Tag Archives: insurance

More on Long-Term Care Insurance

By James Kwak

After my previous post on the topic, a friend passed along a recent paper by Jeffrey Brown and Amy Finkelstein in the Journal of Economic Perspectives. I recommend reading it if you are interested in the topic because it provides a lot of good background information and explains some of why the market is the way it is.

They make some similar points to mine. For example (p. 138):

“First, the organization and delivery of long-term care is likely to change over the decades, so it is uncertain whether the policy bought today will cover what the consumer wants out of the choices available in 40 years. Second, why start paying premiums now when there is some chance that by the time long-term care is needed in several decades, the public sector may have substantially expanded its insurance coverage? A third concern is about counterparty risk. While insurance companies are good at pooling and hence insuring idiosyncratic risk, they may be less able to hedge the aggregate risks of rising long-term care utilization or long-term care costs over decades. In turn, potential buyers of such insurance may be discouraged by the risk of future premium increases and/or insurance company insolvency.”

They also show just how expensive private long-term care insurance is. By their calculations, the load on a typical policy is 32% (which means that the present value of benefits is only 68% of the present value of premium costs).  This is what you would expect in a thin market with a lot of adverse selection. (And one more note: The median cost of long-term care is a lot lower than in Massachusetts, the state I cited in my previous post. See this study to see where your state ranks.)

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The Private Insurance Market

By James Kwak

I’m currently in the process of buying long-term care insurance—you know, so my daughter won’t have to take care of me when I’m old. I have a good agent who knows all about the market and has answered every question I’ve had. I understand personal finance, opportunity costs, discount rates, and inflation. I know my way around a spreadsheet (one benefit of my years at McKinsey). But I find it’s still hard to figure out what to do.

A bit of background: Long-term care insurance pays for your stay in a nursing home if you become unable to take care of yourself. Depending on the policy, it may also pay for care you receive at home instead of going into a facility. According to the insurer I’m considering, the median annual cost of a semi-private room in a nursing home in my state is $145,000, and the average stay is something like three years. To put that in perspective, in 2009, the median net worth of families where the head of household was of age 65–74 was $205,000 (including real estate assets).

Long term care is not covered by Medicare, except for a short period after each acute event. It is covered by Medicaid, but to be eligible for coverage you have to exhaust all of your assets. Despite that onerous requirement, Medicaid currently covers 40 percent of all spending on long-term care. (2011 Long-Term Budget Outlook, p. 39.) The Affordable Care Act of 2010 included what is known as the CLASS Act, which would have allowed anyone to buy long-term care insurance, with an average benefit of $75 per day, for a monthly premium of $123. The CLASS Act, however, has been suspended because the administration could not certify that it would be deficit-neutral over the long term. So the bottom line is: until you use up all your money, you’re on your own.

Still, shouldn’t you be able to buy protection in the private insurance market? The short answer is: not really.

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Are Health Insurers Worth Bashing?

This guest post was contributed by Andrzej Kuhl, a colleague of mine from a former life. Andrzej is a management consultant based in Montclair, New Jersey.  His company, Kuhl Solutions, helps improve the efficiency and effectiveness of operations in financial sector companies.

I am getting thoroughly frustrated with a facet of the health care debate – the singular focus on health insurers, with total disregard of other contributors to health care costs.  Yes, I am in total agreement with the concept of providing health insurance to folks who currently cannot afford it, or who do not have access at any cost (because of pre-existing conditions).  I also believe that the rate of increase of health spending needs to be significantly reduced.  But, I do not believe that we can achieve any meaningful health spending reduction just by bashing or financially squeezing the health insurance companies.

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Design or Incompetence, Part Two

Last week I wrote a post about how banks entice customers with promotions and then fail to keep up their end of the bargain, forcing customers to waste their time just getting the bank to do what it promised to do in the first place. As I wrote, then, the problem is by no means limited to the financial sector.

David Lazarus of the Los Angeles Times has a horror story about Aetna, the large health insurance company. The basic facts are:

  1. Aetna increased a customer’s monthly premium by $32 as of August.
  2. On September 30, Aetna sent her a letter saying her premium had gone up. (This is the letter supplied to the Los Angeles Times by Aetna, which I think is pretty clear proof there was no earlier letter.)
  3. Beginning in October, the customer began paying the higher premium.
  4. In November, Aetna rejected payment for a doctor’s bill.
  5. The customer contacted Aetna, who said she had missed payment for October–which wasn’t true (she had paid the higher premium for October).
  6. When the customer appealed, Aetna wouldn’t let her simply pay the extra $64 (the difference for August and September), and insisted on rescinding her policy.

The customer in question is a cancer survivor who needs regular medication and checkups–hence the kind of customer that health insurance companies want to drop if at all possible.

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What Is Risk Adjustment?

I think I know what it is, and if I’m right it’s very important to health care reform, but it hasn’t gotten a lot of attention.

Risk adjustment is the solution to the following problem. Imagine you tell all the health insurers that they have to accept the healthy and the sick, and they have to charge each the same insurance premium. You may not have to imagine for much longer; this is at the core of all the proposed health care reform bills. (In the Finance Committee bill you can discriminate based on a small number of factors, like age and tobacco usage, but that’s it.)

If you’re a profit-maximizing insurer, what do you do? You try to cherry-pick the healthy, since the revenues will be the same as for the sick and the costs will be lower. If you can do this successfully — say, by only advertising in gyms and in Runner’s World, or maybe by offering additional benefits that only the healthy will want — then you can dump the sick on someone else. That someone else will eventually (after all the private insurers get smart or go out of business) be the public option or the non-profit cooperative, whichever we end up with, which will end up losing money; the net effect is a transfer from taxpayers to private insurers. Now, the fact that insurers participating on exchanges have to take everyone should mitigate this problem, but it won’t go away. In effect, insurers will compete by marketing in ways that attract the healthy and hide from the sick, instead of competing to offer better health care at lower cost.

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Another Year, Another Decline in Employer-Based Coverage

Ezra Klein shows the new Census figures on the uninsured. The long-term trend is absolutely clear: employer-based coverage is declining and public coverage is increasing, but not enough to make up the gap. Looking at the underlying data, we can see that 2008 was the eighth consecutive year in which the proportion of people covered by employer-based health insurance declined.

This is a point I’ve also tried to make before. Not only is employer-based coverage deteriorating, but the reasons for that deterioration imply that it is likely to only accelerate. As health care costs continue to increase, even if the rate of increase stays the same, the rate of deterioration will increase, because each year health care costs become a larger proportion of total costs and therefore harder to absorb. (Put another way, if health care cost inflation remains around 7% per year, each year it will be 7% of a larger proportion of employers’ costs.) Deterioration will take three forms – some employers will drop health coverage altogether, some will increase the share paid by employees, and some will shift toward less-generous plans.

Klein’s point is that it may be dangerous to premise health care reform on the idea that the employer-based system will remain what it is, because it won’t. My point was that because the employer-based system is slowly dying, people with employer-based coverage should not be thinking, “I don’t need health care reform, I’ve got my employer-based plan;” they should be thinking, “I’m afraid of what will happen when my employer drops its plan, so I need health care reform.” Unfortunately, I think both of us are right.

By James Kwak

What Do the People Want?

To the New York Times’s credit, they asked them. And this is what they found (from the beginning of the article, entitled “New Poll Finds Growing Unease on Health Plan”):

President Obama’s ability to shape the debate on health care appears to be eroding as opponents aggressively portray his overhaul plan as a government takeover that could limit Americans’ ability to choose their doctors and course of treatment, according to the latest New York Times/CBS News poll.

Americans are concerned that revamping the health care system would reduce the quality of their care, increase their out-of-pocket health costs and tax bills, and limit their options in choosing doctors, treatments and tests, the poll found. The percentage who describe health care costs as a serious threat to the American economy — a central argument made by Mr. Obama — has dropped over the past month.

The article does cite several statistics from the poll, and does show several signs that are favorable to President Obama, including that the public overwhelmingly favors him over the Republicans when it comes to health care, and overwhelmingly thinks that he is trying to work with Republicans more than the converse. But the overall impression you get is that Americans are afraid of health care reform.

But are they?

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You Do Not Have Health Insurance

Right now, it appears that the biggest barrier to health care reform is people who think that it will hurt them. According to a New York Times poll, “69 percent of respondents in the poll said they were concerned that the quality of their own care would decline if the government created a program that covers everyone.” Since most Americans currently have health insurance, they see reform as a poverty program – something that helps poor people and hurts them. If that’s what you think, then this post is for you.

You do not have health insurance. Let me repeat that. You do not have health insurance. (Unless you are over 65, in which case you do have health insurance. I’ll come back to that later.)

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The Problem with Profits

Stephen Carter, one of my best professors at law school and also an accomplished novelist, has an op-ed in today’s Washington Post arguing that high corporate profits are a good thing, and as a consequence we need to have a strong and profitable for-profit health insurance sector. Here’s the essence of his argument:

High profits are excellent news. When corporate earnings reach record levels, we should be celebrating. The only way a firm can make money is to sell people what they want at a price they are willing to pay. If a firm makes lots of money, lots of people are getting what they want.

I agree that the pursuit of high profits is a good thing. That is what makes a free-market capitalist system work, and it’s what made me start a company eight years ago. But basic microeconomics says that high profits themselves are generally not a good thing.

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Insurance and Health Insurance

I’ve been meaning to write a post on health insurance ever since hearing Karen Tumulty on Fresh Air. (She was discussing her Time article on underinsurance.) I happen to think that a free market for insurance works pretty well in most circumstances (and I did co-found an insurance software company); for example, if you can afford the house, you can generally afford the insurance for the house. But it doesn’t work very well for health care, because many people are simply uninsurable under free market principles (expected health care costs exceed their income, let alone their ability to pay), and hence would be left to die. We think we have a private, for-profit insurance  system today, but we can only avoid its disturbing implications by hedging it in with public backstops and regulations.

Since the Senate Finance Committee is taking up health care reform this week, I finally wrote that post today for The Hearing.

By James Kwak

Why Bail Out Life Insurers?

That’s the question I woke up with this morning. Sad, isn’t it.

The Wall Street Journal reported this week that Treasury will soon announce that it will use TARP funds to invest in life insurers, or at least those who snuck under the federal regulatory umbrella by buying a bank of some sort. The argument for the bailout is a version of the “No more Lehmans” theory: the failure of a large financial institution could have ripple effects on other financial markets and institutions that could cause systemic damage. For a bank, the ripple effect is primarily caused by two things: (a) defaulting on liabilities hurts bank creditors, and (b) defaulting on trades (primarily derivatives) hurts bank counterparties, if they aren’t sufficiently collateralized (think AIG).

My thought this morning was that life insurance policies are long-term liabilities that are already guaranteed by state guarantee funds, so we don’t have to worry about (a), and hopefully most life insurers were not doing (b) – large, one-sided bets on credit risk like AIG. So why not just let them fail and let the states take over their subsidiaries? But then I checked the facts, and it turns out that the limits on state guarantee fund payouts are pretty low. So the scenario is this: you hear bad things about your life insurer, you decide to redeem your policy (usually at a significant loss to yourself), turning it into a short-term liability, and then the insurer has to start dumping assets into a lousy market, pushing the prices of everything further down and hurting everyone holding those assets. Would this really cause a systemic crisis worse than we’ve already got? I don’t know, but no one in Washington wants to take that risk.

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Insuring Bankers’ Bonuses

Here’s what we know so far about the plans for the US banking system that Tim Geithner will unveil next week.

  1. The heart of the scheme will, most likely, be an insurance arrangement, in which the government (part Treasury and mostly Fed) insures a big part of large banks’ portfolio of toxic assets against further loss.  The devil is in the pricing of this insurance and how transparent that is – and we will put out more on this shortly – but the clear signal so far is that this will be a veiled major recapitalization of banks at taxpayer expense.
  2. As announced yesterday, the government will set restrictions on the pay of executives in banks that participate.  But note that, under these rules, bonuses are not restricted.  Instead, they are just deferred and paid in shares.  In other words, if there is cheap recapitalization through government-provided insurance, these executives are getting an incredibly good deal. Continue reading

Insurance Companies Line Up for Treasury Bailout

One of the big stories on Friday and Saturday was the expansion of the Treasury recapitalization program to insurance companies. The Washington Post is acting as if it’s a done deal, while the Times and the Journal said only that it was being considered.

Insurance is one of the industries I know pretty well, as my company made software exclusively for property and casualty insurers, and I must admit I didn’t expect the crisis to show up in insurance so quickly.

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Bailout Plan – The House Republican Alternative

And Now, Behind Door #2 …

Whatever the motivations of the House Republican plan – as distinct from the plan agreed upon by the Republican President, Republican Treasury Secretary, Republican Fed Chairman, Senate Republican leadership, and Democratic leadership of both houses – it is still a plan, and as such merits consideration. The “Common Sense Plan to Have Wall Street Fund the Recovery, Not Taxpayers”has two main elements: first, a Treasury Department insurance program for mortgage-backed securities that will be entirely financed by premiums collected from the holders of those securities, not taxpayers; and a combination of tax breaks and deregulation intended to attract private capital to the banking sector.

The insurance proposal amounts to more of the wishful thinking that has allowed the financial crisis to last as long as it has. Such a proposal would only work if the fundamental problem were an inability to distribute risk, and if there were no available insurance mechanisms. But the fundamental problem is not that banks can’t distribute the risk of deteriorating assets, but that they are holding assets that are already not worth very much, and therefore the insurance premiums for those securities would be prohibitive. (Instead of paying by writing down the assets, they would have to pay insurance premiums.) And there are insurance mechanisms already (remember credit-default swaps?), but that insurance is too expensive to buy. The only way a Treasury insurance program could change things is by offering insurance at artificially low premiums, which is just another way of handing taxpayer money to banks – with no recompense to shareholders.

The proposal to attract private capital to the industry is too little, too late. Washington Mutual, for example, was unable to find a buyer until the government used a forced bankruptcy to wipe out $28 billion of its debt; no one is lining up to offer capital to Wachovia. It is hard to see how offering tax breaks to banks (which is yet another way of handing taxpayer money to banks) will encourage new capital investment, at least as long as their mortgage-related assets remain under a cloud of uncertainty.

Given that few people want to lend to or invest in banks these days, it’s hard to see how a solution is possible without taxpayer money. The important thing is to make sure that the taxpayers get something in exchange for their money.

Update: Politico has a survey of economists’ reactions to the House Republican plan. The short version: economists were concerned by the original Paulson plan, but baffled by the House Republican plan.