• An Obamacare “death spiral” is unlikely because of market competition

    By now you’ve probably read about why Obamacare won’t “spiral into fiery, actuarial doom“—at least, not on account of unconvinced young invincibles. That’s the main takeaway from a recent Kaiser Family Foundation analysis, which found that low enrollment among the young adult set would have a minimal impact on premiums. The 3:1 age band actually prices in risk-by-age quite well, so—all else equal—having fewer young people couldn’t drive up premiums much.

    But age is only one dimension of the adverse selection story. Health status is critically important: regardless of age, the risk pools need to achieve some balance of “healthy” and “sick” individuals to be stable. Failure to enroll enough healthy people into exchange plans could result in adverse selection. The media has seized on this economic phenomenon, and its devil child: the adverse selection “death spiral”, wherein rising premiums drive the healthy out of the risk pool in a cycle of self-perpetuating oblivion.

    Of course, the law anticipated that some adverse selection might occur in early years, so it has mechanisms to protect itself. I wrote about the role of risk corridors and subsidies in buffering adverse selection. There’s also limited evidence for health insurance death spirals in the literature. People like to point to premium hikes New York’s individual market, which enacted “pure” community rating, without flexibility for age, in the early 1990s. But Thomas Buchmueller and John DiNardo found nearly identical enrollment shifts (toward an older risk pool) in two “control” states during the same time: Connecticut, which enacted more modest reforms, and Pennsylvania, which enacted no reforms.

    Moreover, the “conventional wisdom” about death spirals fails to account for one minor detail: market forces. At least, that’s the argument Linda Blumberg and John Holahan make in a new RWJF policy brief :

    [W]hile insurers may experience some losses in 2014 if adverse selection occurs, market competition will make it difficult for them to recoup those losses in 2015 by increasing premiums substantially. If enrollment grows throughout 2014 as technical problems are overcome and outreach efforts continue, leading over time to a broader mix of health care risks enters the Marketplaces, then competitive pressures are likely to dissuade insurers from ratcheting up premiums. In a competitive market, insurers must set premiums for 2015 based on expected enrollment in 2015, not based on any losses that occurred in 2014. Simply put, insurers cannot recoup losses without achieving significant market share, and achieving market share requires that they price their products competitively for expected enrollees in the coming year. […]

    Bidding high makes a plan less likely to be the second lowest cost plan in an area, which means that enrollees would be required to pay more for that coverage than the percent of income cap provided for by the federal subsidies. This would decrease plan enrollment and hurt profits. Insurers presumably do not look at their business over a two-year horizon where any year’s shortfalls must be made-up in the following year; they cannot recoup losses if they have no market share, so they must make decisions for the longer term.

    There remains an outstanding possibility that insurers could exit the exchanges as a reaction to financial losses in 2014, or due to future uncertainties. That’s not something the authors address, but I’ll try: I’m skeptical that they’d pull out after year one. Death spirals, by their  nature, require time to unfold; to borrow a quip from a friend, there’s a reason we don’t call them “death slingshots”. For the market to unravel, you need fundamentally broken risk pools, not a bad year chalked up to a bad website. Considerable time and resources have been invested in the ACA (see also: the industry bending over backward to accommodate the administration’s mercurial deadlines).

    And market power is at play here, too. The new exchanges represent a pretty substantial slice of the potential individual market consumer base; the more enrollees an insurer has, the more power it wields for negotiating prices with providers. Exiting the exchange is likely to be accompanied by a pretty substantial blow to that market power.

    There’s one last crucial variable: we don’t actually know what level of risk the insurers baked into their premiums. Obviously they couldn’t anticipate website woes on the scale that we’ve observed in the last three months, but I find it hard to believe that they’d draw up projections that assume a perfectly balanced risk pool from the start. Call me crazy, but something makes me think that actuaries are better at hedging than the blogosphere.

    Adrianna (@onceuponA)

    • Flexibility for age? Why not flexibility for cancer, or high blood pressure, or obesity, or heart disease, or all the other conditions that have much greater risk than age? Change “flexibility” to “discrimination” and I, someone nearly old, won’t mind, especially if it comes with a thank you from those young people who benefit from the discrimination with lower premiums. But that’s not my comment, just a pet peeve. I’ve commented before that if I were one of the young, healthy people, I’d buy the least expensive, high deductible bronze plan, and if I suffered a chronic illness, then I’d upgrade to a platinum plan the next open enrollment period (or sooner if an exception applied). Since an explosion in the number of people with chronic illness is the primary source of the health care spending crisis, I expect many people will be doing exactly as I suggest. If they do, then what happens to the platinum plans with all those people with chronic illness. Will the premiums become so high that it eliminates the benefit (i.e., low deductible and co-pays) of the “better” plan? Or will people with chronic illness stay with the bronze plan and pay the high deductible and co-pays year after year?

      • The law actually anticipates your concerns about people selecting into the different metal tiers based on their health status. Insurers are required to aggregate their risk pools, which means the young healthies in bronze plans are in the same pool as the chronically ill in gold/platinum plans, assuming they’re covered by the same firm. It’s probably a large part of the reason bronze premiums are where they are, considering the high deductibles associated with them (and corollary assumptions about those attracting a healthier population). There isn’t any band on how much more expensive more generous plans can be, but it might attenuate issues.

        • Thanks, Adrianna. I’ve focused on the bronze plan/platinum plan dichotomy, and what’s happening is now becoming much clearer. In particular, young and healthy people are being induced to buy expensive bronze plans by what appears to be a lower price but which is in fact a higher price taking into account the high deductibles and co-pays; indeed, my guess (and it’s only a guess) is that the cost of bronze plans as a function of projected benefits is actually higher than it is for platinum plans. Now, it’s understood that young and healthy people will be subsidizing unhealthy people of all ages by paying the same premiums for the same coverage, but inducing the young and healthy to buy expensive bronze plans to increase the subsidy without letting them know is, well, misleading. Insurers are notorious for making price comparisons all but impossible by providing ever so slight differences in plans and coverage. Here, the federal government is a willing participant in this by creating a scheme with four categories of plans whose real cost and benefits are almost impossible to compare, compounded by the Administration’s decision not to adopt federal (i.e., uniform) standards for insurance. I have commented that young and healthy people should buy a “cheap” bronze plan and then upgrade to a platinum plan if they suffer a chronic illness, Yet, that “cheap” bronze plan may not be cheap at all, not when the measure is the price relative to projected benefits. Were the different categories of plans designed to do this, or was it an unintended consequence? Does everybody else see this and I’m just slow? Don’t answer that one.

          • Among the entire population of young, healthy people buying insurance on the exchanges, wouldn’t the expected costs still be lowest to buy the Bronze plan now and upgrade next year if seriously ill?

          • “indeed, my guess (and it’s only a guess) is that the cost of bronze plans as a function of projected benefits is actually higher than it is for platinum plans.”

            Let’s do that calculation, shall we? Fortunately, the insurance companies have done the heavy lifting. The Bronze plans have an actuarial value of 60%: on average they pay 60% of health costs. The Platinum plans have an actuarial value of 90%: they pay 90% of health costs on average.

            If we randomly assigned people to health metal levels, we’d expect Bronze to be 2/3s the cost of Platinum, because it would provide 2/3s the benefit. But if you actually check premiums, you discover that Bronze is less than 2/3s the cost of Platinum everywhere I checked.

            In Cupertino, CA, for example, a 35-year-old could get a Bronze plan for around $250. If Platinum were cheaper, she would expect to pay less than $375. Nope; she’ll be shocked for around $450. And the same is true everywhere. Insurance companies are not idiots. They know that people who pick Platinum will be sicker than people who pick Bronze.

            (Note that you only have to check one age group for an area. The way premiums vary by age is statutory by state. If you know the premium for age 21, you know all the premiums.)

    • I work in the insurance industry. I have been through several carrier exits from the market. If a carrier experiences a loss because the rates were not properly calculated or they are exceeding the capacity which they anticipated writing, then the first thing they do, is petition the state board of insurance for a rate increase. If they get the increase then they cautiously remain in the market. If they don’t get the increase, then they exit the market. The calculus is that simple.

      I don’t see any carrier being granted an increase after all the flack about how high the premiums already are. I forecast that most carriers will petition for rate increases by June of 2014 and after failing that, most will submit to the various state boards by February or March of 2015, to exit the market on December 31, 2015.

      • Let’s assume that the hypothetical insurer lost money in Year 1. Well, they didn’t actually lose money, because of the risk corridors, but they would have lost money absent the risk corridors, and they very sensibly don’t want to be in a money-losing business.

        But let’s hypothesize that their crack forecasters think the mix of insureds will be better in Year 2. Some of those young invincibles are bowing to their mothers’ pressure, and dad paying their premiums, and they’re signing up now. Plus the one-year extension for non-compliant plans is over now, and all those people have to buy new plans. Or whatever. So the insurance company believes that the business is profitable going forward, with whatever rate hikes they can get.

        In that case, they wouldn’t leave the market in a snit just because they “lost” money last year. They’re not going to leave money on the table out of pique; they would only leave if they didn’t like their future prospects.

        • Insurance companies don’t have snits. They abandon markets because there is no profit in them or because there is no certainty of profit in them. I have seen this happen half a dozen times in the last five years.

          • Exactly, so why would they abandon a market if they lost money last year but don’t think they’ll lose money this year? Last year’s loss is a sunk cost.

            • A profit is never a foregone conclusion. With all the uncertainty with the risk pools and coming from HHS, no carrier can predict whether they can make a profit at whatever rates they are charging.

              I have seen carriers abandon even profitable markets because they were uncertain whether the current premium structure could sustain the profits. You have no idea how conservatively insurance companies play it.

    • What about all the places where the exchanges have little to zero competition?


    • I think there is another reason for insurers to stay on – in my mind there is a real possibility (but with low probability) of unwinding the employer based system and letting individuals have the same tax benefits that users of employer based plans enjoy. If that comes to pass, perhaps as part of a “fix-and-replace” then the individual market is going to explode. Even if that’s just a 5% event I don’t think carriers can ignore that and will therefore be invested in hanging in the individual market as long as they can.

    • Yet another reason insurers may stick around is the expectation of bail-outs if the math doesn’t quite work out. Insurers aren’t increasing their flexibility with the administration out of the goodness of their hearts. There’s a quid pro quo quietly at work here.

    • I think that most large insurers make a lot more money from Medicare Advantage than they ever made from the individual market.

      The individual market has always had great inefficiencies in terms of collecting premiums, anti-selection, and bad publicity when claims are denied.

      The ACA has relieved none of those concerns, in fact the premium collection problem might be worse.

      I think that carriers may abandon the exchanges in droves if they do not get big premium increases in 2014. The way things are going now, Obama may be almost impeached by that time. (I am not a right winger, I just think things could get a lot worse.)