Health Insurance Reform in Obama’s Affordable Care Act

Intravenous_catheters_01After President Obama’s re-election, stakeholders in the healthcare industry have begun to realize that many of the reforms within the Patient Protection and Affordable Care Act (PPACA or ACA) are here to stay for the next four years and well beyond. The overarching goals of the legislation are to decrease the number of uninsured Americans and to reduce healthcare costs, but its complex requirements have been met with partisan resistance and public confusion. In particular, the health insurance market will see pivotal changes affecting not only the distribution of coverage, but also employers and insurers. For instance, state health insurance exchanges will extend coverage to those who would otherwise be uninsured, while larger employers will face the difficult decision of whether to continue offering benefits to all employees. States will also be required to impose greater restrictions on the ability of insurance companies to price discriminate based on health status and gender. One of the more controversial components of the ACA is the individual mandate, which has been criticized as ineffective in solving the “free rider” problem; some have argued that it will actually increase insurance premiums.

The establishment of state health insurance exchanges represents an effort by the Obama administration to create an affordable insurance marketplace for individuals and small employers. By January of next year, states are required to have an operational online health insurance exchange offering federally subsidized plans1. Although commercially operated private exchanges are expected to be in competition with public exchanges2, health insurance companies have incentives to participate in either type. The Congressional Budget Office estimates that the number of members served will grow from 9 million in the first year of coverage to 24 million by 20202, so the sheer number of users is a crucial motivator. Increasing expectations about price transparency among consumers and the low cost of online exchanges as distribution channels are also contributing factors. As for large employers, the choice is less clear: does it make sense to continue offering health benefits to employees, when the exchanges act as a safety net that provides access to affordable health insurance? The employer must pay a penalty if it drops coverage, but the average cost of benefits per employee may actually be higher than the penalty3. Employers might also argue that company plans are superior to those offered through exchanges, but lower-wage employees could benefit from federally subsidized insurance. The availability of state exchanges has altered the traditional “competitiveness” rationale for larger employers to offer comprehensive benefits3.

Beginning in 2014, insurance companies will be prohibited from varying premiums based on health status or gender1. Currently, methods for determining premiums vary by insurance company and by state. There are two types of restriction on premium rating that are currently used: rate bands and community rating4. Rate bands limit premium variations within a range based on the insurance company’s average premium. Community rating requires that everyone in a given heterogeneous risk pool pay the same premium, regardless of health status and demographic factors. Under the ACA, insurance companies will be able to adjust premiums based only on tobacco use, age, geographic area, and individual versus family enrollment4. These are minimum rules, so states can choose to enact more stringent laws. Since most states already have some type of rate restrictions in the small group market, there is impact in the sense that some states will have to put greater limits on premium variation in order to meet the federal standard. In the individual market, only 18 states currently impose restrictions4, so the effect will be much more significant. In addition to implementing new laws, states will also have to grapple with the question of fairness: the federal minimum premium rating rules amount to a form of adjusted community rating in which typically healthy individuals are subsidizing the healthcare costs of the chronically ill5. Whether this is a fair way of spreading risk evenly across a community is up for debate.

Various_pillsThe individual mandate, a central pillar of the ACA, is also one of the most controversial pieces of the legislation. In the new health insurance market, every person who can afford insurance must purchase “minimum essential coverage” or pay a penalty1. There will be a process to exempt individuals for whom the cost of insurance exceeds a certain percentage of their income, and those earning less than 400 percent of the federal poverty line will receive tax credits to subsidize their purchase1. Despite these efforts to ease the country into the new law, the individual mandate has been met with much criticism. For instance, the libertarian Cato Institute has argued that the problem of the uninsured receiving uncompensated care, which the individual mandate aims to solve by requiring free riders to pay for themselves, only accounts for 3 percent of total healthcare expenditures and is therefore not a significant issue6. Non-compliance, partly due to unaffordable insurance premiums, will further reduce the efficacy of the law. Although the minimum benefits package claims to include basic healthcare products and services, special interest lobbying will undoubtedly influence its definition6. The additional mandated benefits are expected to drive up premiums because insurance companies will require higher revenue to cover payouts. On the other hand, analysis of empirical evidence from a similar individual mandate-based reform in Massachusetts in 2006 has shown that placing the burden of obtaining health insurance on the individual caused less labor market distortion than a wage tax to provide universal coverage7. Alternatives that increase coverage, such as auto-enrollment with opt-out and voluntary opt-in with a late enrollment penalty, are estimated to cover at least 33 percent less than the number of people who will become newly insured under the ACA8.

Reforms to the health insurance market beginning as early as next year will compel state governments to make regulatory changes affecting patients and the healthcare industry. On the individual level, the previously uninsured will now be required to purchase basic coverage. Along with this mandate, options have also increased: state health insurance exchanges will ideally provide a marketplace through which consumers can obtain federally subsidized plans. For employers, a central question resulting from these reforms is whether it makes economic sense to continue offering health plans. Insurance companies face more stringent restrictions on premium rating, but are also spurred by numerous incentives to participate in the exchanges. Clearly, each stakeholder has a different set of rationales, making market interactions ever more difficult to predict. As President Obama begins his second term in office, industry and consumers alike wait for new developments to bring answers.


  1. Health Reform GPS. 2012. “ACA Policy Implementation: A Snapshot of Key Developments and What Lies Ahead.” Last modified December 5.
  2. Yocum, Jim. 2012. “Health Insurance Exchange – The Potential Impact from the Supreme Court ACA Ruling.” Healthcare Information and Management Systems News, accessed December 30.
  3. Deloitte. 2012. “State-Based Health Insurance Exchanges: Love ‘em or Leave ‘em?” Accessed December 30.
  4. The Henry J. Kaiser Family Foundation. 2012. “Health Insurance Market Reforms: Rate Restrictions.” Accessed December 30.
  5. Reinhardt, Uwe E. 2010. “Is ‘Community Rating’ in Health Insurance Fair?Economix Blog – The New York Times, January 1.
  6. Cato Institute. 2007. “Hazards of the Individual Health Care Mandate.” Accessed December 31.
  7. Kolstad, Jonathan T., and Kowalski, Amanda E. 2012. “Mandate-Based Health Reform and the Labor Market: Evidence from the Massachusetts Reform.” NBER Working Paper No. 17933. Issued in March 2012. Accessed December 31.
  8. Center for American Progress. 2011. “Health Care Reform without the Individual Mandate.” Accessed December 31.
  9. Image credit (Creative Commons): AfroBrazilian. 2012. “Intravenous catheters.” Wikimedia Commons. Last modified May 26.
  10. Image credit (Creative Commons): Dela Cerna, Christine. 2012. “Various pills.” Wikimedia Commons. Last modified November 28.

Claire Hou is a fourth-year student at the University of Chicago majoring in Economics and Statistics. She is broadly interested in the economic implications of health policy, and has been closely following developments in health care reform in the United States. More articles about President Obama’s science policy are being published through the rest of January 2013.