(January 2014) Proponents of nationalized medical insurance long ago conceded the problem of adverse selection, i.e., buyers and sellers with asymmetric information1 create an unsustainable risk pool with few healthy and many unhealthy enrollees.  The federal Affordable Care Act tries to address adverse selection via the individual mandate, limited open enrollment, moderate fines and enrollee subsidies.  Proponents are preoccupied with enrollment figures2 because a minimum of 2.7 million healthy young Americans must enroll to create a sustainable risk pool under the 2010 act.

Market-based critics argue the act will only work if healthy Americans enroll.  Too many unhealthy enrollees will result in higher insurance premiums, fewer enrollees, and, ultimately, a systemic death spiral.  Proponents counter the subsidy system built into the act would cushion the effect of higher premiums by using federal subsidies to limit percentage increases.  Their argument: if adverse selection occurs 2014 enrollees would pay the same in 2015 if their incomes remain constant, leading healthy enrollees to stay, not exit the plan.

But proponents ignore another economic problem: the long-term fiscal cost to Arkansas’ state budget caused by adverse selection. The argument advanced by nationalized medical insurance proponents relies on federal subsidies to address adverse selection.3  These subsidies are unsustainable if the bond market rejects their premise.4  Proponents also seem unaware that internal adverse selection will effect external Arkansas markets because the act mandates insurers rely on a single risk pool.  The concept of unintended consequence may follow adverse selection in the medical insurance lexicon.

–Greg Kaza

1 One party to an economic transaction has more information. George Akerlof’s 1970 paper, “The Market for Lemons” (Quarterly Journal of Economics) examines problems created by asymmetric information. Akerlof is the 2001 Nobel Economics Laureate and husband of newly-installed Fed Chair Janet Yellen.  Also see David M. Cutler and Richard J. Zeckhauser, “Adverse Selection in Health Insurance”  in Frontiers in Health Policy Research Vol. 1 (editor: Alan M. Garber), MIT (1998); Gregory Lewis, “Asymmetric information, Adverse Selection and Online Disclosure: The Case of eBay Motors,” American Economic Review, Vol. 101, 4 (June 2011); and Martin B. Hackmann, Jonathan T. Kolstad and Amanda E. Kowalski, “Health Reform, Health Insurance, and Selection: Estimating Selection into Health Insurance Using the Massachusetts Health Reform,” AER, Vol. 102, 3 (May 2012).

2 The preoccupation with enrollment figures is also evident in coverage of Arkansas Medicaid expansion.

3 Proponents of Arkansas Medicaid expansion also rely on federal subsidies to maintain their scheme in the three-year short-run by ignoring long-term costs.

4  The yield on the bellweather 10-year Treasury note increased 119 basis points in 2013.