These risk transfers are insurance risk transfers. Big insurers write lots of policies, achieving substantial overall risk reduction. Big insurers can charge less for identical policies because their operating results are not as variable as small insurers. So the risk premium a large insurer charges is less than the risk premium a smaller insurer should charge to manage the risks it assumes based solely on portfolio size. The myth is that insurance risks can be transferred for a payment that is, on average, adequate. The truth is that smaller insurers are less efficient than larger insurers.

What does this mean? When risks are transferred to health care providers – I call it “Professional Caregiver Insurance Risk” they become very, very inefficient insurers. Two, equally clinically efficient, providers, one a fee-for-service and one capitated, must provide different levels of service to achieve the same overall financial results – i.e. profitability. The capitated provider must provide less service per dollar of revenue because it must prepare for the possibility of higher than expected losses at the end of the contract. The illusion, perhaps delusion, is that capitated providers are more efficient.

In fact, the risk borne by a smaller insurer (provider) is a function of the square root of the differential in size for the ceding insurer’s portfolio and the accepting provider’s portfolio: 1/10th the size – 3.162 times the variability in loss ratios for the provider’s portfolio. To compensate for this increased risk – capitated providers must reduce their average costs – because when they are already efficient, they can’t reduce variability. So, for every dollar paid through an efficient capitation system, less service is bought then with traditional indemnity insurance.

The flaw underlying arguments favoring risk sharing is that providers willingly harm patients by over-prescribing, over-testing, performing unnecessary diagnostic and treatment procedures, to generate more revenue, BUT that capitated providers will not under-prescribe, defer or refuse necessary diagnostic and treatment procedures, to reduce costs and increase their net revenues. This, of course, ought to be proven rather than merely assumed.

A better approach would be to assume, based on the inherent inefficiency of transferring insurance risks to health care providers, that less service will be furnished when insurance risks are transferred, and that providers who would harm patients with unnecessary treatments will deny care that harms their patients if their economic self-interest is best served by doing that. True, it will always be a small percent of providers and affect different patients. Healthy patients are often hurt by fee-for-service over-treatment whereas sick patients are often hurt when capitated providers deny necessary treatments.

All assumptions that transferring insurance risks to health care providers are credible ways to fund health care, ought to be proven, rather than assumed. Basic probability, statistical, and actuarial theory suggests that transferring insurance risks to smaller entities is fundamentally unsound. Not recognizing or understanding insurance and risk doesn’t mean these risks do not exist and that accepting these risks does not adversely affect provider operations.