Wednesday, November 04, 2015

Your health insurer may not want to control the cost of medical care

Two facts about the business of health insurance that must be obvious to practitioners and those who study the subject occurred to me recently.

First, if the cost of medical care goes up and the actuarial value of a health plan remains the same, consumers' out-of-pocket costs will go up.  87% of $5,000 is more than 87% of $4,000.

Second: A rise in the cost of medical care (theoretically) does not affect insurers' profit margins, since actuarial value and medical loss ratio stay the same. But the cost-hike does increase their revenue. They are, in a sense, reselling medical care to plan holders. Selling more expensive care is equivalent to selling more of it. If I sell you $120 in care and keep 20% of it, I earn more than if I sell you $100 worth and kept 20%.*

I just came across a brief about the likely effects of insurer consolidation by healthcare economist Mark Pauly that confirms the latter point. With the loss ratio fixed by law, Pauly observes, insurers can increase profits by reducing administrative costs (part of the 15% or 20% of revenue that need not go to pay for medical care). The reduced administrative capability may lead them to be less effective at quelling wasteful medical care. And given a fixed MLR, failing to do so may actually boost their profits:
An insurer in an ordinary competitive market would not want to let claims balloon because that would cut into profit dollars. But the medical loss ratio rules do not constrain premiums or profits; they only constrain the ratio of premiums to claims costs. So once the insurer gets the administrative cost ratio down as low as it can (and so maximizes the profit margin), it will actually make more profit dollars by letting claims go up. If, say, its profit margin is 10 percent of that 20 percent, total profits (and return on equity, which is the key firm objective) will be higher if claims and premiums are higher, since 10 percent of a larger number will be more than 10 percent of the current figure (my emphasis).
Hillary Clinton recently promised, while proposing some rather dubious new federal subsidies to reduce health plan holders' out-of-pocket costs, to vigorously enforce antitrust laws against insurers and medical providers. I wonder if she means it.
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* A premium is not exactly a "sale" of medical care -- it's a sale of access to care, and different plan holders use different amounts. But the premium is based on plan holders' average use and adjusted according to how much that use costs.

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