Report: Making Health Care Work

The idea of creating health insurance purchasing pools, like those called for in the Affordable Care Act, is not a new one.  In the past, many states have experimented with creating such pools, and their experience has shown that mechanisms like the exchange can succeed at improving choice and holding down costs.  But experience has also shown that success is not automatic. In some states, the pools have been failures, forced to close their doors by upwardly-spiraling premiums and downwardly-spiraling enrollment.  In designing their exchange, states must take care to avoid past mistakes and create a stable marketplace for individuals and small businesses.

Past failures in pooling can often be traced to a single dynamic.  Sicker enrollees congregated within the purchasing pools, with healthier enrollees remaining outside.  Because sicker enrollees cost more to insure, this drives up premiums, leading more healthy people to drop coverage and secure less expensive coverage on their own, which in turn sends premiums within the pool up again.  This phenomenon, called adverse selection, can lead to a vicious cycle that only ends with the destruction of the purchasing pool.

If a state decides to allow insurers to sell their products to individuals and small groups without going through the exchange (as most appear to be planning), the fundamental challenge is to ensure that the exchange does not become a dumping-ground for less-healthy patients, with healthier enrollees purchasing coverage outside of it.  

Fortunately, the ACA guards against the worst risks of adverse selection by preventing insurers both on and off the exchange from directly discriminating against the sick, and it also contains specific provisions aimed at balancing risk on and off the exchange.  But to complement these ACA policies, states should adopt additional measures to ensure that adverse selection does not undermine the viability of their insurance market.