“In many markets we think choice is a good thing,” says Starc. “People have different preferences and may want different things. If I give you three options instead of two, then worst case scenario, if the third option doesn’t work for you, just don’t take it, right?”
But the health insurance market may not follow that rule of thumb because in this sector, unlike, say, groceries or electronics, “the cost depends on who’s buying the product,” says Starc. While insurers can no longer refuse to serve people with existing medical conditions or charge them higher premiums, factors such as age and where they live can affect the price consumers pay.
Starc and some colleagues wondered, given the nature of the health insurance market, what set of plans insurers would offer. Can they increase profits by offering both generous and highly discounted programs? And, if so, what about the consumer? But these questions were difficult to answer because no one had previously studied the relationship between insurance plan design, insurer pricing, and the impact on consumers.
So Starc did just that inside recent survey with strategy professor Kellogg Jeroen Swinkelstogether with partners Hector Chadin the State of Arizona, and Victoria Marone, at UT Austin. They created a model that showed that insurers with the ability to set prices strategically would offer more insurance plan choices to consumers to increase their profits, at the expense of consumers.
“Our work shows that insurers can act strategically to extract more money from consumers using the opt-in mechanism,” says Starc.
A choice model
The researchers built a model of what might happen if a monopoly insurer (the only one in a given market) had pricing power and could decide how many and what kinds of plans to offer consumers. Their model quickly revealed a key driver: insurers with the ability to strategically price products are incentivized to offer consumers a variety of plans to learn more about them.
Why is this happening;
By offering more plan options, insurers can use what they learn about consumers to better optimize rates. For example, let’s say you’re offered a design of gold, silver, and bronze, and you choose gold. Now the insurance company knows something about you. “You may be very ill. You may be really worried about the small possibility of major medical expenses. Or you might know that when you have generous insurance and no out-of-pocket costs, you’re going to consume a bunch more care,” says Starc. “The insurance company wants to use this information to maximize profits.” This means that sometimes limiting what the insurance company can do can help consumers.
Effects on consumers
One negative consequence of insurers having complete control over plans and prices is that it can lead to more people going without insurance.
“In a world where the government offers a basic minimum level of insurance as a default, our model shows that a monopoly insurer might end up not selling plans to about 40 percent of consumers,” says Starc. “This is not because they would deny insurance to sick people [as was the case with preexisting conditions in the past], but because they would set the prices so high that a large chunk of people just wouldn’t buy it.” And because the insurer is able to make higher profits from consumers buying plans, it will end up ahead even by losing other customers.
Unfortunately, the findings here apply far beyond monopoly situations. “The basic mechanism that we saw probably extends to any setting where the insurer has some ability to set pricing,” says Starc. “This includes an ACA-style arrangement where there may be a few insurers competing.”
A call to the government
So what can be done to protect consumers from this apparent tyranny of insurance choice?
“First,” says Starc, “we can try to make sure the insurance market is more competitive. There have been many antitrust cases involving market power insurance, motivated by the need to limit that power.”
Government intervention is another option, says Starc. “The government intervenes in insurance in part to ensure that patients have options beyond the very expensive options,” he says. “But we show another reason they should be involved: the ability of insurers to set prices higher than cost in a way that could lead to underinsurance.”
Policymakers should be “quite creative” and carefully draft regulations, “taking into account the strategic incentives that insurers have. It could take the form of taxes, subsidies, mandates and other measures,” he says.
Ultimately, the research highlights a critical area of health care that requires continued oversight and intervention, for public benefit. “Unfortunately,” says Starc, “what maximizes insurers’ profits can harm consumers.”
