February 19-20, 2015
Liran Einav of Stanford University and Kenneth Froot of Harvard University, Organizers
Part of the meeting was held jointly with the NBER's Industrial Organization Program, and papers marked with a (*) were presented to the joint session.

(*)Stephen P. Ryan, University of Texas at Austin and NBER; Francesco Decarolis, Boston University; and Maria Polyakova, Stanford University

The Welfare Effects of Supply-Side Regulations in Medicare Part D

Decarolis, Polyakova, and Ryan study the efficiency of the regulatory mechanisms through which the government currently administers subsidies in Medicare Part D, a large prescription drug program for U.S. seniors. Using the data from the first four years of the program, the researchers estimate an econometric model of supply and demand that incorporates the regulatory pricing distortions in the insurers' objective functions. They have four primary results: consumers have a relatively low willingness-to-pay for stand-alone prescription drug plans when compared to drug coverage within comprehensive Medicare managed care plans; competition among insurers is fairly effective in lowering prices towards marginal cost; the primary driver of welfare in the program is the trade-off between relative subsidies and the relative willingness to pay for different parts of Medicare Part D program; and the current subsidization policy achieves a level of total welfare close to that obtained under an optimal voucher scheme, but is far from the social planner's first-best solution.

(*)Neale Mahoney, University of Chicago and NBER, and Glen Weyl, Microsoft Corporation

Imperfect Competition in Selection Markets (NBER Working Paper (NBER Working Paper 20411)

Standard policies to correct market power and selection can be misguided when these two forces co-exist. Using a calibrated model of employer-sponsored health insurance, Mahoney and Weyl show that the risk adjustment commonly used by employers to offset adverse selection often reduces the amount of high-quality coverage and thus social surplus. Conversely, in a model of subprime auto lending calibrated to Einav, Jenkins and Levin (2012), realistic levels of competition among lenders generate a significant oversupply of credit, implying greater market power is desirable. These results motivate a general model of symmetric imperfect competition in selection markets that parameterizes the degree of both market power and selection. The researchers use graphical price-theoretic reasoning to comprehensively characterize the interaction between selection and imperfect competition. Their results imply that in selection markets four principles of the United States Horizontal Merger Guidelines are often reversed.

(*)Elisabeth Honka, University of Texas at Dallas, and Pradeep Chintagunta, University of Chicago

Simultaneous or Sequential? Search Strategies in the U.S. Auto Insurance Industry

Honka and Chintagunta show that the search method consumers use when resolving uncertainty in the prices of alternatives is identified in data where consumers' consideration sets (but not sequence of searches), prices for the considered alternatives and market-wide price distributions are observed. The search method is non-parametrically identified by different patterns of actual prices in consumers' consideration sets across search methods. The authors also provide a new estimation approach for the sequential search model; complementing earlier work that has estimated a simultaneous search model with such data. Using a novel data set on consumer shopping behavior in the U.S. auto insurance industry that contains information on consideration sets and choices, they find that the pattern of actual prices in consumers' consideration sets are consistent with consumers searching simultaneously. Their counterfactuals show that the largest insurance companies are better off in terms of market share when consumers search sequentially, while smaller companies benefit from consumers searching simultaneously. The results regarding the composition of the customer base are mixed. As the search method affects consumers' consideration sets, which in turn influence brand choices, understanding the nature of consumer search and its implications for consideration and choice is important from a managerial perspective.

Tatyana Deryugina and Barrett Kirwan, University of Illinois, Urbana-Champaign

Does the Samaritan's Dilemma Matter? Evidence from U.S. Agriculture

The Samaritan's dilemma posits a downside to charity: recipients may begin to rely on free aid instead of their own efforts. Anecdotally, the expectation of free assistance is thought to be an important explanation for the relatively low rates of insurance take-up and risky behavior in several important settings, but reliable empirical evidence is scarce. Deryugina and Kirwan estimate whether the Samaritan's dilemma exists in U.S. agriculture, where both private crop insurance and frequent federal disaster assistance are present. They find that bailout expectations are qualitatively and quantitatively important for the intensive margin of the insurance decision. Furthermore, bailouts appear to reduce both the amount of investment and subsequent crop revenue.

Daniel Bauer and George Zanjani, Georgia State University

The Marginal Cost of Risk and Capital Allocation in a Multi-Period Model

Capital allocation is used widely within the financial industry for purposes of pricing and performance measurement. In this paper, Bauer and Zanjani consider the theoretical impact of extending the canonical model of a profit maximizing insurer beyond a single period and, in particular, consider the effect of having opportunities to raise external financing in future periods. They show that in this setting, outside of special cases, capital allocation as currently conceived cannot be done in a way to produce prices consistent with marginal cost. The researchers go on to evaluate economically correct capital allocations based on the model in the context of an international catastrophe reinsurer with four lines of business. The authors find that traditional techniques can be resurrected with 1) an appropriate definition of capital, 2) a broader conception of the cost of underwriting, and 3) an appropriate risk measure connected to the fundamentals of the underlying business.

Justin Sydnor, University of Wisconsin, and Saurabh Bhargava and George Loewenstein, Carnegie Mellon University

Choose to Lose? Employee Health-Plan Decisions from a Menu with Dominated Options

Zarek Brot-Goldberg, University of California, Berkeley; Amitabh Chandra, Harvard University and NBER; Benjamin R. Handel, University of California, Berkeley and NBER; Jonathan Kolstad, University of Pennsylvania and NBER

Consumer Heterogeneity and Medical Care Price Responsiveness: Evidence and Implications for Optimal Insurance Design

Amanda Kowalski, Yale University and NBER

What Do Longitudinal Data on Millions of Hospital Visits Tell us about The Value of Public Health Insurance as a Safety Net for the Young and Privately Insured?

Young people with private health insurance sometimes transition to the public health insurance safety net after they get sick, but popular sources of cross-sectional data obscure how frequently these transitions occur. Kowalski uses longitudinal data on almost all hospital visits in New York from 1995 to 2011 to show that young privately insured individuals with diagnoses that require more hospital visits in subsequent years are more likely to transition to public insurance. Ignoring the longitudinal transitions in the data obscures over 80% of the value of public health insurance to the young and privately insured.

Eduardo Azevedo and Daniel Gottlieb, University of Pennsylvania

Perfect Competition in Markets with Adverse Selection

Adverse selection is an important problem in many markets. Governments typically respond to it with complex regulations, which include mandates, community rating, subsidies, risk adjustment, and the regulation of contract characteristics. This paper proposes a perfectly competitive model of a market with adverse selection. Prices are determined by firms making zero profits, and the set of traded contracts is determined by entry into new contracts being unprofitable. Crucially for applications, contract characteristics are endogenously determined, consumers may have multiple dimensions of private information, and an equilibrium always exists. The equilibrium corresponds to the limit of a differentiated products Bertrand game. Azevedo and Gottlieb apply the model to show that mandates can increase efficiency, but have unintended consequences. An insurance mandate that forces consumers to purchase a minimum level of coverage can increase adverse selection on the intensive margin and lead some consumers to decrease their coverage. A simulation based on empirical estimates of the demand for insurance shows that this effect can be substantial. The optimal regulation addresses adverse selection on both the extensive and the intensive margins, can be described by a sufficient statistics formula, and includes elements that are commonly used in practice.

Marika Cabral, Michael Geruso, and Neale Mahoney, University of Texas, Austin and NBER

Does Privatized Health Insurance Benefit Patients or Producers? Evidence from Medicare Advantage(NBER Working Paper 20470)

The debate over privatizing Medicare stems from a fundamental disagreement about whether privatization would primarily generate consumer surplus for individuals or producer surplus for insurance companies and health care providers. This paper investigates this question by studying an existing form of privatized Medicare called Medicare Advantage (MA). Using difference-in-differences variation brought about by payment floors established by the 2000 Benefits Improvement and Protection Act, Cabral, Geruso, and Mahoney find that for each dollar in increased capitation payments, MA insurers reduced premiums to individuals by 45 cents and increased the actuarial value of benefits by 8 cents. Using administrative data on the near-universe of Medicare beneficiaries, the researchers show that advantageous selection into MA cannot explain this incomplete pass-through. Instead, their evidence suggests that insurer market power is an important determinant of the division of surplus, with premium pass-through rates of 13% in the least competitive markets and 74% in the markets with the most competition.

Johannes Jaspersen, Andreas Richter, and Sebastian Soika, Ludwig-Maximilians-Universität Munich

On the Demand Effects of Rate Regulation - Evidence from a Natural Experiment

Jaspersen, Richter, and Soika analyze the influence of rate regulation on insurance demand in an annuity setting. With a unique dataset containing a natural experiment due to German federal regulation and the E.U. Gender Directive the researchers study the impact of unisex tariffs on contract choices in variable annuity products. Their data contains two different choice variables with antithetic predictions for men and women, meaning that women should increase their demand in one choice and decrease it in the other, while men should exhibit opposite behavior. The authors find with regard to both choices that both men and women have lower demand for guarantees within the annuity in unisex contracts than without rate regulation. This behavior contradicts economic intuition. The researchers hypothesize that the effect could instead be explained by the public perception of unisex tariffs.