The CLASS Act Loses its Class

Let’s hear it for a little math and a lot of common sense. The Community Living Assistance Support and Stability Act (CLASS) program, part of the health care reform law that would essentially create a government-run long term care insurance program,

has gone kaput before it even got started. A news article title calls it a “defeat for health care reform,” but that is being polite. It is really a strike down against another government attempt to run an insurance scheme it is not qualified to run. Last year and more recently NCPA warned that the financial solvency of CLASS would go the way of Social Security and Medicare by eventually creating a huge unfunded liability that would have to be remedied with benefit cuts or premium increases.

Having read many articles about the demise of the CLASS Act, most seem to tie this program to the outcome of other features of “ObamaCare.” What does this mean for health reform? Will other parts of the overhaul be gutted as well? But
all these analyses miss the point. The real lesson here is that government does a lousy job acting as an insurance company.
That is why there is a thriving private sector that provides life insurance, car insurance, income and disability insurance, property insurance, long-term care insurance, and in spite of government’s attempts to dismantle it — private health insurance. Despite oft-heard consumer complaints about insurance (they don’t pay claims, they are difficult to deal with, premiums are too high, etc.), a thriving private market for all types of insurance still exists, so somebody is buying it.

So why shouldn’t government get in on the action? For the simple reason that government’s current experiences of playing insurer have failed miserably. They violate the fundamentals of sound insurance. Let’s compare private insurers to government-run insurance:

Private insurers generally want to profit; government never profits. Who in their right mind would go into the insurance business with the intention of losing money? Although it happens with private insurers, it is not a characteristic trait of the insurance industry. Meanwhile, on the federal insurance side of the coin, Social Security (which provides the equivalent of income insurance and disability insurance) has a huge looming unfunded liability of about $17 trillion into the future. Medicare (which one could loosely compare to private health insurance) is already experiencing a funding gap, which is about $86 trillion when not including the deep benefit cuts that ObamaCare will ostensibly impose on it. The National Flood Insurance program is

a staggering $18 billion in debt. See a trend here?

Private insurers invest customers’ premiums in order to pay claims and stay solvent. Since private insurers wish to profit, they will invest premiums into a variety of stocks, bonds, mortgage securities, etc. Insurance cannot rely on premiums alone to
cover payouts, thus they have an incentive to invest wisely. Government, meanwhile, spends payroll taxes (used to fund Social Security benefits, disability and part of Medicare) on other programs. The only “investment” part of these programs is the so-called Trust Fund, which is comprised of securities issued by the Treasury that are not tradable on the public bond market. In other words, government is using today’s money from “premium payers” (workers) and borrowing money from future workers to pay today’s retirees.

Private insurers underwrite to protect against unnecessary risk. Government is all about risk. If you are a 20-year-old male buying car insurance, all else equal, your premiums will be higher than those of a 50-year-old female. If you get three speeding
tickets in a year, your premiums will increase. If you are a 60-year-old smoker in the market for life insurance, your
premiums will be higher than those of a 40-year-old non-smoker. This is not discrimination; this is commonsense. In most insurance markets where regulation does not limit them, insurers have the freedom to price according to the risk posed by the policyholder. This is not a perfect system, but thanks to loads of demographic data on everything from health to driving records, insurers can price premiums in a way that keeps them solvent and allows them to pay claims.

One may ask…if the private insurance market functions so well, why doesn’t it insure everything? For example, why must the government provide flood insurance? The private market is not stupid; if a certain type of insurance is not available on the private
market, it is likely because there is no demand for it, or there is too great a risk of insolvency and moral hazard to the insurer, or the high premiums in order for the insurer to stay solvent would be prohibitive for consumers. Flood insurance is one of them. This program fails because it provides a perverse incentive for people to build, build some more and rebuild in flood-prone areas. If there was not a federal flood insurance program, there would likely not be much coastal building taking place. Probably a good thing.

Back to the CLASS Act. A private market already exists for long-term care insurance. Medicaid exists for the poor who do not have long-term care insurance. Government’s long-term care insurance would have allowed anybody to purchase long-term care insurance through payroll deductions, with very few adjustments for health and risk. What does this mean? The program would
attract only the unhealthy who may have difficulty obtaining insurance, while healthier people would continue to go through the private market or self-insure. Since government has a poor track record of risk-pricing and investing like a real insurance company, the CLASS Act would have failed to remain solvent for 75 years, as it was required to do under law.

The moral of this story? Let government govern, and let insurers insure.

 

 

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