Dealing with Adverse Selection In Health Care Insurance

This paper examines the problem of adverse selection in the health care insurance market. Unlike most of the recent papers, this paper considers behavioral economic factors that influence the problem of adverse selection in both a negative and positive way. I research the many testing of the existence of adverse selection in the health care insurance market and examine the negative consequences which adverse selection might have in this market. We distinguish between two types of individuals; low-risk and high-risk individuals. Low-risk individuals are those who are relatively healthy and/or have a low probability of incurring any health problems in the future and high-risk individuals are those who are relatively unhealthy and/or have a high probability of incurring any health problems in the future. The paper finds enough evidence to prove the existence of adverse selection in health care insurance markets. Before proposing several solutions for the problem, I first look at how countries are currently dealing with the problem and if their system is effective. Then I determine different deviations that individuals have from the rational expectations, primarily advantageous selection and determine whether these deviations reduce the problem of adverse selection. We conclude that both adverse selection and advantageous selection is present in the health care market. There are many tools to avoid the problem of adverse selection, such as insuring all individuals and making a risk-equalization fund. Adverse selection poses as a problem in a situation where countries do not take actions to avoid it, such as the above mentioned tools. If countries do not take these actions, high-risk individuals will make health care insurance companies less profitable and might even make them encounter losses.