Optimal Ex Post Risk Adjustment in Markets with Adverse Selection

Abstract

This paper studies general health insurance markets and proposes a scheme of transfers among a regulator and insurers that discourages risk selection and promotes efficient competition. The proposed scheme conditions transfers on the ex post profits of insurers and requires the regulator to hold minimal information to implement it. Equilibrium exists and each equilibrium allocation is efficient in any environment with a finite number of types and states even if single-crossing is not satisfied. I argue that the proposed scheme features the characteristics of ex post risk adjustment.

Keywords: Health Insurance; Risk Selection; Risk Adjustment; Efficiency

JEL Classification: D82; D86; I10; I13; I18