Why Risk Pooling Should Trump Tax Neutrality in Real World Health Policy Len M. Nichols, Ph.D. Director, Health Policy Program New America Foundation ARIA Annual Meeting Washington, DC August 7, 2006

2 Overview The Impossible Dream of tax neutrality Health insurance is an imperfect market Competing Visions of optimal risk pools Group vs. non-group insurance markets Reasons for and against a tax cap The future of employment-based health insurance

3 Optimal Public Finance Taxes should: –Not distort individual choices –Be paid by those who benefit –Reflect society’s consensus on equity

4 Impossible Dream: Optimal in 3 dimensions

5 Health Insurance is not Ice Cream Health insurance not perfect market –information imperfections –skewed and randomized cost structure Insurance sellers do NOT want to sell to all comers Insurers can use P or Quality to deter sales

6 President’s Proposals Encourage non-group purchase of HSA- eligible insurance –Premium + OOP from HSAs deductible –Payroll tax credit for HSA contribution Support passage of AHPs + federal override of state regulation of insurance markets Malpractice reform HIT and transparency exhortations

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8 Some Facts on Health Expenditure Distribution Mean = 80 th percentile spending level Top 20% account for 80% of spending Mean roughly 5 times median It’s extremely profitable to select risks

9 Competing Visions of Optimal Risk Pools Communitarian Libertarian

10 Group vs. non-group insurance ¾ of marginal tax rates between 25-40% Economies of scale –Administration and selling (load differences 15-35%) –Nature of risk-rating –Purchasing power vs. health providers (discounts up to 50%) Take-up rates for ESI are far higher (11-2.2:1) at each income level than non-group –Difference larger than any plausible elasticity –Related to value / cost appraisals | income Ability to exclude/deny violates equity norms Competition on care management > competition on selection techniques

11 Why We Should Limit Tax- Exclusion Now Open-ended subsidy is regressive Encourages overly generous insurance for families in highest tax brackets Because we need to give high income Americans a greater stake in system-wide cost containment Limit > elimination, to keep glue of ESI risk pooling alive, until system-wide reforms

12 Future of Employment-Based Insurance? It will wither away It should wither away It would be better if it withered after we created risk-pools and purchasing mechanisms that can preserve equity while enhancing efficiency Once health costs are the sole purview of citizens and government/tax payers, social pressure for efficient health care system will rise

13 Percent of median family income required to buy family health insurance Source: Author’s calculations, using KFF and AHRQ premium data, CPS income data.

14 Pew Typology: Support for government guarantee of health insurance, even if taxes must be raised Pew Center for Research on People & the Press: 2005