Editor's Note: In this complimentary edition of About Everything, Hedgeye Demography Sector Head Neil Howe discusses how America's biggest health insurers are bailing out of the exchanges—with ominous consequences for the future of private insurance.
Are the public exchanges instituted by the Affordable Care Act (ACA) falling to pieces?
Some of the largest health insurers in the nation appear to think so. Aetna (AET) is planning on leaving the exchanges in 11 out of the 15 states where it currently operates. UnitedHealthcare (UNH) will operate in just three state marketplaces in 2017—down from 34 in 2016. Humana (HUM) will offer exchange plans in only 156 counties in 2017, a huge drop from 1,351 counties in 2016.
When three of the “big five” U.S. health insurers speak, you listen. (Cigna (CI) and Anthem (ANTM) currently plan to maintain their presence on the exchanges.)
What’s going on?
Some have speculated that Aetna just wants to spite U.S. regulators who pumped the brakes on the company’s intended merger with Humana. But the truth is that the exchanges have fallen into a two-pronged “death spiral” that is rendering them unprofitable for most conventional (choice-oriented PPO) insurers.
Here’s how it works: Unhealthy people naturally tend to sign up for the highest-cost plan available, because they know they’re likely to use the extra coverage. Before the ACA, insurers could limit this “adverse selection” by various means, such as underwriting, coverage limits, preexisting condition exclusions, lifetime spending caps, etc. Since the ACA, most of these means are no longer allowed. Now, the insurers’ only recourse is to raise premium prices for everyone—which further deters healthy people from enrolling.
The ACA hoped to avoid the resulting implosion by subsidizing the exchange marketplaces with enough public money so that everyone would feel they are getting a good deal. But that hope is running aground on two further facts: (a) the subsidies are overwhelmingly directed at the poorest enrollees; and (b) health is strongly correlated with income. Thus, the subsidies mostly go those who would happily join (if they had the money) in any case—not to the marginal enrollees who are healthier and wealthier and paying out of their own pocket.
Consider: A family of three earning $25,000 a year—or 124% of the poverty line—pays just 2.04% of its income toward healthcare ($50 per month), with the rest covered by subsidies, not just the premiums but also most of the cost-sharing. Compare that to a family of three earning $55,000 a year, or 273% of the poverty line. That family pays over 9% of its income toward insurance premiums—nearly $400 per month—and it also must pay full freight on additional cost sharing.
Result: A big tipping point is emerging at about 150% to 200% of the federal poverty line.
Below that threshold, rising costs make the deal ever-better for enrollees. Above that threshold, rising costs make the deal ever-less attractive. For them, it often makes more sense to pay the Individual Mandate fee (in 2016, this amounted to $695 per adult plus $347.50 per child, or 2% of their annual income, whichever is higher) than to shell out thousands from their own pocket for insurance. If they really do get sick, they can pay the late fee and enroll (most of these fees are still being waived), they can spend down and qualify for Medicaid, or they can just try the “charity care” route—which has long been the recourse of the uninsured.
The exchanges are an especially painful choice for Millennials who lack employer coverage and who earn decent money in the gig economy or as permatemps. This is because young adults are usually pretty healthy and the bottom policy price allowed by the ACA is still much higher than the actual average cost of this age bracket. In other words, each uncovered Millennial earning around $30,000 or so represents a big subsidy to the exchanges—so much so that many marketplace plans publicly announce the share of the young uninsured they need to recruit in order to break even.
What’s amazing is not how many Millennials don’t sign up for this terrible deal, but how many do. To attract more of them, maybe Millennials should organize and suggest a deal with Boomers: You start forgiving our student loans, and we’ll start writing checks for your joint replacements. Just a thought.
In any event, the emergence of a tipping point is foiling ACA’s grand vision that the exchanges would constitute a close substitute for the type of choice-rich plans available through employer coverage. Rising costs are instead pushing the uncovered middle class into two groups, one richer and one poorer.
For those in the healthier and higher-income group, the marketplace plan tends be such a bad value that the firms targeting them—firms like AET, UNH, and HUM who have experience in employer group plans—are starting to give up. Three-quarters of insurers, including the entire big five, lost money on their exchange plans last year. And no one likes losing money. Their exodus has been hastened by the GOP-led closure of “risk corridors,” which further hammered insurers that were relying on government funding to offset their losses during the ACA’s early years.
For those in the less healthy and lower-income group, on the other hand, the marketplace plan is a great value. Indeed, there is no unsubsidized alternative that could possibly compete with it. Which means that the key to success here is not expanding service and choices to attract enrollees—but rather constraining choices and limiting costs to preserve margins. Unsurprisingly, this is leading to a “Medicaid-ization” of the exchanges and a huge opportunity for traditional Medicaid insurers like Kaiser Permanente (private), Anthem (ANTM), Molina Healthcare (MOH) and Centene Corporation (CNC).
While many big boys are fleeing the marketplace, several of the maller firms are scaling up. Molina more than doubled its exchange membership YOY in Q1 2016. Centene’s ACA membership more than quadrupled over the year ending in March largely due to its acquisition of fellow Medicaid insurer Health Net.
These firms, quite simply, are catering to low earners and restricting access to costly providers. For example, roughly 90% of Centene’s marketplace customers qualify for premium subsidies.
What’s more, with the titans facing mounting resistance to their merger bids, smaller Medicaid-focused insurers like these could become prime acquisition targets. All of this adds up to a good buy: Analysts project that Molina’s EPS will grow at a 17.7% pace annually over the next five years, double its growth rate for the previous five years.
THE BIG PICTURE: A FRAGMENTED HEALTHCARE LANDSCAPE
So yes, the public exchanges are a bleak prospect for most mainstream insurers. But zooming out, these troubles point to an even bigger challenge facing the health insurance industry: the continued fragmentation of healthcare.
The exchanges were supposed to become a central and standardized hub where all of Middle America could find quality healthcare. We’d be left with only small and shrinking tiers of coverage above (employer-provided plans) and below (Medicaid).
But that’s not what’s happening.
Employer-provided coverage splinters. The share of nonelderly Americans covered by employers has long been on a slow decline—from just over two-thirds back in the late 1990s to just over half today. Some of the drop is due to falling labor force participation. Some is due to employers deciding they can’t bear the cost.
In future years, the CBO projects that some firms (especially penalty-exempt small firms) will continue to off-load their employees onto exchanges or individual plans. But the overall decline in the employer-covered share is now expected to be very modest—nothing like the huge drop anticipated when the ACA was enacted. “Employer coverage is much more stable than anyone anticipated,” says Larry Levitt of the Kaiser Family Foundation.
A more significant likely trend is the further splintering of employer plans into a variety of tiers. Once upon a time (see 1988 in chart below), most employers offered unrestricted fee-for-service reimbursement. Today such coverage is almost unheard of. Instead, most employees belong to PPO plans with widely varying levels of restriction—and about a quarter of employees belong to new “consumer-driven” plans with high deductibles. A growing number of employers are capping their cost by sending their employees to “private exchanges.”
The “Cadillac tax” on expensive employer-provided plans, now due to hit in 2020, may chop away at employer generosity at the high end. But Congress clearly has little appetite to enforce this tax, which is likely to be deferred (again) or gutted before it ever takes effect.
Public-Exchanges and Individual Coverage Spar Over a Narrow Middle Ground. Just before the ACA, individual plans covered 11% of working-age Americans not covered by an employer. Today, contrary to expectations, they still cover 8%. The exchanges cover another 8%. Thus far, in other words, the exchanges’ share has grown a bit at the expense of individual plans, of employer plans, and of the uninsured. But they have been a minor player overall.
Individual coverage remains remarkably resilient. The KFF estimates that, three full enrollment seasons in, 57% of all non-employer plans were individual plans purchased outside of the exchanges. This figure includes “grandfathered” plans purchased prior to the signing of the ACA (which never expire), as well as “grandmothered” plans purchased prior to the start date of the first open enrollment (which must terminate by the end of 2017).
As for the public exchanges, the CBO has been steadily downgrading its growth projections. And if competition in the exchange marketplace dies off altogether, the exchange share may actually shrink.
Medicaid Coverage Surges. The ACA has triggered an explosion in Medicaid spending. Hands down, this is where the ACA is having the most consequential impact on healthcare coverage. Monthly enrollment for Medicaid and the Children’s Health Insurance Program is up 27% from pre-ACA levels. All told, 11 million Americans have gained Medicaid coverage since the ACA’s rollout—accounting for more than half of all Americans who have gained insurance during that period.
Incredibly, this means-tested program founded in 1965 to care for the destitute elderly and disabled now provides benefits to 77 million Americans (only 7 million of whom are seniors). That’s exactly one out of every four Americans under age 65.
THE BIG PICTURE: SOARING COSTS
Of course, by extending coverage to millions of uninsured Americans and by suppressing most traditional methods of marketplace rationing, the ACA has pushed our nation’s healthcare tab upward since the beginning of 2014—to 18.2% of GDP in June, an all-time high.
In the years to come, policymakers will clearly be looking for better ways to rein in costs. One way would be to double down on high-deductible plans, since these “consumer driven” plans force enrollees to think twice or shop around before seeking care that may be unnecessary. Yet high deductibles are a poor means of encouraging most providers to offer more cost-effective care. What’s more, they are a nonstarter for Americans who simply can’t afford to pay a high deductible.
A better way to incentivize providers to restrain prices is to implement policies that reward cost savings against a measurable quality-of-care standard. Such a “value-based reimbursement” (or P4P) approach assesses the quality of care that patients receive and rewards star-performing providers with a portion of the savings. “Bundled care,” now being heavily tested by CMS, is an example of P4P in practice.
Ultimately, however, the future may lie in a more draconian approach: “capitated care.” Here, the insurer-and-provider accepts a flat, risk-adjusted payment for all care delivered to the enrollee over the coming year. To anyone over the age of 40, capitation brings to mind America’s brief, ill-fated flirtation with HMOs back in the ‘90s. Still, it may represent the only approach that can stymie the sort of end-run gaming (like up-coding) that seems to foil every other effort to control spending.
The most promising form of capitation on the horizon—now being tested by several of the big five—is “direct primary care,” which features unlimited concierge-like access to general practitioners. Hospital management firm Qliance finds that direct primary care can reduce costs by as much as 20% while improving patient satisfaction and quality of care. Once tax laws and regulations are adjusted to put this form of care on a level playing field, its growth is certain to accelerate.
Watch for more states to abandon their ACA exchanges. New KFF analysis finds that nearly a third of U.S. counties (17 percent of all eligible Americans, according to the McKinsey Center for U.S. Health System Reform) could have only one marketplace insurer in 2017—with one Arizona county poised to have zero Obamacare options. Some states are taking drastic measures to stop the bleeding: Mississippi approved a 43% rate increase to keep Humana on its exchanges.
Other states may shut down their exchanges entirely now that federal subsidies are running dry. (Oregon and Hawaii have already done so.) In fact, KFF’s Larry Levitt predicted in 2015 that as many as half of state-run exchanges could be abandoned within five years. This would likely hurt plan quality, since states can mandate higher benefits than federal law requires. The state flight from the exchanges would thus further accentuate healthcare’s “death in the middle.”
Insurers should brace for an impending dearth of high-margin private customers. In 2012, per-enrollee private healthcare spending for 45- to 64-year-olds was $7,131—which was $2,000 more than the next-youngest age group. High prices typically point to high margins. But demographic headwinds threaten this lucrative end of the private insurance market: The 45- to 64-year-old population is poised to shrink by 2% between 2015 and 2030, even while the 65+ population surges by 45%.
This shift represents the worst of both worlds for insurers. They will face shrinking demand from their high-margin customers while reaping none of the cost savings—since providers won’t see any shortage of demand thanks to a new flood of elderly patients funded by public benefits.
Don’t expect the 2016 election results to settle the matter. Clinton has vowed to “defend and expand the Affordable Care Act,” in part by creating a government-funded “public option” and (perhaps) by lowering Medicare eligibility to age 55. Yet neither of these expensive proposals could possibly be enacted so long as the GOP retains the House. And Clinton would need a historic landslide to overcome that roadblock.
Trump, on the other hand, wants to repeal the ACA and to free insurers from antitrust regulations and laws that prohibit them from selling policies across state lines. These may be helpful ideas (and might lead America to the “Swiss model”), but they don’t in themselves suggest an alternative to exchanges and to the recent Medicaid expansion. Even Trump would have to replace them with something.
In short, nothing that either Clinton or Trump is proposing could, realistically, save America’s middle class from health-insurance limbo.
- After years of huge losses, many of the largest U.S. health insurers are leaving the public exchanges. While some Medicaid insurers are profiting on the ACA marketplace, the withdrawal of three of the “big five” leaves many U.S. counties on the brink of zero coverage in 2017.
- While the ACA was supposed to create a unified marketplace with a booming middle-class public insurance option, the nation’s healthcare system is more tiered—and more costly—than ever.