Wednesday, June 24, 2009

An analogy on health insurance

As a way to explain the current proposals (such as they are) to "reform" health insurance, I thought I might employ an analogy. I realize that, like all analogies, this is flawed, but I think it actually does a pretty good job of illustrating the current problems.

Lets imagine that your car insurance was run just like the current health insurance system. This would mean:

  • There was a tax break for getting car insurance through your employer
  • That insurance gave group rates assuming everyone at your company had the same driving history
  • That insurance was not allowed to reject people because of prior driving records
  • You lost that insurance if you left the company (or shortly after)
  • Any insurance you purchased on your own not only took into account your driving records, but did not cover any defects in your cars that existed before purchase.
  • The standard method for insurance is to pay for all repairs for a small copay
  • There were government mandates that, for instance, if your car was dented then a full repainting must be paid for, and the coverage must include rebuilding the exhaust system of clunkers to modern emissions compliance (1).
  • Those mandates include that oil changes, tires, and regular recommend maintenance must be covered, but allowed the insurance company to set a maximum liability payout of $10,000 in the case of an accident.
  • Anyone can sue a mechanic for any reason and if they lose they pay only their own lawyer, but if they win the mechanic will likely be out many times what he makes in a year.
  • There is a government program to fix the cars of old and poor people, which pays repair shops 85-90% of market rates, meaning the shops have to recoop that cost by charging you more.
  • Other countries legally limit the price of newly developed systems, so when a new system for brake flushing or whatever comes along, they pay the cost of the actual hardware, we have to pay for all the development work.
As a solution to this the Democrats have offered that they'll offer another program, just like an employer provided health plan, but run by the Federal Government. They will, of course, use taxpayer money to subsidize this plan. They will likely also decide what they are going to pay doctors and legally force doctors to accept their plan, even if they don't take private plans at the same rate. This plan is not subject to state mandates, but they will have their own mandates for it (and for any competing plan, which is still subject to the state mandates, too)

Their current idea is to take out the public plan, but establish a clearing house for private plans that still have to meet their mandates (and that still meet all the other conditions above, except not being tied to their employer).

Obama claims that this will save money because part of this is a plan to make consumers better informed about their choices in healthcare. If you took your car to the mechanic and he said that it has a seal that's slightly cracked. It's unlikely to cause a problem in the next 6 months so you could just get it checked again the next time you get an oil change, but he can change it now (at a cost of a couple hundred dollars) and you won't have to pay any more. Would the information that you don't really need to get it done now really make that much of a difference?

I'll note I'm leaving off one of the major drivers of cost in the health business, which is that people will pay anything for health. If something out there has a 2% chance of saving your baby's life and costs $10 million, it's worth it. Health care costs will grow uncontrollably because we will spend on it constrained only by what we can come up with. This means that the government can never solve every health problem. There are only a few possible approaches to expensive or new treatments:

  1. Do nothing and let the market decide. This will mean that in the short term people will die where we have treatments available (but as we'll shortly see, that is always going to happen) but historically treatments have gotten cheaper so hopefully in the future the treatment will be available to those with less means.
  2. Set a maximum government payout and let the market decide. Same as above, but with more government involvement, which in this case means (interestingly) that we're more likely to get future treatments that are more expensive.
  3. Make rules for who lives and who dies. This is pretty much what most current purely government plans do. They might pay for an expensive treatment for someone who is 30, but not for the same condition in someone who is 70 because they don't have enough time left to be worth the expense. Several of them also cut down on costs by having waiting lists so that some people become untreatable while waiting, allowing them to only fund operations for those who can wait that long and still be treatable. This could either go with an option to buy treatment if you're outside the rules (like Britain, iirc) or eliminate private healthcare entirely (like Canada would be if they didn't have a private system to their South)
  4. Artificially set the price for treatment and offer it to everyone. This will work for most things now, but it will completely eviscerate future spending on development, so more people will die in the future because of cures we won't discover that would have been discovered if they were predicted to sell at a higher cost. This isn't as bad if somebody else is paying unlimited amounts for new developments since then the research cost for some things can be paid by somebody else and we can just pay for production costs(2)
Obviously you can have some combination of these (Canada, iirc, has rules and also artificially lowers the cost of prescriptions, which in some cases means they don't get the latest drugs imported at all.) but no matter what you do, you need to face the fact that some people are going to die as a result of your decision. You can't, as Obama seems to want to, simply say that we're going to fix it and ensure everybody will get every treatment they need.

(1) If you think this is an insane analogy, I know several states require that cancer patients be provided with wigs by insurance. I've known people in chemo and I know how much hair pieces can mean to them, but do we really need a law stating that an insurance policy must cover that?

(2) Imagine I have an idea for a new cancer drug which I think has a 10% chance of success, will cost $100 million to get through research and $5 per patient for production, and will affect 1 million people per year worldwide. If I get 7 years on my patent and spend 2 of those in approval testing with the FDA then I need to recoup $100 million in 5 years after approval. This would cost $25 per patient to recoup the costs if it's successful, but there's no way I persue it if my expected return is $25 per patient because there's a 90% chance I lose $100 million. To make the expected return equal the cost I would need to charge at least $185 per patient. If half of those patients are in country X and they normally only give double the production cost in their price fixing operation then I'll still want to sell to them if I succeed (since that's $5 per patient in profit, assuming the research is successful) but when I'm deciding if I can afford to start I need to assume I can sell to the other half of the patients at $365 to recoup the expected loss on research. In reality I don't think any of the current price fixing countries are setting prices based on production costs (with the possible exception of some African anti-virals, which don't account for substantial expected profits anyway) so it's not quite this bad, but this does illustrate why price fixes work, so long as somebody else is willing to pay for research.

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