What happens when health insurers compete?

The following originally appeared on The Upshot (copyright 2014, The New York Times Company).

As a candidate in 2008, President Obama promised that health reform would reduce family premiums by up to $2,500, equivalent today to about a 15 percent reduction from the 2013 level. Though Mr. Obama might have been including the effects of premium subsidies in his calculation, a key premise of the Affordable Care Act is that competition among health insurers will drive premiums downward. So it’s worth asking: How much savings can additional competition produce?

The most direct answer to this question comes from analysis by Leemore Dafny and Christopher Ody of Northwestern University and Jonathan Gruber of M.I.T. They estimated the effect of greater competition on premiums for the second-cheapest silver-rated plans in the 34 exchanges that rely on at least some operational assistance from the federal government, known as “federally facilitated” exchanges. Their findings were based on a statistical model that predicts the effect of competition in the marketplace on premiums, controlling for other factors that could affect premiums like the demographics, income and hospital price levels in each market.

Many insurers did not participate in many of these exchanges in 2014. UnitedHealthcare, the nation’s largest insurer with 84 million policies in force in 2010, did not participate in any exchanges. Had it done so, Ms. Dafny and colleagues estimated that premiums would have been 5.4 percent lower. Had all insurers in each state’s 2011 individual market participated in that state’s exchange in 2014, premiums would have been 11 percent lower, saving $1.7 billion in federal premium subsidies.

(While the study looked only at the specific type of plan whose premiums are used to calculate federal subsidies — the second-cheapest silver-rated plan — Ms. Dafny said that premiums for other types of plans were typically highly correlated.)

But it’s not likely that all states would benefit by the same amount. A lot depends on the existing level of competition, which varies considerably. The exchanges in West Virginia and New Hampshire, for example, each have only one insurer this year, while the one in New York has 17.

Studies show that market entrances by insurers have a greater effect when there are few in a market, compared with when there are already many. (A more precise measure of competition takes into consideration enrollments into plans offered by insurers, not just number of insurers: A four-insurer market in which one has 90 percent of all enrollment is less competitive than a four-insurer market in which enrollment is split evenly.)

Of course, other things influence premiums and their growth, like costs associated with hospitalphysician or pharmaceutical markets. Rigorous research controls for such confounding factors when assessing the effects of competition.

Steve Pizer of Northeastern University, Roger Feldman of the University of Minnesota and I exploited a rapid government revision of payment rates to private plans participating in Medicare Advantage markets in 2001. This revision allowed us to observe plan designs under two sets of payment rates offered close in time, and before confounding cost factors could have changed. From this natural experiment, we found that greater competition lowers premiums and raises benefits.

Researchers from the Congressional Budget Office and Vanderbilt University recently examined the effects of competition on premiums in the 34 regional markets of Medicare’s prescription drug program, known as Part D. In 2010, an average Part D region was served by 18 insurers.

The researchers found that if one additional insurer had entered the market, premiums would have fallen by 0.4 percent. The savings are modest because there are diminishing returns to competition: Adding one insurer to a market with 18 has a much smaller effect than adding one to a market in which only a few insurers participate.

Other work by Ms. Dafny also demonstrates diminishing returns to competition. She examined data from a sample of large employers from 1998-2005. In years in which employers earned higher operating profits, they paid higher premiums, but only in markets with 10 or fewer insurers. She found the largest effects in markets with fewer than five insurers; the more insurers in the market, the lower the premium increases.

Similarly, recent analysis by the Urban Institute found higher premiums in less competitive markets.

The good news is that markets will be more competitive in many exchanges in 2015, as more insurers offer plans. UnitedHealthcare has announced it will enter as many as 24 markets, for example.

The University of Pennsylvania health economist Robert Town, co-author of a comprehensive review of competition in health care markets, thinks that insurers are being drawn to exchanges by favorable market conditions: “The increase is being driven, I believe, by insurers seeing that the volume of enrollment on the exchanges is meeting/exceeding predictions.”

How might we make exchanges with low levels of competition even more attractive to potential participants? Ms. Dafny thought that some changes in how exchanges operate could help. She suggested favorable placement of new insurers’ plans “in search results, on-site ads, or automatic enrollment of certain individuals.” Another possibility is allowing some organizations “to offer insurance on a trial basis before having to satisfy all of the standards imposed by state departments of insurance.”

For a given individual, gains from competition could be offset by other effects on net premiums, like subsidy level or age. So even if President Obama’s promised $2,500 savings actually materialize for some people, they won’t for others. By one interpretation, it was ambitious for the president to have ever made that promise. Premiums almost always go up year to year. However, if competition can be enhanced, particularly where it is weakest, premiums could come down considerably in the future, relative to what they would otherwise be in more concentrated markets.

The premise that consumers can save money in more competitive health insurance markets is reasonable. The challenge is to lure enough competitors to reap the benefits.


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