Are Sick People Paying the Right Amount for Insurance?

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One of the cardinal principles of health insurance policy, and of the Affordable Care Act, is that insurers shouldn’t discriminate between people based on their health differences.

Under federal law, companies can offer employees a menu of insurance plans with different prices, but they aren’t allowed to charge different amounts to different employees based on the kinds of health problems they have.

It’s an idea that seems fair, and it’s also grounded in economics: The purpose of insurance is to spread risk, and it works best when the risks are spread over the broadest possible pool of people. That’s why the Affordable Care Act included the infamous “mandate,” which will soon require all adults to either have insurance or pay a tax penalty.

But a new study suggests that even-handedness also has costs. In a provocative paper, a trio of researchers at Stanford University argue that consumers, in general, would be better off if insurers could at least partly rate employees on their health risk.

Heartless? Darwinian? Not necessarily. The authors — M. Kate Bundorf, an associate professor of health research and policy at Stanford’s School of Medicine and (by courtesy) at Stanford Graduate School of Business; Jonathan Levin, chairman of Stanford’s economics department and also a professor (by courtesy) at Stanford GSB; and Neale Mahoney, a former graduate student at Stanford who is now assistant professor at the University of Chicago’s Booth School of Business — argue that workers with bigger health problems may not be getting as much for their money as they could.

Specifically, they found that employees with chronic health problems were likely to avoid tightly managed health maintenance organizations, or HMOs, even though the HMOs are almost always a cheaper option and may be better suited to treating complex illnesses.

The HMO Advantage

The advantage of HMOs is that they provide coordinated care. Teams of primary-care doctors and specialists create treatment plans for patients. The coordinated management reduces costs and often produces better results — especially for people with complex problems. Doctors are less likely to work at cross-purposes and more likely to provide a well-thought-out course of treatment. And because an HMO’s profits are tied to how quickly it gets people back to health, rather than to the number of services it can bill for, HMOs are usually better at weeding out waste.

Those benefits are particularly high for people with chronic illnesses such as diabetes and heart disease. Yet people with high health risks tend to bristle at HMO restrictions, such as the reduced freedom in picking a doctor, even though HMOs are usually cheaper than more flexible plans.

After analyzing insurance data for several thousand employees at 5 companies, the researchers estimated that the mismatch elevates total costs for insurers as much as 18%. That, in turn, elevates costs for employees as a whole. Each of the companies offered both a tightly managed HMO and more flexible plans, such as a “preferred-provider organization,” or PPO.

The study found that the insurer’s cost of covering people with average health was about the same for HMOs as for more flexible plans — between $218 and $238 per month. But the cost of insuring high-risk people was much lower at the tightly integrated HMOs — about $309 per month versus $507 for a looser-network HMO, and $413 at a preferred-provider organization.

Meanwhile, the researchers confirmed that people with higher health risks were more likely to favor the more flexible but more expensive plans. For example, employees with at least one high-risk family member were willing to pay an average of $28 more per month for a more flexible plan than people who didn’t have a high-risk family member.

The problem, according to Bundorf, Levin, and Mahoney, is that the uniform-price rules mean that high-risk people don’t receive accurate price signals. HMO premiums and out-of-pocket costs are lower than for the other plans, but the price differences don’t reflect their full cost advantage.

A Possible Solution?

The way to fix the problem, they argue, is to adjust prices so that the relative benefits of an HMO are bigger for high-risk people. That could mean giving them an added discount for picking the HMO, or charging them an extra premium for the alternatives.

Bundorf acknowledges that such a proposal runs against the current direction of policy, but she says it also fits in neatly to the other major preoccupation of political leaders on all sides: controlling health care costs.