It’s kind of surprising for me to be bringing a column from the Motley Fool web site concerning a fairly arcane aspect of the health care reform debate: requiring carriers to spend at least 85% of premium dollars they receive on medical costs. This approach to tamping down escalating health insurance premiums is advocated by Governor Arnold Schwarzenegger, leading Democrats in the state legislature and, on the national front, by former Senator John Edwards.
It was Senator Edward’s recent speech calling for a 15% administrative cost cap which caught the eye Motley Fool writer Rich Smith. In an online column entitled “John Edwards’ Fuzzy Insurance Math,” Smith takes the Senator to task for proposing a reform which simply doesn’t add up.
Senator Edwards claimed health insurers currently spend 30% of premiums on administrative costs and profits. The Senator believes, as does the Governor and others, that no more than 15% of premiums should be spent on such things. In questioning the presidential candidate’s proposal (a candidacy the reporter claims to support) Mr. Smith cites statistics showing the actual number is closer to 21%.
But he goes on to say that a 15% cap would risk putting the insurers out of business, citing the margins enjoyed by some of the leading health insurance carriers:
Margins are trailing-12-months.
Since none of these major health plans currently enjoy the 15% operating margin necessary to fund Senator Edward’s 15-point reduction in margins, Mr. Smith notes that each of these currently profitable companies would begin losing money.
Mr. Smith notes this would encourage the carriers to achieve one of Senator Edward’s goal for his proposal: to make the insurance companies operate more efficiently. However, Mr. Smith also notes that when a company is forced to quickly become more efficient, it “automates some functions, outsources others, and lays off employees in droves.”
Of course, there’s another way for carriers to address a mandated percentage. It seems that every factor has a numerator and denomenator. So forced to achieve a medical cost ratio of 85%, carriers could eliminate disease management programs, reduce customer service staffs, fire some attorneys and reduce commissions. That would address the numerator. But they could also address the denominator by increasing premiums — or eliminating low cost plans. After all, the greater their premium the more they have to spend on operations. This approach isn’t what advocates of the administrative cost cap are seeking to accomplish, but it is a likely result of this approach.
So it’s not just fuzzy math reformers need to guard against. It’s also unintended consequences they should avoid. And they don’t have to take my word for it. They can listen to any ol’ motley fool.