The Power of Prices

Ezra Klein is pessimistic about the exchanges today:

it's not clear that they'll be particularly competitive if they're primarily serving a subsidized population.

Imagine that my family makes $45,000 a year. That puts us at about 250 percent of the poverty line. In the Senate finance bill, our premium contribution is capped at $4,349. Surveying our options, I see a plan from Aetna that costs $10,000, a plan from Kaiser that costs $9,000 and a plan from Cigna that costs $11,000. All seem pretty similar, but then, I'm not an expert in these things. Which do I choose?

You might say I should choose the Kaiser plan. But why? It's cheaper, but it's not cheaper to me. After all, my contribution is capped at $4,349. Moreover, it's generally true that things that cost more are better. It stands to reason that Cigna is giving me something for the extra $2,000. Indeed, I'm being subsidized to the tune of $7,000, as opposed to $5,000. It's clearly a better deal.

Maybe there are elements in the plan that somehow protect against this, and I've just missed them. But I don't think so. And though this dynamic isn't terribly important in a world where the exchanges are large and lots of unsubsidized customers are creating competitive pressures, they might be very significant in a world where the exchanges are limited to people who need to be subsidized, and so are facing a different cost calculus.

Interestingly, this seems like a variation of my argument about tipping points in markets when governments start to dominate them.  I was talking about this in the context of pharmaceuticals and medical devices, where I worried about ham-fisted price controls destroying much of the incentive for efficient innovation.

But both cases stem from the same problem:  bad price signals.  Prices really are pretty great, for all that we resent them when they signal variations in the demand for human labor.  When you break the price signal, you get all manner of bad outcomes.  Price signals are already pretty bad in the private insurance market, but at least they're set by negotiations between employees and employers, employers and insurers, insurers and providers . . . rather than by lobbying.

I'm not sure that Ezra's pessimism will play out the way he outlines:  for one thing, there will be a substantial number of currently uninsurable middle class people on the exchanges (though of course, this will skew things in another direction--towards the kind of coverage that people with dangerous conditions want).  For another, the prices may simply converge--in Massachussetts, most people take the cheapest "bronze" option, and I'm not sure how much room there will be for variation in providing the basic package.

Still, I think it's interesting that both Ezra and I want to preserve the price system (hell, even extend it) in substantial parts of the system.