2017-01-17 – I saw an interesting health insurance proposal on Facebook that I think is worth talking about. Here’s a piece of it:

“Perhaps the American people need to pool their money into a grass roots company and have their own doctors, hospitals etc. This way we can make the rules.”

I wanted to talk about this because it will help me discuss the factors that make Obamacare work.

Insurance started out as this proposal suggests. People just got together and pooled their money—churches, farmers, workers. Healthcare was not even remotely as expensive as it can be today, but that really doesn’t matter. They pooled their money and, if someone got sick, their expenses were paid for out of the pool.

As these pools grew, they began to look like insurance companies, with one difference: they were owned by policyholder, not stockholders. Some insurance companies still operate this way and might be called mutual insurance companies or fraternal insurance companies. They are a minority.

An insurance company can’t stay small. If the money pool only covers one church, a single contagious disease can wipe out the pool. Everyone is bankrupt. This risk can be reduced by covering more and more churches, or more and more farmers, or more and more workers.

All insurance companies—whether they are owned by the policyholders or the shareholder—share a common problem: they have to stay solvent. They need to collect more in premiums than they pay out in claims.

Insurance companies have three powerful techniques to reduce their risk of insolvency:

• Don’t cover pre-existing conditions,
• Set a maximum amount they’ll pay out in claims (also known as a lifetime cap),
• Sell insurance to a group (like a church or an employer) rather than to individuals.

Excluding pre-existing conditions avoids a situation that insurance people call “adverse selection.” If you let just anyone buy your insurance, sick people will line up and healthy people will stay away. If you only have sick people in your insurance pool, you’ll go bankrupt really quickly. So they put an exclusion in the policy saying that they won’t pay for an illness you had when you signed up. That’s the pre-existing condition exclusion. Often they won’t even sell you the policy if you are sick.

This rule is not intended to be mean. It is intended to protect the solvency of the fund for everyone. But it has bad consequences because insurance is not a lifelong thing. If you let your coverage lapse and try to rejoin after you’re sick, forget about it!

The second thing insurance companies do to reduce risk is to place a limit on the total amount of claims  they will pay. This can be an annual limit (annual cap) or a lifetime limit (lifetime cap). They may figure that they can operate well if they don’t have to pay claims over $1 million dollars, so they put that in the policy: “we will pay the first $1 million and, after that, you’re on your own.”

A million might seem plenty, but if you ever have a serious illness, you’ll see how fast that gets used up. Then, when you most need it, you’re out of luck. Many lifetime caps are much less than this.

The third thing insurance companies do to reduce risk is sell to groups rather than individuals. Selling to groups, particularly large groups, avoids most of the risk of adverse selection. That’s why you probably get your insurance from your employer. The people employed by your employer constitute a group. It’s probably pretty healthy (you’re working aren’t you?). But it’s not totally healthy. It’s a good mix. It is ideal for insurance. You can’t join the group just because you’re sick. You won’t leave the group just because you’re healthy.

And that is the key to maintaining a solvent insurance pool: You can’t join the group just because you’re sick. You won’t leave the group just because you’re healthy.

If you have a group like this, you don’t really need to exclude pre-existing conditions. If you have a group like this, you don’t really need to impose lifetime caps. The sick people are balanced by the healthy people. And remember, if this is a long-term thing, sometimes you’re healthy and sometimes you’re not. So when you are healthy, you chip in “too much.” When you are sick, you take out “too much.” But over time, it balances out.

If it’s a stable group.

Historically, employers have been stable groups. Sure people come and go—but not for reasons of health. Employer groups are stable enough to support group health insurance. That’s why employer-sponsored health insurance has been the biggest share of the market.

Unfortunately, that leaves people without employer health insurance out of luck. Medicare came along in the sixties to fix this problem for retired people. Medicaid came along around the same time to fix this problem for the poor.

But middle-class people without employer-provided coverage needed something. That’s what Obamacare solved. It looked at the entire individual health insurance market and said: we’re turning this into a group. To make it a group, the way insurance people understand it, your participation in the insurance has to be mandatory. You can’t just join when you are sick. You can’t quit when you are well. The same rules that apply to employer-sponsored groups. That’s why Obamacare has the “individual mandate.”

Once the individual mandate was in place, pre-existing condition exclusions and lifetime caps could be gotten rid of. And they were. It’s a good thing. While those things do protect the solvency of the insurance fund, they cause the insurance to fail when you need it most. Obamacare made them unnecessary. So they are now a thing of the past . . .

Unless the Republicans repeal Obamacare. Don’t let it happen.