Evidence of Adverse Selection in the Individual Health Insurance Market

Abstract

In this article the author tests the market for individual health insurance to determine if adverse selection is present. Evidence is found that low risk consumers do purchase less insurance in the individual market than they do in the group market. This finding is consistent with adverse selection existing in the individual market for insurance. However, the finding may also be explained by low risks being off their demand curve in the group market. A second finding of the study is that equilibrium in the individual market is characterized by a subsidization of high risk consumers' insurance purchases by low risks. This is consistent with the pooling equilibrium models of Wilson and Miyazaki but not the separating equilibrium model of Rothschild and Stiglitz. The number of people without health insurance in the United States is estimated to be in excess of 36.8 million.' Since the possibility of the need for high cost health care faces everyone, the uninsured population stands at risk of, at best, significant financial setback should the need for expensive health care treatment become necessary. At worst, the uninsured may be unable to acquire access to an increasingly expensive but at times life-giving health care delivery system. Numerous reasons have been advanced to explain why people do not have medical insurance. The reasons include the risk-taking nature of some individuals, financial inability of some to afford medical insurance, ignorance of the risks covered by medical insurance, as well as adverse selection. Dahlby (1983) found that adverse selection leads to reduced insurance consumption by low risks in the automobile insurance market. Beliveau (1981) tested for adverse selection in the life insurance market and similarly found that adverse selection leads to reduced insurance consump