Since Covered California, the ACA health care exchange in California, released the premium rates submitted by participating insurance companies, the debate over the future of the ACA has been heating up, a la summer 2009. The focus of that debate is the existence or non-existence of “rate shock” experienced by individuals who will get their health insurance through the exchanges. From my view, the debate seems to boil down to whether young, healthy males will have to pay so much more for the “catastrophic plan” in the exchange as compared to their catastrophic plan in pre-ACA world, that they will opt to pay the individual mandate penalty/fee/tax instead. If too many young, healthy males choose to opt out, the exchanges will collapse due to adverse selection (insurers must cover people with preexisting conditions).
I won’t dive into the minutia of that debate, especially since the inevitable conclusion seems to be “we’ll have to wait and see.” Instead, since I have catastrophe insurance on the mind, I want to consider a related question: is it smart for Bill Gates to buy health insurance? I think this thought experiment might offer some insights about the state of the health insurance market in the US today.
So, put yourself in Bill Gates’s shoes. You have approximately $67 billion in net worth and no preexisting conditions (we assume) to exclude you from the health insurance market. Forget Cadillac plans; you can afford the Bugatti plan if you want it. But is purchasing health insurance a sound financial decision? First, consider the net present value of any insurance plan. If the actuaries at your insurance company have done their work, and they are paid handsomely to do so, then the expected net present value of all the health care you will consume in your life will be less than the expected net present value of all the payments you will make to said insurance company. This must be true in the long run or the insurance company would go out of business! But if the net present value of insurance is negative, why does anyone, let alone Bill Gates, buy insurance?
The answer to this question has at least two parts (please let me know in the comments if you think of any others). First, the expected utility of insurance is different from the net present value of all future health care consumption. For the non-überrich, health insurance serves to eliminate the possibility of health-care-catastrophe-induced-bankruptcy, which would ruin a family’s finances and possibly lead to the death of a family member from lack of treatment. For most people, it makes sense to hedge against this risk by purchasing health insurance.
Second, as we learned from Steven Brill’s magisterial piece in Time magazine on the high cost of medical bills in the US, the driving force behind what prices people end up paying for hospital services is how much bargaining power they have. In rank order, from lowest to highest prices paid, it’s Medicare/Medicaid, large insurance companies, small insurance companies, and, placing last by a long shot, uninsured individuals. The reasoning behind this is simple: the more people a group has, the more leverage it has to bargain for lower prices.
This has a very important consequence for the answer to our thought experiment. The expected net present value of insurance is negative, excluding non-pecuniary considerations, but the next best alternative is even worse. If you ever end up in the hospital for anything remotely serious, you can expect to pay through the nose if you are uninsured. So the small loss from buying insurance is easily dwarfed by the cost of paying for health care out-of-pocket without a megainsurance company or the federal government bargaining prices down for you.
Along with the minor benefit of hedging idiosyncratic risk, this consideration – insurance companies pay prices you can’t get as an individual – seems to seal the deal for Bill Gates’s decision. He should buy health insurance because the expected loss of paying for insurance is less than the expected costs of paying for health care out-of-pocket. But this whole exercise just goes to show how messed up the health insurance system is in the US! The point being, Bill Gates shouldn’t want to buy health insurance. He doesn’t need the benefits of catastrophe protection and therefore should be able to save money by cutting out the middleman, i.e. the insurance company.
But the current system has so distorted incentives, inefficient health care decisions like these are commonplace. As Evan Soltas has argued in Bloomberg View, a simple start to reforming health care would be to mandate price transparency, especially at hospitals, which are the greatest abusers of price discrimination. As Lara Hoffmans so elegantly put it in a recent Forbes piece, “Is there a single thing you buy, other than health care, that you and the service provider both don’t know how much said service costs at point of delivery?”
Price transparency, however great an idea it is, would just be a start to making the health care system more efficient in the US. Other common ideas for reform include ending the tax exclusion for employer-sponsored health insurance, which causes workers to overconsume health care because it is purchased with pretax dollars, and allowing competition between health insurers across state lines. The goal of these reforms wouldn’t be to save Bill Gates a few bucks by making it easier for him to avoid paying for insurance; it would be to create a system where dumb outcomes in general don’t happen anymore.