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Collusion in a One-Period Insurance Market with Adverse Selection

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Abstract

We show how collusive outcomes may occur in equilibrium in a one-period competitive insurance market characterized by adverse selection. We build on the Inderst and Wambach (2001) model --this shows that the Rothschild and Stiglitz separating equilibrium always exists when there are capacity constraints-- and we assume that insurees must pay a minimum premium, which is a common feature in many health systems. In this setup we show that there is a range of equilibria, from the zero profit one in which low-risks implicitly subsidize high risks, to one where firms obtain profits with both types of consumers. Moreover, we show that rents only partially dissipate if we assume free entry. Along these equilibria, high risks always obtain full insurance while the low risks coverage decreases as the firms' profits increase. Recently the Chilean antitrust authority (Fiscalía Nacional Económica) accused five of the largest private health insurers of collusion after they had reduced the coverage offered to their customers and as a result significantly raised their profits. Our model is consistent with this accusation

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Paper provided by Ilades-Georgetown University, Universidad Alberto Hurtado/School of Economics and Bussines in its series ILADES-Georgetown University Working Papers with number inv196.

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Length: 17 pages
Date of creation: Dec 2007
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Handle: RePEc:ila:ilades:inv196

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Keywords: adverse selection; collusion; insurance; capacity constraints;

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  1. Hellwig, Martin, 1987. "Some recent developments in the theory of competition in markets with adverse selection ," European Economic Review, Elsevier, vol. 31(1-2), pages 319-325.
  2. Asheim, G.B. & Nilssen, T., 1995. "Non-Discriminating Renogociation in a Competitive Insurance Market," Memorandum 03/1995, Oslo University, Department of Economics.
  3. Hellwig, Martin F., 1988. "A note on the specification of interfirm communication in insurance markets with adverse selection," Journal of Economic Theory, Elsevier, vol. 46(1), pages 154-163, October.
  4. Joseph P. Newhouse, 1996. "Reimbursing Health Plans and Health Providers: Efficiency in Production versus Selection," Journal of Economic Literature, American Economic Association, vol. 34(3), pages 1236-1263, September.
  5. Rothschild, Michael & Stiglitz, Joseph E, 1976. "Equilibrium in Competitive Insurance Markets: An Essay on the Economics of Imperfect Information," The Quarterly Journal of Economics, MIT Press, vol. 90(4), pages 630-49, November.
  6. Ronald D. Fischer & Pablo Serra, 1997. "Análisis económico del sistema de seguros de salud en Chile," Documentos de Trabajo 17, Centro de Economía Aplicada, Universidad de Chile.
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