Donald Barr begins his discussion of health insurance by saying that health care doesn’t fit very well into the traditional model of how insurance is supposed to work:
Insurance is based on the concept of the random hazard: houses will burn down somewhat at random, people will get into car accidents somewhat at random. It is possible to separate people into risk categories, but within a risk category, hazards are assumed to occur somewhat randomly. One can predict the average rate at which hazards will occur within a certain risk group, estimate the aggregate cost of these hazards, add on a certain percentage for profit and administrative costs, and divide the total by the number of people to be insured. This gives the insurance premium to be charged.
A medical treatment is not a random event, but a human decision made by doctors and patients. The treatment that will occur within a particular doctor-patient relationship is very hard to predict. Also, the very fact that an insurer is paying the cost may lead the patient to seek or accept more treatment, with little regard for expense. Health insurance can actually add to the cost of the health care system, unless insurers can place limits on utilization. On the other hand, such limits have to be carefully designed to discourage unnecessary care without denying patients treatments they really need. The quality of care is a prime consideration, but judgments of quality reflect underlying values, such as the value Americans place on high-tech treatments. Barr says, “Unless the institutions and belief systems inherent in our society change regarding what constitutes high-quality care, any success managed care achieves in holding down the cost of care is at risk of being seen as a decrease in the quality of care.”
Three trends have transformed the role of private health insurance in the American health care system. The first is the expansion of health insurance coverage provided by employers since the 1940s. Wartime wage and price controls kept unions from bargaining for higher wages, but not from bargaining for health insurance. In 1954, the federal government exempted fringe benefits from taxation, making them more valuable to workers than equivalent wages.
The second trend is the managed care revolution encouraged by the Health Maintenance Organization Act of 1973. Based on the success of a few forerunners like Kaiser Permanente, this law subsidized the formation of HMOs and required employers offering health insurance to provide an HMO option. “Over a period of thirty years, the United States shifted from a health care system organized almost exclusively on a fee-for-service basis to one organized around HMOs and other forms of capitated, managed care delivery.” Capitation refers to a payment system in which doctors are paid according to the number of patients they contract with the HMO to serve, instead of according to the specific services they provide. The original HMO was a nonprofit entity, but soon insurance companies developed competing models, especially the “preferred provider organization” (PPO), which does pay providers for specific services, but at a discounted rate.
The third trend is the increasing role of for-profit insurers since the 1980s. With the encouragement of the free-market-oriented Reagan administration, Congress deregulated HMOs, eliminating the requirement that they operate on a nonprofit basis, and also ended federal funding for new HMOs. Those changes, along with the spread of alternative plans like PPOs, shifted health insurance to a primarily for-profit system. Insurers use the term “medical loss ratio” (MLR) to refer to the percentage of each premium dollar that actually goes toward medical care. (It’s a loss in the sense that the money is lost to profit.) Not surprisingly, the need to make a profit reduced that percentage:
Historically, the MLR of nonprofit HMOs such as Kaiser Permanente has been in the range of 95 percent. The MLR for the Medicaid program is also typically about 95 percent, and for Medicare about 98 percent. Nearly all of the money in these traditional programs goes to pay for care. In the world of for-profit managed care, MLRs typically range from 70 to 85 percent.
In general, less was spent on patients in managed care than on patients in traditional fee-for-service arrangements. As a result, the transition to managed care initially flattened the cost curve: health care costs as a percentage of GDP rose less than they had been rising before. However, once most of the patient population had made that transition, costs started rising again at about the previous rate. In the 1990s, managed care organizations initiated a number of utilization-control mechanisms, such as requiring doctors to obtain permission from a utilization review department before ordering an expensive test or hospitalization. Media accounts of denials of care seriously undermined support for managed care and generated a popular backlash. Many HMOs then relaxed their controls somewhat, and costs continued to rise.
In theory, the profit motive should encourage insurers to compete on price and quality, resulting in good coverage at an affordable price. In practice, many consumers find either that they have little choice among plans where they work or live, or that all the plans are too expensive for them. The people who can’t afford insurance are primarily young adults working in low-wage jobs, often working for small employers who don’t offer a company plan, or at least not one these employees can afford. They need private insurance because they aren’t old enough to qualify for Medicare or poor enough to qualify for Medicaid. Not only has the for-profit health insurance system failed to make insurance affordable for millions of Americans; it may also have had some negative effects on quality. Barr cites research using the Healthcare Effectiveness Data and Information Set. HEDIS doesn’t measure health outcomes such as death rates, but it does measure how well health plans follow recommended treatment guidelines.
In 1999, Himmelstein et al. published a major study that compared average HEDIS scores for 248 for-profit and 81 nonprofit HMOs. Combined, these 329 HMOs represented 56 percent of the total HMO enrollment in the country. Using data from 1996, they compared the plans on fourteen quality-of-care measures included in HEDIS. They found statistically significant differences in thirteen of the fourteen measures; in each case, for-profit HMOs scored lower than nonprofit HMOs.
The Patient Protection and Affordable Care Act of 2010 relies on a combination of public and private insurance to increase access to health care. It extends Medicaid coverage to those with incomes below 133% of the federal poverty level (FPL). (After Barr’s book went to press, the Supreme Court ruled that states are free not to participate in this Medicaid expansion.) Those with incomes above 133% of the FPL without coverage through their employment must obtain health insurance or pay a tax penalty (the “individual mandate”). Those with incomes between 133% and 400% of FPL will receive a tax credit to help them purchase private insurance. Employers with over 50 employees must provide health insurance or pay a penalty for each worker who obtains it elsewhere. To provide that “elsewhere,” the law requires each state to have a “health benefit exchange” (HBE) through which the uninsured can shop for coverage. Each exchange will offer at least two different insurance options, one of which must be offered by a nonprofit. The act also requires that for-profit insurers either spend at least 80% of premiums on health care (85% if they serve the large employer market), or rebate to their participants the shortfall in what they do spend.
Although the Affordable Care Act should reduce the cost of insurance for many consumers, it is not expected to reduce the total cost of health care to the country. In fact, the federal Center for Medicare and Medicaid Services projects that total costs will rise a little faster with the new law, since more people will have access to treatment. Again, that points to the challenges involved in increasing access, maintaining quality, and controlling costs all at once.