As the Supreme Court prepares to hear arguments on the constitutionality of the healthcare law’s insurance mandate, pundits from all political quarters are sharpening their teeth in anticipation of a ruling that will be contentious regardless of which way it goes. But quiet preparations are being made in another field, this one a bit less hungry for attention. Behind the scenes, insurance carriers are preparing contingency plans in case the mandate that most Americans must carry health insurance is struck down. If that were to happen, insurance companies could have a big problem.
Insurance is essentially a zero-sum risk sharing pool. It works only if both healthy and unhealthy people participate. For insurance companies, healthy people are the best customers (they have low medical expenses) and unhealthy people are the worst as they may incur medical costs in excess of the premiums they pay into the plan. Today, people who are healthy arguably have an incentive not to purchase insurance, since they know they won’t be needing it (or at least they think they know). Insurance companies offset this loss of healthy customers by trying to avoid picking up too many sick people. They employ a number of techniques to do this, but one of the most effective is to overtly deny people who are already sick. In insurance parlance, these people have what is called a “pre-existing condition.”
Denying insurance to people with pre-existing conditions is the Yin to the optional nature of insurance’s Yang—the two go hand-in-hand. At the same time, it is an ugly practice, striking those who are most in need of care at their weakest and most desperate moments. President Obama’s healthcare reform bill would eliminate this practice, and thus imposes a cost on insurance companies. The bill attempts to offset this cost by requiring all Americans (with some exceptions) to purchase insurance. Thus, the bill would pull both the most and least healthy consumers into the healthcare insurance market, presumably offsetting each other.
The whole thing falls apart if the Supreme Court strikes the insurance mandate but leaves in place the prohibition on denying coverage for pre-existing conditions, forcing insurance companies to take in customers who know they are about to face big healthcare expenses.
So insurance companies are planning their next moves. This week the Wall Street Journal reports that the preferred remedy for insurers would be to persuade legislators to get rid of the pre-existing condition prohibition, and to allow insurance companies to charge different rates based on a customer’s age (age is strongly correlated with healthcare costs, which rise as people get older). But is that going to happen in an election year? Fat chance! Imagine the headlines: “Republicans Vote To Allow Insurance Companies to Reject Cancer Patients,” or, “Democrats Vote for Increased Insurance Premiums for the Elderly.”
So what would insurance companies realistically do if the coverage mandate were rejected? That is where it gets hairy. Their profit incentive suggests they will look for other ways to keep unhealthy customers off of their rolls. But with the most direct route to achieving this goal cut off, they would have to look for a less visible approach. Ideas under discussion include finding ways to penalize individuals who wait to purchase insurance, and rewarding those who buy insurance early. Another idea is a blanket ban on reimbursement for certain conditions if they develop right after a customer signs up. Another possibility is that they will more aggressively pursue strategies that have worked in the past, like offering preferential terms to companies in industries that tend to draw younger employees (an example is companies in the technology industry).
Regardless of the approach, rest assured, the insurance companies will find a way to protect their bottom lines. The solutions suggested above all involve imposing some sort of inefficiency on consumers, whether they come in the form of disproportionately high premiums for older people who are healthy, or denial of coverage for people who legitimately develop certain conditions shortly after signing up for insurance.
Insurance works best and is most efficient when the greatest possible number of people participate. When we start slicing and dicing the population segments that are allowed to participate, we undertake a highly imprecise exercise that imposes costs on everyone else. For the sake of the efficiency of the system as a whole, I hope the Supreme Court will not force this outcome.