The Benefits of a Public Health Plan Alternative

By Megan McArdle

Tyler Cowen is assessing the current state of debate over a public plan option.  The central question we need to get straight is whether or not the public plan needs a subsidy.  Clearly, the government can drive out private insurance options by providing a service below cost.  But of course, this has unpopular implications.  The taxes need to subsidize such a service would be high, and the subsidy might crowd out private insurance, as employers dump their employees into the public plan.  Or at least, that's what Wal-Mart's bashers tell me inevitably happens.

Assume no public subsidy, however.  Does the public plan cost more or less than a comparable private plan?  In part, that depends on what you think the adverse selection problem will be.  To review for those who slept thorugh Health Care Economics 101, adverse selection is what happens when you have severe information asymmetries in a market.  Say the average cost of insuring the entire US population is $200 a month.  Well, if you don't use much health care, you might not want to spend the money.  On the other hand, if you consume $400 worth of health care a month, it's a fabulous deal; you'll definitely sign up.

So all the people who are sicker than average sign up, and some of the people who are healthier than average don't.  The average cost of the insurance rises to $250, and so do premiums.  Some more healthy people drop out.  The average cost of the insurance rises to $325, and so do premiums . . . rinse and repeat until all you've got is an insurance pool of very sick people.  In autos, this is familiarly known as "the lemon problem". 

Now, the adverse selection story is not as strong as you might think, but the one CBO estimate suggests that community rating (which prevents insurers from charging sick people more) adds about a 30% premium

Ezra Klein thinks that in his "strong" plan, where the government gets to use Medicare reimbursement rates, the plan can save enough money to offset the losses on sick people, and drive down the overall cost of insurance to attractively competitive rates.  I am unconvinced. 

Thirty percent is a big savings.  Where is it going to come from?  Before you blurt out "administrative costs" remember that even if it sets reimbursements on the Medicare schedule, the new plan is not going to enjoy all of Medicare's low administrative costs.  Medicare shares administrative infrastructure with Social Security for current retirees.  Once people have passed a threshhold--they are over 65, they have contributed to FICA for a certain number of quarters--Medicare doesn't spend much more time worrying about them.  Virtually everyone who is qualified joins, and once enrolled, they never leave.  Any premiums owed are deducted from their social security checks.  If they join an HMO, Medicare deals with bulk billing.

Medicare-for-all, or whatever we're calling the strong plan, is going to need a large new administrative apparatus for doing things like billing customers.  It is going to have to verify that their accounts are current.  It is going to need (oh, fun!) a collections mechanism.  To compete with a private plan it will need prescription drug coverage, which means integrating with pharmacies. If it is going to attract the low-risk patients who will keep the average cost down, it will need to advertise its prices, which implies a marketing department.  Patty Duke probably isn't going to bring them in.

But I think that in many places, at least, the state system is going to find it hard to attract low-cost patients.  It seems to me that given the existence of a state program that will not turn patients away, the optimal behavior for someone who is currently basically healthy is not to buy it.  Buy some super-cheap catastrophic plan to deal with a car accident or similar, and then enroll in the public plan if and when you get cancer or something longer term.  People try not to do this now because continuity of care affects your ability to get insurance for pre-existing conditions.  (Also, places like New York have made cat coverage effectively illegal).  But if the public plan exists, gambling actually becomes more practical.  Contra Tyler, I expect that Ezra's strong plan would actually hurt private plans as some of their healthiest, youngest patients made the rational decision to join the ranks of the uninsured.

And what about the government's infamous ability to wrestle new savings out of "providers"?  They are large, but they are not unlimited.  Medicaid patients find it very difficult to get doctors to take them, since the doctors tend to lose money on their care.  (I've heard persuasive arguments that "Medicaid mills" adept at fraud are integral to providing care to the poor--without the fraud, Medicaid doesn't reimbursements won't cover the bill.)  Medicare patients are starting to have the same problem. 

Moreover, I'm fairly hard put to see how jawboning providers is going to save huge sums over a private insurance plan.  Yes, the government is a gigantic provider.  So is Aetna, and it's pretty motivated to negotiate.  I think the government has some extra bargaining power.  But enough to knock, say, 20% off prices, compared to a private insurance plan?  Without getting any of that 20% stealthily reclaimed by doctors who run extra lab tests, etc?

Ultimately it's an empirical question though, and perhaps I'm wrong. 

This article available online at:

http://www.theatlantic.com/business/archive/2009/06/the-benefits-of-a-public-health-plan-alternative/19005/