Competition Leverage: How the Demand Side Affects Optimal Risk Adjustment
AbstractWe study optimal risk adjustment in imperfectly competitive health insurance markets when high-risk consumers are less likely to switch insurer than low-risk consumers. First, we find that insurers still have an incentive to select even if risk adjustment perfectly corrects for cost differences among consumers. Consequently, the outcome is not efficient even if cost differences are fully compensated. To achieve first best, risk adjustment should overcompensate for serving high-risk agents to take into account the difference in mark- ups among the two types. Second, the difference in switching behavior creates a trade off between efficiency and consumer welfare. Reducing the difference in risk adjustment subsidies to high and low types increases consumer welfare by leveraging competition from the elastic low-risk market to the less elastic high-risk market. Finally, mandatory pooling can increase consumer surplus even further, at the cost of efficiency.
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Bibliographic InfoPaper provided by Tilburg University, Center for Economic Research in its series Discussion Paper with number 2011-071.
Date of creation: 2011
Date of revision:
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Web page: http://center.uvt.nl
health insurance; risk adjustment; imperfect competition; leverage;
Other versions of this item:
- Bijlsma, Michiel & Boone, Jan & Zwart, Gijsbert, 2011. "Competition leverage: how the demand side affects optimal risk adjustment," CEPR Discussion Papers 8461, C.E.P.R. Discussion Papers.
- Michiel Bijlsma & Gijsbert Zwart & Jan Boone, 2011. "Competition leverage: How the demand side affects optimal risk adjustment," CPB Discussion Paper 181, CPB Netherlands Bureau for Economic Policy Analysis.
- I11 - Health, Education, and Welfare - - Health - - - Analysis of Health Care Markets
- I18 - Health, Education, and Welfare - - Health - - - Government Policy; Regulation; Public Health
- G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
- L13 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Oligopoly and Other Imperfect Markets
This paper has been announced in the following NEP Reports:
- NEP-AGR-2011-07-02 (Agricultural Economics)
- NEP-ALL-2011-07-02 (All new papers)
- NEP-COM-2011-07-02 (Industrial Competition)
- NEP-IAS-2011-07-02 (Insurance Economics)
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