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Risk-Return in Health Care Reform

Health care reform is an opportunity to change how we price risk.

If we get sick or injured, we expect the best possible care. For some of us, we want access or quality first. Others may view access and quality as identical, the difference depending on the severity of the condition: I trust more physicians treating me for the flu than for a broken leg.

For many, cost never factors into seeking care. But for some, it can, and it can limit not only quality but access as well.

The point is: we as individuals have different preferences, but little control over how we can act on them – regardless of our situations.

The capital markets, by example, function differently. Individual buyers and sellers utilize information to price securities. What price one side is willing to buy or sell at depends on how it assesses various risk factors, such as market liquidity or corporate cash flow.

While single securities can be extremely risky, the fact that all do not correlate with each other keeps the overall market comparatively tranquil (despite recent times).

Commercial health plans pool individual policies to achieve the same effect. Information, however, can be asymmetric, in favor of the policyholder. Whether or not they act on it, policyholders know more about what they're insuring against than the insurer itself.

Some holders will opt out of a policy – and prospective buyers not purchase one – if they believe premiums are more costly than the event itself. The result is an adverse selection of pooled policyholders, skewed to high-risk individuals. This contributes to higher premiums, which further depletes the pool of low-risk holders.

Everyone is harmed. On the one hand, health plans seek to limit coverage, both in whom they're offering it to and what they're willing to cover. On the other hand, spiraling costs put continuous pressure on the plans' medical loss ratios.

And all this would be disheartening at worst, if not for the "dominant"-p... in the market. (Call it "single" if you'd like.) Does any plan dare to compete against Medicare on price? Absolutely not.

And let's also not forget that most people's gateway to access, quality and cost is the self-insured employer, and its method for choosing services on our behalf.

Risk-return, to no one's surprise, is inherently imbalanced throughout the value chain. (Docs basically take whatever they can get.)

Is it possible to get to a system that begins with individuals pricing risk (thereby exerting control), as they do when trading stocks or developing a financial profile with an adviser? That depends on whether legislators can trust individuals to make informed decisions. It also depends on providers willing to accept value-based competition.

Doing so would mean a complete overhaul of health insurance, from government to employer.

Disclosure: no positions