As the Supreme Court deliberates whether or not President Obama’s signature healthcare act is constitutional, some economists are toying with an even more radical reform: let employees choose their own healthcare plans instead of forcing them to accept whatever their employer offers. In a world where more choices abound, would the benefits outweigh the costs? In a surprising twist, a first-of-its kind study indicates the answer is “yes”—given certain conditions.

Around the same time that President Obama began work to reform our ailing health insurance system, Leemore Dafny, a professor of management and strategy at the Kellogg School of Management, set out to quantify the benefits of offering a wider selection of health insurance plans to covered employees. The national dialogue influencing Dafny’s research included debates about requiring all individuals to purchase health insurance, and the potential for building individual health exchanges in order to accommodate and subsidize insurance for a greater number of people.

Individual health plans typically cost more than group plans that pool risk, such as those offered by employers, in part because individuals seeking insurance tend to have higher expected healthcare costs. Plus, marketing and managing individual plans is more expensive, Dafny says. But individual health exchanges coupled with a mandate for all citizens to buy health insurance would address both problems and bring more people into the ranks of the insured, which would in turn lower the cost of individual plan premiums. With this in mind, Dafny wondered what the benefits might be if all employees could choose their health plans individually.

Most employees have very limited choices when it comes to their health plans. A Kaiser Family Foundation survey conducted in 2005 revealed that 80 percent of employers offer a single health insurance option to their employees (Figure 1). The Affordable Care Act, which became law in early 2010, changed the playing field by allowing small employers to subsidize their employees’ purchase of health plans offered through insurance exchanges. But Dafny suspected that all employees—no matter the size of their employer—may stand to gain from such an arrangement. She wanted to investigate how broadening the choices available to employees, even those working for large firms, through access to health exchanges might affect health plan costs. Luckily, she had access to a detailed dataset on health plans offered by large firms, which formed the basis of her study.

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Figure 1. Distribution of firms providing a choice of health plans in 2005.

“There are a lot of costs associated with switching from employer-based to individual-based insurance,” Dafny says. “But we thought that the potential benefits had not been completely considered. And one of those benefits is that you get to choose.”

Choice Benefits
Even though most Americans prefer jobs with health benefits, Dafny says there are many negatives associated with job-based coverage, including that your employer may choose a plan that is not the best fit for you. Another negative is known as “job lock,” where people may not change jobs because they are tied to their health benefits, or job seekers target certain positions specifically because of the fringe benefits. This leads to less mobility in the labor market and people’s skills not always being best matched to their jobs. Coupling benefits with jobs also leads to a disincentive for health insurers to invest in the long-term health of their enrollees, because when enrollees switch jobs they tend to also change insurers.

Dafny, along with Kate Ho, an associate professor at Columbia University, and Mauricio Varela, an assistant professor at the University of Arizona, envisioned access to a health exchange, or at least a wider set of choices, as a potential solution to the twin problems of job lock and limited choice.

“Employers choose our health benefits for us,” Dafny says, “and they rely on a one-size-fits-all approach.” Existing literature, however, shows that the features preferred by employers in health plans are often misaligned with what their employees really want or need. Which raises the question, Are employers and employees getting the most out of their health dollars?

Dafny and her colleagues designed a three-step modeling approach to assess the value to employees of an exchange. Under their model, employer contributions remained the same. They started by examining how employees make choices about their health plans and learning what plan characteristics employees value. Second, they used their data to model what all health plans would cost if made available to each set of employees. They used a proprietary dataset that included 811 employers, 356 insurance carriers, and an average of 4.7 million enrolled employees per year. The dataset spanned from 1998 to 2006. More than 75 percent of employers offered at most two plans, which were typically either an HMO and a PPO, or a PPO and a POS (point of service) plan, a sort of PPO-HMO hybrid.

Finally, Dafny and her colleagues predicted the plans each set of employees would have chosen had they been able to select their most preferred plan. They quantified this benefit by calculating how much of the employer subsidy employees would be willing to give up and still be just as pleased. “Our results show that employers are leaving money on the table because employees would be willing to forgo some of their health care subsidy just for the option to choose their own plans,” Dafny says. The researchers found that employees were willing to give up a minimum of 16 percent of their subsidy simply for the option to apply the remainder to any plan they chose. For the average family of four this equated to forgoing—at the low end—about $1,240 (in 2005 dollars).

“Think of it this way: your employer offers a company car, but it has to be a Ford Taurus and what you really want is a Toyota Sienna,” says Dafny. “Let’s say they’re willing to give you $20,000 for the Taurus, but you’d be willing to take $17,000 if you could use it to buy the Sienna. You could split the difference and both be better off.” In other words, by limiting their employees’ choices, employers are creating economic inefficiencies and may be spending more than they need to.

The researchers modeled different choice scenarios where employees chose from a limited number of plans most preferred by employees, a limited number of plans representing all plan types (HMOs, PPOs, and POS plans), and all plans. The greatest benefit was measured from the last scenario, when employees’ choices were unlimited.

Dafny acknowledged that in today’s market, the costs of moving subsidized employees into an individual-based market would likely be higher than the benefits. But the results indicate that if an individual mandate comes into effect, then “the value of choice should offset the extra cost associated with individual-based plans,” she says. The results of her study are slated for publication in the American Economic Journal: Economic Policy.

What Employees Prefer
In a second, related study published in the American Economic Review: Papers and Proceedings, Dafny and her coauthors looked more closely at what employees prefer in their health plans and what kinds of employees would gain the most from transitioning to individual health exchanges. She found that employees with indemnity health plans gained the most, although people with this plan of type comprised less than 5 percent of her dataset. The second-biggest winners were those offered either a PPO plan or a choice between an HMO and a PPO plan. Employees working at small firms also saw larger-than-average gains.

Dafny and her colleagues also found that employees prefer POS plans more often than employers tend to offer them, and that employees prefer plans of all types that are affiliated with Blue Cross Blue Shield. But perhaps the most surprising result was that nearly two-thirds of the employees in the second study selected plans priced within 5 percent of their original employer-subsidized premiums. Only 14 percent of employees chose plans priced significantly higher or lower (more or less than 10 percent) than their original premiums. When given the freedom to choose, employees most often selected plans within the same price range as their employer-offered plans. The key difference lay in the features they desired, such as the plan type, carrier, or services covered.

“Together, these studies show that our current system of job-based coverage restricts choice, and that employees greatly value being able to exercise that choice,” Dafny says. But she is also well aware that health care benefits are not likely to be decoupled from jobs anytime soon. Instead, she sees this line of research as the first step toward better aligning employer and employee preferences in health plans so as to produce the greatest benefit for everyone.


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Paying a Premium on Your Premium: Effects of consolidation in the health insurance industry

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