Long-Term Health Insurance: Theory Meets Evidence

Abstract

To insure policyholders against contemporaneous health expenditure shocks and future reclassification risk, long-term health insurance constitutes an alternative to community-rated shortterm contracts with an individual mandate. Relying on unique claims panel data from a large private insurer in Germany, we study a real-world long-term health insurance application with a life-cycle perspective. We show that German long-term health insurance (GLTHI) achieves substantial welfare gains compared to a series of risk-rated short-term contracts. Although, by its simple design, the premium setting of GLTHI contract departs significantly from the optimal dynamic contract, surprisingly we only find modest welfare differences between the two. Finally, we conduct counterfactual policy experiments to illustrate the welfare consequences of integrating GLTHI into a system with a "Medicare-like" public insurance that covers people above 65.

Reclassification Risk in the Small Group Health Insurance Market

“…For the time period and states in our sample, insurers could experience rate small employers without significant regulatory restrictions. 5 Related to our study, Buchmueller and DiNardo (2002) investigated whether the implementation of community rating in New York led to adverse selection, while Cutler and Reber (1998); Bundorf et al (2012); Einav et al (2010), and Kowalski (2015) study reclassification risk for employees who could choose from a menu of plans offered by their employer, and Atal et al (2019) study guaranteed renewability contracts in Germany.…”

Optimal Long-Term Health Insurance Contracts: Characterization, Computation, and Welfare Effects

“…In the U.S. prior to the ACA, state-level guaranteed renewability regulations introduced some elements of dynamic contracting to health insurance contracts, albeit of a restricted form [Patel and Pauly (2002), ]. Outside of the U.S., both Germany and Chile have some long-term contracting for health insurance [Browne and Hoffman (2013), Atal (2016), Atal et al (2019)].…”

“…We find that insuring this pre-age-25 health risk, so that all consumers have the same lifetime welfare as the healthiest 25 year old, would cost the government between $5,000 and $12,000 per consumer. 4 We also examine the welfare effect of a balanced budget insurance scheme for pre-age-25 health risk. With this insurance in place, dynamic contracts close between 79-93% of the ex ante welfare gap between spot contracts and our "No Borrowing / No Saving" benchmark.…”

Long‐Term Contracting With Time‐Inconsistent Agents

“…For example, Hendel and Lizzeri (2003) theoretically and empirically examined how life insurers mitigate reclassification risk by offering front‐loaded policies. More recently, Handel, Hendel, and Whinston (2017) and Atal, Fang, Karlsson, and Ziebarth (2018) showed that front‐loaded long‐term health insurance contracts can produce substantial welfare gains by insuring policyholders against reclassification risk. The main difference between these models and ours is that consumers in our model are dynamically inconsistent.…”