HEDG Working Paper 06/02
Solidarity in competitive markets for
supplementary health insurance: an
empirical analysis
Francesco Paolucci
Femmeke Prinsze
Pieter JA Stam
Wynand PMM van de Ven
March 2006
ISSN 1751-1976
york.ac.uk/res/herc/hedgwp
Solidarity in competitive markets for supplementary health insurance: an
empirical analysis
2
Summary
Many cou ntries are consid ering the option of red u cing the share of m and atory health
insu rance (MH I) and to increasingly rely on volu ntary (su p p lem entary) health insu rance
(VH I) schem es to cover health care exp end itu res. It is w ell-know n that com p etitive
m arkets for VH I tend to risk-rated p rem iu m s. After d iscu ssing the d eterm inants of riskrating in com petitive VH I m arkets, w e provid e em pirical evid ence of the potential
reduction of (risk-) solidarity caused by the transfer of benefits from MHI to VHI coverage.
For this p u rp ose, w e sim u late several scenarios in w hich benefits covered by MH I are
transferred to com p etitive m arkets for VH I. We u se a d ataset issu ed by the largest insu rer
in the N etherland s, in ord er to calcu late the p otential p rem iu m range for VH I resu lting
from this transfer.
Ou r find ings show that, by ad d ing risk-factors, the m inim u m VH I p rem iu m d ecreases
w hile the m axim u m increases. Moreover, w e observe that risk-rating p rim arily affects the
m axim u m p rem iu m . The red u ction of solid arity is esp ecially su bstantial for benefits su ch
as medical devices and drugs.
Finally w e d iscu ss som e op tions to m aintain a socially accep table level of solid arity in
VHI markets.
Keywords: solidarity, competition, risk-rating, supplementary health insurance,
risk-adjustment.
3
Introduction
The total am ou nt of health care expend itu res is grow ing w orld w id e w hile pu blic
resou rces of financing appear to be increasingly scarce. In m ost OECD (Organisation for
Econom ic Co-operation and Developm ent) cou ntries, policy-m akers consid er volu ntary
(su pplem entary) health insu rance (VH I) as one of the prim ary instru m ents to lim it
statu tory financing of health care [1]. The m ain m otivation to finance health care throu gh
m and atory schem es is to provid e a w id e range of benefits to m ost ind ivid u als at an
afford able price (solid arity) and to avoid free rid ing. In ord er to achieve these goals,
governm ents u su ally im plem ent som e cross-su bsid isation either im plicitly (e.g. throu gh
community-rating) and / or explicitly (e.g. throu gh risk-ad ju sted prem ium subsid ies
and / or taxation) com p lem ented by an op en enrolm ent requ irem ent. For instance,
cou ntries w ith a N H S (N ational H ealth Service) system finance health care m ainly via
taxation and open access to health care facilities to all nationals [2]. Cou ntries w ith a
com petitive m arket for m and atory health insu rance (MH I) ad opt a risk-equalisation
scheme with premium rate restrictions (e.g. community-rating) and open enrolment [3].
In m ost volu ntary (su pplem entary) health insu rance (VH I) m arkets these institu tional and
regulatory arrangements, adopted by governments with the aim of guaranteeing solidarity
in MH I m arkets, are form ally absent. In the long ru n, the absence of these legal constraints
m ay ind u ce insu rers to risk-rate prem iu m s in ord er to attract the better risks and thereby
increase their com petitiveness and profits in VH I m arkets. Policy m akers, w hen
transferring benefits from MH I to VH I, shou ld be aw are of the long-ru n im p lications for
solidarity.
In this paper, we address the following questions:
o Why and to what extent do insurers risk-rate premiums in VHI markets?
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o What is the potential red u ction of solid arity cau sed by transferring benefits from
MHI to VHI coverage?
o H ow can the solidarity principle be com patible w ith the equivalence principle w ithin a
competitive VHI market where insurers risk-rate in practice?
In ord er to answ er these qu estions, w e provid e an em pirical illu stration of the
consequ ences for solid arity of the transition from com m unity-rated to risk-rated
prem iu m s in VH I m arkets. We hypothesise that this transition w ou ld natu rally occu r in
competitive VHI markets, given the (potential) profitability of risk-rating.
This article is organised as follow s. First w e d iscu ss the equ ivalence principle and the
rationale for risk-rating in com p etitive VH I m arkets. Then the m ethod ology and the d ata
u sed in the econom etric analysis are briefly d escribed . In particu lar, w e simulate several
scenarios in w hich benefits covered by MH I (com m u nity-rating) are transferred to VH I
(risk-rating). And w e calcu late the potential prem iu m range resu lting from this transfer in
ord er to qu antify the potential red u ction of solid arity prod u ced by the transition from
community-rated to risk-rated prem iu m s. Finally, w e d iscu ss the conclu sions and the
policy im plications focu sing on the available alternatives to m aintain a
socially
accep table level of solid arity, if d esired , in VH I m arkets.
The equivalence principle
The equ ivalence p rincip le refers to the fact that, w ithou t external interventions, a
com petitive health insu rance m arket m ay tend to risk-adjusted p rem iu m s. In a
competitive health insurance market, a system of implicit cross-subsidies (e.g. community5
rated prem iu m s), w here insu rers w ou ld accep t p red ictable losses on the contracts of highrisk ind ivid u als and com pensate these losses w ith p red ictable p rofits m ad e on the
contracts of low-risk individuals, cannot be financially sustainable in the long run, because
com petition m inim ises the pred ictable profits per contract. Consequ ently, insu rers have to
break even on each contract and therefore ap p ly the equ ivalence p rincip le either by
ad ju sting the p rem iu m to the consu m er s risk (prem iu m d ifferentiation or risk-rating) or
by ad ju sting the accepted risks to the prem iu m s (risk selection). With risk selection w e
m ean actions by insu rers to exploit u n-priced risk heterogeneity and break p ooling
arrangem ents [4]. Risk selection techniqu es refer to selective u nd erw riting, benefits
package design, selective advertising, denial of coverage, exclusion of pre-existing medical
cond itions, w aiting p eriod s, term ination of contract, etc. While for au tom obile, bu rglary
and fire insu rance these consequ ences ap p ear to be
socially accep table , for health
insurance this may not be the case [5].
For instance, consid er the case of u nregu lated com p etitive health insu rance m arkets
d om inated by insu rers that com m u nity-rate their p rem iu m s (e.g. the N etherland s). In this
context, those insu rers that introd u ce risk-rating (w ith easily available risk-factors su ch as
age and gend er) w ou ld im m ed iately gain a com p etitive ad vantage vis à vis insu rers that
ad opt com m u nity-rated prem ium s. The com p etitive ad vantage of risk-rating insu rers
consists in their increased (decreased) attractiveness for low-risks (high-risks). In fact, lowrisks w ou ld crow d the cheaper risk-rating insu rers. As a resu lt, in the absence of
com pensation schem es for high-risk ind ivid u als com m u nity-rating insu rers w ou ld be
forced either to follow risk-rating insurers or to exit the market.
In this p ap er, w e m ainly focu s on risk-rating and , in p articu lar, on its d eterm inants and
consequences for solidarity.
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The determinants of the level of risk-rating
In this section w e d iscu ss a conceptu al fram ew ork in ord er to d iscern the d eterm inants of
the insu rers incentives for risk-rating in com petitive VH I m arkets. Insu rers choice
regard ing w hether and to w hat extent to ad op t risk-rated p rem iu m s in these m arkets is
influ enced by several factors, w hich m ay be d istingu ished in tw o m ain categories: 1)
exogenou s factors, that cannot be influ enced by insu rers actions su ch as the level of
com petition, the consu m ers w illingness to sw itch and the regu latory fram ew ork; and 2)
end ogenou s factors, that can (to som e extent) be affected by insu rers behaviou r su ch as
transaction costs and the predictive power of risk-adjusters in VHI markets.
Level of competition
The d egree of com petition and contestability in VH I m arkets is a cru cial elem ent in ord er
to assess w hether there are incentives for risk-rating. The m ost com m on ind icators u sed to
m easu re the d egree of com petition and contestability in the m arketplace are priceelasticities, market shares of the (potential) insurersa , and consu m ers sw itching rates.
In general, highly com petitive and contestable m arkets increase the incentives for insu rers
to risk-rate prem iu m s. If insu rers (partially or com pletely) bear the financial risk, the
greater the d egree of com petition in the m arket the m ore risky it is for insu rers to su rvive
without risk-rating premiums. In fact, insurers choosing not to compete on premiums may
loose consistent m arket shares to insu rers w ho actu ally risk-rate, and thereby w orsen the
average risk-profile of the ind ivid u als in their p ool. This m ay lead to excessive and
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u nsu stainable expected costs m ainly d u e to the low -risk ind ivid u als crow d ing-ou t effect
of no risk-rating, and thereby it m ay force insu rers to exit the m arket. In case the d egree of
com petition and contestability are low , insu rers m ay prefer not to risk-rate (nor to invest
in efficiency) in the short-term , becau se it w ou ld cau se fu rther p rice-competition in the
m arket either by other incu m bent insu rers or by new entrants. N evertheless, in the
m ed iu m / long term incentives to u nd ercu t (rise) the p rem iu m s of low -risks (high-risks)
ind ivid u als m ay increase, given the p otential p rofits (losses) insu rers m ay m ake by
attracting them.
Consumers willingness to switch
Whether risk-rating is effective for increasing insu rers m arkets share and / or p rofits
d epend s also from the consu m ers w illingness to sw itch. In fact, by offering low er
prem iu m s insu rers w ou ld gain m arket share if and only if consu m ers are su fficiently
sensitive to the price variation (price-sensitivity) and w illing to sw itch. Willingness to
sw itch m ay d epend on several factors other then p rice su ch as habit, convenience etc.,
w hich also have to be taken into accou nt w hen consid ering the p otential increase in the
percentage of low -risk ind ivid u als in the insu rers p ortfolios d u e to a p rem iu m d ecrease.
Som e em pirical stu d ies [6,7] ind icate substantial variation in price sensitivity related to
expected health care costs. For instance you nger, healthier ind ivid u als are betw een tw o
and fou r tim es m ore price-sensitive than ind ivid u als w ho are old er and w ho have been
recently hospitalized or d iagnosed w ith cancer. Moreover, prem iu m elasticities are
significantly higher for new enrolees (e.g. p robably you nger), su ggesting that habit
reduces price sensitivity.
8
Regulatory framework
Many cou ntries ad op t p rem iu m rate restrictions su ch as com m u nity-rating, a ban on
certain rating factors, or rate-band ing (by class), w ith the scope of red u cing the ad verse
effects of risk-rating [8]. In this paper, w e focu s on a p articu lar form of rate restrictions
that is com m u nity-rating per insu rer, since it is the m ost com m only u sed . Com m u nityrating per insu rer im p lies that an insu rer qu otes the sam e p rem iu m for everyone in its
pool, ind ep end ent of the ind ivid u al's risk characteristics. The rate restrictions are assum ed
to ap p ly to sp ecific health insu rance coverage and are often com bined w ith an op en
enrolment requirement.
Desp ite the legal obligation to insu rers of ad op ting com m u nity-rated p rem iu m s w ithin
their p ool, risk-rating am ong insu rers m ay still occu r ind irectly. To the extent that som e
insu rers are su ccessful in attracting the low -risk persons, these selection activities (e.g.
prod u ct d ifferentiation) resu lt in m arket segm entation, su ch that high-risk individuals pay
a very high prem iu m - if they are able and w illing to d o so. That is, m arket segm entation
lead s to p rem iu m d ifferentiation am ong insu rers (not w ithin the sam e insu rer). An
exam ple of m arket segm entation, cau sed by legally m and atory op en enrolm ent and
community-rating per insu rer, is Sou th Africa s p rivate health insu rance m arket. Given
that age p rofiles d iffer consid erably am ong insu rers, the m axim u m age-related per capita
expected costs per insu rer are fou r tim es the m inim u m [9]. In su m , p rem iu m rate
restrictions (and open enrolm ent) create incentives for selection, w hich m ay threaten
solidarity.
Transaction costs
9
In a com p etitive m arket for VH I transaction costsb m ay inhibit risk-bearing insu rers from
d ifferentiating their p rem iu m s at an ind ivid u al s exp ected costs [4]. Transaction costs refer
for exam p le to the overall ad m inistrative and m arketing exp enses incu rred by VH I
providers, or they may simply refer to the costs involved in the risk-rating process, such as
the elaboration, d istribu tion, collection and processing of health qu estionnaires.
Qu estionnaires are u sefu l tools for gaining specific and d etailed inform ation on
ind ivid u als health statu s, w hich is an accu rate pred ictor of ind ivid u als exp ected costs
[10]. The w id espread u tilisation of health qu estionnaires and the fact that su bstantial
prem iu m d ifferentiation can be observed in practice su ggest that in m ost u nregu lated
com petitive VH I m arkets the level of transaction costs d oes not preclu d e insu rers from
d ifferentiating prem iu m s. In a com petitive ind ivid u al VH I m arket, w here insu rers u se
sophisticated prem ium m od els, in the long ru n the m axim um prem ium for com plete
health insu rance coverage m ay exceed the m inim u m p rem iu m for the sam e p rod u ct by
m ore than a factor 100 [11]. The lim ited level of risk-rating in som e com p etitive VH I
m arkets m ay be then attribu ted to the absence of a su fficient d egree of p rice com p etition
am ong risk-bearing insu rers at the level of the ind ivid u al consu m er. The increasing
w illingness in several cou ntries (e.g. the N etherland s) to apply prem iu m rate restrictions,
even in the form of self-regu lation, su p p orts the id ea that if com p eting risk-bearing
insu rers are free to set their p rem iu m s for ind ivid u al health insu rance, the p rem iu m for
high-risks will be so high as to jeopardise their access to health insurance coverage.
Predictive power of risk-adjusters
10
Insu rers d ecision concerning w hether to im p lem ent risk-rated p rem iu m s in VH I m arkets
d epend s consid erably on the availability of risk-ad ju sters that effectively represent good
p red ictors of fu tu re ind ivid u als health care exp end itu res.
An essential pre-condition to risk-rating is that the relevant information about ind ivid u als
risk-p rofiles is rou tinely available at reasonable costs. The requ ired d ata necessary to
constru ct risk-ad ju sters u su ally com es from health qu estionnaires.c A second im p ortant
elem ent, that insu rers consid er w hen d ecid ing w hether or not u sing a certain risk-factor
for risk-rating the VH I p rem iu m , is related to its stability. Insu rers m ay tend to give
priority to the u se of risk-factors that are stable in tim e. Using very volatile risk-adjusters
m ay cau se d ram atic and u nstable d ifferences in the prem iu m stru ctu re, w hich m ay be
very d ifficu lt for consu m ers to accept. d For instance, the u se of 1-year DCGs (Diagnostic
Cost Grou ps) as a risk-factor resu lt in a prem iu m variation reflecting the inform ation
relative to hospitalisations occu rred exclu sively in the previou s year. Therefore, the
prem iu m relative to period t w ou ld increase d ram atically in case of hospitalisation in
period t-1. Whereas, at t+1 the prem iu m w ou ld d ecrease to the t-1 level assu m ing that no
hospitalisation occu rred in period t. The u se of 3-year or 5-year DCGs m itigates the
volatility of this health statu s ind icator by increasing the p red ictability of the riskad ju stm ent m od els [12]. N evertheless, the u se of this ad ju ster m ay be very costly since it
may require frequent repetitions of the risk-classification process. All in all, the use of riskadjusters that reflect chronic conditions (such as PCGs, Pharmaceuticals Cost Groups) may
c The pred ictive pow er of risk-ad justers is consid ered as an end ogenou s d eterm inant of the level of riskrating, since health qu estionnaires are d esigned by the insu rers (und er certain regu latory constraints su ch as
privacy law ). Consequ ently, insu rers may influ ence, at least to a certain extent, the qu ality of the qu estions
proposed and thereby the quality, in terms of predictive power, of the resulting risk-adjusters.
d In u nregu lated com petitive insu rance m arkets the u se of health statu s ind icators as risk-ad justers by
insu rers is very likely to happen in the long ru n. N onetheless, large and sud d en flu ctu ations in the
premiums may be difficult to accept for enrollees if these variations are due to a change in health status.
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be preferable for insu rers given that their effect on the p rem iu m variation is in p rincip le
less volatile, at least in the short-term.
Another im portant d im ension that insu rers consid er is the profitability of (fu rther) riskrating. In ord er to establish w hether or not a risk-ad ju ster prod u ces financial gains,
rational insu rers consid er tw o elem ents: 1) the sp ecific risk-ad ju ster s contribu tion to the
variation in the p rem iu m range; 2) the variation in the p ercentages of ind ivid u als
(frequency) in each risk-grou p prod u ced by the introd u ction of new risk-ad ju sters. The
m ore su bstantial is the risk-ad juster s contribu tion to the variation of the prem iu m range
and to the variation in the percentage of ind ivid u als id entified in each risk cell, the greater
w ou ld be the effect of risk-rating on insu rers p otential p rofits. Frequ ent and large
variations in the prem iu m s and in the cells com p osition m ay also cau se p roblem s in term s
of insu rers rep u tation vis à vis consu m ers, com p etitors and governm ents. Therefore,
insu rers have to w eigh the profitability of risk-ad ju sters w ith the retu rns/ losses in term s
of rep u tation. Particu larly for cou ntries w ith a m and atory health insu rance (MH I) m arket
w here a w id e variety of benefits are p rovid ed by sickness fu nd s or m u tu alités, solid arity
in term s of afford ability and accessibility of insu rance coverage is a very sensitive issue.
Moreover, not-for profit entities operating in the MH I m arket are often linked to VH I
provid ers, w hich increases the (potential) spillover effects in term s of repu tation. MHI
provid ers linked to a VH I provid er m ay d eteriorate their repu tation vis à vis the
governm ent, consu m ers and other insu rers, w hich m ay lead to im p ortant losses both in
term s of volu m es and finances. On the other hand , MH I/ VH I provid ers m ay exploit riskrating in VHI markets also as a tool for risk-selection in the MHI market (with communityrated prem iu m s) [13]. Whether the losses in term s of rep u tation for MH I p rovid ers d u e to
risk-rating by linked VHI entities outweigh the profits produced by both risk-rating (in the
12
VH I m arket) and by ind u ced risk-selection (in the MH I m arket) is cru cial to p red ict
insu rers behavior. In the short term , in cou ntries w here the size of total VH I exp end itu res
(com p ared to MH I) and the variation in ind ivid u al exp end itu res for VH I benefits are
limited it may be advantageous for insurers not to risk-rate premiums. For instance, Dutch
health insu rers com m itted w ith the governm ent to provid e VH I policies at com m u nityrated prem iu m s and w ith an op en enrolm ent requ irem ent for the first 6 m onths of 2004.
This m ay convince the regu lator to (fu rther) transfer benefits from MH I to VH I, given the
u nchanged p rem iu m regim e. Policy m akers, w hen transferring benefits from MH I to VH I,
shou ld be aw are of the long-ru n im plications for solid arity becau se u nregu lated
competitive VHI markets tend to risk-rated premiums.
Method and data
Consistently w ith the observable trend that sees the p ercentage of benefits covered
throu gh volu ntary su p p lem entary health insu rance (VH I) increasing at the exp ense of
m and atory health insu rance (MH I),e w e d evelop a scenario analysis in w hich w e sim u late
that certain benefits, covered by MH I, are transferred to VH I coverage. Since in MH I
m arkets p rem iu m s are com m u nity-rated by legislation, the transfer of benefits to an
unregulated competitive VHI market may lead insurers to risk-rate premiums.
In ou r sim u lations, w e calcu late the com m u nity-rated p rem iu m (average p rem iu m ), and
the m axim u m and the m inim u m exp ected p rem iu m E(Y) that insu rers w ou ld obtain by
ad ju sting the benefits costs to d ifferent risk factors (Xs) su ch as age, gend er, DCGs and
e
Since Janu ary 2004, MH I in the N etherland s d oes not cover the costs of physiotherap ists and d entists for
ad u lts; of the first in-vitro fertilisation treatm ents (IVF); of the contraceptive pill for w om en old er than 21
years; and of taxi transp ort of sick people to the d octor. Psychotherapy w ill be lim ited to 30 treatm ents and
the insured will be charged 1.70 euros for every prescription [18].
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PCGs. The obtained p rem iu m range, that is the absolu te d ifference betw een the m axim u m
and the m inim u m risk-based prem iu m s calcu lated for each of the benefits (p ackages), is
confronted w ith the com m u nity-rated p rem iu m . This allow s u s to qu antify the p otential
reduction of solidarity due to risk-rating.
In ord er to calcu late the exp ected risk-rated p rem iu m s, w e ap p ly OLS estim ations to
health care expenditures (Y) relative to different benefits [14]:
E(Y)=
X+ .
1. Y1 = the total health care expend itu res of the 2002 VH I benefits p ackage ;
2. Y2 = the total expenditures (=VHI+MHI expenditures) for dental care;
3. Y3 = the total expenditures (=VHI+MHI expenditures) for paramedic care;
4. Y4 = the total expenditures (=VHI+MHI expenditures) for medical devices;
5. Y5 = the total expenditures (=VHI+MHI expenditures) for pharmaceuticals;
6. Y6 = the total exp end itu res for the com p lete VH I benefits p ackage
(=Y2+Y3+Y4+Y5).
We consid ered these benefits since in several cou ntries p olicy-m akers have alread y
exclu d ed (som e of) them from the basic p ackage covered by m and atory health insu rance.
This is p articu larly the case for d ental and p aram ed ic care and m ed ical d evices, w hereas
pharm aceuticals are (still) covered by MH I in m ost cou ntries. Since prescription d ru gs are
covered by Med igap (the Med icare su p p lem ental insu rance) in the US [15], w e d ecid ed to
inclu d e them in the analysis to show the potential im plication for risk-solid arity in the
Dutch case.
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To all d epend ent variables w e apply a sim p le d em ograp hic m od el (Mod el 1) characterised
by 16 age*gend er d u m m ies (ind epend ent variables), a d em ograp hic m od el p lu s a d u m m y
for DCGs (Mod el 2), a d em ographic m od el plu s a d u m m y for PCGs (Mod el 3) and a
d em ograp hic m od el p lu s tw o d u m m ies for DCGs and PCGs (Mod el 4).f We consid er
d ifferent risk-ad ju stm ent m od els w ith the p u rp ose of evalu ating w hether the grad u al
introduction of risk-adjusters affects the premium range, and thereby solidarity.
For this analysis, w e u se a d ataset issu ed by the largest Sickness Fu nd in the N etherlands
(AGIS) concerning a total of abou t 1.5 m illion Du tch insu red . We concentrate ou r analysis
on a su b-sam p le of abou t 0.5 m illion ind ivid u als hold ing id entical coverage for both MH I
and VH I. Table 1 presents the d epend ent and ind ep end ent variables along w ith m eans
and standard deviations used in our regressions.
(Table 1 about here)
Results
The potential reduction of solidarity in competitive VHI markets
This section presents the estim ations resu lts p rovid ing an ind ication of the p otential
reduction of solid arity d u e to risk-rating in VH I m arkets. In general, w e fou nd that for all
benefits (packages) the im plem entation of a sim p le d em ographic risk-rating m od el has
an im portant im pact on the prem iu m range. The potential red u ction of solid arity is
f
N otice that PCG/ DCG are yes/ no variables so it is a very sim ple m od el. Potentially w e cou ld u se m ore
com p licated m od els, w hich take into accou nt in w hich PCG/ DCG category ind ivid u als belong to. The
resulting PR could be much higher.
15
particu larly su bstantial for the com p lete VH I benefits p ackage , w here the m axim u m
(m inim u m ) risk-rated prem iu m is 1276 (146) eu ros and the com m u nity-rated prem ium is
only 538 eu ros. That is the highest risk-grou p pays 700 eu ros extra per year. The benefits
that prim arily contribu te to this resu lt are pharm aceu ticals and m ed ical d evices (see Table
2.). If insu rers grad u ally ad d risk-ad ju sters in the calcu lation of VH I p rem iu m s, the
p rem iu m range increases for all benefits (p ackages),g and thereby the p otential red u ction
of solid arity d u e to fu rther risk-rating becom es m ore seriou s. Particularly for the
com plete VH I benefits package , w here the m axim um (m inim um ) prem ium s for the riskrating Mod els 2-3-4 are respectively 2581 (138), 2302 (132) and 3239 (127) eu ros, the
im plem entation of ad d itional risk-factors su bstantially increases the potential red u ction of
solid arity. For instance, in case insu rers risk-rate u sing the d em ograp hic p lu s the DCGs
and PCGs d u m m ies (that is the m od el w ith all available risk-factors), the highest risks p ay
2701 eu ros per year m ore than u nd er com m u nity-rating, w hile the low est risks save 411
euros. Again, the benefits that p rim arily contribu te to these resu lts are m ed ical d evices
and pharmaceuticals (see Table 2.).
Consid ering only m ed ical d evices, the p rem iu m range of the d em ograp hic + DCGs m od el
(16; 608 eu ros) d ou bles the prem iu m range resu lting from the d em ographic m od el (17; 299
eu ros). Also the prem iu m range resu lting from the d em ograp hic +PCGs m od el (12; 483)
increases in com parison to that of the less sop histicated d em ograp hic m od el bu t the effect
of DCGs appears to be greater. In case insu rers risk-rate by u sing the com p lete set of riskfactors (Mod el 4), the p rem iu m range fu rther w id ens (12; 723), that is the highest risk-
g
For all benefits (packages), the m ore insu rers risk-rate the higher (low er) is the m axim u m (m inim u m )
prem iu m paid by the highest (low est) risk-grou ps. Moreover, the increase in the m axim u m prem ium
produced by the use of additional risk-adjusters is much larger than the decrease in the minimum premium.
16
grou ps w ou ld have to pay abou t 640 (64) eu ros m ore (less) than in case of com m u nityrating (76 euros).
The estim ation resu lts regard ing pharm aceu ticals su ggest that the consequ ences of riskrating in term s of a potential red u ction of risk-solid arity are even m ore seriou s. The
p rem iu m range for the d em ograp hic + DCGs (51; 1690) and the d em ograp hic + PCGs (40;
1560) m od els d ou ble that of the d em ograp hic m od el (57; 813). The u se of the com p lete set
of risk-adjusters produces a further growth in the premium range (38; 2175), which means,
in terms of the potential reduction of solidarity, that the highest-risk groups would have to
pay 1900 euros more than in case of community-rating. The implications for risk-solidarity
have to be carefu lly taken into accou nt w hen transferring d ru gs from MH I to VH I. For
instance, the (potential) high premium range due to risk-rating may be a reason for Society
to consid er w hich d ru gs, if any, to transfer to VH I coverage and w hether som e form of
coinsurance may be preferable (which is actually already the case in many countries).
Will insurers risk-rate in practice?
In com petitive and u nregu lated VH I m arkets, w here consu m ers are sensitive to p rice
variations and transaction costs are relatively low , insu rers choice regard ing w hether and
to w hat extent risk-rate prem iu m s d ep end s on the p red ictive p ow er of the risk-adjusters.
In particu lar, rational insu rers d ecid e w hether or not (fu rther) risk-rate p rem iu m s on the
basis of the p otential financial gains p rod u ced by the introd u ction of d ifferent (new ) riskfactors. Ceteris paribus, the profitability of (further) risk-rating d epend s on the specific riskad ju sters contribu tion to the variation in the prem iu m range and on the percentage of
ind ivid u als (frequ ency) in each risk-group p rod u ced by the introd u ction of (new ) riskad ju sters. The m ore su bstantial the risk-ad ju sters contribu tion is to the variation of the
17
prem iu m range and to the variation in the percentage of ind ivid u als id entified in each
risk cell, the greater the insu rers p rop ensity to risk-rate VH I p rem iu m s is in p ractice. For
instance, the rather small effect of different risk-adjustment models on the variations in the
p rem iu m s range relative to the 2002 VH I benefits p ackage , m ainly d u e to the lim ited
benefits covered , su ggests per se a sm all insu rers p rop ensity for risk-rating. This is also
reflected by the w id espread u se of com m u nity-rated p rem iu m s in cou ntries u nregu lated
com p etitive VH I m arkets w here VH I coverage is lim ited to few (lu xu ry) benefits (e.g. the
N etherlands) [16].
In this section, w e focu s on the com p lete VH I benefits p ackage since it show s the largest
prem iu m range variations for the fou r risk-ad ju stm ent m od els sim u lated . For this
particu lar benefits package w e present the variations in the p ercentages of ind ivid u als in
each risk cell produced by the introduction of (additional) risk-adjusters. The purpose is to
d iscern w hether and to w hat extent insu rers w ou ld risk-rate in a com p etitive u nregu lated
VH I m arket, characterised by price-sensitive consu m ers and by low transaction costs (e.g.
risk-adjusters are available routinely at reasonable costs).
As show n Table 3, insu rers risk-rating p rem iu m s accord ing to a sim p le d em ographic
m od el m ay gain a su bstantial com petitive ad vantage tow ard s insu rers ad opting
community-rated prem iu m s (538 eu ros). In fact, the p ercentage of low -risk consu m ers
attracted by the low er risk-rated p rem iu m s is arou nd 55%,h w hereas consu m ers w ith
higher than average risk profiles (abou t 45%) m ay p refer the low er com m u nity-rated
p rem iu m s. In the long ru n, the (p otentially) su bstantial crow d ing-ou t effect of low -risks
from com m u nity-rating insu rers to risk-rating insu rers m ay seriou sly end anger the
h
This represents the percentage of ind ivid u als that w ou ld pay less than 538 eu ros (com m u nity-rated
prem iu m ) if they sw itched to insu rers ad opting a d em ographic m od el to risk-rate prem iu m s. In particu lar,
m ore than the 15% (25%) of enrolees w ou ld have a su bstantial red u ction of 338 (238) eu ros in their prem iu m
contribution.
18
financial su stainability of com m u nity-rating insu rers. The high proportion of high-risks
d u e to the d epartu re ( arrival ) of low -risks (new high-risks) p reclu d es the im p licit crosssu bsid isation realised by com m u nity-rating prem iu m s (equ ivalence princip le). Therefore,
community-rating insu rers m ay be forced sooner or later to risk-rate p rem iu m s in ord er
to su rvive in the m arket. All in all, the su bstantial variations in the prem iu m range and in
the percentage of (new ) low -risk ind ivid u als attracted by the low er p rem iu m s increase the
insu rers incentives to shift from com m u nity-rating to risk-rating VH I p rem iu m s accord ing
to age and gend er d u m m ies. Risk factors su ch as age and gend er are easily available at
reasonably low costs and u su ally forbid d ing the collection or the u se of this type of
inform ation by insu rers is practically
d ifficu lt and potentially very onerou s for the
regu lator. Therefore, risk-rating prem iu m s by m eans of age and gend er d u m m ies ap pear
to be quite feasible.
Insu rers m ay d ecid e to fu rther risk-rate p rem iu m s in ord er to attract new m em bers by
ad d ing to the d em ographical m od el risk-ad ju sters su ch as DCGs and / or PCGs (m od els 2,
3, 4). From Table 3, w e observe that by ad d ing the DCGs d u m m y the percentage of (new )
low-risk ind ivid u als (55%) d oes not vary from that of the d em ographic m od el. That is,
insu rers d o not gain any com petitive ad vantage tow ard s insu rers that risk-rate ad opting
only age and gend er d u m m ies. Whereas, the introd u ction of either the d em ograp hic p lu s
PCGs m od el or the d em ographic plu s DCGs and PCGs m akes insu rers p rem iu m s m ore
attractive for an extra 5-10% low -risk consu m ers. Whether the relatively m arginal increase
in the percentage of new (low -risk) p otential costu m ers is consid ered su fficient for
adopting Models 3 and/or 4 depends in practice on the importance that insurers ascribe to
factors such as the availability and the stability of the risk-adjusters and reputation.
19
Conclusions
A m ajor p roblem of com petitive m arkets for VH I, althou gh they m ay stim u late insu rers to
be m ore efficient and m ore responsive to consum er preferences, is the
incom patibility
seeming
betw een the solid arity and equ ivalence p rinciples. The solid arity
principle im plies that the high-risk ind ivid u als receive a su bsid y from the low -risk
ind ivid u als to increase their access to health insu rance coverage. In this paper w e restrict
the concep t of solid arity to so-called risk-solid arity , that is solid arity betw een low - and
high-risk ind ivid u als. Solid arity betw een high- and low -incom e ind ivid u als, so-called
incom e solid arity , is not consid ered here. Conceptu ally
incom e-solid arity
can be
easily incorporated in a system w ith risk-solid arity . The equ ivalence principle refers to
the fact that, w ithou t external interventions, a com p etitive (volu ntary) health insu rance
market tends to risk-adjusted premiums.
A transfer of benefits from MH I to VH I and the transition from com m u nity-rated to riskrated p rem iu m s inherent to com petitive VH I m arkets im p ly a p otential red u ction of risksolid arity (in term s of access to insu rance coverage), as show n by the variation of the
premium range for the d ifferent benefits (p ackages). For som e of the transferred benefits
(i.e. d ru gs) and -or for certain risk/ incom e-grou ps, the (potential) red u ction of solid arity
m ay be consid ered too large and thereby not socially accep table .
From a theoretical perspective, the p referred strategy to restore (som e) solid arity in
com petitive (volu ntary) health m arkets is to introd u ce a system of risk-equalisation. Many
cou ntries have introd u ced a risk-equ alisation schem e w ithin the MH I m arket com bined
w ith com munity-rated prem ium s and an open enrollm ent requ irem ent for solid arity
pu rposes. A system of risk-equ alisation corresp ond s to a schem e of exp licit cross20
subsidies, su ch that the high-risks receive a risk-ad ju sted p rem iu m su bsid y from a
solid arity fu nd , w hich is filled w ith (m and atory) solid arity contribu tions from the low risks. For the d eterm ination of the su bsid y, several relevant risk grou p s are d iscerned . The
su bsid y for each risk grou p is based on the average exp enses of all insu rers w ithin the
relevant risk grou p, is earm arked for the p u rchase of health insu rance w ith a sp ecified
benefits package and is not transferable. H igh-risk persons pay their risk-adjusted
prem iu m partly w ith the su bsid y and partly ou t of p ocket. In the extrem e case w here the
risk-ad ju sted su bsid ies and the m and atory solid arity contribu tions are fu lly ad ju sted for
all the risk factors that insu rers u se in p ractice ( perfect-risk-ad ju stm ent system ), the
premium minus subsidy plus solidarity contribution is likely to be the same for all persons
insu red w ith the sam e insu rer. If the solid arity fu nd u ses few er or d ifferent risk-factors
( im perfect risk-ad ju stm ent system ), then the high-risk consu m ers are not com p ensated
for the higher prem ium as far as these risk factors are concerned . That is, an im p erfect
risk-ad ju stm ent system m ay red u ce the variations in the consu m ers (actu al) prem iu m
contribu tion, bu t it m ay not su ceed in achieving m axim u m risk-solidarity. In p ractice the
transaction costs involved in gathering the inform ation abou t the risk-factors ad opted by
all insu rers in the m arket m ay be u nsu stainable for the regu lator, since there m ay be great
d iversity in the risk-ad ju sters used by com p eting insu rers in VH I m arkets. Therefore, a
system of risk-ad ju sted p rem iu m su bsid ies (risk-equ alisation schem e) that aim s at
achieving m axim u m risk-solid arity m ay be u nsu stainable from both an organisational and
a financial perspective in competitive unregulated VHI markets.
Depend ing on w hether the level of risk-solid arity achieved by an
im perfect risk-
ad ju stm ent system is not consid ered as socially accep table , in term s of the allow able
prem iu m variation, the regu lator m ay ad opt com plem entary or alternative m easu res [17].
21
In this paper, we mainly refer to premium-compensation schemes which are subsidies that
m ay be related to each enrolee s p rem iu m contribu tion, incom e or, in case they are
ad op ted in com bination w ith a risk-equ alisation schem e, to the prem ium m inu s riskad ju sted su bsid y . Prem iu m -com pensation schem es are effective in achieving risk- and
income-solidarity to w hatever extent Society w ants. In general, p rem iu m -compensation
schem es red u ce the com petitive ad vantage of the m ost efficient insu rers and thereby
overall p rice-com p etition. This m ay lead to p rem iu m inflation. Moreover, p rem iu m related su bsid ies d im inish the consu m ers incentives to shop arou nd for the low est
p rem iu m and thereby insu rers incentive for efficiency. They w ou ld also stim u late
consu m ers to bu y m ore com plete insu rance, resu lting in m ore m oral hazard , than they
w ou ld have d one in case of no (prem iu m -related ) subsid y at the m argin. In su m ,
premium-com p ensation schem es are effective in gu aranteeing risk- and income-solidarity
bu t only at the expense of som e efficiency, therefore Society has to w eigh the solidaritygains with the efficiency-losses caused by its adoption.
Policy Implications
Risk-equ alisation schem es represent the best regu latory tool to red u ce the variation in
each consu m er s prem iu m contribu tion w ithou t red u cing insu rers
incentives for
efficiency. Given the im perfectness of the available risk-ad ju stm ent system , the extent of
prem iu m d ifferentiation and , thereby, the (potential) red u ction of solid arity for som e
benefits (packages) may still be considered too large by Society. In that case, policy-makers
m ay either not transfer the benefits from MH I (com m u nity-rated p rem iu m s) to VH I (riskrated prem iu m s) m arkets or introd u ce p rem iu m -com p ensation schem es. Althou gh they
22
red u ce the insu rers incentives for efficiency, they are effective com plem entary or
alternative tools to risk-compensation schemes in (further) reducing the range of risk-rated
p rem iu m s. Governm ents, w hen transferring benefits from MH I (com m u nity-rated
prem iu m s) to VH I (risk-rated prem iu m s), have to carefu lly d ecid e for w hich benefits
(packages) and to w hat extent (in term s of allow able prem ium variation) solid arity is
desired.
23
NOTES:
a If available, the preferable ind icator of firm s m arket pow er are the relevant price-elasticities, since they
d irectly provid e inform ation abou t the shifts in the (incu m bent or new entrant) firm s m arket shares d u e to
price variations. Market shares as su ch are m ore cru d e proxies of firm s m arket p ow er (often ad op ted by
Antitru st Au thorities as ind irect ind icators, w hen d ata on price-elasticities lacks). They can be m easu red at
the level of the ind ivid u al firm s on the relevant m arket in ord er to establish the m arket d om inance of each
firm . Alternatively, concentration ratio s (CR8, CR4 and the H irschm an-H erfind ahl ind ex) report the
aggregated m arket share of the largest firm s in the m arket. If m arket shares are not d ecisive, the com petitive
ad vantage of the d om inant firm shou ld be taken into accou nt inclu d ing entry barriers. Entry barriers are
particularly important to determine the degree of contestability of the market.
b
Transaction costs are consid ered an end ogenou s d eterm inant of the level of risk-rating since insu rers m ay
take actions to reduce them, for instance by improving the efficiency of the transaction. This depends also on
the constraints imposed by the regulatory regime.
c
The pred ictive pow er of risk-ad justers is consid ered as an end ogenou s d eterm inant of the level of riskrating, since health qu estionnaires are d esigned by the insu rers (und er certain regu latory constraints su ch as
privacy law ). Consequ ently, insu rers may influ ence, at least to a certain extent, the qu ality of the qu estions
proposed and thereby the quality, in terms of predictive power, of the resulting risk-adjusters.
d In u nregu lated com petitive insu rance m arkets the u se of health statu s ind icators as risk-ad ju sters by
insu rers is very likely to happen in the long ru n. N onetheless, large and sud d en flu ctu ations in the
premiums may be difficult to accept for enrollees if these variations are due to a change in health status.
e
Since Janu ary 2004, MH I in the N etherland s d oes not cover the costs of physiotherap ists and d entists for
ad u lts; of the first in-vitro fertilisation treatm ents (IVF); of the contraceptive pill for w om en old er than 21
years; and of taxi transp ort of sick people to the d octor. Psychotherapy w ill be lim ited to 30 treatm ents and
the insured will be charged 1.70 euros for every prescription [18].
f N otice that PCG/ DCG are yes/ no variables so it is a very sim ple m od el. Potentially w e cou ld u se m ore
com p licated m od els, w hich take into accou nt in w hich PCG/ DCG category ind ivid u als belong to. The
resulting PR could be much higher.
g
For all benefits (packages), the m ore insu rers risk-rate the higher (low er) is the m axim u m (m inim um)
prem iu m paid by the highest (low est) risk-grou ps. Moreover, the increase in the m axim u m prem ium
produced by the use of additional risk-adjusters is much larger than the decrease in the minimum premium.
h
This represents the percentage of ind ivid u als that w ou ld p ay less than 538 eu ros (com m u nity-rated
prem iu m ) if they sw itched to insu rers ad opting a d em ographic m od el to risk-rate prem iu m s. In particu lar,
m ore than the 15% (25%) of enrolees w ou ld have a su bstantial red u ction of 338 (238) eu ros in their p remium
contribution.
24
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the Sou th African Risk Equ alization Fu nd Task Group. The International Review
Panel
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https://www.medscheme.co.za/medschemeCMS/MedeNews/Documents/Repor
t_of_the_International_Review_Panel.pdf [16 February 2004]; 19-25.
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subsidies in the Netherlands. Health Affairs 2004; 23(6): 45-55.
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549-561.
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FT, Laske-Ald ershof T, d e
Bru ijn
D. Effecten
van
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26
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27
188
468
972
1073
1248
81
77
306
284
532
Dental
Medical devices
Pharmaceuticals
Other care
VHI BP b
545366
226
69
Paramedic
0.5
0.3
0.5
56
8.5
2
Female (%)
In a PCG group year 2001 (%)
In a DCG group year 2001 (%)
The 2002 VH I Benefits Package (2002 VH I BP) com p rises only VH I costs relative to the benefits p ackage of year 2002, w hich inclu d ed d ental care (36% of the total d ental care exp end itu res),
b
In the com p lete VH I Benefits Package (VH I BP) w e inclu d ed the total exp end itu res (MH I+VH I) of d ental care, p aramedic care, medical devices and pharmaceuticals.
60-90 days) (100%). We did not consider home, alternative and cross-boarder care in our estimations given that they are relatively unused on average.
28
p aram ed ic care (10%), m ed ical d evices need ed for d isability (5%), hom e care for p regnant and eld erly p eop le (10%), alternative care (100%), and cross-boarder care obtained for tem p orary stay (m ax
a
* All the cost variables reported in this table represent the sum of MHI and VHI health care expenditures per VHI benefit or benefits package in year 2002.
Number of individuals
23
40
Age (years)
Indipendent variables
248
Standard Deviation
74
Mean
2002 VHI BP a
Cost in year 2002 (in )*
Variables
Table 1. Descriptive Statistics.
Min RRP= 29
Max RRP= 206
Max RRP= 138
Max RRP= 154
Max RRP= 130
Min RRP= 6
Min RRP= 31
Min RRP= 6
Max RRP= 173
Max RRP= 135
Max RRP= 143
Max RRP= 125
Min RRP= 33
Min RRP= 35
Min RRP= 6
Min RRP= 6
CRP=83
Dental Care
CRP=75*
* Units are in euros per year.
Demographic +
DCGs & PCGs
model
Demographic +
PCGs model
Demographic +
DCGs model
Demographic
model
Risk-factors
2002 VHI BP
Max RRP= 247
Min RRP= 13
Max RRP= 185
Min RRP= 17
Max RRP= 201
Min RRP= 18
Max RRP= 176
Min RRP= 18
CRP=70
Paramedic Care
Benefits
Max RRP= 723
Min RRP= 12
Max RRP= 483
Min RRP= 12
Max RRP= 608
Min RRP= 16
Max RRP= 299
Min RRP= 17
CRP=76
Medical devices
Table 2. Community-rated premiums (CRP) vs Risk-rated premiums (RRP).
Max RRP= 2175
Min RRP= 38
Max RRP= 1560
Min RRP= 40
Max RRP= 1690
Min RRP= 51
Max RRP= 813
Min RRP= 57
CRP=309
Pharmaceuticals
Max RRP= 3239
Min RRP= 127
Max RRP= 2302
Min RRP= 132
Max RRP=2581
Min RRP= 138
Max RRP= 1276
Min RRP= 146
CRP=538
Complete VHI BP
29
0-100
100-200
200-300
300-400
400-500
500-600
600-700
700-800
800-900
900-1000
1000-1100
1100-1200
1200-1300
1300-1400
1400-1500
1500-1600
1600-1700
1700-1800
1800-1900
1900-2000
2000-2100
2100-2200
2200-2300
2300-2400
2400-2500
2500-2600
2600-2700
2700-2800
2800-2900
2900-3000
3000-3100
3100-3200
3200-3300
>3300
Risk-rated
Premiums
0
0
0
0
0
0
0
0
0
0.3%
0
0
0.4%
0
0
0.4%
0
0
0
0
0
0.3%
0
0
0.3%
0
0
0.2%
0
1%
0.2%
0
0
0
0
0
0
9%
0.7%
7%
4%
0
4%
0
0
0
0
0.2%
5%
10%
0
4%
7%
0
8%
5%
5%
10%
10%
10%
4%
26%
26%
8%
0
17%
0
Model 2
(Demographic/DCGs)
17%
Model 1
(Demographic)
0
0
0
0
0
0
0
0
0
0
3%
0
2%
2%
2%
0.4%
0.6%
0.6%
0.4%
0
0
0
0
0
6%
0
2%
14%
4%
11%
9%
26%
17%
0
Model 3
(Demographic/PCGs)
Table 3. Percentages of individuals (Frequency) in each risk group for the 4 risk-adjustment Models.
0
1%
0
0.4%
0.3%
0.1%
0.3%
0.1%
0
0
0
0
2%
0
2%
2%
0.9%
1%
0.6%
0.6%
0.3%
0.1%
0.2%
0.1%
0
6%
0
7%
12%
11%
9%
21%
22%
0
Model 4
(Demographic/DCGs/PCGs)
30
31
32
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