David Cutler and Richard Zeckhauser review “The anatomy of health insurance” in chapter 11 of the Handbook of Health Economics. The chapter provides an overview of the economics field’s insight regarding health insurance. The authors summarize the literature’s findings into 5 main lessons listed below:
- Risk spreading versus incentives: Health insurance involves a fundamental tradeoff between risk spreading and appropriate incentives. Increasing the generosity of insurance spreads risk more broadly but also leads to increased losses because individuals chose more care (moral hazard) and providers supply more care (principal-agent problems).
- Integration of Insurance and provision: Medical care is unlike other insurance markets in that insurers are often involved in the provision of the good in addition to insuring its cost. The integration of insurance and provision, intended to align incentives has increased over time. Managed care, where the functions are united, is an extreme version. Under it, doctors have dual loyalties, to the insurer as well as the patient.
- Competition and consumer identity: When consumer identity affects costs, competition is a mixed blessing. Allowing individuals to choose among competing health insurance plans can allocate people to appropriate plans and provide incentives for efficient provision. But it can also bing with it adverse selection–the tendency of the sick to prefer the most generous plans. Adverse selection induces people to enroll in less generous plans so they can be in a healthier pool, and gives plans incentives to distort their offerings to be less generous with care for the sick.
- Information and long-term insurance: More information about individual risk levels allows for more efficient pricing of risk, but portends a welfare loss from incomplete insurance contracts.
- Health insurance and health: The primary purpose of health insurance and delivery is to improve health. Unfortunately, conclusive results are not in on which insurance and provision arrangements do this most effectively.