Saturday, 3 October 2015

Why your Fitbit or Apple Watch could soon get you cheaper health insurance

Last year I wrote a post about the impact of technology on car insurance, noting that car insurers had started offering discounts to car owners who installed a black box in their car that could monitor their driving behaviour. Now, a Swiss insurer is looking to introduce the health insurance version:
Swiss health insurers could demand higher premiums from customers who live sedentary lifestyles under plans to monitor people’s health through wearable digital fitness devices.
CSS, one of Switzerland’s biggest health insurers, said on Saturday it had received a “very positive” response so far to its pilot project, launched in July, which is monitoring its customers’ daily movements...
The pilot also aims to discover to what extent insured people are willing to disclose their personal data, and whether self-monitoring encourages them to be more active in everyday life, pushing them to take 10,000 steps a day.
I noted in the car insurance example last year that the companies were using the black box mainly to overcome moral hazard. However, in this case the technology probably much more effective for solving adverse selection problems.

An adverse selection problem arises because the uninformed party cannot tell those with 'good' attributes from those with 'bad' attributes. To minimise the risk to themselves of engaging in an unfavourable market transaction, it makes sense for the uninformed party to assume that everyone has 'bad' attributes. This leads to a pooling equilibrium - those with 'good' and 'bad' attributes are grouped together because they can't easily differentiate themselves. This creates a problem if it causes the market to fail.

In the case of insurance, the market failure may arise as follows (this explanation follows Stephen Landsburg's excellent book The Armchair Economist). Let's say you could rank every person from 1 to 10 in terms of risk (the least risky are 1's, and the most risky are 10's). The insurance company doesn't know who is high-risk or low-risk. Say that they price the premiums based on the 'average' risk ('5' perhaps). The low risk people (1's and 2's) would be paying too much for insurance relative to their risk, so they choose not to buy insurance. This raises the average risk of those who do buy insurance (to '6' perhaps). So, the insurance company has to raise premiums to compensate. This causes some of the medium risk people (3's and 4's) to drop out of the market. The average risk has gone up again, and so do the premiums. Eventually, either only high risk people (10's) buy insurance, or no one buys it at all. This is why we call the problem adverse selection - the insurance company would prefer to sell insurance to low risk people, but it's the high risk people who are most likely to buy.

How does a pedometer help solve this problem? Well, if the insurance company provides a short-term insurance contract conditional on wearing the pedometer, then they can use that time to gather information about the wearer. The pedometer won't tell the insurance company about your eating habits, but it will tell them how active your lifestyle is, allowing them to some extent to separate the high risk and low risk people, and then price future insurance accordingly.

Couldn't you just refuse to be part of this and not wear the pedometer? I guess you could. But think about it from the insurance company's perspective. Who is going to refuse the pedometer? The low risk people will pay a lower premium by agreeing to wear it, since it will show they are low risk. So, only high risk people will refuse. Which the article picks up as well:
The implication is that people who refuse to be monitored will be subject to higher premiums, said Blick.
And, if you think that you could just avoid this completely, or attach the pedometer to your dog, or some other workaround:
Fitness wristbands such as Fitbit are just the beginning of a revolution in healthcare, believes Ohnemus.
“Eventually we will be implanted with a nano-chip which will constantly monitor us and transmit the data to a control centre,” he said.
Which sounds very much like the future that Adam Ozimek is foreseeing:
Constant measurement will include many things that to our eyes look like serious encroachments on privacy. Our health, spending, and time use will be easily and often measured. These will start off as opt-in systems, but the better they work the more economic incentive people will have to sign up. For example, for a big enough discount on health insurance you will probably agree to swallow the health tracking devices. Eventually, it probably won’t be a choice. The good new is after opting in to so much voluntary tracking this won’t seem like as big of a deal to people in the future as it does to us.
In a way, this will make us much less free as we are faced with prices for many behaviors that used to be costless to us. But it will also mean that the costs that we bare for other people’s behaviors will decline and the dollar cost of government will shrink, which will make us more free in a sense.
Finally, what about moral hazard? Moral hazard is the tendency for someone who is imperfectly monitored to take advantage of the terms of a contract (a problem of post-contractual opportunism). I'm not sure the case is nearly as strong for moral hazard being a problem of health insurance. However, this is how we would explain it. In countries that have a private or insurance-based healthcare system, people without health insurance have a large financial incentive to eat healthily, exercise, and so on, because if they get sick they must cover the full cost of their healthcare themselves (or go without care, substantially lowering their quality of life). Once they are insured though, people have less financial incentive to eat healthily and exercise because they have transferred part or all of the financial cost of any illness onto the insurer (though they would still face the opportunity cost of lost income while they are in hospital, etc.). The insurance contract creates a problem of moral hazard - the insured person's behaviour could change after the contract is signed.

Now, health insurers aren't stupid and insurance markets have developed in order to reduce moral hazard problems. This is why we have excesses (deductibles) and co-payments - paying an excess or a co-payment puts some of the financial burden of any illness back on the insured person and increases the financial incentive for eating healthily and exercising. The pedometer clearly gives the insurer the ability to more closely monitor people's behaviour, but would people exercise more if they know their insurer is watching? That's harder to say.

Overall though, wearable technology is going to make it easier for health insurance companies to price their premiums according to risk. So, if you're the healthy type your Fitbit will likely earn you a lower health insurance premium.

[HT: Marginal Revolution]

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