What’s Greater Insurance Choice Worth?

The vast majority of employers only offer one health insurance choice. If/when insurance exchanges become available, individuals will have easy access to more insurance plans. Of course the employer-sponsored insurance tax subsidy will keep many employer plans more attractive than exchange based plans* for individuals who do not qualify for premium credits toward purchase of exchange plans. Still, it is worth asking, what is the social cost of the relatively lower degree of choice among employer plans?

That’s the question posed and answered in a recent NBER paper by Dafny, Ho, and Varela. The authors exploit a proprietary dataset on employer offers and employee enrollment between 1998 and 2006 for over 800 large employers with over 10 million employees, collectively. They imagine a world in which employees receive a voucher equal to their employer’s current contribution toward health insurance and then use the voucher to purchase any plan in an exchange-like setting. Their statistical model of consumer choice permits the calculation of the net gain in consumer surplus resulting from increased choice (the extra amount consumers would be willing to pay for the additional choice).

We find choice is worth quite a bit for most individuals: in our most conservative hypothetical scenario the median employee would enjoy a surplus gain of roughly 20% of combined employer and employee premium contributions. In year 2000 dollars, this gain is approximately $2,025 for a family of four. Combining these figures with data on employer subsidies, we find the median employee would be willing to forego 27 percent of her employer subsidy simply for the right to use what remains toward a plan of her choosing. (© 2010 by Leemore Dafny, Katherine Ho, and Mauricio Varela.)

There are plenty of reasons to support exchanges and a transition away from employer based insurance. In addition to the other distortions of the labor market due to an employer based system (job lock, for one), Dafny, Ho, and Varela point to a substantial loss of economic welfare.

Their paper provides one other tremendous service: a more complete literature review on insurer loading fees (LF, which relates to premium as premium = (1+LF)*medical costs) than any I’ve seen (pages 28-31). They cite literature that reports loading fees that range from 7% for large insurers to 30% for the non-group market and an overall average of 12.8%. They write that the Lewin Group has predicted a loading fee of 10.7% for an exchange for which all workers are eligible to participate. Note that these loading fees (LFs) can be converted to loss ratios (LRs) via LR = 1/(1+LF). The implied range of loss ratios is consistent with what I wrote in an earlier post (phew!).

* Small businesses will be permitted to offer exchange based plans as their employer plan. So workers in such firms will be able to enroll in exchange plans and receive the tax subsidy.

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