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Chapter 9 - The health care market. The following will be discussed in this chapter: Social insurance, how health insurance works, example of expected value computation, do people buy insurance with loading fees? The role of risk pooling, insurance and moral hazard,. | THE HEALTH CARE MARKET Chapter 9 U.S. Expenditures of Selected Goods and Services as Share of GDP (1960-2010) Source: Centers for Medicare & Medicaid Services, National Health Expenditure Data, and National Income and Product Accounts 9- Social Insurance Social insurance - government programs that provide insurance to protect against adverse events Examples Medicaid Medicare Social Security Unemployment Compensation 9- How Health Insurance Works Insurance premium: money paid to an insurance company in exchange for compensation if an adverse event occurs People are willing to pay for insurance because of -1) Expected Value= (probability of outcome 1)*(Payout in outcome 1) + (probability of outcome 2)*(Payout in outcome 2) + + (probability of outcome n)*(Payout in outcome n) -2) Risk smoothing: paying money in order to guarantee a certain level of consumption should an adverse event occur 9- Example of Expected Value Computation Draw cards from deck of cards . | THE HEALTH CARE MARKET Chapter 9 U.S. Expenditures of Selected Goods and Services as Share of GDP (1960-2010) Source: Centers for Medicare & Medicaid Services, National Health Expenditure Data, and National Income and Product Accounts 9- Social Insurance Social insurance - government programs that provide insurance to protect against adverse events Examples Medicaid Medicare Social Security Unemployment Compensation 9- How Health Insurance Works Insurance premium: money paid to an insurance company in exchange for compensation if an adverse event occurs People are willing to pay for insurance because of -1) Expected Value= (probability of outcome 1)*(Payout in outcome 1) + (probability of outcome 2)*(Payout in outcome 2) + + (probability of outcome n)*(Payout in outcome n) -2) Risk smoothing: paying money in order to guarantee a certain level of consumption should an adverse event occur 9- Example of Expected Value Computation Draw cards from deck of cards Draw heart and receive $12 Draw spade, diamond or club and lose $4 Probability of drawing heart = 13/52 = ¼ Probability of drawing spade, diamond or club = 39/52 = ¾ EV = (1/4)($12) + (3/4)(-$4) = $0 9- Why Buy Insurance? Insurance Options Income Probability of Staying Healthy Probability of Getting Sick Lost Income if She Gets Sick (A) (B) (C) Income if She Stays Healthy Income if She Gets Sick Expected Value Option 1: No Insurance $50,000 9 in 10 1 in 10 $30,000 $50,000 $20,000 $47,000 Option 2: Full Insurance ($3,000 premium to cover $30,000 in losses $50,000 9 in 10 1 in 10 $30,000 $47,000 $47,000 $47,000 Although both yield same EV, Option 2 is preferred due to risk-smoothing. 9- Why People Buy Insurance Income Utility 20,000 47,000 50,000 UA UC UD UB D C B A Expected Utility Risk Smoothing 9- U Do People Buy Insurance with Loading Fees? Actuarially Fair Insurance Policy: Insurance premium = expected payout Risk Aversion: a preference for paying more – a .
