Will Obamacare tip the health insurance industry into a “death spiral” that ends in market collapse? While there is growing debate on that question, both sides seem to agree that, to avoid such a collapse, the Obamacare exchanges must enroll a sufficient number of young (and presumably healthy) adults. So, the other week when HHS released updated exchange enrollment data, the figure drawing the most attention was 24 percent—the share of enrollees between the ages of eighteen and thirty-four.
Ezra Klein, then still with The Washington Post, promptly weighed in with “The Death of the Obamacare Death Spiral.” He began by noting that the young adult enrollment figure is “below the 38 percent that most people—including the Obama administration—estimate the law needs if it's to keep premiums as low as everyone hopes.” But he then followed that caveat with arguments for why young-adult enrollment is already sufficient to avoid a death spiral, and will likely increase in the coming months.
Yet, what Klein and others—including those who think a death spiral more likely—are missing is that market collapse is neither the only, nor the most probable, ugly destination for Obamacare. To understand why, it is helpful to start with some basics.
An insurance death spiral occurs when government imposes insurance regulations that skew a market’s normal risk mix, so that the resulting pool contains a larger share of “bad” risks. Insurers must then increase premiums to cover the costs of the additional bad risks. If the risk distribution is sufficiently skewed, a negative feedback loop can set in: the escalation in premiums becomes self-reinforcing and, over time, drives out all but the worst risks and the most deep-pocketed insurers. Eventually premiums reach levels unaffordable for even the worst risks, and any remaining insurers throw in the towel. With neither sellers nor buyers left, the market collapses.
However, when bad insurance regulations (as in Obamacare) are accompanied by government coverage subsidies (again, as in Obamacare), the “adverse selection” dynamic that drives a death spiral can still occur, but will take longer to play out, as the subsidies partially shield enrollees from the premium increases. Furthermore, if the subsidies are big enough, the spiral may never reach the point that all insurers exit the market. Rather, the market can stabilize with a few participating insurers dependent on large (and growing) public subsidies.
To illustrate, Medicaid includes lots of sick people, but there will always be a few insurers willing to cover them through Medicaid managed-care plans provided that the government subsidies are big enough. In such situations, the subsidy effects outweigh the selection effects. The fact that many healthy people who qualify for Medicaid don’t enroll makes little difference to Medicaid managed care plans. Insurers simply take it as given that the pool has a disproportionately high share of bad risks. They base their participation decisions on whether they will be adequately paid for taking on those risks, and will have sufficient flexibility to manage them, such that they can still make a profit.
Obamacare’s large subsidies mean that the program is likely to devolve into something much closer to Medicaid than to market collapse. Furthermore, the key determinant it is not just the presence of subsidies, but the design of those subsidies.
In that regard, Klein mentions another, more telling figure in the HHS data, but appears to miss its significance. According to HHS, 60 percent of enrollees chose a plan in the “silver” coverage level. Klein’s take is that, “People are opting for reasonably generous plans.” To support that interpretation, he quotes from Jonathan Cohn’s analysis at The New Republic, but he doesn’t include the sentence in which Cohn touches on the real explanation: “One reason for silver’s popularity may be that the law provides lower income people with extra assistance to handle out-of-pocket expenses, but only if they select silver policies.”
Actually, that is not one reason; it is the main reason.
While, reporting and commentary across the political spectrum has focused mostly on Obamacare’s premium subsidies, it is the cost-sharing subsidies that are a key driver of Obamacare’s unfolding dynamics—something I discuss at length in a recent paper.
Here is how it works. Obamacare requires a silver-level plan to have an actuarial value of 70 percent: the plan must pay 70 percent of the average enrollee’s total medical expenses for covered benefits, with the enrollee paying the rest through deductibles and copayments. In comparison, the actuarial value level for bronze plans is set at 60 percent, while those for gold and platinum plans are set at 80 and 90 percent, respectively.
But, the cost-sharing subsidies pay insurers to reduce the deductibles and copays for enrollees picking silver plans, based on each enrollee’s income. Obamacare stipulates that HHS is to pay insurers subsidies sufficient to cover the cost of increasing the actuarial value of a silver plan from 70 percent to 73 percent for those with incomes between 200 and 250 percent of the federal poverty level (FPL), to 87 percent (almost “platinum” level) for those with incomes between 150 and 200 percent of the FPL, and to 94 percent (higher than “platinum” level) for those with incomes between 100 and 150 percent of the FPL.
So, if you expect to have higher medical expenses and want your insurance to pay more of them, you’re better off buying a silver plan. Indeed, depending on your income, opting for a silver plan can leave you anywhere from a little to a lot better off.
From this more complete perspective, the fact that 60 percent of exchange enrollees picked a silver plan should not be taken as reassuring. Rather, it should be seen as a flashing warning light that the exchanges are headed for what looks a lot like a giant, heavily subsidized, high-risk pool.
The accompanying table, using California exchange information, shows how, for an enrollee with income between 100 and 150 percent of the FPL, the cost-sharing subsidies turn a silver plan into a zero deductible policy with nominal copays of only $3 to $5 per doctor visit.
That design looks very much like Medicaid, which also explains other observed Obamacare effects; notably, why insurers are demanding low reimbursement rates from providers for patients with exchange coverage; why insurers are limiting exchange-plan enrollees to so-called “narrow networks” of doctors and hospitals, and why one-fifth of the insurers offering exchange coverage have Medicaid managed care as their current principal (or even, exclusive) business. Indeed, the CEO of Molina, one of the larger Medicaid managed care companies, stated that, “Medicaid is essentially an individual market for low-income patients ... and Medicaid has premiums that are paid for by the state. The reason we went after the exchange is we feel there are a lot of similarities.”
Given these dynamics, the number of healthy individuals enrolling in Obamacare may somewhat alter the speed of the trip, but not the final destination. Fewer healthy individuals initially enrolling simply means that it will take less time for Obamacare to devolve into a heavily subsidized, Medicaid-like pool of low-income individuals in poor health.
The HHS report contains another telling (and confirming) data point: only 20 percent of enrollees picked a bronze plan. Bronze plans have the lowest premiums and highest deductibles, but no cost-sharing subsidies. So, it makes sense to choose a bronze plan only if one is healthy and doesn’t expect to incur significant medical expenses.
Yet, even the relatively small (20 percent) enrollment in bronze plans likely overstates the effects of enrolling healthy individuals, since the vast majority—80 percent—of those picking plans are getting a premium subsidy. That isn’t surprising, as those who earn too much to qualify for subsidies can buy plans for the same, or less, off the exchange.
When a healthy individual applies his subsidy toward buying a bronze plan that he then doesn’t use, those subsidy dollars end up defraying the cost of sicker enrollees in silver plans. That only marginally postpones the day when both the silver plan premiums, and the substantial, direct subsidies attached to them, have to increase.
In sum, Obamacare is effectively designed to create heavily subsidized, Medicaid-like coverage for those who are in poor health and have incomes between 100 and 250 percent of the FPL. The main effect of healthy people buying exchange coverage is simply to (temporarily) deliver a portion of those taxpayer subsidies by a more circuitous route.
What all this means is that Obamacare’s final destination is more a fiscal sinkhole than a market collapse. That is an ugly result, but it is a different kind of ugly result than what many currently expect or fear.
Edmund F. Haislmaier is a Senior Research Fellow in the Heritage Foundation’s Center for Health Policy Studies.
Image: Flickr/Chris Potter, StockMonkeys.com. CC BY 2.0.