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Will Buying Health Insurance Across State Lines Reduce Costs?

May 11, 2012

By Avik Roy

During the debate over Obamacare, Republicans have consistently promoted an alternative approach that involved allowing individuals to purchase health insurance across state lines. Interstate insurance purchasing was the second item in the health care section of the GOP’s 2010 "Pledge to America," right after tort reform. It’s also a part of Mitt Romney’s plan to replace Obamacare. It makes intuitive sense: after all, we can buy most other things across state lines; why not health insurance? Credible skeptics, however, say that health insurance is different, and that interstate insurance won’t reduce costs. Let’s explore their arguments.

Right now, in nearly every state, insurance is regulated at the state level. If you live in New York, like I do, you can’t buy insurance from a company in Connecticut or New Jersey, or even better, Texas. Why does this matter? Because state governments, at the behest of lobbyists, enact insurance mandates requiring all plans in a state to cover, say, acupuncture or fertility treatments. Insurance mandates can raise the costs of premiums by 30-50 percent. If I could buy insurance from another state, where regulations are less onerous, I might not be forced to buy a policy that covers drug-abuse counseling.

State insurance mandates drive up premium costs

Even more onerous are the regulations in states like New York that have guaranteed-issue and community rating laws, without an individual mandate, such that young, healthy people are forced to pay far more for insurance than they should, leading many to drop out of the system. Again, I could buy a more affordable plan if I could buy insurance in a state that doesn’t have those mandates. "Allowing individuals and businesses to purchase coverage across state lines would create more competitive insurance markets," notes Devon Herrick.

Liberals, in an interstate system, reflexively worry about a "race to the bottom" in which states who abandon "basic consumer protections" would attract the most insurance business. But no state has an interest in seeing its insurance business collapse. As Michael Cannon points out, consumers have an incentive to seek out states that carry protections that they view as cost-effective.

The real question, then, is whether or not interstate competition would reduce the cost of insurance. If it does, then it’s hard to understand why liberals would want to force people to buy less affordable insurance policies. "There is a lot to work with here," says Sen. Ron Wyden (D., Ore.). Wyden would want interstate insurance to contain some basic federal consumer protections, but told the New York Times in 2010 that a compromise is possible.

The failure of Georgia’s interstate experiment

Within the health-wonk community, a recent article from the Atlanta Journal-Constitution has made waves, in which Carrie Teegardin reports that an experiment in interstate insurance competition doesn’t appear to be working.

In 2011, Georgia passed a law allowing people to buy insurance from out-of-state carriers. But not one out-of-state insurer has sought to do so. "Nobody has even asked to be approved to sell across state lines," Georgia Insurance Commissioner Ralph Hudgens told Teegardin. "We’re dumbfounded. We’re absolutely dumbfounded."

Rick Ungar, with typical bluster, crows that the policy was a "major bust." But it’s hardly surprising that the Georgia experiment hasn’t gone anywhere. As the AJC article points out, nobody wants to make a major business investment in health insurance at a time when the entire regulatory landscape could be upended by the Supreme Court.

But it is a major business investment for an out-of-state carrier to provide in-state insurance. And those who favor interstate insurance should be aware that, if there ever were to be a national market for insurance, such a market wouldn’t appear overnight.

Building a provider network takes time and effort

Think about what it is that health insurance companies do: they contract with doctors, hospitals, and other providers to provide services to their policyholders for a negotiated price. Those negotiations can be laborious, and require a substantial investment of time and effort by an insurance company, not to mention costly filing fees.

If Georgians could buy Alabaman insurance policies, observes Bob Vineyard of InsureBlog, "the health insurance policies and rates would also have to be filed in [Georgia] and approved by the Department of Insurance. This is expensive and time consuming."

Most importantly, it’s the biggest insurers in a state, with the most market power, who are in the best position to negotiate favorable rates with powerful hospitals. New entrants wouldn’t have that luxury. In other words, an Alabaman insurer might be able to offer a plan that’s 30 percent cheaper, because of fewer insurance mandates, but be forced to pay Georgian hospitals 30 percent more, because the Alabaman insurer didn’t have a large enough footprint in Georgia to negotiate better prices.

Interstate insurance will work, but the market will evolve gradually

But eventually, a national market would begin to take shape. Insurers would ultimately have an incentive to build these multi-state plans, because they would have larger risk pools, reducing the volatility of health-care spending, and reducing administrative costs. This will be especially important as more people buy insurance on their own, rather than through their employers: a major goal of market-oriented health reform.

In the many parts of the country where metropolitan areas border several states, insurers could build multi-state provider networks, increasing competition among hospitals and other providers—another crucial goal.

A group of prominent health economists at the University of Minnesota, including Stephen Parente and Roger Feldman, have projected that a national insurance market would increase health coverage by 49 percent in New Jersey and 22 percent in New York. "We find evidence of a significant opportunity," they write, "to reduce the number of uninsured under a proposal to allow the purchase of insurance across state lines. The best scenario to reduce the uninsured, numerically, is competition among all 50 states with one clear winner. The most pragmatic scenario, with a good impact, is one winner in each regional market."

Policymakers shouldn’t be "dumbfounded" if interstate insurance doesn’t produce immediate dividends. But if we’re fortunate enough to enact such reforms, and people are sufficiently patient, we should see results.

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