A number of countries mandate that individuals purchase health insurance, a policy referred to as mandatory health insurance (MHI). It requires that all or a large part of the population purchase health insurance, which covers a substantial part of healthcare costs. This article reviews the reasons for this policy, considers issues in implementing MHI, and discusses the problems in enforcing the mandate to buy health insurance.
Rationales For Mandatory Health Insurance
Avoiding Free Riding
In most wealthy societies, there is a consensus that life-saving medical care should be made available to citizens in case of need. This creates a free rider problem on part of those with low income who can expect to receive this support when they become ill. By not buying insurance, they save the premium and enjoy a higher level of consumption as long as they remain in good health. However, as soon as sizable payments for medical care occur, these individuals qualify for free treatment. This opportunity to act as a free rider on the rest of the society can mean that ex ante individuals do not find it worthwhile to buy health insurance. A possible response would be to deny treatment to individuals who failed to buy health insurance. To a wealthy society, however, this is usually not acceptable or feasible. For instance, if the victim of an accident or a seriously ill person is rushed to hospital, it is unthinkable if not illegal in many countries to refuse to treat the patient because of doubts about the patient’s financial means.
Making health insurance mandatory solves this problem. In this sense, it is similar to mandatory car insurance in protecting third parties from being damaged. MHI also has an efficiency advantage in this setting. To receive assistance by others in case of large payments for medical treatment, individuals may refrain from buying any coverage at all. This inefficiently exposes them to smaller risks when they do not qualify for assistance. MHI avoids this inefficiency.
Alternative policies are subsidies for buying insurance, taxes for not buying insurance, or a combination of both. However, high subsidies may be necessary to induce free riders to buy insurance, requiring substantial increases in public expenditure. Taxes have the same effect as MHI provided that they induce all free riders to take up insurance.
Paternalistic Motives
Because data on health risks are often complex, individuals have problems in making informed decisions. In particular, they may underestimate certain risks. Several studies show that individuals tend to have an ‘optimistic bias’ with respect to their vulnerability to health risks. For instance, individuals typically rate their personal risk with respect to health problems and other hazards between ‘average’ and ‘less than average.’
If risks are underestimated, individuals will tend to buy too little health insurance. As in other branches of insurance, catastrophic risks, illnesses which are very costly, are likely to be insufficiently covered. As a consequence, individuals may suffer financial distress and may not be able to afford adequate treatment. This is unnecessary because insurance to cover these risks can be inexpensive, provided that the probability of getting the illness is low (Nyman, 1999).
A paternalistic response is to mandate individuals to buy health insurance contracts, which provide sufficient coverage, in particular for catastrophic risks. The requirements for these contracts would be based on the opinion of experts who assess health risks. An alternative would be to provide individuals with more information. Given that problems in processing information is the underlying cause for the interference in private decisions, however, this may only help those who have the time and capabilities of assessing in detail the risks they face. As a third way, Sunstein and Thaler (2003) propose ‘libertarian paternalism,’ a combination of paternalism and free choice. Experts would be consulted for designing a ‘default’ health insurance contract which would cover individuals unless they decide deliberately for buying alternative or no coverage.
Adverse Selection
Adverse selection in health insurance arises if individuals are better informed about their probability of needing health care than insurers. A possible implication is market failure in the health insurance market. This argument is based on the famous analysis by Rothschild and Stiglitz (1976). In their model with two risk types, only a separating equilibrium can exist in which high-risk types obtain full insurance, whereas low risks buy partial coverage. Such an equilibrium may not be second-best efficient. Mandatory public health insurance with partial coverage can lead to a Pareto improvement.
The efficiency argument for mandatory public health insurance, however, hinges on the equilibrium specification of the model. In an alternative specification in which insurers anticipate the withdrawal of unprofitable contracts in response to their own actions and can cross-subsidize between contracts, the market equilibrium is second-best efficient, i.e., no Pareto improvement is possible given the self-selection and resource constraints (Crocker and Snow, 1985).
Starting from the premise that health insurance markets are not second-best efficient, Neudeck and Podczeck (1996), Encinosa (2001), and Finkelstein (2004) have examined the effects of MHI which is not tied to public insurance. A general finding is that this policy leads to redistribution from low-risk individuals to high-risk individuals. However, MHI is not able to implement a Pareto improving outcome compared with the unregulated market equilibrium. Whether a second-best outcome can be reached by MHI depends on the specific way of modeling the insurance market.
Enforcing Cross-Subsidies
For individuals with low income, health insurance may not be affordable. This also applies to those with a high risk of needing health care who have to pay high premiums in a market with risk rating. Mandating them to buy coverage usually does not solve this problem. However, in an indirect way, making health insurance mandatory for all can lower the price of health insurance for people with low income or high risks by enforcing cross-subsidies from others. This is the case in a social health insurance system with income-related contributions. In such a scheme, those with high income and low expected health expenditure cross-subsidize the poor and ill.
The problem that the poor cannot afford health insurance can also be solved by paying earmarked transfers for the purchase of health insurance contingent on income. Cross-subsidies between low and high risks, however, are more difficult to implement by transfers. These would need to reflect the risk type in the same way as insurers differentiate their premiums by risk type. This is a demanding task for a government transfer program and has not yet been implemented.
In the absence of a satisfactory transfer solution, MHI can establish transfers to high risks if it is combined with community rating, i.e., the regulation that insurers do not differentiate their premiums by risk type, and open enrollment by insurers. MHI is crucial in this context because otherwise low risks may prefer not to buy any health insurance to avoid cross-subsidizing high risks.
It should be noted that to some extent markets provide cross-subsidies from low-to high-risk individuals. For the individual health insurance market in the US, Pauly and Herring (2007) find that premiums are not proportional to risk, pointing to some risk pooling in the market. This can be partly explained by guaranteed renewable contracts which protect individuals from being reclassified if they turn into a high risk. However, such contracts cannot induce cross-subsidies to individuals who are already high risks at the onset of the contract.
Political Economy Considerations
Making health insurance mandatory increases the demand for health insurance. The private insurance sector may, therefore, have an interest in such a policy and may lobby to bring about such a mandate. Provided that the normative reasons above apply, this is not necessarily against the public interest. However, if competition is low in the health insurance sector, individuals may be forced to buy overpriced health insurance coverage which they do not need.
Implementing Mandatory Health Insurance
Designing Health Insurance Benefit Packages
MHI requires the definition of a minimum benefit package. Otherwise, individuals could bypass MHI by buying a health insurance contract with high deductibles at little cost to meet the mandate. The design of the minimum benefit package should follow the rationales for introducing MHI. To avoid free riding, expensive treatments for which treatment cannot be denied should be included. Paternalistic motives call for coverage of those risks which individuals tend to underestimate. If MHI is introduced to mitigate adverse selection or to enforce cross-subsidies, then the benefit package should conform to the preference of the insured population.
To what extent these considerations play a role in the actual design of benefit packages in mandated systems has not yet been studied comprehensively. Usually, the health ministry or committees decide about which benefits are included. Sometimes, economic evaluations inform decision makers about the costs and benefits of treatments.
A rare example of an explicit process to determine a minimum benefit package is Chile’s introduction of a guaranteed basic uniform benefit package. It applies both to public health insurance and to private health insurers among which individuals can choose (Vargas and Poblete, 2008). Implemented from 2005 to 2007, it is based on an algorithm of prioritization using multiple criteria (burden of disease, inequality, high costs, social preference, cost-effectiveness, and the rule of rescue, i.e., the imperative to save the life of a person who is at risk of death even if the chances of success are low and costs are high).
Mandatory Health Insurance and Social Health Insurance
MHI on its own does not make health insurance affordable. Further measures need to be taken. MHI often goes along with social health insurance. These systems are characterized by two additional requirements. Open enrollment guarantees that high risks cannot simply be rejected by insurers. Community rating prohibits insurers from charging risk-based premiums. Frequently, contributions are also income related, making insurance affordable to poor individuals. In Switzerland, by contrast, premiums are uniform. Health insurance is made affordable by premium subsidies that are financed out of tax revenue. Depending on the canton of residence, these subsidies are granted as soon as health insurance costs more than a certain percentage of taxable income of a household.
Mandatory Health Insurance Without Social Health Insurance
MHI without social health insurance faces the challenge of making health insurance affordable to those with low income and high expected healthcare expenditure. In particular, this holds true for industrialized countries in which standard health insurance coverage usually includes access to advanced medical technology and is, therefore, expensive. Without social health insurance, health insurance has to be subsidized unless MHI refers only to a very modest benefit package. Several options are available to implement such subsidies. First, access to subsidized public systems like Medicaid in the US or FONASA in Chile can ensure that poor individuals obtain access to affordable health insurance. Second, insurers can receive subsidies if they accept low-income and high-risk individuals. Finally, a policy option is to make individuals eligible for public transfers if their expenditure on health insurance exceeds a certain percentage of their income. Such a system has been introduced as part of the 2006 Massachusetts health reform. It has also been proposed by Zweifel and Breuer (2006), who have made the case for risk based premiums and wanted to target those with low income and high premiums through premium subsidies.
Problems Of Mandatory Health Insurance
Enforcing Benefit Packages
As pointed out in Section ‘Designing Benefit Packages,’ MHI can only be effective if a minimum benefit package is defined. If MHI refers to a single insurer, there should be no problem in making sure that individuals actually obtain insurance with this coverage. With competing insurers, however, this task becomes more difficult. Given that some individuals do not want to buy insurance, insurers may satisfy this nondemand by selling policies which cover the minimum benefit package only on paper. Insurers, therefore, have to be monitored whether they really provide the benefit package. Furthermore, it is advisable to require insurers to build up sufficient loss reserves to secure that they can meet their obligations. Otherwise, there is the risk that the bill needs to be footed by the public, reintroducing the free rider problem at the insurance level.
Enforcing Mandatory Health Insurance
To what extent MHI can be enforced depends on the institutional context. In an economy where all individuals are employed in the formal sector and are required to spend a certain amount for health insurance, contributions for MHI can be collected via the employer and transferred directly to health insurers. This is typically the case in social health insurance schemes. By contrast, in countries with a large informal sector, MHI can be difficult to enforce. In these countries, subsidized schemes are essential in expanding coverage, because otherwise it will be hard to reach all parts of the population. A tax-financed national health system which covers the entire population may be preferable in such settings (Wagstaff, 2010).
For countries in which contributions are not automatically deducted from the wage bill, the question needs to be addressed how to treat those who do not obtain insurance or refuse to pay premiums. In Massachusetts, individuals face tax penalties if they have access to affordable health insurance and remain uninsured. In Switzerland, those who do not pay their premiums can be denied coverage for nonemergency services. This policy, however, effectively allows individuals to remain uninsured.
Limiting Consumer Choice
An evident drawback of MHI is some limitation of consumer choice. This arises from the need to specify a minimum benefit package which will not always correspond to the benefits individuals would choose according to their preference. In social health insurance systems, this problem is particularly severe. If there is only one insurance fund, for instance, in Estonia, individuals have no choice at all unless they seek care in the private sector. Even if there are competing funds as in Germany, the Netherlands, or Switzerland, benefit packages are often tightly regulated.
The regulation of the benefits package in a social health insurance scheme with competing insurers can be a response to the incentives for risk selection which arise naturally in such a setting. The requirement to accept any individual at a uniform premium leads to expected losses with high-risk types and expected profits with low-risk types. Insurers, therefore, have an incentive to design their benefit package such that it is attractive for low but not for high risks. Regulation of the benefit package is a possible response (an alternative is risk adjustment which tries to set insurers’ budgets according to the risk characteristics of their insured population, Zweifel et al., 2009, Chapter 7). On one hand, minimum benefits can be specified, forcing insurers to offer benefits that are of importance for high risks, such as treatment of chronic diseases. On the other hand, imposing an upper limit on benefits can prevent insurers from including services that are of particular interest to low risks but not essential to health insurance, such as visits to sports centers. These benefits effectively reduce cross-subsidies to high risks (Kifmann, 2002).
Questionable Cross-Subsidies
As discussed in Section Enforcing Cross-Subsidies, MHI can be a means of enforcing cross-subsidies to other members of society. Equity considerations call for subsidies from high-to low-risk types. Also cross-subsidies from high-income to low-income individuals can be justified if these are not implemented through the general tax-transfer system. However, MHI can also lead to cross-subsidies which are difficult to legitimate. For instance, individuals living in the countryside may have to subsidize those in urban areas with good access to medical care. If premiums are not differentiated according to age, then the young will cross-subsidize the elderly. Given the demographic trends in many countries, this can place a high burden on the young.
Conclusions
MHI can be implemented for several reasons. It can be a policy directed against free riding behavior by those who expect to be covered by others in case of emergency. To the extent that individuals insure too little because they underestimate their health risks, it can be part of a paternalistic intervention by the government. Combined with partial social health insurance, MHI may bring about efficiency improvements in a health insurance market characterized by adverse selection. It can help to enforce cross-subsidies from those with low health risks and high income to high-risk and low-income individuals.
An important point is that MHI by itself usually does not make health insurance affordable. It needs to be combined with social health insurance or with programs which make subsidized health insurance available for those with low income. MHI also requires the definition of a minimum benefit package. Otherwise, individuals could bypass the mandate by buying a health insurance contract with little coverage. When implementing MHI, regulators need to monitor that insurers actually offer the minimum benefit package. Furthermore, measures need to be taken to make sure that individuals actually buy health insurance.
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