[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

Case in Point
BUYING HEALTH INSURANCE
Have you ever seen an advertisement for health insurance which stresses that no
physical exam is required? What can economics, and the notion of adverse selection,
tell us about who is likely to buy such insurance and whether it is a “good” deal?
Health insurance is designed to let individuals share the risks that are associated
with health needs. To see how such insurance might work, let’s suppose there
is a medical condition that affects 1 person in 100. This condition can be treated
through surgery, but the cost of the surgery is $50,000. Let’s assume that the chances
of needing the surgery are the same for everyone. Without insurance, 99 of the 100
will not have to pay anything, but one unlucky person will have to pay $50,000. Under
an insurance plan, 100 people could each contribute $500. Whoever ends up needing
the operation has its cost paid by the insurance. The other 99 are “out” $500,
but they have been insured against the much larger cost they would have had to pay
had they required the surgery. If all 100 were equally likely to need the operation,
and the cost of the surgery is $50,000, then charging everyone $500 is the fair price
Health insurance is designed to let individuals share the risk of
needing expensive health care, such as surgery.
THE INCENTIVE PROBLEM ∂ 341