More on Reinsurance in the IRA/ARP environment

I’m trying to figure out what I think about state reinsurance waivers for the ACA markets in the current subsidy environment.  My fairly strong prior is that unless a state is doing something interesting with its pass through, the state is engaged in convoluted and non-obvious and potentially non-intended subsidization of certain segments that are already heavily subsidized.  My assumption is that most states are using 1332 reinsurance waivers to address a policy and political problem of health insurance affordability for upper middle class buyers who previously could not receive premium subsidies because their income was too high.  That problem is no longer the case through at least the end of policy year 2025.  The feds are now capping premiums to 8.5% of income with enough predictability to allow for planning on the parts of insurers, consumers and state policy makers.

That is my basic thought process right now.

Marty Anderson (no relation) has some pushback that I want to engage with.

I don’t entirely disagree, but 10-15% of the population is still not purchasing subsidy eligible plans (depending on geography). In addition, I think reinsurance programs give insurers more confidence in the stability of the market. That improves competition and lowers costs.

— Marty Anderson (@MartyM_AN) August 16, 2022

He is making two points. First, not everyone currently receives an ACA subsidy. Secondly, there are other reinsurance policy goals.

There are three classes of people that are currently not able to receive ACA subsidies even as they purchase ACA regulated plans sold “off-exchange”. It is a political and moral question as to how strong of claim on state resources the people in these classes have.

1. Individuals with complex immigration statuses and non-documented immigrants who are not allowed to buy on-exchange policies at all
2. Individuals who earn a lot of money and where the benchmark premium is less than 8.5% of their income
3. Individuals who are likely making either choice or attention errors and have not converted their off-exchange policies to on-exchange policies.

If a state is worried that its immigrant residents can’t afford healthcare and wants to make sure that ACA polices are more attainable, then reinsurance as a means to lower premium could work.  It just would not be anywhere near as efficient as direct subsidies.  The downside of direct subsidies is that it creates paper trails which may deter vulnerable populations from receiving those subsidies.  There is a fairly clear case here.  I don’t see as a clear of a case to use state resources to subsidized health insurance coverage for households earning in the top 3% to 5% of the income distribution as these households benefit from the premium cap but your mileage may vary.

The last group is tough.  A lot of my research and thought has been on how and when people make choice errors.  Under current law, households making 400% to say 600% or 800% FPL previously made rational choices to buy off-Exchange coverage that was not subsidy eligible but due to either direct choice error, bad advice from a paid agent or inertia, these households are now making a fairly expensive choice error.  Reinsurance that lowers gross premiums reduces the cost of this choice error.  The value of this claim on public resources for reinsurance compared to other forms of assistance to help people convert to subsidy eligible on-Exchange purchases is questionable.

Now Marty also suggests that there are other policy objectives that can be achieved with reinsurance.

I think reinsurance programs give insurers more confidence in the stability of the market. That improves competition and lowers costs.

I completely agree with him!  As a side note, there is a strong-ish assumption that more competition is always better and we always need to ask whose costs are lower, but that is a different post for a different day.

Let’s make some assumptions.

• Risk adjustment is imperfect at both the group and individual level
• Clustering of idiosyncratic expenses can and does occur
• Some people have known and/or predictable expense profiles that risk adjusts very poorly
• Many insurers have anywhere from a decent feel to excellent insight on their current and potential markets

If we think these assumptions hold, and I think these assumptions are very reasonable, then there are problems.  Insurers will seek to offer products and policies in areas where they can make money and avoid regions and populations that are guaranteed loss generators.  From here, we should believe that having an outside entity in the form of the state’s reinsurance fund eating some of that risk will change entry/exit decisions.

Now here is where I’m stuck (again).

The program design of the reinsurance waivers are not optimized for the competition enhancement function of eating extreme tail risk.  Most of the programs either pay for people who have a limited set of diagnoses (Alaska) or use a “caliper” approach where the reinsurance funds starts paying something when claims get above a certain level but stop paying once claims reach a ceiling.  The caliper approach takes on normal-ish risk of somewhat common but moderately (in the context of US healthcare) expensive events.  The federal government has a small reinsurance program that operates as part of risk adjustment on a national basis.  The feds pay a percentage of claims over $1,000,000 per person with no limit.

Polykova et al in 2021 examined the efficiency of various reinsurance program designs in the ACA marketplaces.  They compared the cost of decreasing insurer variance by the amount of resources used.  The possibility frontier was defined as reinsurance that only ate extreme tail risk like the current small federal catastrophic program. They found that ACA reinsurance programs don’t do a particularly good job of reducing variance for the level of resources invested.

 

So if we think that reinsurance can solve or at least assist in solving a competition problem, especially in states with small populations and smaller rating areas, state waiver program design should change.  Instead of caliper based reinsurance that eats typical and expected expense profiles, reinsurance programs that are optimizing for increased competition should be used to pay for catastrophic claims that do not risk adjust well.  These claims will be rare and they will be big.  The claims will be mostly for people needing organ transplants, undergoing one-off genetic cures, having complex hemophilia with big bleeds,  as well as burn victims and folks who have complex antibiotic resistant infections.  Reinsurance dollars won’t be paying for complex pregnancies or standard first line cancer treatment.  Instead, insurers should be able to count on risk adjustment and actuarial competence to fund those treatments.