Monday, October 22, 2012

Fwd: qotd: Behavioral hazard in health insurance

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Subject: qotd: Behavioral hazard in health insurance
Date: Mon, 22 Oct 2012 13:55:26 -0700
From: Don McCanne <>
To: Quote-of-the-Day <>

National Bureau of Economic Research
October 2012
Working Paper 18468
Behavioral Hazard in Health Insurance
By Katherine Baicker, Sendhil Mullainathan and Joshua Schwartzstein


This paper develops a model of health insurance that incorporates
behavioral biases. In the traditional model, people who are insured
overuse low value medical care because of moral hazard. There is ample
evidence, though, of a different inefficiency: people underuse high
value medical care because they make mistakes. Such "behavioral hazard"
changes the fundamental tradeoff between insurance and incentives. With
only moral hazard, raising copays increases the efficiency of demand by
ameliorating overuse. With the addition of behavioral hazard, raising
copays may reduce efficiency by exaggerating underuse. This means that
estimating the demand response is no longer enough for setting optimal
copays; the health response needs to be considered as well. This
provides a theoretical foundation for value-based insurance design: for
some high value treatments, for example, copays should be zero (or even
negative). Empirically, this reinterpretation of demand proves
important, since high value care is often as elastic as low value care.
For example, calibration using data from a field experiment suggests
that omitting behavioral hazard leads to welfare estimates that can be
both wrong in sign and off by an order of magnitude. Optimally designed
insurance can thus increase health care efficiency as well as provide
financial protection, suggesting the potential for market failure when
private insurers are not fully incentivized to counteract behavioral biases.


6.3 Evidence on Private Plans

These results suggest that competitive forces do not lead to efficient
equilibrium insurance contracts when insurees are naive about their
biases, but that the insurer will have an incentive to counteract biases
when this saves the insurer money. These results may shed light on why
more health insurance plans do not incorporate behavioral hazard into
their copayment structures. Recall the evidence from Table 2 (from full
paper at link below), which summarizes the features of several major
insurance plans. Co-payments are rarely a function of the health benefit
associated with the care for a particular patient.

Nevertheless, insurers could increase profits by promoting adherence to
medications and treatments that save money over a reasonably short
horizon (relative to the typical tenure of their enrollees), and the
model suggests that insurers will invest in encouraging care in such

Comment: Moral hazard in health insurance is said to occur when
patients obtain unnecessary care merely because they don't have to pay
for it. Requiring patients to pay for at least a portion of their care,
through deductibles, co-payments and coinsurance, supposedly
disincentivizes patients from obtaining such unnecessary care, but does
so at the cost of patients declining care that is quite appropriate and
should be obtained. This paper attempts to compensate for that by adding
behavioral hazard to that of moral hazard when determining when and how
much financial exposure patients should have when accessing care. If the
behavior of patients might cause them to underuse care, then cost
sharing should be adjusted downward accordingly.

That's the theory. In practice it would greatly add to the
administrative burden of private health care financing to try to
identify not only each instance when a patient might be inclined to
overuse care unnecessarily (moral hazard), but also each instance in
which a patient might avoid beneficial care because of cost barriers
(behavioral hazard), and then to modify the patient's share of each cost
entailed based on these economic hazards.

Current estimates on how much could be saved by avoiding moral hazard
are flawed anyway, primarily because they ignore the deleterious effect
of behavioral hazard. Yet private insurance products incorporate cost
sharing that does ignore behavioral hazard, except in very limited
instances such as preventive services or cost sharing for important
maintenance drugs. Once you make the adjustments in cost sharing that
would prevent most or all behavioral hazard, the savings would
dramatically diminish and might even be totally offset by the costs of
the administrative excesses.

The most effective way to prevent behavioral hazard is to remove all
financial barriers to care. The moral hazard remaining does not even
apply to the eighty percent of health care that is consumed by patients
with greater needs who have long exceeded their deductibles and stop
loss. It's simply not worth applying cost sharing measures to the
remaining twenty percent of care for those of us who are relatively
healthy, when the resulting decrease in our total national health
expenditures would be almost negligible.

Besides, who are all of these people who are demanding care that they
simply do not need? Thinking back through my decades of family practice,
no one individual comes to mind.

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