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Robert M. Crane and Laura A. Tollen • Jay Gellert

P E R S P E C T I V E S : C O S T  S H A R I N G
W E B  E X C L U S I V E  

20 March 2002

Out Of The Frying Pan And Into The Fire?

If current market trends continue, consumers could find themselves
out of the managed care frying pan and into the cost-sharing fire.

by Robert M. Crane and Laura A. Tollen


In his paper “Renewed Emphasis on Consumer Cost Sharing in Health Insurance Benefits Design,” Jamie Robinson describes movement in health insurance markets away from comprehensive coverage of a limited set of choices toward limited coverage of a broader set of choices. He asserts that insurance carriers are moving from provider, or supply-side, means of controlling costs to consumer, or demand-side, means. While noting that these trends may create problems in insurance markets, he also comments that they may counteract some of what is wrong with the status quo in these markets—most notably, overinsurance for some and moral hazard leading to overuse of services.

As Robinson describes, we are moving from a managed care market in which costs were contained mainly through provider-side mechanisms to one that shifts responsibility for cost containment onto the consumer/patient. This notion is supported by recent reports and survey data indicating that many employers are increasing or planning to increase employee cost sharing in the near future.¹

What we may have failed to appreciate is that this shift and its underlying cause—increased costs—have resulted in another major change in the character of insurance markets. We are moving from markets in which health benefits have been structured substantially by public policy (for example, the federal HMO Act and state laws, including benefit mandates) to those that are largely not subject to those rules (for example, non–federally qualified plans, increased cost sharing regulated little or not at all by state law, and plans that are subject to the Employee Retirement Income Security Act, or ERISA). Yet there has not been a major public policy debate about whether this trend is desirable.

This shift to a less regulated market has been taking place while we were looking the other way—in the direction of regulation designed to promote patients’ rights and address some of the more egregious problems with managed care. The irony is that the very regulations that are designed to “correct” what’s wrong with managed care (such as direct access to specialists, expanded right to sue, and so forth) have contributed to managed care’s difficulty in controlling costs. For many consumers, the relative cost advantage of HMOs over PPOs no longer clearly outweighs the disadvantages of limited choice of providers and more controlled access to specialists. As a result, we are witnessing a “flight” from managed care products to products that are less regulated.² The confluence of increased costs and increased regulation of managed care, along with consumers’ desire for choice, is chasing many employers and patients out of the managed care frying pan and into the cost-sharing fire.

All states have benefit mandates, but these laws tend to provide only minimal regulation of cost sharing, focusing on the type of benefits to be provided rather than on how much of the benefits must be provided. If these laws were intended to ensure access to necessary care, we must ask at what point sizable enrollee cost sharing becomes a barrier to access, while recognizing that modest cost sharing may be necessary to curb excessive demand.

Much research has been done on this topic, most notably as part of the RAND Health Insurance Experiment (although the RAND experiment is now nearly thirty years old, and this area of inquiry is ripe for new research). This landmark study demonstrated that enrollee cost sharing greatly affects both necessary and unnecessary health service use.³ During the three-year course of the study, there did not appear to be any major impacts on health status as a result of reduced utilization, although its longer-term impact on health status is unknown.⁴ However, we agree with Robinson when he notes that “it is to be assumed that substantial cost sharing will lead to some adverse outcomes for some patients resulting from forgone care.” We further agree with him that “the policy implications of this unfortunate fact are not obvious.”

We contend that in this time of rapid change in insurance markets, it is important for policymakers to better understand the effects increased cost sharing has on access to care. This is necessary so that they will know whether they are, in fact, regulating what they think they are regulating. In addition, we need an honest examination of the most appropriate role for government in structuring competition in these new markets.

What is likely to occur if current trends continue? To help inform the above examination, we present the following “best guesses” about what will take place if the current trend away from comprehensive coverage continues. We believe that there are two possible outcomes: (1) the disappearance of comprehensive coverage with low cost sharing because of adverse selection; or (2) a return to the “single-plan replacement” model of employer purchasing, with its attendant impacts on consumers’ choice of health plans and competition among providers.

The disappearance of comprehensive coverage. As Robinson describes, a major concern related to the proliferation of less comprehensive (or higher cost-sharing) plans is that they will create adverse selection against comprehensive coverage. Even now, at the beginning of this trend, organizations that traditionally provide comprehensive coverage, such as Kaiser Permanente, are feeling competitive pressure to increase members’ cost sharing. In the 2002 California small-group market, in addition to its traditional $5 and $15 copay plans, Kaiser began offering a plan with its largest office visit copay ever— $30.⁵ This plan also has a $500 inpatient hospital copay, the first to be offered by Kaiser under its small-group plans.

However, with competitors implementing larger deductibles and raising cost sharing on selected services, more-comprehensive plans are at risk of becoming the plans of choice only for those groups and individuals expecting to use large amounts of care. Such a dynamic would accelerate cost differences between comprehensive and high-cost-sharing plans, resulting in additional adverse selection. Comprehensive plans’ only option in this case would probably be to follow the market, and only or mostly high-cost-sharing plans would then be available.

Why should policymakers be concerned if comprehensive coverage disappears as a result of market dynamics? After all, if a critical mass of consumers do not demand a product, there is no reason for suppliers to provide it. One answer is that it is important for society to maintain the choice of comprehensive coverage for those who want it and, particularly, for those whose health status requires it. If today’s plans stop offering comprehensive coverage, or if, because of further segmentation of risk pools, they are able to offer it only at a prohibitive price, people who need the most care—those with chronic conditions—will become, for all intents and purposes, uninsured for large portions of their care.

Defined broadly, people with chronic conditions account for nearly half the U.S. population (125 million), and the number is growing.⁶ Data from Kaiser Permanente in California indicate that 25 percent of adult members are included in one or more of the plan’s chronic disease registries.⁷ These persons account for three-quarters of all inpatient hospital days, excluding maternity. They also account for 46 percent of all outpatient visits and 60 percent of all outpatient pharmacy costs.

This large segment of the population requires a great deal of ongoing care—care they may be unable to pay for if they have health plans with sizable cost sharing. Depending on income level, such persons may postpone or forgo needed care. Others may join the ranks of the uninsured and rely on public resources. Policymakers’ interest in this development should be clear.

The return to “single-plan replacement.” Most carriers protect their comprehensive plan designs from adverse selection by controlling the circumstances in which they can be offered in a multiple-choice setting. Carriers often refuse to offer a comprehensive plan alongside another plan (from a different carrier) that has a markedly different level of coverage. Given current cost trends, however, a carrier refusing to offer its comprehensive plan in a multiple-choice situation may find few takers for its product, as employers will be unwilling to offer only a comprehensive plan. In this situation, a carrier can drop its comprehensive products, or it can develop a set of its own higher-cost-sharing products to offer alongside its comprehensive plans, managing risk selection internally.

Major carriers are already developing this type of employee-choice product for small employers (for example, Blue Cross of California’s FlexScape plans). With these products, carriers hope to satisfy employers’ need for a range of coverage options and price points, avoid adverse selection, and maintain an exclusive contract with each employer. This model of health plan/employer exclusive contracting is known as “single-plan replacement” because the employer contracts with a single plan (carrier) at a time, replacing it when necessary with another single plan.

There are several reasons why policymakers should be concerned about an increase in single-plan replacement. First, to the extent that consumers now have or wish to have choices, such a trend would deprive them of choice among carriers and among delivery systems, where those systems are functionally tied to a carrier.

Second, such a trend would have important implications for competition among health plans: All health plans would have to be all things to all people. It is likely that smaller, more specialized, or “niche” plans would be unable to compete in this environment.

Third, carriers engaging in single-plan replacement would need broad provider networks to remain attractive to employers. With health plans essentially contracting with any willing provider in a community, plans’ ability to negotiate over price and quality would erode. With this erosion, there may be a reversal of the trend of the past decade in which purchasers have asked plans and providers to compete on the basis of cost and quality through the development of accountable, selective networks. Single-plan replacement tends to block selective networks, such as prepaid group practices, from competing. Such a trend would run counter to the direction set forth in the recent Institute of Medicine report, Crossing the Quality Chasm, which identified organized delivery systems using evidence-based principles as a critical ingredient in improving health care quality.⁸

In sum, the single-plan replacement model has widespread implications for competition in both the health plan and provider markets. Policymakers need to understand how such market interrelatedness will either contribute to or ameliorate the problem of increasing health care costs.

What is a public policymaker to do? As Robinson notes, no one does the poor any favors by limiting their options so that they must either go without coverage or buy coverage that is too costly, forcing them to forgo other valued goods or services. The challenge for policymakers is to balance the competing and legitimate goals of maintaining some choice for people of all income levels, while “protecting” more-comprehensive coverage for those who need health care services. Some coverage, even if it is “thin,” is better than no coverage for an individual, but taking a population view, too many individuals with “thin” coverage add up to inadequate coverage for most, because of the degradation of risk pools.

For comprehensive coverage to be affordable, both the healthy and the sick must purchase it. The insurance concept does not work if only people who know they will use services purchase the product. In other words, comprehensive coverage cannot exist unless the concept of insurance itself is protected. Public policy interventions that allow coverage to be affordable but also protect the insurance concept include the following.

(1) Set standards that specify both a set of benefits and a level of cost sharing below which carriers cannot go. A balance must be struck between under- and overregulation in this area: Too-rich benefits (that is, too many benefit mandates) and too little cost sharing can force people to drop coverage because it is unaffordable. Increased cost sharing does moderate premium increases, potentially keeping some persons insured who would otherwise become uninsured. However, an absence of regulation or limits on cost sharing may result in high rates of underinsurance (or “illusory” insurance), particularly for low-income persons with chronic conditions.

(2) Create risk-spreading mechanisms among carriers so that those offering comprehensive coverage do not experience premium “death spirals.” Such mechanisms may include high-cost condition pools, reinsurance, and risk adjustment. Many models of such mechanisms exist in the public and private sectors, and researchers continue to refine and improve them.

(3) Develop market rules that protect comprehensive plans against adverse selection in certain circumstances. For example, employees switching during open enrollment from catastrophic to comprehensive coverage would be required to undergo a preexisting condition waiting period. (Such rules may require federal or state legislative changes.)

(4) Educate consumers about the importance of health insurance so that they value it as much as or more than other goods and services they might buy with the same dollars.

(5) Promote competition among provider groups as a means of improving quality and moderating cost. A number of proposals to do this have been considered in the past.

(6) Develop an evidence-based review process for all proposed benefit mandates. Such a review would ensure that legislatures prove the value of a new benefit before they mandate its coverage. Several states have already created such processes.

(7) Define medical necessity as used by health plans in coverage decisions to include cost-effectiveness analysis of treatment alternatives or review of the highest standard of scientific evidence available.

These potential public policy interventions illustrate that there are consequences to the current trend toward noncomprehensive coverage and that interventions are available if one believes they are necessary. One’s view of the necessity of such interventions depends on the relative importance one places on comprehensiveness, affordability/accessibility, and choice.

The American public seems to favor affordability/accessibility over all other factors, but choice is also important, particularly given what many have described as the rise of consumerism in health care and other industries. However, US public opinion is not static. It is possible that with or without public policy intervention, several years of increased cost sharing will lead to a second consumer backlash, with Americans once again becoming more willing to support a structured health benefit marketplace to promote affordability and comprehensiveness of coverage.

As Robinson notes, “In the long term, thin benefit designs may foster a grassroots constituency for affordability and hence for the use of technology assessment and cost-effectiveness analysis in health care.” Such analysis is perhaps the last bastion of hope for a health care system unwilling to forgo comprehensiveness, affordability/accessibility, or choice. Americans weary of both the frying pan and the fire may well begin to look for such alternatives.

The views expressed in this commentary are those of the authors and do not necessarily reflect the views of Kaiser Foundation Health Plan, Inc., or the Permanente Medical Groups. These comments are based on a report by the authors, entitled “A Temporary Fix? Policy and Market Implications of the Move Away from Comprehensive Health Benefits,” available on the Kaiser Permanente Institute for Health Policy Web site, www.kp.org/ihp (see “publications”).

NOTES

1. See, for example, Harris Interactive, “As Corporate Concerns about Health Care Costs Continue to Rise, Many Employers Plan to Shift More Costs to Their Employees,” Health Care News (9 October 2001); Watson Wyatt Worldwide, Health Care Costs 2002—A Watson Wyatt Worldwide Survey, October 2001, www.watsonwyatt.com/us/research/resnew.asp (20 February 2002); and Hewitt Associates, “Double-Digit Health Care Cost Increases Expected to Continue in 2002,” press release, 29 October 2001, was.hewitt.com/hewitt/resource/newsroom/pressrel/2001/10–29–01.htm (20 February 2002).
2. For example, between 1996 and 2001 HMO enrollment dropped from 31 percent of covered workers to 23 percent, while PPO enrollment rose from 28 percent to 48 percent of covered workers. J. Gabel et al., “Job-Based Health Insurance in 2001: Inflation Hits Double Digits, Managed Care Retreats,” Health Affairs (Sep/Oct 2001): 180–186.
3. J.P. Newhouse et al., “Some Interim Results from a Controlled Trial of Cost Sharing in Health Insurance,” New England Journal of Medicine 305, no. 25 (1981): 1501–1507; A.L. Siu et al., “Inappropriate Use of Hospitals in a Randomized Trial of Health Insurance Plans,” New England Journal of Medicine 315, no. 20 (1986): 1259–1266; and K.N. Lohr et al., “Effect of Cost-Sharing on Use of Medically Effective and Less Effective Care,” Medical Care 24, no. 9 (Supplement 1986): S31–S38.
4. R.H. Brook et al., “Does Free Care Improve Adults’ Health?” New England Journal of Medicine 309, no. 23 (1983): 1426–1434.
5. Other cost-sharing increases include emergency room copays, from $35 to $50; ambulance services, from no copay to $50; durable medical equipment, from no cost sharing to 20 percent enrollee coinsurance; and pharmacy cost sharing, from one tier (formulary only) to a three-tier structure (generic formulary, brand-name formulary, and nonformulary).
6. Partnership for Solutions—Better Lives for People with Chronic Conditions, a project of the Johns Hopkins University and the Robert Wood Johnson Foundation, www.partnershipforsolutions.org/statistics/prevalence.htm (11 February 2002). In this case, chronic conditions are defined broadly to include any condition that lasts a year or longer, limits what one may do, and may require ongoing care.
7. These conditions include asthma, coronary artery disease, congestive heart failure, diabetes, hypertension, and chronic pain. Kaiser Permanente California data provided by the Permanente Medical Group—Chronic Conditions Management, January 2002.
8. Institute of Medicine, Crossing the Quality Chasm: A New Health System for the Twenty-first Century (Washington: National Academy Press, 2001).

Robert Crane is senior vice-president of Kaiser Foundation Health Plan, Inc., and director of the Kaiser Permanente Institute for Health Policy in Oakland, California. Laura Tollen is senior policy consultant with the Kaiser Permanente Institute for Health Policy.

©2002 Project HOPE–The People-to-People Health Foundation, Inc.