Estimating the Heterogeneous Welfare Effects of Choice Architecture: An Application to the Medicare Prescription Drug Insurance Market

We develop a structural model for bounding welfare effects of policies that alter the design of differentiated product markets when some consumers may be misinformed about product characteristics and inertia in consumer behavior reflects a mixture of latent preferences, information costs, switching costs and psychological biases. We use the model to analyze three proposals to redesign markets for Medicare prescription drug insurance: (1) reducing the number of plans, (2) providing personalized information, and (3) defaulting consumers to cheap plans. First we combine administrative and survey data to determine which consumers make informed enrollment decisions. Then we analyze the welfare effects of each proposal, using revealed preferences of informed consumers to proxy for concealed preferences of misinformed consumers. Results suggest that each policy produces large gains and losses for some consumers, but the menu reduction would unambiguously harm most consumers whereas personalized information would unambiguously benefit most consumers.