Critical Condition

Centrally Planning a Market Failure

Earlier this year, Robert Book of the Heritage Foundation published an article that highlights a deeply troubling aspect of the Patient Protection and Affordable Care Act: the law gives the executive branch the power to wipe out the entire private health insurance industry.

At the time Book’s article was published, this problem got lost in the overall froth of the Obamacare debate. But as HHS Secretary Kathleen Sebelius moves to fill out the hundreds of thousands of pages of regulations that will define our new health care landscape, the issue is worth revisiting.

It sounds crazy, doesn’t it? How could the government destroy an entire industry? Here’s how PPACA gives the feds that power:

Forcing cost increases. Obamacare gives HHS regulators the authority to define minimum benefit packages for all insurance plans: should plans be required to cover psychiatrists’ bills? Fertility treatments? Etc. As these benefits cost money, the more requirements that HHS piles on to the “minimum” package, the more expensive your basic insurance plan will be.

Forcing price increases. The new law requires that insurers spend between 80 to 85 percent of the premiums they collect on health care, leaving 15 to 20 percent for fraud prevention, directly provided services like nurse hotlines, administrative costs, and certain taxes. (The definition of “health care” for this purpose is far more complicated than it sounds, and is at present the subject of hotly contested deliberations among state insurance commissioners.) Since it’s really hard for insurers to cut the 15-20 percent, they will be forced by the law to raise premiums to cover the 80-85 percent. Insurers that don’t meet these “medical loss ratio” targets, or MLRs, will be forced to send rebates to policyholders to cover the difference.

Taxing expensive health plans. The “Cadillac tax” on health plans applies a 40 percent excise tax on plans with total premiums initially exceeding $8,500 for individuals and $23,000 for families. Because these dollar amounts are indexed to consumer inflation, not health-care inflation (which rises at a significantly faster rate), Towers Watson has estimated that more than 60 percent of large employers’ existing plans will qualify as Cadillac plans by 2018. The tax is paid by the insurer, who will then pass the extra costs onto beneficiaries, increasing premiums.

But employers’ existing plans won’t be legal under Obamacare: they will have to change significantly to accommodate the law’s blizzard of mandates and regulations. And as plans get more expensive, and insurers are forced to pay the Cadillac tax, they will have to raise premiums to pass the costs along. As Book calculates, “any premium greater than $13,600 [for an individual plan] would require a loss for the insurance company, regardless of how efficiently they operate,” effectively setting a ceiling on how expensive a health plan can be. (Critical to exactly how this math will play out will be Secretary Sebelius’ determination as to how the medical loss ratio must be calculated.)

On the other side, by requiring minimum benefits for all plans (which demagogic politicians always strive to expand), the law effectively sets a floor as to how cheap a health plan can be. Benefits cost money; the more benefits you require for the minimum plan, the higher the price of a minimum plan becomes.

Book rightly asks the obvious question: “What happens when the ‘floor’ is above the ‘ceiling’?” It’s pretty simple: private insurers will be unable to break even, and will go out of business, leading to predictable lamentations from the left that the “market has failed” and that it’s high time for a government-run single-payer system to come to the rescue.

Tellingly, the most powerful committee chairmen in Congress, like Henry Waxman, Max Baucus, and Sander Levin, are striving to accelerate this process, by requiring that income taxes paid by insurers count against the medical loss ratio targets. Aside from the manifest unfairness of such a ploy—the taxes that insurers pay have nothing to do with insurers’ efficiency in providing medical care—it is contrary to the plain language of PPACA, which excludes most taxes from the MLR calculation.

This is what happens when you put the fate of an entire industry in the hands of politicians.

Avik Roy is an equity research analyst at Monness, Crespi, Hardt & Co., and blogs on health-care policy at The Apothecary.

Avik RoyMr. Roy, the president of the Foundation for Research on Equal Opportunity, is a former policy adviser to Mitt Romney, Rick Perry, and Marco Rubio.


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