Council of Economic Advisers' Bad Obamacare Economics

President Obama’s Council of Economic Advisers (CEA) has issued its valedictory report on the state of Obamacare. The gist of the argument is that Obamacare is doing fine, on the verge of overcoming its growing pains.

The CEA claims critics who suspect the 25 percent increase in premiums for 2017 are a problem are off-base. In a normal insurance market, this would indicate a “death spiral”: The sick enroll and the healthy stay away, causing next year’s premiums to increase. The cycle repeats itself until only the sickest enroll. The CEA asserts this cannot be occurring because 11.3 million people enrolled in Obamacare last December, which was 300,000 more than in December 2015. Further, insurers underpriced their policies in 2014 because the market was new. However, they have learned since then and are pricing policies more realistically.

While it is true enrollment in Obamacare’s market is a little higher than last year, it is still well below the Congressional Budget Office’s estimate of 21 million enrollees in 2016, which it made as recently as March 2015. Even in January 2016, it estimated 13 million would enroll last year, which was almost one fifth too high.

The major factor preventing enrollment from collapsing is that Obamacare’s tax credits ratchet up to blunt the pain of enrollee’s premium hikes. If the tax credit were a fixed-dollar premium, many enrollees would bail out rather than suffer a 25 percent gross premium increase. Further, the amount of people defined as “sick” has increased since Obamacare launched. Recall U.S. life expectancy declined among both men and women of all ethnic groups in 2015, for the first time since 1993.

As to the idea that the 2017 premium hikes are the last ones before the health insurers’ training wheels come off, this reflects a misunderstanding of economics that is shocking to hear from such an august body as the CEA. From page 2:

The available data indicate that insurers underpriced for 2014, the first year of the new market, and incurred significant losses. Insurers appear to have then fallen further behind in subsequent years, despite slow growth in underlying claims costs, because they implemented premium increases that were insufficient to accommodate the phasedown of the ACA’s transitional reinsurance program. Stemming the resulting losses necessitated larger increases for 2017.

There is so much wrong in that paragraph:

• It suggests insurers did not learn from 2014 to 2017. Indeed, they became more ignorant of the amount of medical claims to expect. This may be true, as premium hikes averaged five percent in 2015, 10 percent in 2016, and 25 percent in 2017. However, it does not tell us why the CEA thinks the insurers, after having become progressively dumber for Obamacare’s first three years, finally had a Eureka! moment and figured it out this year.
• For 2014 through 2016, insurers had special funds (reinsurance and risk corridors) that were supposed to protect them from underpricing. The insurers themselves claimed they would have learned enough in the first three years that future premium hikes would be reasonable. The 2017 hikes show that was not the case.
• Worst of all, the CEA suggest the 2017 premium hikes were so high because insurers had to gouge enrollees to fill in the holes they had dug for themselves in the first three years. No! Those losses are sunk costs. If insurers thought 2017 and future years were going to be profitable, they would have priced premiums competitively to win market share.

As a farewell address, the CEA’s report is an unfortunate testament to the state of “true believership” in Obamacare.