Arnold Kling

Health Insurance Puzzle

Health Care and Real Wages... A Dagger in the Heart of Ameri...

In my latest essay, I write,

Ask an economist what is the best type of health insurance, and he or she is likely to respond "catastrophic coverage."

...In practice, we observe very little catastrophic coverage. Instead, the most widespread form of health care coverage is what I would call insulation, because consumers are insulated from having to pay for health care goods and services, even if they are not for major, expensive illnesses

In the essay, I express dissatisfaction with the economic explanations for the prevalence of insulation rather than insurance. Instead, I suggest,

I believe that people tend to "disown" their ailments. It is not that we deny that we need care (although denial is something that happens as well). It is that we deny that we should need care...


UPDATE: John S. Ford writes,


Read the whole thing.

For Discussion. How could one test the "disownership" hypothesis?

Comments and Sharing

COMMENTS (36 to date)
Randy writes:


I've had the same thought, but I think it has much wider application than healthcare.

To imagine first that there is such a thing as a "need". And then to imagine that this need is brought about by some type of injustice. And that therefore someone must be responsible for the injustice. It is the brain doing what the brain is designed to do - "reason" a way to get what it wants.

Boonton writes:

Suppose people are using health insurance as a method for savings? They are, in effect, 'prepaying' their medical care so when they go to the doctor they only have to pay a trivial co-payment. The advantage to this is that you can cash in your savings before you have accumulated it. For example, if you need a $5000 procedure two months after you enrolled it doesn't matter that you only have paid $300 in. if you had a catastrophic policy, though, it does matter if your deductible is $1000 or more.

Another thought is that HMO's are dismissed too easily by economists. HMO's, in theory, aid the patient by countering the doctor's financial interest in pumping up the bill. If they work properly, they can leverage a lot of data mining and expert knowledge on behalf of the patient/consumer.

Jody writes:

I think it's a function of employers only offering insulation coverage benefits. In the past, I've offered to take the equivalent additional compensation and get my own catastrophic, but it's always been no deal.

So the insulation coverage ends up being the better deal because a portion of my income is already committed to the insulation coverage and cannot be applied to catastrophic coverage.

I suspect a lot of other people are in the same boat.

John Thacker writes:

Zimran Ahmed argues that it's related to the behavioral economics experiment that people have a very low willingness to pay for a vaccine that prevents a certain (say 1%) chance of getting sick, but demand a very high price to be exposed to a disease in a medical trial with a similar chance of getting sick from it.

The key being that people view their natural state as perfectly healthy, and all illnesses as unpredictable catastrophic accidents.

Jon writes:

One factor regarding "insulation" coverage that likely needs more investigation, is the role played by corporate tax codes. Would employers be more likely to offer opt-outs and/or catastrophic coverage were the tax code be changed to eliminate "insulation" coverage writeoffs?

The real travesty in the Krugman article, is his abuse of statistics in attempting to "prove" his pint about the quality of health care in the US. Are GDP expenses measured equally across all countries and do they include the same factors? Ditto for spending. Also, would other countries spend *more* if they could? What about the "starting" points for health in general? Would a change to a government run program increase or *decrease* our overall health standard?

Etc etc etc.

To imply causation for even limited correlation is downright dishonest.

Here's essentially what Krugman is doing with these stats. It is factually true that more people are killed driving white cars. However, one cannot - or at least should not imply that white cars are more dangerous using this limited piece of information.

Lawrance George Lux writes:

Personal practice is the best indication: I have not been to a Doctor in 7 years, and I still feel pretty good. I, of course, still pay a bundle for medical insurance because Others do not think as I do. I smoke, I drink, and I consume too much Pop, not to mention the Coffee; yet, I think I will survive a great number of my contemporaries. This is a classic case of denial. lgl

Randy writes:

It occurs to me that the problem with health care is that the potential cost has no upper limit.

Imagine heart replacement surgery, or some other $250K procedure, which may very well be readily available within a few years. Who gets it and who doesn't? Imagine that we do create a system in which people get true "insurance" instead of "insulation". The same people who are calling for universal health care now, will then be asking for universal catastrophic coverage. Further, to take care of the poor, the range of that coverage will have to be from somewhere around $0 up to several hundred thousand dollars. Five hundred dollars doesn't sound like much unless you're trying to support a family on fifteen hundred a month.

Bottom line, the only solution that is ultimately affordable is to decide that some people don't get to have some types of care. We need Machiavelli, but everyone wants to be Mother Teresa.

Bob writes:

I like Dr. K's line that the VA system is a model of efficiency, which logic would suggest means high quality care at low cost. Reality is somewhat different. Everyone knows that there's no free lunch, except when assuming so serves their cause. But the #1 line is the (unsupported, of course) assertion that allowing people choice in health care raises costs and reduces quality. The same is true in education too. And mail delivery. Package delivery is different, of course.

There are lots of examples of sectors that have become sharply more efficient after being extracted from Government control. Can anyone give me an example of a sector of the economy that has improved performance after being nationalized?

dsquared writes:

Why would "an economist" think that "catastrophic" coverage is the best way of buying or providing healthcare? Am I the only economist in the world who understands about preventative medicine or something?

Bill writes:


Why do you think that catastophic coverage is bad for preventative medicine? A catastophic plan could include a cheap or free check-up each year or every six months. The cost would be included in the premium. So, a plan might have a $2,500 deductible but a $10 co-pay for up to two check-ups or basic office visits per year. Wala, you have preventative medicine in basically a catastophic plan. Of course, this plan would be a bit more money per month than one without the cheap visit, but it would be much cheaper than "insulation".

Arnold Kling writes:


The reason that health insurance should not have to pay for preventive care is that the benefits of preventive care are so high relative to cost that people should be willing to pay for it themselves.

In fact, even when preventive care is free, people do not take as much advantage of it as they should. That is one of the reasons that I have advanced the disownership hypothesis.

Bruce Cleaver writes:

John Thacker beat me to it, but I was going to cite the works of Kahneman & Tversky instead of Zimran Ahmed. More generally, people have a very poor perception of risk and the cost of risk. Rare, catastrophic events are not limited to health care, you know - but research shows whatever the event, the (mis)perceptions are the same.

Boonton writes:

Basically no one likes to take medicine...even if it is free. The HMO model appears to have two advantages going for it over catastrophic insurance (this based on what an HMO should idealy be...real HMO's are a mixed bag):

1. The HMO serves as a counterbalance to the medical professions inherent COI. The HMO keeps the doctor from prescribing unnecessary tests, expensive procedures and so on. The consumer cannot easily do this because he/she is uncomfortable second guessing their doctor. The HMO should have the resources & experts to give voice to keeping care economical.

2. The HMO serves as a aggregate buyer. Hence they are able to negotiate lower fees than a person would receive if he just walked into a doctors office with a $5000 'Medical Savings Account'.

3. The HMO takes on the role of nag to the consumer. Since consumers don't like medical treatment & 'healthy living' the HMO serves the purpose of nagging them to do things they know they should do. Not unlike a secretary who makes sure the high level executive doesn't walk into an important meeting with his fly open & tie wrinkled.


Does your auto insurance policy pay for oil changes?

John Thacker writes:

Consider, for example, how many people who are prone to kidney stones fail to actually drink enough water, which is essentially free. Brushing your teeth and flossing is close to free, yet people don't do it enough.

Rick Stewart writes:

Perhaps people would seek more preventative care if all they had was catastrophic coverage.

Avoiding something I might have to pay for is more attractive to me than avoiding something I won't have to pay for (monetarily, at least).

Boonton writes:
Does your auto insurance policy pay for oil changes?

Many auto insurance companies will pay for, or at least offer at a deep discount, fixing little dings in your windshield. I assume based on the idea that doing so prevents larger claims in the future.

Boonton writes:

Also many auto insurance policies reward some 'preventative' steps such as taking a driver safety course. Perhaps if we spent as much for auto insurance as we do health insurance companies would issue 'AMO' type policies that pay for new tires, breaks and quarterly 'checkups' at approved mechanics.

hgstern writes:
How could one test the "disownership" hypothesis?

Simple, really:



Such is the crux of the debate. But it really goes beyond this, as a number of other commenters have mentioned.

IMHO, the most accurate this far is the allusion to the VA model.

Robert Schwartz writes:

Since I buy my own health insurance, I shopped for as high a deductable as I could find, because I see no reason to pay an insurance company to write checks that I will inevitably write during a given year, and because I think that the most important thing that insurance does in the early 21st century is get you through the front door. providers do not care what your deductible is, but they do not want to deal with you if you don't have insurance.

I bought a $2,500 deductible policy. I would have gladly accepted a much higher deductible in return for a lower premium, but the reduction in premium for accepting the $5,000 deductible was not commesurate with the higher deductible. IIRC, the premium for the $2,500 deductible was more than $1,500 less than the premium for a $1,000 deductible but the saving for a $5,000 deductible was much less than an additional $2,500 saving.

hgstern writes:

Mr Schwartz:

You are definitely on the right track (not that you need validation from me). Unfortunately, you are also in the minority in that you understand -- and take advantage of -- the price differential inherent in the lower end of the deductible spectrum.

Then, too, you have discovered that the provider is interested primarily in the fact that you have insurance, but not necessarily what kind.

You have also discovered the "sweet spot:" that point at which the insurer is confident of making a profit. Larger deductible pricing suffers from a variation of diminishing returns, and there are, of course, certain fixed costs inherent in the policy, regardless of deductible.

Is your plan HSA-compliant and, if it is, have you taken advantage of this? (It's not really any of my business, but I'm curious nonetheless)

Robert Schwartz writes:


I did spend a few years working in the insurance business:-)

My policy is not HSA.

The product I would like to have would combine the HSA and the insurance policy with a debit card that would pay the Doctor's bill at the time of service.

The EoB should come at the end of the month with the bill for the month. There would be no separate statement from, or payment to, the Doctor.

Paper would move in one direction, money in the other, and there would be no doubling up or waiting until the paperwork blizard clears.

hgstern writes:

Mr Schwartz:

I could tell ;-))

Actually, many HSA admin's now issue debit cards such as you prefer. And this is helpful, to a point:

The challenge is that the provider rarely (if ever) knows how much to charge you. Due to network discounting, actual charges are often/usually indicated on the EoB. Thus, one could make an educated guess at the appropriate amount to "swipe," but that amount may/will vary from the net adjudicated amount, which will be on the EoB.

Kind of a vicious circle.

In theory, all of this can be done electronically; however, whenever I hear about how "someday this will all be done on-line," I recall my favorite bumper sticker:

The paperless office is as likely as the paperless bathroom.


Robert Schwartz writes:


Actually, I assume that given currently available technology, the insurers could pay the providers based on provider ID, patient ID and dx/procedure codes. Allocation between insurance company and the patient (i.e. deductible, out of network) would come later and be charged/credited to the HSA. Review of the record and adjustment between the provider and the insurer would also come after the initial payment.

I am not thinking of a paperless system just one where the flows of paper and money are unidrectional. That alone would be a big step forward

hgstern writes:

In an ideal world, a system such as you propose would be, well, ideal.

Unfortunately, there's another party involved here, called Uncle Sam. The rules governing what can, and can't, be run thru the HSA are pretty stringent, and I'd be very surprised if the system you propose would fly.

Another factor is that the insurer is not the account admin. So you'd have these parties involved:

- the insured
- the carrier
- the gummint
- the admin

The increased cost involved in having so many people/systems involved would probably negate any savings incurred, which was the point of the excercise in the first place.

Just my $.02

Robert Schwartz writes:

We have a way to go on this project.

said Bobby Kennedy in 1968.

hgstern writes:

And I like the way you think!

There's little doubt in my mind that, if we wanted to make this happen, it could and would.

My doubts arise from the fact that there seems to be little actual interest -- which is different from market research -- in pursuing such a system.

Again, I get plenty of calls (well, maybe not "plenty," but quite a few) from folks purporting to want an HSA or other HDHP-type plan. But with few exceptions, they end up purchasing the generic co-pay type plan (not because I steer them that way-- quite the opposite -- but because the bottom line is that that's what they've "always done before").

Boonton writes:

Yet isn't it odd how people can make dramatic changes when they find it in their interests to do so. Cell phones have gone from being an expensive luxury of the pretenious or drug dealers to an everyday utility in even poor communities. Millions have gobbled at IRA's, 401K's and other investment vehicles that didn't exist 30 years ago. Even HMO's are a realtively new thing that people have started to utilize in mass.

At some point economists should stop banging their head at the supposed irrationality of their subjects and ask themselves maybe if there is some rational reason for this behavior that they do not see. I suggest a few reasons why many people may rather have an HMO rather than a HSA/catastrophic policy.

1. The HMO is able to negotiate lower 'contracted rates' with doctors & other providers. This is of value if you expect your health care needs to be somewhat typical and not exotic.

2. The HMO is able to leverage its experts & knowledge base to serve as a counter weight to the doctor's/provider's COI in determining what procedures you need. Do I need an MRI or is my doctor just trying to make payments on the machine he was convinced by a salesman to buy? I may not trust myself to challenge my doctor's call but I may feel better about an HMO setting up some objective standards for evaluating 'necesary' procedures.

3. To the degree that patients do not like medical care (and few really do), the HMO type of policy ideally will offer carrots for things that really will work. People forget the reason for the $10-copay was to encourage people to get yearly physicals rather than waiting for a serious illness to tap their insurance.

hgstern writes:

Interesting post, and I agree that economists tend to look at the world a little differently that us lay folk.

However, I'd like to refute your other points:

1) HMO's are not the only entities capable of negotioating lower rates from providers. Indeed, ALL PPO and POS plans do this, and every HSA plan of which I'm aware includes access to such a network. This means that the "average Joe" gets the same (or similar) discounts as one who is covered thru an HMO, or indeed any other network-driven plan.

2) Why would I knowingly cede my health-care decisions to someone at the other end of a 1-800 number? This is exactly the point of CDHC; that is, the *consumer* is empowered to make the decision as to what is, and is not, covered.

3) Again, since these are *my* healthcare $$$'s at work, it's in my best interest to take care of myself (including routine exams), in order to maximize the value of my account. After all, they're MY dollars.

Boonton writes:

In theory you don't. You remain perfectly free to purchase healthcare you really think you need with your own money. What the insurer is doing, however, is providing a counterbalance. Take the example of an MRI scan. Perhaps the doctor has recently invested in an MRI machine and is trying to send all his patients there to recoup the cost. Before you walk in the door, the HMO/PPO or whatever will have already told the doctor something like 'we will not pay for an MRI unless you have X,Y, Z reasons to send the patient to one'. The doctor is unlikely to recommend the MRI to you unless he has some special reason to think you need it despite your insurance company's rules (or he happens to know you're very wealthy and will spend a few thousand dollars if he gives you a good song and dance).

What you are paying for is for your insurance company to do this hardball negotiating *before* you walk in the door. You are also paying for them to set an ethic of having providers make 'economical recommendations' rather than simply recommending things without regard to price.


Indeed however unlike groceries most people don't like getting healthcare (including routine exams). If you're feeling fine, or maybe only slightly under the weather, are you sure you'll spend $100 for an exam? Perhaps you will estimate that you're 'saving' $100 if you just 'bear it through'. Ideally a PPO or HMO can counter those negative incentives by altering your cost structure. You only pay $10 for a visit but you still pay the full cost if you want some type of unproven 'holistic therapy'.

hgstern writes:

Thank you for making my point:


Exactly so. The problem is, the HMO already HAS your money. Under CDHC, you have the funds to pay for healthcare, you are empowered and enabled (funded) to make those decisions.

And, since the plans are network-driven, the negotiation is already done for you, by experts.

The best part, tho, is:

You only pay $10 for a visit

Really? I see. So the insurance is free, then? Where do I sign up? Reminds me of those folks who think that their employer pays for their health insurance, and their FICA, etc.

Have a great rest of the day!

Boonton writes:

hg, could you tell me what CDHC stands for? There would seem to be a serious trade off between allowing customers to see any doctor or get any procedure they want and using the power of a large client base to negotiate with a network of doctors to get better prices & control overspending. If customers have a lot of flexibility then it is harder to control the doctors since the plan cannot control the patients.

I think you misunderstand the $10 comment. The idea is that the plan alters your cost structure to make economically efficient decisions easier for you to make. If you happen to want a CAT-Scan for no particular reason you pay full price for it, however a yearly check up is just $10 instead of $100.

I'm not saying that there is no value in catastrophic insurance coupled with a savings account. My point is that just that there is no economic reason a diverse array of health insurance products should not be economically viable. In fact, there probably is good economic reasons that HMO style plans appear to still win in the market over savings accounts coupled with catastrophic insurance.

hgstern writes:

Boy, you sure ask a lot of questions! ;-))

CDHC = Consumer Driven Health Care. There is a plethora of products (I love the way that sounds), the most well-known of which is HSA (Health Savings Accounts).

Perhaps it would be helpful to briefly explain how this works, in the context of your hypothesis.

Begin with the premise that most people, in most years, spend far more in premiums than they receive in benefits. This is how HMO's work: one is essentially pre-paying for medical care, whether or not one ultimately needs it. Most folks are led to believe (by carriers, agents and politicians) that an office visit costs $10 and their Lipitor costs $15 (or whatever).

But these same folks are giving the insurance company thousands of dollars a year for the privilege. Do you see now where the disconnect occurs?

Under CDHC/HSA, one KEEPS many of those dollars, and plays "pay as you go" with them. At the end of the year, barring a cat claim, a lot of those dollars are still in the account. And if we're talking cat (catastophic, sorry) claim, then it's essentially a wash: most co-pay plans have deductibles and co-insurance costs for those, which are comparable to the Out Of Pocket in a CDHC plan.

The best reason for that array of choices is that we are a society which values choice. That, and the fact that most carriers (and agents) really don't understand the value of CDHC.

Finally, some of this is simply inertia: we've become accustomed to co-pay type plans, and are loathe to discard them. And there's this: we are also a society which increasingly eschews personal responsibility. Why would you believe that this would be different when it comes to healthcare?

At the risk of tooting my own horn, I've recently blogged about this very topic.

Okay, stepping down off my soapbox now.

Boonton writes:

Thanks, I understand where you are going with this better but the same principle still holds. the greater flexibility for the consumer comes at a cost in less control that the plan is able to exercise on spending and costs.

Personal responsibility isn't part of the problem, people are plenty willing to take responsibility when it comes to...say...picking an efficient cell phone plan or cable TV package. What many people want, IMO, is something like a 'good HMO' which uses its market power & knowledge base to control costs on one side but gets out of the way when medical care is necessary. This isn't fundamentally different from fast food. People want low prices but more meat. both producer & consumer have to find a balance. Yes many years I may pay more in premiums than I use in services but what I'm essentially doing is a combination of economically rational things:

1. Insuring that my big expense will be covered if it hits me before my 'prepayments' would have been able to cover it. More technically, I'm hedging against the possibility that my expense will come sooner rather than later.

2. Purchasing negotiating services from the HMO.

3. Purchasing the HMO's 'knowledge services' to find cost effective ways for me to lower my health care costs.

This is not an economically irrational business model. That's not to say other business models may not be better but there really is no way to judge the matter before the plans hit the market.

hgstern writes:

I can see that my singing lessons are for naught.

Based on your latest reply, it's obvious that you really don't get it. That's not necessarily a bad thing, it's just disappointing.

Thanks for the conversation, though, I really enjoyed it.

Have a great rest of the week.

Alasdair Macauley writes:

Sorry this is so late. I was wondering if it would be possible to gain some insight into the question of what drives the decisions to consult a doctor or not by using twin comparison studies? Although it would still be difficult to derive motivation without direct questioning (subject to the usual caveats about self report bias) it would at least be possible to get a sense of how different upbringing, and availability and access shape the choices people make about types of insurance coverage and how they use it when they have it.
The idea was suggested to me from another post I read reporting on a social sciences study using a twin study for a related issue, although I no longer remember what it was. Part of the attractiveness is that it is clear that identical twins are quite similar in their personalities and studies provide estimates that personality by some definitions is shaped substatially by genetics thus providing relatively similar subjects in various situations that can be anlyzed quantitatively. Fairly close to a controlled experiment.

Comments for this entry have been closed
Return to top