07 December 2009

Insurance companies and the for-profit business model

I got a surprising number of comments on my post from Friday about Aetna.  To recap: Aetna's profit margin this year was less than in previous years. It was, however, still profitable and in fact beat analysts' expectations. Aetna made the decision to raise premiums to improve their profit margin; this, according to Aetna, will result in 650,000 individual group and individual members losing their insurance from Aetna.

First of all, I need to point out to all of you commenting on this post that you're not helping me out here.  I'm trying, I really am trying to get away from the policy stuff and get away from the political stuff and get back to the clinical and humanistic side of medical blogging.  And I put up a throwaway repost of something from the Huffington Post and you go and spark an interesting discussion in the comments.  And I'm drawn in like the moth to the flame.  You're killing me.

On the substance of the matter: In a fit of pique I called Aetna "fuckers," which creates a reasonable impression that I think Aetna was somehow behaving reproachably.  Well, sort of, sort of not.  My feeling is that Aetna is behaving perfectly appropriately within the system as it exists, but the for-profit insurance model itself should be abolished.  In the current world, Aetna has a fiduciary responsibility to its shareholders to maximize their profits.  It's not just a good idea; it's the law.  Moreover, Aetna is traded on the NYSE, and like any other publicly traded company, if investors are concerned that profits are in jeopardy, the stock will plummet and stockholders will suffer.  So the executive team at Aetna has a real and genuine mission to maximize profit, and to make a public show of how hard they are trying to maximize profits.  It's their reason for being.  They took a rational look at the market, made the profit/volume calculation, and decided they were better off selling fewer donuts at a higher profit per donut.*

Which is a fine thing to do if you're selling donuts, but Aetna is insuring lives.  It's a little galling to see the profit/life calculation being made so brazenly.  But in fairness, it should be pointed out that some or most of the 650,000 people who can no longer afford or no longer choose to pay Aetna's higher prices will not become uninsured or go on welfare.  Some may wind up uninsured (especially in the horrific small business/individual market), but the larger number, especially in the large group market, will simply elect a different option, be it UnitedHealth or one of the Blues or whomever. 

So why is this a problem, if it's mostly one insurer shuffling off customers onto its lower-margin competitors?  Simply: Aetna is doing this in part as a form of cherry-picking, what insurance types call "adverse selection."  They want to retain the lowest-cost, healthiest customers, and get rid of those who have medical conditions that cost money.  One of the most efficient ways to do this is to raise overall costs.  The individuals (and the smaller groups) who have expensive conditions are already paying more due to their higher loss ratios, so they are the most sensitive to cost -- and the first customers to leave in search of cheaper insurance.  Devilish, isn't it?  While this is a win for Aetna (and yes, *every* insurance company does this), it distorts the market when companies are successful at it.  The result is segregated pools of sicker people with higher costs.  This drives up the overall cost of insurance for those who need it the most and defeats one of the key purposes of insurance in the first place: risk-sharing.

The trickle-down consequence is that the number of the uninsured inevitably increases as all the companies engage in this practice of profit-maximization.  Some of the 650,000 soon-to-be-former Aetna members will wind up uninsured.  But as most move down the food chain of insurance companies, the costs increase there, and profit margins shrink, and these companies also increase the price of premiums.  As a result, some enrollees at these plans will be priced out of insurance. It's not a one-to-one thing, but it's a certainty that this sort of activity contributes to the growth of the number of Americans without health insurance.

Another problem with this strategy is that it does represent a significant inefficiency in the health care market.  Put bluntly, insurance company profits are expensive.  The annual profits for the top five publicly-traded health insurance companies total somewhere in the $25 billion range.  Yes, that's a small fraction of overall spending on health care, but it's also a full quarter of the $100 billion that the "huge" health reform bill will cost annually.  As someone invested in public health, it's frustrating to see that sort of money parasitically siphoned off of a system that is already crumbling under its expense.  (Note that I say parasitically not as a moral condemnation but in the strict sense of not adding value for the costs incurred.)

Would life be better if all insurance companies were not for profit?  Good question.  It's true that some of the most vicious, dirty players in the insurance game are not-for-profit insurers.  Where markets are competitive, they behave like the for-profits.  (This fact is in my opinion the strongest argument for the public option.)  But as was pointed out, the not-for-profits do bear a sense of responsibilty for their communities and you seldom see a non-profit exit a market unless they have been driven bankrupt.  Further, the surpluses generated by not-for-profits are generally much smaller than the profits generated by their public brethren, and they are reinvested in the business or returned to subscribers.

It wouldn't be a panacea to take the profit motive out of health insurance, not by a long shot.  But it would be a good start.

And just for reference, I would generally agree that the provision of health care by physicians should also be not for profit.  Which is not to say that the doctors should not be compensated -- but that the corporations should not be publicly owned and that the revenue generated by doctors should go to the doctors, not to shareholders. But that's another topic altogether.

*Side note: I grew up in Chicago, and at the Museum of Science & Industry there was a primitive computer economics game where you were the owner of a donut shop and had to figure out the optimal price for your donuts. It was fun but tough for a nine-year-old Shadowfax. Anybody else ever play that game?  Says something about me that that I thought an economics computer game was "fun."


  1. ****clap clap****

    I think the vast majority of Americans do not understand accounting enough to make accurate assessments of the business of healthcare. Until I was an accounting and budget manager and a controller of a community clinic...I didn't really "get it."

    Lots of random businesses fail in their quest to make investors happy. Many years ago (before the banking crisis), there was a local bank that was flush with investors cash. Well..they started building branchs all over the place. It seemed a little excessive to me. And five years later they are *poof* gone with the wind....

  2. Aetna is doing this in part as a form of cherry-picking, what insurance types call "adverse selection." They want to retain the lowest-cost, healthiest customers, and get rid of those who have medical conditions that cost money. One of the most efficient ways to do this is to raise overall costs.

    Not necessarily. As the American Medical News article quoted at HuffPo points out, sometimes that works. But as another analyst quoted in AMN says:

    ... simply raising prices probably would not get Aetna what it wants. That actually tends to result in sick people who are more "desperate" for coverage to keep it, and healthier groups to drop it.

    This is the flip side of your cherry-picking problem and one we see to some extent in New Jersey. Sicker people don't pay more in NJ (for which I am devoutly grateful). However, that means premiums go up for everyone so healthy people who are willing to take a chance and all those who simply can't afford the higher premiums stop buying insurance. Premiums go up again, more healthy people exit, and so on.

    Fixing cherry-picking is easy: just do what NJ did and pass a law that prohibits varying rates for varying conditions of health, age, and so on. Fixing the problem NJ is now facing is tougher: you need to subsidize insurance and/or force everyone to buy health insurance. I don't see how a public option is needed to do either of those nor do I see how a public option in and of itself is going to accomplish either of those.

  3. I don't want a public option; I want a private option, where there's single-payer healthcare, and I have to opt for extra if and only if I want it. I am a firm believer that universal healthcare is waaay too important to leave in the inept hands of the market.

  4. Leonard Schaefer12/07/2009 11:14 AM

    I worked for private for-profit health insurance companies for twenty years. Pique or no pique, you had it right the first time. They ARE all a bunch of fuckers.

  5. Just as a nitpick, there's no way to avoid a dollars/lives tradeoff. Whether that's done by Aetna or by Medicare, lacking an infinite source of wealth to spend on health care, someone has to do those tradeoffs.

    I think the thing we want here is for the tradeoffs to be made in the open, and to be made by some process that ensures that the well-being of patients is somehow safeguarded.

  6. As always, Shadowfax, your post is candid and insightful even if I find myself diametrically opposed to your views at times. If nothing else I appreciate seeing the other side of an argument that is so important.

    The bottom line is that I don't want a bureaucrat in the government making decisions in regards to my health care any more than I want a middle management 26 year old. As for cost, we are not all in this together. We should get a discount based upon my healthy habits (weight control, non-smoker, etc.) but should not be charged a surplus based on things outside of our control such as gender, ethnicity, etc. In a business that assigns risk based on every category they legally can, we will always be penalized for what we are rather than the decisions we make. In a wholly public option we will lazily be grouped together without regard for the aforementioned which is just as bad.

  7. So, after the Affordable care act has been passed etc and now that AETNA is talking about doubling the premiums (the CEO said)..what is the current status of this blog (post)..

    Also, how do you juxtapose the current system with the Surgery Center of oklahoma model (google/youtube their cost model -but I am sure I am the new one to this topic, you probably do know well about it)


Note: Only a member of this blog may post a comment.