Genetic tests, life and health insurance

Is there an unintended consequence of getting a genetic test? Increasingly, people are undergoing genetic tests to identify whether they are susceptible to various illnesses such as cancer. But, as Jane Tiller and Paul Lacaze (both Monash University) wrote in The Conversation earlier this week, there's a downside to this:

Australian insurers can increase premiums, exclude insurance cover for certain conditions such as cancer, or refuse insurance cover altogether purely based on your genetic test results.

Genetic tests look at DNA, the material that contains the instructions for our bodies to grow, develop and function. Some DNA changes cause diseases such as cystic fibrosis or Huntington’s Disease, while others can make us more susceptible to conditions such as cancer. Doctors can refer patients to a genetics service if they consider such tests might be of value due to family or personal history.

Although cases of genetic discrimination are difficult to identify, they have been documented in Australia. In one case, a woman with a BRCA gene, which is known to increase breast cancer risk, elected to have both breasts removed to reduce her risk. However, the consequent, significant risk reduction wasn’t taken into account by the insurer. When she applied for death and critical illness cover, the insurer excluded any cancer cover and imposed a 50% premium loading for death cover.

As I noted in yesterday's post about car insurance, insurers base premiums on:

1. The risk of the insured person making a claim (higher risk groups pay higher premiums than lower risk groups); and
2. The cost of the claims to the insurer (those who would make more expensive claims pay higher premiums).

Note that this applies to both health insurance, and life insurance. Tiller and Lacaze argue that:

As genetic testing becomes more widespread in our society and offers increased potential to help manage patient risk, we must find a way of regulating the insurance implications.

The Australian government must take action towards an immediate ban (moratorium) on the use of genetic test results in insurance, until adequate long-term regulation is in place.

However, before we jump to the same conclusion, let's think through the implications, because this situation is different from yesterday's example of car insurance. In yesterday's example, safe cars cost more for insurance companies because the cost of claims to the insurer were higher. This information (the cost of claims) is public information - the insurers already know this information. In the case of the results of a genetic test that a person has undertaken privately, that is private information - it is information that the insured person knows, but the insurer does not. There is an information asymmetry.

While not all information asymmetries are problematic, sometimes they can lead to adverse selection and market failure, as is possible in this case. An adverse selection problem arises because the uninformed party (the insurer) cannot tell those with 'good' attributes (low-risk people) from those with 'bad' attributes (high-risk people). Now of course the insurer knows some details about each person, but two people who look similar in terms of the observable characteristics (age, gender, occupation, smoker/non-smoker, etc.) may differ in terms of their genetic risk. Genetic risk is the private information here. To minimise the risk to themselves of engaging in an unfavourable market transaction, it makes sense for the insurer to assume that everyone is high-genetic-risk. This leads to a pooling equilibrium - low-genetic-risk people are grouped together with the high-genetic-risk people and pay the same premium, because they can't easily differentiate themselves. This creates a problem if it causes the market to fail.

Will the market fail in this case? If a person had a genetic test, and the results said they were low-genetic-risk, but the insurer wasn't allowed to take this into account, then the insurer has to charge that person the same premium as a high-genetic-risk person (with the same other characteristics). This is likely to be a bad deal for the low-genetic-risk person, so they may opt out of the market. This leaves only high-genetic-risk people in the insurance market (plus those who haven't had a genetic test). It is easy to see that the market might fail here. High-genetic-risk people are less profitable to insure, and the insurance companies might opt out of providing cover at all (for similar explanations for why the market will fail, see this earlier post about health insurance, or this post on adverse selection in life insurance).

But what about if the low-genetic-risk person reveals the private information to the insurer? When the informed party reveals their private information in a credible way, we refer to this as signalling. This would be one way of solving the adverse selection problem. If low-genetic-risk people started revealing their test results, it wouldn't matter if high-genetic-risk people kept their results hidden, since the insurers could infer that anyone withholding their results would be more likely to be high-genetic-risk. Unless, as Tiller and Lacaze propose, insurers are banned from using genetic test results.

Is there a better option? You might be concerned, as Tiller and Lacaze are, about the unfairness of it all. We have no control over our own genetics (at least, not yet), so it seems unfair that some people would have to pay higher premiums as a result of something they have no control over. But banning the use of genetic tests potentially makes a bad problem worse, because it may mean that everyone pays higher insurance premiums, not just those at high-genetic-risk. This is like a tax on those at lower-genetic-risk who get insurance. A better option, if the government is concerned about reducing unfairness in this market, would be to allow the genetic test results to be used for setting premiums, but subsidising the premiums of those who are at high-genetic-risk. Subsidies have their own problems of course, but at least the cost would be spread over all taxpayers, rather than concentrated on the small number of lower-genetic-risk insured people.

Read more:

• Why your Fitbit or Apple Watch could soon get you cheaper health insurance
• Is there adverse selection in the life insurance market?

Safer cars cost more to insure

According to this recent Wall Street Journal article (gated):

New cars loaded with high-tech crash-prevention gear are having a perverse effect on car-insurance costs: They are soaring.

Safety features such as autonomous braking and systems to prevent drivers from drifting out of their lanes are increasingly available on vehicles rolling off assembly lines. Auto companies and third-party researchers say these features help prevent crashes and are building blocks to self-driving cars. But progress comes with a price.

Enabling the safety tech are cameras, sensors, microprocessors and other hardware whose repair costs can be more than five times that of conventional parts. And the equipment is often located in bumpers, fenders and external mirrors—the very spots that tend to get hit in a crash. Insurance companies, unwilling to shoulder all the pain, are passing some of the cost off to buyers.

Most insurers base their premiums on historical claims data. Essentially this involves assessing two components:

1. The risk of accidents (higher risk groups pay higher premiums than lower risk groups); and
2. The cost of enacting repairs (owners of vehicles that are more costly to repair pay higher premiums).

So perversely, while high-tech systems such as rear view cameras, sensors, autonomous braking, and so on may reduce the number of serious accidents, they actually increase the cost of those accidents. Fewer, but more costly, accidents seem to be leading to an increase in total cost of claims to insurers, which is being passed onto vehicle owners as higher premiums. And this effect isn't limited to the U.S. Here's more from the New Zealand Herald:

At the same time new vehicles were making up a larger proportion of all vehicles assessed and this was impacting claim sizes because of expensive technology, use of modern repair techniques and new vehicle owners having a greater tendency to claim.

"These are positive changes to safety which are embraced by the insurance industry, and should eventually reduce the number of accidents.

"However, in the meantime, the new technology comes at a cost.

[National portfolio manager private motor at IAG, Judith] Harvey told Radio NZ that for some people would could mean double digit increases on their insurance premiums.

An AA Insurance spokeswoman said increasing costs were being reflected in its premiums but increases would be gradual...

Twenty years ago a wing mirror could cost $70 or $80 to fix but now it could be several thousand dollars depending if it had sensors, cameras or a computer inside it.

And the trend is set to increase.

And one more, from Auto News, on why Tesla owners should pay more for insurance:

At least one major insurer, AAA-The Auto Club Group, is raising rates on Tesla vehicles based on data showing that the Model S and Model X had abnormally high claim frequencies and high costs of insurance claims compared with other cars in the same classes.

AAA said premiums for Tesla vehicles could go up 30 percent based on data from the Highway Loss Data Institute and other sources...

"Teslas get into a lot of crashes and are costly to repair afterward," said Russ Rader, spokesman for the Insurance Institute for Highway Safety, which is the Highway Loss Data Institute's parent organization. "Consumers will pay for that when they go to insure one."...

The rear-wheel-drive Tesla Model S is involved in 46 percent more claims than average, and those claims cost more than twice than average, [the Highway Loss Data Institute] said. 

So, before you go with the high-tech vehicle option, it may pay (literally!) to be prepared for an increase in insurance premiums.

[HT: Marginal Revolution, here and here]

Rational ignorance is why we don't check our supermarket receipts

Last week, news.com.au reported:

WHEN you go shopping, do you casually throw your receipt in with the groceries, neglecting to read it over?

Or, worse, do you decline to print one out and walk away, ignorant what you’ve paid for all those carefully-selected items?

If you answered “yes”, you could be ripping yourself off, with scanning errors causing supermarkets to overcharge for everyday items — and many shoppers failing to detect, or act upon the mistakes to recoup what they are owed.

A survey of 2,141 Australians by comparison site finder.com.au found that two in five people had been overcharged at the till in the past year.

But one-quarter said they didn’t bother checking their dockets and, of those who did, they would only bother going for a refund if they were overcharged by more than $10.

There is a good reason why supermarket shoppers don't check their receipts. It takes time and effort to check those receipts, and the chances that the time and effort you spend pays off by your finding an error in your favour is low.

To illustrate, let's construct a plausible numerical scenario. Let's say that "two in five people" have been overcharged once each in the past year (as noted in the quote above), making a 40 percent chance that you've been overcharged once in the past year [*]. So, on average each person has been overcharged 0.4 times in the last year (some have been overcharged more times, and some have been overcharged fewer times). Let's assume each person goes to the supermarket roughly once per week (say 50 times per year). So, on average each shopper is being overcharged 0.4 times in 50 shopping trips, or a 0.8 percent chance that any given shopping trip results in an overpayment. Now let's generously assume that in each shopping trip where a shopper is overcharged, they are overcharged by $10 [**]. The expected value of checking every supermarket receipt is 0.8% x $10 = $0.08 (yes, that's EIGHT CENTS). This is the expected (or average) benefit you would gain from carefully checking every supermarket receipt to make sure you haven't been overcharged.

If the cost, in terms of time and effort, of carefully checking a supermarket receipt is more than $0.08, a rational person wouldn't do so. You would be better off to remain rationally ignorant of whether you overpaid the supermarket. Even at the minimum wage, $0.08 is the pay for about 18 seconds. Taking the minimum wage as the cost of people's time, you wouldn't want to spend any more than 18 seconds scrutinising each supermarket receipt. If your implicit value of time is higher than the minimum wage, you'd want to spend even less time than that.

You might argue that people are loss averse, so that they value losses much more than gains. Losing money to overcharging is a loss, so we should value the expected loss at much more than $0.08. However, it isn't a loss if you don't know about it! You're still better off being rationally ignorant, even if you're loss averse (maybe especially if you're loss averse).

I'm not surprised supermarket shoppers don't carefully scrutinise their receipts to check for overpayments on every item. It simply doesn't pay off for us.

*****

[*] Probably some people had been overcharged multiple times, but I don't think that will make much difference to this example.

[**] Probably most instances of overcharging are much less than $10. In my experience, overpayments I have caught in my own shopping trips (usually because I happened to be looking at the screen when the item was scanned and remembered the price) have been a couple of dollars at most.

The trajectory of the economics major in the U.S.

A couple of years ago, I wrote a post on the depressing state of university economics in Australasia, in particular the closure or downsizing of many university economics departments. However, a recent article by John Siegfried (Secretary-Treasurer Emeritus of the American Economic Association), and published in the Journal of Economic Education (sorry no ungated version), shows that this isn't the case in the U.S. In fact, economics majors are increasing:

The number of undergraduate economics degrees awarded by colleges and universities in the United States was virtually stagnant from 2009–10 through 2012–13. In 2013–14, undergraduate economics degrees began to accelerate, rising about 6.9 percent in just one year, followed by a slightly larger rise in degrees in 2014–15, totaling almost 15 percent over the two years. In 2015–16, however, growth fell back to near a 2 percent increase.

Overall, the number of economics graduates across the 293 universities included in Siegfried's survey has grown over 37 percent between the 2006-07 and 2015-16 academic years. There has been a similar increase over recent years in the U.K. It makes me wonder why Australia and New Zealand should be going so against the trend. Perhaps, as I noted in that earlier post, we really need to be looking closely at what is taught in high schools and reconsider allowing such a dominance of business studies.

One thing appears unfortunately similar across all countries though, and that's the gender gap (which I have covered before, here and here and here). In Siegfried's data, the 2015-16 academic year had the highest proportion of female economics graduates (from the surveyed universities) at 34.0%, up from 31.0% in 2006-07, but not terribly different from the 33.8% in 2001-02. There's still a long way to go to achieve parity.

Read more:

• Have we reached peak economist in Australasia?