Health Insurance Exchanges Are Coming. Will They Work?

By: Andrew Olson  

With the 2012 presidential election decided, even House Speaker John Boehner concedes that the Affordable Care Act (ACA) is the “law of the land.” But many states are unprepared to meet one of the reform bill’s major provisions—the establishment of health insurance exchanges. States have a deadline of December 14th to decide whether they will construct and operate their own exchanges or have the federal government do it for them. While a few states are building exchanges, some have refused and others are still undecided.

Health insurance exchanges are meant to serve as the marketplace through which individuals and businesses can purchase coverage. Like any market, the success of the exchanges will rely on the participation of many buyers and sellers in a competitive environment. The exchanges are designed to have insurers compete on the basis of quality and service and offer consumers affordable plans that meet their needs. One big question that could undermine their success is whether insurers and consumers will actually participate. The ACA is designed to increase access to health insurance and care. By prohibiting any denial of coverage (such as for pre-existing conditions), and offering subsidies to offset premium costs, the ACA attempts to ensure that every American has access to affordable care. The bill couples affordable access with an individual mandate to compel anyone who is currently uninsured to purchase coverage. The mandate is enforced by levying a tax penalty on any individual refusing to purchase coverage. The problem is that in 2014, the first year the mandate goes into effect, the tax penalty is set at only $95. Consumers will have a choice to make—either purchase insurance or forgo coverage and pay the tax penalty. For individuals with high healthcare costs, the choice to purchase should be simple. For those without high costs it’s likely that, with or without subsidies, it will be less expensive to pay the tax than pay the premiums offered in exchange plans. It is impossible to say exactly what those premium prices will be since they are based on the risk pool of individuals and families purchasing coverage.

As long as plans offered in the exchange can attract people with average health, premiums should be held to reasonable levels. But if people in good health who don’t anticipate high costs of care decide to refuse coverage and instead pay the penalty, then exchange plans could experience an adverse selection problem. If the exchanges are flooded with people whose high health costs have prohibited them from purchasing coverage in the private markets, it could set off a “death spiral,” increasing premiums and making people in better health even less likely to join.

While there is a mandate for individuals, there is no such requirement that insurers participate in the exchanges, and if they think the plans they offer are at risk of a death spiral they may choose not to enter the exchange market. The tax penalty is phased in and does increase in subsequent years to $395 in 2015 and $695 or 2.5% of income in 2016, but even these amounts could be considerably lower than premiums of plans offered in the exchanges.

Is the tax penalty high enough to compel enough healthy people to enter the risk pools of plans offered in the exchanges? Only time will tell. But if the penalty is too low, legislators will have scuttled the exchanges before they got afloat.

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