Measuring health care inflation has always been a challenge. The system is opaque and there are as many prices as there are service providers. Calculating the cost of health insurance is especially challenging. According to the BLS, they have found it difficult to control for changes in quality such as policy benefits and risk factors. In response to the lack uniformity, the BLS developed an indirect approach they call the retained earnings model.
This model separates insurance premiums paid into two buckets, benefits purchased on behalf of plan members and retained earnings. Retained earnings are "leftover" premium and reflect the cost of providing insurance. Benefits paid, of course, are for medical services and those are assigned to the other relevant medical services index. The data on retained earnings comes from the National Association of Insurance Commissioner's statutory filings.
There are a number of flaws in the BLS' approach. First, the data is lagged significantly - up to 10 months and updated annually. In 2021 unusual care patterns as a result of both delayed utilization due to Covid, labor shortages and the persistent circulation of coronavirus variants, reduced retained earnings and with it the CPI for health insurance. Another major flaw is that most insurance plans now have Minimum Loss Ratios so the incentives to bank retained earnings are reduced and therefore a weak measure of actual cost of providing insurance.
Nonetheless, it is what it is. The total swing in health insurance CPI was 6.1% from September to October. If you multiple that times the weight of health insurance in CPI, 0.9%, the data update was responsible for about 5.5bps of the 50bps reduction in CPI from September to October.
As we all know, the costs associated with providing insurance did not actually go down in October. If anything carriers are suffering from the same labor cost pressures as everyone else. More important, the annual-ish adjustment of CPI for health insurance is not going to carry through to PCE, where health care carries more weight, at the end of the month. As care patterns normalize the role health insurance plays in CPI should start to look more pre-pandemic periods with updates having a small effect on the overall inflation picture.
However, in 2023, as economists at the Dallas Fed point out, the cost of everything health care related is going to catch as utilization continues its slow climb back to normal, labor availability improves and higher reimbursement is implemented.
More information on the BLS methodology can be found here.
Emily Evans
Managing Director – Health Policy
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