Managing Health Insurance Risk

1. Managing Health Insurance Risk Patrick Ryan, F.S.A., M.A.A.A. Sr. Actuary Wellmark Blue Cross Blue Shield of Iowa

2. Managing Health Insurance Risk: Basics • It’s critical to maintain random mix of risks: • 1% of individuals generate 20% of costs • 5% of individuals generate 50% of costs • 20% of individuals generate 80% of costs • Attraction of disproportionate share of high risk will raise average costs – higher premiums for everyone

3. Managing Health Insurance Risk: Basics • Different risks have different incentives to purchase coverage Higher risks: • Sicker individuals, or individuals vulnerable to illness (i.e., older) • Are less sensitive to price • Tend to select policies with broad benefits, lower cost sharing Lower risks: • Younger, healthier individuals • Are highly price sensitive • Are less interested in broader benefits • Are less concerned about a higher level of medical management (i.e., an HMO)

4. Managing Health Insurance Risk: Avoiding Adverse Selection • Disproportionate share of high risks lead to the most problematic and most predictable insurance problem: Adverse Selection • As more high risks enroll, the average per member cost increases so premiums increase • The premium increases (triggered by the enrollment of relatively higher risks) triggers dropping of coverage – or a decision not to purchase – by younger, highly price sensitive enrollees • Loss of or failure to enroll younger, healthier risks results in a further increase in the average per member cost and further premium increases • This continuing set of dynamics – referred to as an Adverse Selection Spiral – leads to increasingly higher average per member costs –– and higher premiums for everyone

5. Managing Health Insurance Risk: Avoiding Adverse Selection • Insurers are constantly sensitive to the need to avoid triggering an adverse selection spiral • Insurers try to avoid triggering the adverse selection process by: • Trying to attract young healthy enrollees (to moderate overall costs) by adjusting premiums for younger healthy enrollees to reflect their predictably lower health care expenses (i.e., lower premiums) • Strategies that keep prices affordable by adjusting premiums for risk • Underwriting (e.g., turn down highest risk) and relying on broader-based funding (high risk pools) than just individual market enrollees to subsidize highest risk

6. Managing Health Insurance Risk: Making Coverage as Affordable as Possible Greatest challenge health insurers face: attracting balanced pool of risks to keep healthcare as affordable as possible Key Challenge: How to convince healthy individuals to buy insurance coverage? • Many healthy individuals: “Insurance is expensive and unnecessary” • Older and sicker individuals very motivated to buy

7. Managing Health Insurance Risk: Using Age Rating Age Rating in Individual Market: Insurers offer lower premiums to younger individuals Community Rating (CR): All ages charged same premium C/R Increases Premiums by 79% for 19-24 Year Olds

8. Managing Health Insurance Risk: State Experience w/Community Rating Guaranteed issue and community rating can have unintended consequences: • Fewer Insured: Maine/New Jersey 50% of individual enrollees dropped coverage • High Premiums: Premium for a 25 year-old is: • $1,269/month in New Jersey • $924/month in Maine • Reduced Choice: • Lowest deductibles in NJ and Maine: $1,000; • The majority of insurers have left these states Underwritten Iowa premium: $169/month Guarantee issue encourages individuals to delay purchase until they become sick

9. Managing Health Insurance Risk: Pooling • Pooling protects individuals and small groups purchasing coverage from the extraordinarily high costs of highest risk enrollees • States have recognized this and have required all insurers to pool their small group market • States require health plans to pool all small firms and cannot vary premiums by more than a specified amount (e.g., 25% in most states) from average due to health status • A large claim for a small firm is spread over the entire pool – not just the small employer • Premiums cannot increase based on claims experience more than specified amount (e.g., 15%) • Result: In the small group market, low-risk firms pay higher premiums to subsidize high-risk firms

10. Managing Health Insurance Risk: Pooling • Some states have tried to build on the value of pooling by establishing state purchasing pools • Experience with state purchasing pools shows: • No additional pooling occurs; pooling is still at the insurer level not at the state purchasing pool level • Average per enrollee – premiums – costs in any purchasing pool is determined by health status of enrollee

11. Managing Health Insurance Risk: Effect of Pooling Arrangements State purchasing pools do not address cost drivers for premiums Provider Payment Rates Utilization Benefit Package Administrative Costs Enrollees’ Health Status Risk/Cost of Care (83-90%) Health plans negotiate on behalf of all members • Risk Selection Issues: • 5% enrollees = 50% costs • 20% enrollees = 80% costs • Small employer risk volatility Marketing Agents/Brokers Billing Claims Processing Disease Management Customer Service Network Management Risk/Profit Taxes Compliance Costs

12. Managing Health Insurance Risk: Pooling Small Employers Health Plans Required to Pool All Small Employers • Health plans required to pool all small firms; cannot vary premiums by more than 25% from average due to health status • A large claim for a small firm is spread over the entire pool – not just the small employer • Premiums cannot increase by more than 15% due to claims experience Community Rating Would Increase Premiums by 30% for healthy groups

13. In Conclusion Greatest challenge health insurers face: attracting balanced pool of risks to keep healthcare as affordable as possible Key Challenge: How to convince healthy individuals to buy insurance coverage?