Sunday, July 16, 2017

Never Meanin' No Harm

The issue is moral hazard. But first, from the latter link, a disclaimer:

According to research by Dembe and Boden, the term dates back to the 17th century and was widely used by English insurance companies by the late 19th century. Early usage of the term carried negative connotations, implying fraud or immoral behavior (usually on the part of an insured party). Dembe and Boden point out, however, that prominent mathematicians studying decision making in the 18th century used "moral" to mean "subjective", which may cloud the true ethical significance in the term. The concept of moral hazard was the subject of renewed study by economists in the 1960s and then did not imply immoral behavior or fraud. Economists would use this term to describe inefficiencies that can occur when risks are displaced or cannot be fully evaluated, rather than a description of the ethics or morals of the involved parties.

Boldface added. Now for the meat and potatoes, also with boldface added:

In insurance markets, moral hazard occurs when the behavior of the insured party changes in a way that raises costs for the insurer, since the insured party no longer bears the full costs of that behavior. Because individuals no longer bear the cost of medical services, they have an added incentive to ask for pricier and more elaborate medical service, which would otherwise not be necessary. In these instances, individuals have an incentive to over consume, simply because they no longer bear the full cost of medical services.

Two types of behavior can change. One type is the risky behavior itself, resulting in a before the event moral hazard. In this case, insured parties behave in a more risky manner, resulting in more negative consequences that the insurer must pay for. For example, after purchasing automobile insurance, some may tend to be less careful about locking the automobile or choose to drive more, thereby increasing the risk of theft or an accident for the insurer. After purchasing fire insurance, some may tend to be less careful about preventing fires (say, by smoking in bed or neglecting to replace the batteries in fire alarms). A further example has been identified in flood risk management where it is proposed that the possession of insurance undermines efforts to encourage people to integrate flood protection and resilience measures in properties exposed to flooding.

A second type of behavior that may change is the reaction to the negative consequences of risk, once they have occurred and once insurance is provided to cover their costs. This may be called ex post (after the event) moral hazard. In this case, insured parties do not behave in a more risky manner that results in more negative consequences, but they do ask an insurer to pay for more of the negative consequences from risk as insurance coverage increases.

And that's why costs rise, since insurers have to recoup their increased costs by increasing premiums, which inevitably extends to all insured. Insurers also have lawyers that can pressure care providers to conduct additional tests that the providers don't consider necessary, to rule out other, potentially less expensive treatments.

You end up paying not only for the treatments that are undertaken, but also in part for treatments that are not. Even if you don't do any of these "moral hazard" behaviors, others do -- and if enough others do, you may find yourself on the business end of a perverse incentive to do them too.

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