What Is Health Insurance?

Why does Colorado Democratic Chair Pat Waak want to outlaw my health insurance?

With Barack Obama demonizing health insurance companies and various politicians (both Democrats and Republicans) calling for more insurance controls, now is a good time to review what insurance is.

Insurance (on a free market) is simply a voluntary agreement to pool resources to pay for high-cost risks.

Let us take a simplified example. Let’s say we live in a community with 50 people total, and we figure that, within the next few decades, one of our houses will probably burn down. We don’t know whose house it will be, but we’re all at risk. None of us wants to bear the full costs of replacing a house. Therefore, we decide to share equally the cost of paying to replace the house that burns down. We might agree to split the costs of a new house once one is destroyed, or we might agree to contribute monthly to a fund. That’s insurance.

In the same community, we might agree to insure against the risks of premature death, unexpected car crashes, and unexpected health costs.

In real life, most people purchase insurance to cover their lives, homes, cars, and health. There are two main differences between real-life insurance and the insurance of our simplified example. First, insurance companies pool many more people, making it easier to calculate and manage risks. Second, insurance companies are managed by professionals who do the work in order to earn a living, just as you earn a living in your specialty.

For whatever reason, today some people demonize “profits” — earning a living — in the insurance industry. This is strange, for, as my friend Justin Longo has pointed out, few think it’s evil to “profit” by selling food. Do those who decry insurance profits also demand an end to for-profit grocery stores? In a free market, profits drive a company to offer better products and service at lower cost. Profits are good. A company that does not profit goes bankrupt.

Unfortunately, there is no free market in health insurance. (Indeed, as Tim Carney points out, insurance companies have been a major player in destroying the free market in insurance.)

Have you ever wondered why you purchase life insurance, home insurance, and car insurance on your own, but you buy health insurance through your employer? The reason is that tax policy has driven non-portable, expensive, employer-paid insurance. One consequence is that people do not buy long-term health insurance policies, as they do with life insurance. Lose your job, lose your insurance. This is the major reason why pre-existing conditions, which so upset Obama and other politicians, have become such a serious problem. Politicians have almost completely destroyed the market for long-term health insurance.

Another consequence of tax policy is that health insurance has evolved into pre-paid medical care. People have no problem dropping $30,000 on a new vehicle, but if they’re asked to cough up a $15 co-pay for health care, they think the sky is falling. This has largely undermined the very purpose of insurance, which is to protect against unexpected risks.

Imagine you purchased car insurance through your employer, and this insurance covered new auto purchases, oil changes, tire rotations, and everything else related to your car. What would be the result? People would be a lot less careful with their cars, and they would use a lot more car services. That’s basically what has happened in health care, thanks to federal tax policies.

In the tiny non-employer-paid insurance market, politicians have placed so many controls on policies that they are dramatically more expensive than they would be on a free market. Moreover, because insurers are subject to ever-changing political controls, they can neither calculate long-term costs nor (for the most part) offer long-term insurance policies.

The purpose of insurance is to cover long-term, unexpected risks. Because of political interference, health insurance no longer meets either goal. Because insurance is tied to one’s job and insurers generally cannot offer long-term policies, we get the problem of people developing medical conditions and then losing their insurance. Because politicians encourage pre-paid health care, “insurance” premiums are dramatically more expensive.

And yet, in the name of “reforming” insurance, various politicians want to continue to undermine the very purpose of insurance. For example, Pat Waak, chair of the Colorado Democratic Party, wrote for the Denver Daily News, “Insurance companies should cover annual exams and tests that prevent illness. How about mammograms, pap smears, eye exams and other tests that will promote wellness?”

Why doesn’t she demand that auto insurance cover tire rotations and oil changes?

Waak misses two obvious points. First, if you force insurers to cover routine, expected costs, the premiums will grow much more expensive. Because holders of this alleged “insurance” bear no direct costs for their health decisions, they are less thoughtful about how they use medical services.

The second point that Waak misses is that people can pay for preventative medicine without using insurance. This is what my wife and I do. Just this week my wife went to her physical and paid for it out of our Health Savings Account. Just a couple weeks ago I got blood work done at the local King Soopers pharmacy. (This blood work was free of charge, but I’ve spent our own money on other sorts of health care.)

Do people get oil changes or tire rotations even though those things aren’t covered by insurance? Sure they do. Why? Because routine maintenance reduces long-term costs. The same holds true with health, if only politicians would leave people free to act on their own judgment.

Right now my wife and I pay $148 per month for high-deductible health insurance. This covers both of us. (Our insurance would cost less and cover us for much longer if there were a free market in health insurance.) We save money in a Health Savings Account, which we use to pay for routine expenses.

What Pat Waak wants to do is outlaw our health insurance. A likely consequence of Waak’s policy is that my wife and I would no longer be able to afford insurance at all.

That is my biggest fear right now: if Barack Obama and Pat Waak get their way, the likely result is that my wife and I will go from having insurance we like reasonably well to not being able to afford insurance at all. That’s not “reform.” That’s outright thuggery.

6 thoughts on “What Is Health Insurance?”

  1. In a free market, some plans might still pay for preventative care on the premise that early detection and prevention may save them (the plans) even greater costs later on.
    One of the options my employer offers is a “consumer-driven health plan” which is designed to put more control over cost choices into the hands of the insured–but even that plan covers yearly preventative care at no additional charge to the insured.
    Auto plans don’t pay for routine oil changes because routine maintenance probably doesn’t have an appreciable impact on the probability of having to pay out on an accident policy at some point in the future, but medical preventative care may reduce the frequency and severity of catastrophic situations that would be covered under a healthcare plan.

  2. If you want to pay the costs of routine care via your insurance premiums, by all means be my guest — just don’t force me to do likewise. Of course, the goal of the insurance controls is to force some people to subsidize, via higher insurance premiums, other people’s “preventative” care.

    You’re making a fairly large mistake by confusing the politically manufactured employer-paid system with anything like a free market. Most employer-paid insurance offers nothing like a real high-deductible policy, as tax policy encourages pre-paid care.

    My goal is to never, ever need to make a health-insurance claim. That’s where my financial interests lie (as well as my general interests in staying healthy.)

    Of course, insurance companies should be free to offer high-deductible policies that also cover “preventative” treatment. But I doubt this would catch on in a big way in a free market. First, companies could simply require basic preventative care (such as annual checkups) as a condition of insurance. (Or insurance companies could simply send out routine reminders on the importance of preventative care.) Second, people who lack responsibility to get preventative care on their own probably won’t be induced to get it just because it’s pre-paid.

  3. One more point: if health insurance companies are paying for preventative care, that care will necessarily cost more, if due only to the increased paperwork involved. After all, somebody at the insurance agency has got to review the claim and cut a check. I say to hell with that — I’d rather pay my doctor directly.

  4. Regarding prepaid health care; In health policies that I sell for individuals you can add on a $35 co-pay plan that allows for ans extra 4 visits a year for an extra 16.50/month. The average doctor vists costs about $80 out of pocket so at for visits a year you saved 180 but it cost you 198!!!that’s because it encourages unneccesary use!

    When it comes to meternity it is the same way. You will pay at least $6000 one way or another, through premuims or deductible or hospital bills. Even worse is maternity is mandated on employer group health so you are paying for it no matter what.

    Consumer Driven just means high deductibe and/or HSA plan with no co-pay so you make better choices with your dollars.

  5. I didn’t mean to imply that the current employer-paid system is a free market. I just used the consumer-driven plan as an example because it does have some choice-driven mechanisms and a component similar to a HSA.
    Thinking through it some more, I suspect that the way true free-market plans would address preventative care is through premium reductions. Just as holders of life insurance receive premium reductions for being non-smokers, and property & casualty policyholders receive premium deductions for safety features in their homes & autos, so might health insurance policyholders receive premium reductions for providing proof of regular preventative care.

  6. Yes, or insurers could also charge a base rate and extra rates for risky behavior, such as smoking, rock climbing, and drunk driving. Of course this would require periodic reviews.

    It also occurred to me that longer-term insurance could also steadily raise the deductible so as to keep insurance premiums lower. The assumption would be that people would be able to save more and more through an HSA, making a higher deductible more feasible.

    Currently, federal rules limit the deductible possible with an HSA. This is a mistake. Let individuals decide what insurance is best for them.

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