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Blurred Lines...Of State Insurance Regulations

If you’ve watched Republican leaders talk about health insurance reform for more than a few minutes, you know they really want you to be able to buy insurance policies that are sold in other states. It is their Big Idea™ to lower health insurance premiums. Their other ideas tend to be more controversial, such as kicking out Medicaid beneficiaries or allowing insurance companies to deny coverage to sick people.

Superficially, interstate insurance sales make sense. In a market for a “normal” product – where the rule of supply and demand is paramount – trade usually lowers prices and makes economies more efficient. This is as true between states as it is between countries; Ohioans save a lot of money when they buy their oranges from Florida instead of growing them locally.

Interstate insurance sales seem like just another kind of trade; people from one state send money to another and get a product back in exchange. But trade isn’t a magic bullet – it needs a mechanism in order to add value. One common mechanism by which trade works is price differential – like we saw with our Ohioan friend trying to grow his oranges. Consider a classical, simplified example of two states, each producing two different products:

In our simple model, without trade, each state can buy 10 units of the product it produces cheaper and 5 of the other. But if trade is allowed, Florida will send 10 units of oranges to Ohio and Ohio will send back 10 units of soybeans. Both sides now get 10 units of each product; everybody is better off. Simplistic but clear: differential in production prices between locations generates trade.

This leads to a good question: Kentucky has lower non-group insurance prices than New York. But can a Kentucky-based insurer provide insurance in New York cheaper to a New York based customer?

As you might guess, the difference in prices between these states is largely a factor of lower salaries and real estate prices (among other things), in Kentucky. And customers living in Manhattan can’t travel to Louisville for every doctor’s appointment, even though Louisville is a fine town. In fact, our Kentucky insurer probably doesn’t even “know” any doctors in New York. If the insurer wants to offer policies there, they will have to make a big upfront investment to build their network. Once they have done this, that Kentucky-based policy will probably end up being about as expensive as the native New York one. Health insurance (which is, after all, just a sheet of paper) sounds like it should be cheap to “transport”, but it is not.

We can leave the theory and see this fact demonstrated in real-life. Georgia’s state legislature passed a law six years ago allowing policies approved in any state to be sold there. Not a single insurer has taken them up on it. This is because the business case to do so is weak: the high start-up costs, would make out of state insurers less competitive. In fact, Obamacare encourages states to work together and create interstate insurance networks. A few states have started down this road, but none have made it very far. Again, this is because private actors don’t expect to be profitable in doing so. If interstate sales are already allowed, clearly the GOP’s Big Idea™ clearly isn’t quite so big. But it also wouldn’t cause any real harm (and Georgia’s non-group markets are doing fairly well).

There is, however, another way that Kentucky-based insurers could beat the prices offered in New York: offer a different, cheaper product. Historically, insurance regulation was a power of the states. This is still the case, but the ACA’s created minimum standards for health insurance that states are required to meet. One major requirement is that all plans must cover certain Essential Health Benefits, or “EHBs”. With these requirements in place, the difference in policies between states is fairly small. A bronze plan in Kentucky has almost the same benefits as a bronze plan in New York. To see why, let’s remember our Fundamental Theorem of Health Insurance Markets™:

If it's not required for everybody, it will not be available for everybody. If everybody has the choice, then nobody will have a choice.

This means – among other things – that health insurance policies will tend towards the minimal guaranteed benefits, with anything additional becoming uneconomical for plan buyers.

The rumored [EDIT: proposed] “Obamacare Replacement” plan creates the ability for states to waive the ACA’s insurance regulations, specifically the EHBs. The idea is that allowing states to choose what must be covered will lower costs. Maybe Iowa doesn’t think pregnancy is important or Idaho doesn’t care about hospital care. Some plans will these types of coverages and others won’t; consumers can decide based on what they need. But our Fundamental Theorem addresses precisely this situation. If Iowa “gives people a choice” for pregnancy benefits, this creates a selection bias. Only those currently or expectantly pregnant will buy plans that cover pregnancies. This will cause the cost of said pregnancy coverage to spiral ever higher until it doesn’t make sense for anybody to buy it. If everybody has the choice, then nobody will have a choice.

Now, “Smart States” know the Fundamental Theorem and won’t fundamentally eliminate their EHBs. But, there would certainly “Dumb States” who will. Pretty soon, any benefit that isn’t required in the Dumb State won’t be affordable there. Which is a problem for Dumb State but not Smart State; you reap what you sow and all that.

But with the GOP’s Big Idea™, there is effectively a single, nationwide market for insurance. Smart State no longer has the power to keep out the plans that Dumb State approved. So, if Dumb State insurers decide to go to Smart State, everybody in the latter will soon have a choice about what benefits they buy. And - If everybody has the choice, then nobody will have a choice. Smart State’s otherwise healthy insurance market has been poisoned by Dumb State’s plans, despite Smart State’s best efforts.

So, when forced interstate insurance sales are coupled with no national guaranteed benefits, the idea of state control is an illusion. Each state’s market should devolve to the skimpiest plans allowed anywhere. One of the core complaints made by the GOP against Obamacare is that it is Federal control of something that should be a state matter. But the GOP wants to entirely prevent states from regulating their own markets by creating an even larger Federal mandate. I would rather have my state regulate my insurance (within the ACA’s reasonable Federal guidelines) than be subject to the least common denominator of all fifty states.

This is why the vast majority of sober analyses of “selling insurance across state lines” fail to see a real benefit. First, because medical networks are not transportable, allowing out-of-state insurers will not lower your costs. Second, setting up new networks is expensive; no insurers have tried to take advantage of these provisions in the state that already permits it. Third, if combined with a repeal of the ACA, interstate insurance sales would create a “race to the bottom” for state insurance regulators. This will poison the non-group insurance markets in all states. To top it off, selling insurance across state lines is already legal and encouraged by Obamacare, which the GOP of course wants to repeal.

This is the Big Republican Healthcare Idea™.

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