost Effective

Cost
Quality

choose any two out of three

Healthcare Systems Perpetual Stresses

Stewardship
Create and manage a balanced healthcare system that addresses
different needs, wants, interests, and perceptions of various
stakeholders

Feasibility: Achieve simultaneous balance among Cost-QualityAccess goals and objectives

Sustainability: Provide financial and healthcare resources needed to

maintain balance among Cost-Quality-Access goals and objectives
over time

Satisfaction: Fulfill stakeholders expectations as healthcare and

healthcare system evolves

Healthcare Systems Structural Options

Is There a Structure That is Best Able to Manage
Perpetual Stresses and Minimize Dilemmas?
Public Systems
Universal health insurance program funded by payroll taxes
government revenues

and/or general

Private Systems
Health insurance products voluntarily purchased by businesses and individuals through
health insurance sold by private insurers
Mixed Public Private Systems
Public health insurance program covering healthcare needs of some/most/all citizens
with uncovered citizens and/or uncovered healthcare expenses/services covered by
private health insurance
Public health insurance at base of system
Private health insurance at base of system

The Healthcare Environment

Goals, Objectives, and Perpetual Stresses

The Environment
Economic Insights
Structural Constraints
Political Implications

Is Healthcare Different? (Kenneth Arrow)

Plausible Alternative Futures
Resolving the Dilemma: Is There a Preferred
System?

Quality Health Outcomes Are Costly

Population health (HALE)

improves significantly with
spending until reaching about
$US 1,500 (PPP)
Population health does not
appear to improve with greater
spending. Additional spending
satisfies healthcare wants
All medical care for everyone
Widespread access to newest
technology
No waiting lists
Strong physician patient
relationship
Comfort care
Additional provider income

Highly Developed Nations

USA $5,683 : 69
UK $2,270 : 71
India $81 : 53
China $254 : 64

Source: World Health Organization (WHOSIS database)

Spending Outstrips Economic Growth

Real Annaul Per Capita Growth in Healthcare
Expenditures and GDP: 1990-2000
8.0%

Healthcare Spending Increases

Exceed GDP Growth

Healthcare Expenditures

7.0%

6.0%

5.0%

4.0%

3.0%

2.0%

1.0%

0.0%
0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

7.0%

GDP

Developed Countries Experience Long-Term

Increases in Healthcare Costs

Healthcare Spending Increases

Faster Than Wealth

Developing Countries Face Extra Cost Pressures

As Their Citizens Become Wealthier

Healthcare Cost Drivers

Causes of Excess Growth
Growth in healthcare costs exceed growth in GDP due to:

Demographic Changes

Aging populations (7.2%)*

Demand for Healthcare

Growing Wealth (17.6%)
Expanding Insurance (5.3%)

(Note: Measurable Effects Only)

Supply of Healthcare
New
* % of U.S.
medical
care growth in real
spending
Technologies
and
Greater
attributable to each factor: 1960 - 1993

Resources (69.9%)

OECD Health Data, and, Peden and Freeland, Health Affairs, Summer 1995

Healthcare Cost Drivers - Demographics

There Is No Significant AgingCost Relationship
Relative Growth of Healthcare Costs and
Elderly Population, 1970-2000
4.5%

Annual Growth of Healthcare

Costs

4.0%
3.5%
3.0%

r2 = .074

2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

Annual Real Growth of 65+ Population

Source: OECD Health Data

3.0%

3.5%

Healthcare Cost Drivers - Demand

Personal and
Family Ethic

Health Decisions
Healthy Lifestyle
End of Life Care

Social Ethic
Medical Ethic
Political Process

Access

Cost

Urgency Aggressiveness
Timeliness
Preventive Care
Heroic Medicine
Lifestyle Medicine
Non-Traditional Medicine
Institutional and Frailty Care

Quality

Healthcare Cost Drivers - Demand

U.S. context the clearest example
at the heart of the (U.S.) crisis is a basic
problem of values. We have a system that has
believed it could pursue unlimited medical
progress to meet all individual needs at an
affordable price.
Daniel Callahan, Ph.d., The Hastings Center

As long as we (in the U.S.) pursue all the care we want (not
need) when we want it costs will not be contained
Conquering Death
Individual Rights

Healthcare Cost Drivers - Technology

Healthcare Quadrillema
New Health Care Technology
Broader Medical Care and Higher Prices
Increased Scope and Demand for Health Insurance
Financial Incentive for New Technology
Source: Weisbrod, Journal of Economic Literature, June 1991

Cost Saving Medical Technology?

Todays technological
advances generally
increase costs
Medical research holds
out long term (30 50
years) hope for
inexpensive curative
medical interventions
Health care in 2050 might
be significantly different
and less costly as a % of
GDP than today

Polio Paradigm
Per Capita Healthcare Costs

Present

Past
Future

Diagnosis

Palliative
Care

Prevention and
Curative
Interventions

The Healthcare Environment

Goals, Objectives, and Perpetual Stresses

The Environment
Economic Insights
Structural Constraints
Political Implications

Is Healthcare Different? (Kenneth Arrow)

Plausible Alternative Futures
Resolving the Dilemma: Is There a Preferred
System?

Private Health Insurance Systems

Private Markets: Choice, Competition Causes Uncertainty
for Market and Insurers
S
e
v
e
r
i
t
y

Insurer A

Universe
All Insurers - Insureds
Universe
Frequency

Structural Constraints
Insurance Market Failure Problem
Economists generally prescribe competition as a solution
for markets that do not work well . Insurance markets
differ from most other markets because in insurance
markets competition can destroy the market rather than
make it work better.
Michael Rothschild and Joseph Stiglitz: The Geneva Papers on Risk and Insurance Theory, Vol. 22 (1997)

Feasibility Problems
Inadequate Information
Social (Systematic) Risks
Risk Classification Risk Rating
Capital Adequacy

Behavioral Problems
Moral Hazard
Adverse Selection

Arguments for Private Insurance

Social Justice
Social insurance is usually inefficient, ineffective, and personally
intrusive
Cross-subsidies are not fair and are not necessary --- actuarial risk
rating method is a preferable means for pricing risk
People should not be compelled to participate in insurance
Economic Efficiency
Despite potential for market failures private insurance markets thrive
Private programs offer options, coverage and services not possible in a
bureaucratic and inflexible public program
Private insurers have greater incentive to control moral hazard

Market Dynamics in
Private Health Insurance Systems
Insurance Market Dynamics
Behavioral Problems
Adverse selection and moral hazard both exist
Feasibility Problems
Competition among insurers and individuals pursuit of their own
individual equity (preferences) create feasibility problems
Insurers must develop adequate Risk Management Tools to
compensate for behavioral and feasibility problems

Implications for Perpetual Stresses

Risk Management Tools create access and affordability problems,
particularly for vulnerable segments of the population
Universal access is impossible
Insurers compete to satisfy buyers needs and wants, provide
product variety and rapid access to new technology
Cost control relatively difficult in private contracts

Public Healthcare Financing Systems

Public Insurance Markets: No Choice, No Competition
Eliminates Most Uncertainty

S
e
v
e
r
i
t
y

Universe

Frequency

Arguments for Public Financing

Social Justice
Government must assure financial security against social risks
(including healthcare) borne by disadvantaged citizens including those
aged, sick, disabled, unemployed, and poor
Private insurance markets do not adequately insure many of these risks
Government can arrange highly useful cross-subsidies
Government is a better, more just institution for risk bearing than private
institutions (transparency)
Economic Efficiency
Private insurance markets exhibit market failures that can often be
overcome using public insurance
Public programs can more efficiently raise funds and administer benefits

Market Dynamics in
Public Healthcare Financing Systems
Insurance Market Dynamics
Behavioral Problems
No adverse selection
Moral hazard not solved
Feasibility Problems
Eliminated through public guarantee of adequate funding
Public funding redistributes costs across generations, income levels and health
status

Implications for Perpetual Stresses

Benefits are needs oriented, not wants oriented

Unpopular constraints on patient access, provider fees, technology
Individuals pursuit of their own preferences largely eliminated
Transparency in stewardship of healthcare system
Protective of needs of disadvantaged citizens
Relative advantage to control costs

Fulfilling Goals & Objectives

Social Solidarity
(Public System)
Cost

Risk and Income Solidarity:

Progressive (tax or income)
financing, not related to risk
Cost Constraints: Available
financial and healthcare resources
(supply side)

Actuarial Fairness: Risk-based

financing, with necessary regulatory
constraints
Cost Constraints: Managed care (supply
side) and cost sharing (demand side)

Scope: Essential care (needs) as

defined by government

Scope: Timely, highly responsive

access to effective and autonomous
care as determined by patient and
physician (needs & wants)

Membership: Universal access

regardless of age, income, or health
(right of citizenship)
Entitlement: All available essential
healthcare services

Membership: Private decision to buy

insurance or to pay out-of-pocket
Entitlement: None- healthcare agreed to
by private contract

Compromise

Quality

Compromise

Access

Individual Equity
(Private Systems)

Compromise

Compromise

The Healthcare Environment

Goals, Objectives, and Perpetual Stresses

The Environment
Economic Insights
Structural Constraints
Political Implications

Is Healthcare Different? (Kenneth Arrow)

Plausible Alternative Futures
Resolving the Dilemma: Is There a Preferred
System?

Political Implications
All Healthcare Systems Receive Strong Criticism
Overall Views of Healthcare Systems, 2001
70%
60%

59%

60%

60%

53%

51%

50%
40%
30%
20%

28%

25%
19%

21%

18%

18%

20%

21%

18%

18%

10%
0%
Australia

Canada

M inor Changes

New Zealand

Fundamental Changes

Source: Blendon, R.J., et. al., Health Affairs, May/June 2002

U.K.

U.S.A.

Completely Rebuild

Political Implications
Path-Dependency makes it very difficult to make
major changes in a nations healthcare system
There is nothing more difficult to manage, more
dubious to accomplish, nor more doubtful of success
than to initiate a new order of things. The reformer
has enemies in all those who profit from the old
order and only lukewarm defenders in all those
who would profit from the new order.
Niccol Machiavelli, The Prince

Healthcare Financing Dynamic

P
e
r
s
o
n
a
l
E
t
h
i
c

Individual Equity Ethic

Risk Bearing Market Behavior

Structure
Alternatives
Public - Private
Open - Mandatory

Characteristics
Government Rules

Consumer Choice
Competition

Consumer Behavior

Insurer Behavior

Demand Driven By

Supply Driven By

Risk Aversion

Risk Management
Tools

and

Designed Around

Behavioral
Problems

Behavioral Problems
Feasibility Problems
Strategies & Tactics

Adverse Selection
Moral Hazard

Political process
moves towards
consistency
between:
Market Behavior
and
external social,
ethical and
economic
considerations

Dynamic Results in Characteristic Market Failures

Social Solidarity Ethic

Political process results in a unique preferred

market structure and rules to govern it

P
e
r
p
e
t
u
a
l

S
t
r
e
s
s
e
s

The Healthcare Environment

Goals, Objectives, and Perpetual Stresses

The Environment
Economic Insights
Structural Constraints
Political Implications

Is Healthcare Different? (Kenneth Arrow)

Plausible Alternative Futures
Resolving the Dilemma: Is There a Preferred
System?

Is Health Care Different?

Competitive Market
Marketability of all
goods and services
Information freely
available
No constraints on entry
or exit
Competitive equilibrium
cleared by prices

Health Care Market

Is Health Care Different?

Special Characteristics of Health Care Market

Nature of demand
Not steady in origin
Associated with assault on personal integrity

Product uncertainty
Uncertain incidence and severity of illness
Large uncertainty about recovery
Physician with more information than patient

Expected behavior of physician

Not testable
Ethical concern for patient welfare
Physician patient relationship affects quality

Supply conditions
Physician licensing
Subsidized medical education

Pricing practices
Extensive discrimination by income
Aversion to prepayment and closed-panel practice

Is Health Care Different?

I will hold that virtually all the special features

of this industry (medical care), in fact stem
from the prevalence of uncertainty.
Uncertainty in the incidence of disease
Uncertainty in the efficacy of treatment
Arrow: Uncertainty and the Welfare Economics of Medical Care

Is Health Care Different?

Ideal Risk Shifting - Every conceivable risk to the
most appropriate risk bearer
Uncertainty in the incidence of disease
Shift risk of cost of incidence of medical care
through health insurance
Timing of demand for health care is uncertain and
cannot be shifted
Uncertainty in the efficacy of treatment
Shift risk of cost of severity of medical care through
health insurance
Cannot shift risk of effectiveness of medical care
(asymmetric information) to physician

Is Health Care Different?

Market Failures
Health Insurance
Gaps in coverage
Moral Hazard
Administrative costs
Pooling of unequal risks (lack of fair actuarial
premiums)
Medical Care
Non-marketable risks
Unavailable information (asymmetry)

Is Health Care Different?

Competitive Market
Marketability of all
goods and services
Information freely
available
No constraints on entry
or exit
Competitive equilibrium
cleared by prices

Health Care Market

Non-marketable risk
Important information
unavailable
Constraints on entry
Equilibrium not
established by prices

Is Health Care Different?

Compensatory Institutions Significant Departures from
Competitive Model
Public Health
Health Insurance
Third-party control over payment
Price discrimination
Regulation public oversight

Information Asymmetry on Effectiveness of Medical Care

Trust and delegation

Licensing and education standards
Ethical concern for patient
Lack of profit motive

Social Insurance

Is Health Care Different?

Optimal Competitive Market
Supply = Demand
Demand = f (distribution of purchasing power)

Non-Market Government Social Policies and Institutions

Competitive Market
Income redistribution
Market Departs From Competitive Model
Licensing
Incentives
Compulsion

Most Preferred Social State

Is Health Care Different?

Conclusions
An optimal competitive health care system will not
perform to the most preferred social state.
Prevalence of uncertainty
At least some government intervention is likely to be
needed.

Arrow: Uncertainty and the Welfare Economics of Medical Care

The Healthcare Environment

Goals, Objectives, and Perpetual Stresses

The Environment
Economic Insights
Structural Constraints
Political Implications

Is Healthcare Different? (Kenneth Arrow)

Plausible Alternative Futures
Resolving the Dilemma: Is There a Preferred
System?

Future Healthcare Cost Increases

Future of health, healthcare and healthcare costs are
driven by interrelated variables:

Life Expectancy - Population Size, Age Distribution

Natural Aging or Delayed Death

Biological Morbidity - Burden of Disease

Compression or Expansion of Morbidity

Economic Morbidity - Scope, Intensity, Cost of Services

Compression or Expansion of Care

Life Expectancy:
Alternative Futures
Natural Aging
Longer life expectancy with
rectangularization of survival curves
Fixed maximum life span at 115
Life expectancy increasing to 85
95% of deaths between 77 and 93
Delayed Death
Life expectancy without limits
No limits on life span and life
expectancy
Source: Fries, Milbank Quarterly, 1983

Biological Morbidity:
Futures

Alternative

Compression of morbidity 1
Elderly live longer and healthier lives
Healthy Lifestyle (including preventive medical interventions)
postpone onset of clinical morbidity
Onset of chronic conditions of aging are delayed more rapidly than
life expectancy increases

Expansion of morbidity 2
Elderly live longer but sicker lives
Unchanged Lifestyle does not postpone onset of chronic conditions
1 Fries, James F., Aging, Natural Death, and the Compression of Morbidity, NEJM, July 17, 1980.
2 Brody, Jacob A., Prospects for an Aging Population, Nature, June 6, 1985

Economic Morbidity:
Alternative Futures
Compression of Care
Less and/or lower cost medical care and frailty care
Medical technology and de-institutionalized frailty care become
Cost-Reducing
Ethics of Social Solidarity and Death with Dignity allow healthcare
systems to become Increasingly Constrained

Expansion of Care
More and/or higher cost medical care and frailty care
Medical technology and institutionalized frailty care remains CostIncreasing
Ethics of Individual Rights and Conquering Death force healthcare
systems to become Increasingly Unconstrained

Changes in Life Expectancy, Biological

Morbidity, and Economic Morbidity
Life Expectancy
Economic Morbidity
Biological Morbidity

Expanded Life Expectancy (Natural Aging or Delayed Death)

Equilibrium of Care
Expansion
of
Morbidity

Compression
of Morbidity

Healthy

Unhealthy

Age and Life Expectancy

Today

Onset of
Disease

Onset of
Care

Equilibrium
of Morbidity

Expansion
of Care
Equilibrium
of Morbidity

Compression
of Care
Equilibrium
of Morbidity

Future Healthcare Scenarios

Three Plausible Future Scenarios
Good
Bad
Ugly
Life
Expectancy

Natural Aging

Natural Aging

Delayed Death

Biological
Morbidity

Compression of
Morbidity

Equilibrium of
Morbidity

Expansion of
Morbidity

Economic
Morbidity

Compression of
Care

Expansion of Care

Expansion of Care

.79 1.73

1.70 2.18

2.12 2.70

Cost Range
2050*

* Real healthcare expenditures expressed as multiples relative to $1500

minimum current spending to attain HALE = 70 years
Source: Bolnick, North American Actuarial Journal, October 2004

Future Healthcare Cost Scenarios

Developing Countries

$4050
UGLY

$3225
BAD

$2550
Public, Out-of-Pocket, and Insured Spending in 2003
$952

INSURED

OUT-OF-POCKET

$982

$624

Mexico

Rep. of
Korea

China

GOOD

$1200
2050
Plausible
Range

$254

PUBLIC
Argentina

$1500

2002 Attainable
HALE

Cost Drivers: Technology, Lifestyle, Ethics, Increasing Wealth

The Future of Healthcare

An Ongoing Healthcare Cost Crisis
Unknowable Size

of

Life Expectancy - Expansion

Elderly are living longer

Cure for aging is a wild card

Biological Morbidity Equilibrium

Elderly may be living longer and healthier, mainly due to healthier

lifestyles

Economic Morbidity - Expansion

Future cost increases will be determined mainly by factors that are

external to healthcare systems

Medical Technology is the major factor in growth of supply of healthcare

Lifestyle and Ethics are major factor in growth of healthcare demand

Cost saving technology a possibility

Healthcare Systems Dilemmas

Feasibility
An attainable level of health is quite costly
Possible to satisfy only two of three goals (cost, quality, access)
Public and private systems satisfy different goals
Driven by social ethic (social solidarity vs. individual equity)

Sustainability
Very difficult to sustain balanced system given long term supply
(technology-driven) and demand (lifestyle and ethics-driven) pressures
healthcare cost increases will continue to outstrip economic growth for
foreseeable future
Problem is exacerbated in developing countries

Strong personal healthcare ethic makes it virtually impossible to deny

new medical care technology despite its high cost
Government stewardship is relatively constrained

Satisfaction
No solution - healthcare always a political issue

The Healthcare Environment

Goals, Objectives, and Perpetual Stresses

The Environment
Economic Insights
Structural Constraints
Political Implications

Is Healthcare Different? (Kenneth Arrow)

Plausible Alternative Futures
Resolving the Dilemma: Is There a Preferred
System?

Structural Option #1:

Private Health Insurance System
Wealthy

Moderate

Income

Private Health Insurance

Near Poor

Poor
Young

Working Ages

Age

Retired

Structural Option #2:

Mixed System with Private Insurance Base
Wealthy

Moderate

Private Health Insurance

and
Out-of-Pocket Payments

Income
Near Poor

Public Health Insurance

Poor
Young

Working Ages

Age

Retired

Structural Option #2A:

U.S. (Non)-Sytem
Wealthy

Moderate

Income
Near Poor

Private Health Insurance

with
Out-of-Pocket Payments
Private Health Insurance
with
Out-of-Pocket Payments
and
Uninsured

Medicare

Medicaid
Poor
Young

Working Ages

Age

Retired

Structural Option #3:

Mixed System with Public Insurance Base
Wealthy

Moderate

Social Health Insurance

with Cost Sharing and
Optional Private VHI

Income
Near Poor

Social Health Insurance

with no Cost Sharing
Poor
Young

Working Ages

Age

Retired

Structural Option #4:

Public Health Insurance System
Wealthy

Moderate

Income

Public Health Insurance

Near Poor

Poor
Young

Working Ages

Age

Retired

Healthcare Systems Performance

Healthcare Systems Goals
Structural Option
Private Health
Insurance
Mixed System with
Private Base
Mixed System with
Public Base
Public Health
Insurance

Access

Cost

Quality

Relatively
Uncontrollable
barriers

Coverage of
Healthcare
Needs and
Wants

Possible with Good

Stewardship

Limited Public Sector

Program Relatively
Controllable

Public Sector
Covers Needs of
Underserved

Possible with Good

Stewardship

Public Sector May

Shift Costs to
Private Sector

Private Sector
Covers Additional
Wants of
Affluent

Universal Access
Achieved

Relatively
Controllable Through
Budget Constraints

Wants
Constrained,
Needs Covered

Universal Access Not

Possible

Managed care or cost

Healthcare Systems Perpetual Stresses

Perpetual Stresses
Structural Option
Private Health
Insurance
Mixed System with
Private Base

Mixed System with

Public Base

Public Health
Insurance

Feasibility

Sustainability

Satisfaction

Universal Coverage
Not Possible
Unconstrained
Grow and Costs

Excluded Grow as
Unconstrained System
Becomes Increasingly
Expensive

Disadvantaged
Generally
Excluded

Balance Achievable
in Carefully
Designed System

Private Health
Insurance May
Become Too Expensive

Complicated
Structure

Balance Achievable
in Carefully
Designed System

Funding Problems
Result in Public Sector
Constraints

Dissatisfaction
with Constraints,
Waiting Lists and
Out-of-Pocket
Spending

Unpopular
Constraints

Political Funding
Problems/Constraints

Dissatisfaction
with Constraints

Trade-offs

Preferred Healthcare Systems

Mixed Public - Private Systems
Developed Nations
Universal core public health insurance system covering healthcare needs
(social solidarity) with private health insurance (VHI) providing coverage of
additional healthcare wants and gaps in public system coverage of needs

Developing Nations
Regulated private health insurance covering both healthcare needs and
wants with public subsidies or public financing of healthcare for
disadvantaged groups
Either Option Requires Enlightened Government Stewardship
Sufficient financial resources to provide for adequate healthcare personnel, capital and
resources
Adaptive system allowing for continuous improvement in effectiveness and efficiency
Seamless, non-duplicative interface between public private sectors
Special consideration of needs of disadvantaged citizens

Why is This Important?

No healthcare system is capable of resolving
ongoing dilemmas
Governments will be pressured to find answers to
perpetual stresses requiring choices that affect how
healthcare systems evolve
Preferred solutions incorporate both public and
private programs to best manage perpetual stresses
Knowledgeable actuaries in-depth understanding of
public and private program will be instrumental in
helping government choose and manage the most
appropriate future path
Private health insurance thrives only through
government indulgence