Private Health Insurance Saves Americans Money

The Narrative

“The insurance companies last year alone sucked $23 billion in profits out of the health care system.”[1] — Elizabeth Warren “[P]rivate insurance companies in this country spend between 12 and 18 percent on administration costs.... We can save approximately $500 billion a year just in administration costs.”[2] — Bernie Sanders “It is inhumane to make people go through a system where they cannot literally receive the benefit of what medical science can offer because some insurance company has decided it doesn’t meet their bottom line in terms of their profit motivation.”[3] — Kamala Harris

Reality
Health insurance is expensive because spending on hospital and physician services is high. Insurers are unpopular because they bear the main responsibility for controlling this spending—but their doing so saves consumers money and focuses resources toward better care. A comparison of plan options under Medicare can quantify the value added by private insurance management. Private plans reduce costs by about 10%, allowing them to provide over $1,000 in extra health-care coverage to each Medicare enrollee every year.

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Key Findings

1. Health insurance accounts for only a small fraction of American health-care costs.

• Americans spent $3.3 trillion on health care in 2017, of which 34% was on hospitals, 28% on physician services, 13% on nursing care, and 11% on prescription drugs.[4]
• Expenses incurred by private insurers together account for 7% of U.S. health-care spending—the largest element of which are taxes.[5]

2. Money that insurance companies spend on administration reduces the overall cost of the health-care system.

• Public management costs more because there is no profit motive to shed unnecessary hospital and physician costs and many political motives to maintain them.
• Insurers spend billions administering provider networks, claim reviews, and cost-sharing because these greatly reduce the cost of purchasing medical services.

3. In the Medicare system, private plans give enrollees better-quality medical care at 10% less cost.[6]

• Private Medicare Advantage (MA) plans save money by steering patients to more cost-effective care. Individuals enrolling in private plans enjoyed reduced medical costs and lower mortality than those with equivalent medical risks enrolled in publicly administered coverage.[7]
• Efficiencies generated by private plans help fund extra benefits, such as prescription drug coverage, lower out-of-pocket costs, and dental care—worth an average of $1,284 per Medicare beneficiary per year.[8]

On the Record “Eliminating the overhead costs incurred by private insurers would not reduce the cost of health care; it would cause wasteful spending to soar.”— Chris Pope, Senior Fellow

Health Insurance Costs Are Not Why American Health Care Is Expensive

As with most other types of goods and services, Americans spend more on health care than any other nation in the world. In 2017, Americans “consumed” $3.3 trillion in medical care—accounting for 17% of GDP, or about $10,200 per capita. Of this amount, 53% resulted from government spending, 36% from privately financed insurance, and 11% from individuals paying out-of-pocket.,[9]
Health-care costs are overwhelmingly costs associated with medical facilities and staff. In 2017, 34% of U.S. health-care spending was on hospitals, 28% on physician services, 13% on nursing care, and 11% on prescription drugs.[10]  The cost of each element, of course, appears in private health-insurance premiums.
Health-insurer profits in 2018 were 3.3% of revenues—the same as the industry’s average profit margin during 1990–2008.[11]  This is fairly low, relative to the 8.9% average across industries.[12]  Health-insurance premiums are regulated by states, and in 38 states the largest insurer on the individual market was a nonprofit organization.[13]
In 2017, private health insurers incurred $230 billion in administrative costs, including taxes and profits—7% of U.S. health-care spending.[14]  The largest element of these administrative costs were taxes imposed by state and federal governments—accounting for 4.7% of premiums and 30% of all administrative costs.[15]
Other administrative costs can be divided into two categories: fixed costs associated with enrollment; and variable costs associated with claims. In neither case is there a free lunch to be gained from public administration.
The various up-front costs (processing of applications, marketing plans to new enrollees, underwriting, and meeting regulatory capital reserve requirements) can be significant when individuals switch plans, but they are negligible for the large-employer group plans in which most privately insured Americans are enrolled.[16]  The costs of persuading individuals to voluntarily enroll in private insurance plans compare favorably with the cost of raising revenue for mandatory public insurance through taxes, which can be expected to reduce overall economic output—the loss of which may be about $2 for every $1 in revenue raised.[17]
Many of the arrangements associated with processing reimbursement claims are the same under private insurance and publicly managed plans. The diagnostic and procedure codes used to document the provision of medical services are the same in both instances, and Medicare employs private insurers as contractors to process bills.[18]  However, Medicare has traditionally paid for whatever claims are submitted, with little oversight; private insurers, by contrast, engage in far more active management of payments to ensure that the care purchased offers the best value for the money.

Private Insurers Spend Money on Administration Precisely Because It Controls and Reduces Medical Costs

The value of claims reviews is clear if one examines traditional Medicare’s publicly managed option, which verifies the legitimacy of only 0.3% of the 1.5 billion payments that it makes every year.[19]  In April 2019, 24 people were charged with a $1.2 billion scam to claim reimbursement from Medicare for medical equipment.[20]  The Medicare program is notoriously vulnerable to such fraudulent claims; in 2018, 8% of the program’s payments were estimated to have been improperly made.[21] 
The elements of Medicare for which patients bear no out-of-pocket costs are particularly susceptible to fraud, as beneficiaries can be induced to sign for services that they never received. For instance, CMS estimated that Medicare had an improper payment rate of 59% for home health services in 2015.[22]  The claim that by eliminating cost-sharing, reductions in administrative costs will save money overall, therefore does not stand up to scrutiny. A MedPAC study of the impact of Medigap’s supplemental insurance Plan F, which eliminates Medicare out-of-pocket costs for all services, found that it increases the program’s medical costs by 27%.[23]
Private insurers also attempt to minimize their susceptibility to fraud, low quality, and inflated costs by developing networks of preferred providers whose integrity they trust and whom they are able to reward for delivering care in a cost-effective way. This also gives insurers the ability to negotiate discounts with providers, to cut out unnecessarily costly facilities, and to steer patients toward better-quality sources of care. Private insurers are free to experiment with new benefit designs and have an incentive to provide additional preventive-care services to enrollees if these can help avoid costly hospitalizations.[24]  Despite frequently voiced frustrations, 85% of Americans with private insurance rate the quality of their health care “excellent” or “good,” compared with 79% in Medicare or Medicaid.[25] 
A publicly managed health-care program is inevitably a highly politicized one, as politicians afraid of shortfalls in access to care are easily manipulated by provider interest groups, and every attempt to shed costs turns into a political battle.[26]  That has repeatedly made it difficult for Medicare to rein in and reform flawed payment arrangements that are universally acknowledged to be dysfunctional, and it is why Medicare has an outdated benefit structure with separate deductibles for hospital and physician services but no cap on out-of-pocket costs.[27]

Case Study: Medicare Shows Benefits of Private Insurance Management

Advocates of single-payer health-care reform habitually make their case by comparing the U.S. health-care system with that of other nations. But countries differ from the U.S. in so many ways (such as wage rates, medical needs, political systems, income levels, access to medical technology, and other government policies) that this does little to identify the specific impact of public management. For example, the fact that the U.S. has a higher rate of death from heart disease than Japan says more about the relative obesity rates in each country than it does about the relative merits of their health-care systems.[28]
Medicare beneficiaries have the choice of receiving their benefits directly from the federal government or through competing private insurers under Medicare Advantage. This choice offers the best apples-to-apples comparison of the relative merits of public and private administration. It allows us to compare the quality and cost of health care received by the same segment of the population, in the same country, entitled to the same benefits, through the same delivery system, with a very similar level of public subsidy.[29]
Even after including administrative expenses (12.5%) and profits (2.3%), the cost at which Medicare Advantage plans “bid” to deliver the standard Medicare benefit to enrollees with equivalent medical needs averages about 10% less than publicly managed coverage.[30]  MA plans use efficiency gains to attract enrollees by offering extra benefits (such as prescription drug coverage without the traditional Medicare Part D premium, lower deductibles, and dental benefits), worth an average of $1,284 per person per year.[31]  Oversight by insurers is never fun, but few people want to pay so much extra just to avoid the nuisance.

Health-care costs are 10%–25% lower for patients with equivalent medical needs in privately managed Medicare plans. Those in private plans are consistently more likely to use cost-effective forms of medical care: consulting primary-care physicians more, relative to specialists; receiving 25% more outpatient surgery but 7% less inpatient surgery; and being more likely to recover from procedures at home than in post-acute-care hospitals.[32]  And seniors who must participate in traditional Medicare when MA plans leave their local market experienced a more than 50% increase in hospitalization costs but no improvement in care quality.[33]
The share of Medicare beneficiaries enrolled in private Medicare plans increased from 22% in 2008 to 31% in 2016.[34]  Strikingly, geographic areas with increased enrollment in private Medicare plans have seen health-care costs decline even for those not enrolled, as medical providers reduced their employment of inpatient procedures, diagnostic tests, and post-acute care.[35]
Private insurers are the main driver of cost-effectiveness in American health care. If they were eliminated, the ability for medical providers to bill for services of marginal value would be almost entirely unchecked.

Endnotes

1. Shefali Luthra and Jon Greenberg, “ ‘Medicare for All’ Emerges as Early Divide in First Democratic Debate,” Kaiser Health News, June 27, 2019.
2. “Meet the Press,” transcript, NBC News, Sept. 17, 2017.
3. Tim Hains, “Kamala Harris on Private Insurance Market: ‘Eliminate All of That,’ ‘Let’s Move On,’ ” RealClearPolitics, Jan. 29, 2019.
4. Centers for Medicare & Medicaid Services (CMS), “National Health Expenditure Data.”
5. Ibid.
6. Vilsa Curto et al., “Healthcare Spending and Utilization in Public and Private Medicare,” NBER Working Paper 23090, January 2017.
7. Roy A. Beveridge et al., “Mortality Differences Between Traditional Medicare and Medicare Advantage: A Risk-Adjusted Assessment Using Claims Data,” The Journal of Health Care Organization, Provision, and Financing 54 (2017): 1–8.
8. MedPAC Report to the Congress, “The Medicare Advantage Program: Status Report,” March 2019, p. 353.
9. CMS, “National Health Expenditure Data.”
10. Ibid.
11. “U.S. Health Insurance Industry: 2018 Annual Results,” National Association of Insurance Commissioners (NAIC), 2019; Scott E. Harrington, “The Health Insurance Reform Debate,” Journal of Risk and Insurance 77, no. 1 (March 2010): 5–38.
12. Aswarth Damodaran, “Margins by Sector,” New York University, Stern School of Business, January 2019.
13. Kaiser Family Foundation, “Market Share and Enrollment of Largest Three Insurers—Individual Market,” 2018.
14. CMS, “National Health Expenditure Data.”
15. “Where Does Your Health Care Dollar Go?” AHIP (America’s Health Insurance Plans), May 2018.
16. Kenneth E. Thorpe, “Inside the Black Box of Administrative Costs,” Health Affairs (Summer 1992): 41–55.
17. Martin Feldstein, “Tax Avoidance and the Deadweight Loss of the Income Tax,” NBER Working Paper 5055, March 1995.
18. Joy Hicks, “The Basics of Medical Coding in Healthcare,” verywellhealth.com, May 12, 2019; CMS, “What Is a MAC.”
19. Michelle M. Stein, “Verma: CMS Has a Long Way to Go to Improve Medicare Program Integrity,” InsideHealthPolicy, July 27, 2018.
20. James Doubek, “Feds Charge 24 in Alleged $1.2 Billion Medicare Fraud Scheme,” NPR.com, Apr. 10, 2019.
21. CMS, “CMS Achieved Improper Payment Rate Reductions,” Nov. 15, 2018. (Not all improper payments are due to fraud.)
22. Ibid.
23. Christopher Hogan, “Exploring the Effects of Secondary Coverage on Medicare Spending for the Elderly,” MedPAC, August 2014, p. 11.
24. Chris Pope, “Medicare’s Single-Payer Experience,” National Affairs, no. 26 (Winter 2016): 2–20.
25. Justin McCarthy, “Most Americans Still Rate Their Healthcare Quite Positively,” Gallup, Dec. 7, 2018.
26. Pope, “Medicare’s Single-Payer Experience.”
27. Chris Pope, “Enhancing Medicare Advantage,” Manhattan Institute for Policy Research, Feb. 28, 2019.
28. Bradley Sawyer and Daniel McDermott, “How Do Mortality Rates in the U.S. Compare to Other Countries?” Peterson-Kaiser Health System Tracker, Feb. 14, 2019.
29. Pope, “Enhancing Medicare Advantage.”
30. NAIC, “U.S. Health Insurance Industry: 2018 Annual Results”; MedPAC, “The Medicare Advantage Program,” p. 14, suggests 9%–11%, depending on the extent of unmeasured coding intensity differential. The savings may be greater, given the disincentive that MA’s rebate structure provides to bidding low. See Pope, “Enhancing Medicare Advantage.”  
31. MedPAC, “The Medicare Advantage Program.”  
32. Curto et al., “Healthcare Spending.”
33. Mark Duggan, Boris Vabson, and Jonathan Gruber, “The Consequences of Health Care Privatization: Evidence from Medicare Advantage Exits,” American Economic Journal: Economic Policy 100, no. 1 (February 2018): 153–86.  
34. Gretchen Jacobson et al., “Medicare Advantage 2017 Spotlight: Enrollment Market Update,” Kaiser Family Foundation, June 6, 2017.
35. Katherine Baicker, Michael Chernew, and Jacob Robbins, “The Spillover Effects of Medicare Managed Care: Medicare Advantage and Hospital Utilization,” NBER Working Paper 19070, May 2013.

https://www.manhattan-institute.org/issues-2020-health-care-reform-private-insurance