We are beginning to see the unraveling of the Faustian bargain that private health insurance companies made with the Obama administration and the Democratic-controlled Congress in 2010. Back then, they pledged to support the Affordable Care Act, better known as Obamacare, in return for provisions that would keep them solvent and profitable. Yet as Dr. Faustus himself found out, such bargains rarely work out as anticipated.
UnitedHealth Group UNH +0.00% has just downgraded its 2015 earnings forecast by almost half a billion dollars, warning that losses may force it to withdraw from the Obamacare exchanges entirely by 2017. Other private insurers are also being squeezed by demographics and mandates that have changed significantly since the rosy projections that were part of the administration’s lobbying blitz for passage of the bill. None of this should be surprising.
Private insurers competitively price risk. In doing so, they face two challenges: adverse selection and moral hazard. Adverse selection stems from the fact that the insured know more about their own health problems than do the insurance providers. This encourages less healthy individuals to seek the most expansive coverage. Moral hazard reflects the changed behavior of the insured, who become prone to take greater risks than the uninsured.
Private insurers try to address adverse selection through tighter screening of applicants and higher premiums, and moral hazard risk by contract provisions such are requiring periodic medical exams and incentives for healthier behavior, such as lower rates for non-smokers.
Note that private insurers do not deliberately subsidize anyone. They charge based on their best estimates of the average risk to each party, enabling their customers to handle the rare catastrophic exposure.
Government, by contrast, subsidizes risk. Obamacare, like other government social programs, is less a healthcare insurance plan than a wealth-redistribution scheme. The goal is to move the nation toward “universal” health insurance via an elaborate system of cross-subsidies from the already insured to the uninsured. As a result, Obamacare is largely unmoored from actual health risks. That makes it far more difficult for insurers to remain profitable while confronting the adverse selection and moral hazard problems.
Insurers, pharmaceutical companies, and many Fortune 500 firms knew all this during the public debate and Congressional deliberations over Obamacare, but decided to support the legislation anyway. Now the chickens are coming home to roost, and the government’s implicit promise that private insurers would not be harmed is falling flat. Having cut what they thought was a politically savvy deal just a few years ago, they find themselves in a scenario reminiscent of negotiating with Darth Vader: The government has altered the deal; shareholders can only pray they don’t alter it further.
Supporting the expansion of government power in exchange for some privilege or exemption is all too typical of business practices today. Sooner or later, appeasement always fails. U.S. businesses have, at best, fended off a few burdensome restrictions while the economy plunges ever deeper into a regulatory morass.
Health insurers, or course, haven’t been the only unfortunate players in this tragedy. Pharmaceutical firms, auto makers, banks, and energy firms have all sought accommodation and appeasement in different areas. All have seen their original regulations tighten and become ever more costly over time.
This need not be so. To better negotiate through political obstacles, businesses should learn from their own profit-making operations.
In the private sphere, American business leaders are fierce, world class competitors who respond creatively to challenges. Yet, in the political world, too many are willing, as Benjamin Franklin well put it, to trade freedom for security. As Franklin cautioned, and we are seeing in the healthcare industry, this trade-off generally ends up with the compromiser losing both.
In the business world, elaborate contractual arrangements—coupled with cultural reinforcements—enhance the likelihood of mutually beneficial results in business transactions. By contrast, coming to an “agreement” with a governmental agency involves very different risks; the government cannot be held accountable for modifying contracts or the terms of the “deal.”
Business is predominantly a wealth creation sector, while government is largely a wealth redistribution sector. If the wealth creators want to survive, they must find more effective responses to the predatory threat of political regulation. That requires, at the very least, an unapologetic, moral defense of capitalism and a refusal to cut short-sighted deals with politicians.
Ideally, business leaders will take their strategy a step further and go on the offense, actively lobbying for economic liberalization and the rollback of burdensome and outdated government rules. They will likely lose some battles, but will develop the skills needed to fight another day.
Originally posted at Forbes.