A New Obamacare Proposal Might Not Be Legal–A New Obamacare Proposal Might Not Be Legal–part 3 of 4
Insights into health care and entitlement reform. Opinions expressed by Forbes Contributors are their own.
Seth Chandler, Contributor Continued from page 1
The above passages have been written for the average person interested in the Affordable Care Act and the rule of law. I now go into “expert mode” and engage in further speculation and legal analysis.
Why don’t insurers just buy reinsurance?
A good question to ask about the CMS creation of a national reinsurance cooperative is why it is needed at all. There is a market for something called “specific stop loss reinsurance.” If insurers fear having a few individuals in their pool with exceptionally high costs, they can and do purchase reinsurance against that risk. The reinsurance might, for example, reimburse an insurer for 80% of an individual insured’s claims in excess of $1 million. So, why would CMS oblige insurers who have managed to get their costs down and don’t see a lot of claims over $2 million to basically provide reinsurance for insurers who either haven’t managed to get their costs down or sell policies in states that facilitate high cost medical care?
The answer to this question is that the reinsurance idea is basically supposed to compensate for the miserable nature of CMS’s risk adjustment program. If risk adjustment actually worked, it has some interesting properties. In theory, it can create a bizarre kind of prisoner’s dilemma in which no insurer really wants to attract insureds who are low risk. If they do, they have the “hot potato” and may end up paying money to other insurers who got the high risk insureds. That payment may equal or exceed any benefit they got from attracting low risk insureds. The game without risk adjustment was to avoid the hot potato of the high risk insured; the winning strategy was to write policies and construct narrow networks that discouraged the high risk from applying. Now, with some forms of risk adjustment, insurers’ best strategy might be the opposite: write policies that are attractive to high risk insureds and then create networks that serve them well.
Why do I hear snickers when I say this? Why do we not see this behavior by insurers under the ACA? Why are ACA insurance policies starting to look more like Medicaid than employer plans with a diminution in any choice? Mostly because the theory only applies if the the risk scoring system actually works! And it only works if the risk CMS assigns to an individual closely predicts that individual’s actual risk.
If there is anything that several studies show, including (1) a forthcoming one in which I am participating, (2) a 130 page White Paper released by CMS this summer and (3) the 90 pages of screaming submitted by various stakeholders in response to the CMS paper, it is that the CMS Risk Adjustment system is deeply flawed. The risk scores CMS assigns just do not predict the actual risk of the insured very well. If the risk scores are random or close to random, risk adjustment does not create more generous policies, it just creates additional risk. And if the risk scoring system is both random and systematically overcompensatory, insurers have little incentive to seek out low risk insureds. This aversion increases the cost of the program and may actually increase adverse selection problems. It does not lead to the creation of broad networks that make life easy for the sick.
So, CMS’ idea with reinsurance was essentially to compensate for a now-recognized challenge in predicting actual risk. The genius of reinsurance as a form of risk adjustment is that you measure risk by using actual cost. It’s like playing Texas Hold’em not having to bet on the flop but getting to wait until all the cards are dealt out. No need to guess that a person needing an intestinal transplant is a “42″ on some scale. By the end of the policy year, we now know that this particular person needing an intestinal transplant wracked up $3 million in healthcare claims that year. Although CMS warned for years about the evils of using a reinsurance scheme as a substitute for risk scoring — it dilutes incentives for the insurer to control costs — its own incompetence in assessing risk has caused it to reconsider.
source–cms, the aporthecary, seth chandler, forbes, mccarran ferguson act
part 3 of 4