How Health Insurance Providers Make a Profit 2: Pricing
Posted by Chris Martin at 1/19/2008 9:30 PM 
Categories: Health policy, Health Insurance, Adverse Selection
Categories: Health policy, Health Insurance, Adverse Selection
Wonks Anonymous knows that the simple, quick path to profit in an inflationary environment is to raise prices. He will observe that, although this path has been open to health insurance providers at some times in the recent past, it is now largely closed.
Price increases for employer provided health insurance have met with steadily increasing resistance, even when the insurance provider underwrites high quality policies and gives superior service. The simple, sad truth is that employers, and some labor unions, often do not care about the quality of the health insurance that their employees get. Rather they want to be able to tell prospective employees that they offer health coverage in order to induce them to sign on. Given this, a low quality, inexpensive policy is better in an employer's eyes than a high quality, expensive policy.
This situation is unlikely to change as more employers become comfortable with the cheapest alternative: no health coverage at all. These employers will gain a cost advantage over their more civilized competitors putting further downward pressure on the prices that health insurance providers can charge for employer coverage. It is important to remember here that even the most humane employer will eventually bow to the pressure put on him or her by less scrupulous competitors or go out of business.
Price increases for individual insurance policies present serious problems of their own. On the one hand an individual does not have the bargaining power that an employer has. On the other hand an individual's willingness to pay for health insurance is not an unmixed blessing to the insurance provider. Healthy people aren't very concerned about medical expenses and therefore are not willing to pay very much for health insurance. Those of us who face or have faced many health challenges are very concerned about medical expenses and are therefore willing to pay more for health insurance.
A health insurance provider who raises prices in the individual market is likely to drive away inexpensive, healthy consumers and retain only those consumers who really need health care. Raising prices will drive up the insurance provider's costs and eat up any potential profit increases. Economists call this adverse selection. It is commonly used in the health policy debates and Wonks Anonymous offers it to you as the word of the day.
To conclude: Price increases are unlikely to be a serious source of profit for health insurance providers in the near future. In a few days Wonks Anonymous will consider cost control.
This analysis seems to posit a single group plan per employer. In Massachusetts a (sadly declining) popular mode of operation is to offer multiple plans of varying quality and coverage from competing sources. Executives and young employees gravitate to low premiums, high deductibles and high copayments. Older employees and parents tend to choose more comprehensive and expensive plans. In practice, the choice is way less than perfect for the quality plans because of classic oligopolistic behavior. Employers dictate copays across HMOs, and the HMOs fill in many of the blanks by following the market leader. Nevertheless, there are often significant differences.
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One always tries to keep the discussion a little simpler than it actually is. The main pressure on Health Insurance Providers from employers is to keep prices down. The main threat is that the provider will be dropped from the list of possible plans. As employers offer a choice between different quality plans we would add the adverse selection discussed in individual markets to the mix.
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