TCS Daily

Health Insurance and Bankruptcy

By Arnold Kling - February 14, 2005 12:00 AM

"we surveyed 1,771 personal bankruptcy filers in five federal courts and subsequently completed in-depth interviews with 931 of them. About half cited medical causes, which indicates that 1.92.2 million Americans (filers plus dependents) experienced medical bankruptcy. Among those whose illnesses led to bankruptcy, out-of-pocket costs averaged $11,854 since the start of illness; 75.7 percent had insurance at the onset of illness."
-- David U. Himmelstein, Elizabeth Warren, Deborah Thorne, and Steffie Woolhandler, Marketwatch: Illness and Injury as Contributors to Bankruptcy

The authors of this recent study published in the journal Health Affairs argue that it shows that the government needs to do more to provide people with health insurance. Instead, I think that the study makes a case against health insurance as currently conceived.


Here are a few more facts from the study that struck me:


  • "35.3 percent had curtailed employment because of illness"
  • "5.7 percent had Medicare, 8.4 percent Medicaid, and 1.6 percent veterans/military coverage"
  • "In the year prior to bankruptcy, out-of-pocket costs (excluding insurance premiums) averaged $3,686"
  • "Debtors with private insurance at the onset of their illnesses had even higher out-of-pocket costs than those with no insurance. This paradox is explained by the very high costs -- $18,005 -- incurred by patients who initially had private insurance but lost it"


Neither Necessary Nor Sufficient


I was struck most of all by how low the medical expenses were for the debtors. My family and others I know would have gladly swapped medical bills with anyone whose out-of-pocket expenses were just $4000 last year and just $12,000 over the last several years. I can't remember when we had a health insurance policy with a deductible as low as $4000.


For a typical family, the out-of-pocket medical expenses that were reported as typical in the bankruptcy study would not be enough to warrant obtaining health insurance. According to the U.S. Census survey, median household income in 2003 was $43,000, and over 70 percent of U.S. families had household money incomes of $25,000 a year or higher. That is sufficient to withstand health care expenses of less than $4000 in one year, or cumulative expenses of $12,000 over several years.


As the authors of the bankruptcy study acknowledge, the average out-of-pocket expense of the debtors was below the level that would be set for catastrophic health insurance. For a family with the median income of $43,000, an out-of-pocket health care expense of $4000 in a year would be less than 10 percent of family income. That cannot be construed as a catastrophic level in a nation that devotes 15 percent of its GDP to health care.


On the other hand, for the debtors in the bankruptcy study, health insurance was not sufficient to ward off bankruptcy. Some of this was due to lost coverage. However, bankruptcy still befell many who retained private coverage or who had government coverage, which presumably was not dropped.


One factor that contributed to bankruptcy in many cases was loss of income. The sick person might be unable to work or might require another family to stop working in order to provide care.


Real Insurance


What I take away from the bankruptcy study is that the insurance that families really need is something closer to the event-based insurance that I first described here. Unlike conventional insurance, which is focused on reimbursing health care providers for carrying out procedures, event-based insurance would reimburse consumers who develop costly ailments.


Event-based insurance means receiving a lump-sum payment at the time of diagnosis. Thus, even if the treatment goes on for years, the consumer has money to pay for it. The consumer does not have to worry about losing coverage with a pre-existing condition, because the consumer already has received benefits for that condition.


It would be reasonable to include a disability component to event-based insurance. If an ailment is going to cause a lapse in work, then the insurance payment can include a lump sum based on the typical amount of work time lost with that ailment.


For ailments that require long-term care, such as Alzheimer's, event-based insurance should include an annuity to cover such care. The annuity starts to pay as soon as the diagnosis indicates a sufficiently advanced stage for the disease, and it ends upon the death of the patient. The annuity payment is independent of whether or not the family chooses to use a nursing home. A family member who instead chooses to stay home and care for the relative would not be penalized for that decision, as they are under Medicaid or most private insurance, which reimburses nursing homes but not families.


Providers of event-based insurance could offer discounts for customers who take measures that are proven to reduce risk. That would serve to mitigate the moral hazard that is associated with having insurance.


Choosing Among Flawed Systems


I will gladly admit that event-based insurance could never work perfectly. Diagnosis is not always precise. Actual costs and expected costs may differ. There are many other issues.


However, I am not proposing event-based insurance as an alternative to a perfect health-care financing system. I am proposing it as an alternative to either the mixed system of health insurance that we have now or to the government nationalization of health insurance that is proposed by the Left.


What we have now is expensive to administer, riddled with perverse incentives, and manifestly fails to provide families with protection from health-driven shocks. National health insurance would be even worse, sending our health care system into a downward spiral of inefficiency, shortages, rationing, and corruption.


The conventional wisdom is that the problem with health insurance in this country is that not enough people have it. However, the bankruptcy study shows that it is the conventional wisdom that is bankrupt. The insurance approach that uses cost reimbursement should be curtailed, not expanded. Instead, among all of the flawed systems from which we might choose, event-based insurance would be the best approach.


TCS Daily Archives