Direct Versus Indirect Standardization in Risk Adjustment

34 Pages Posted: 17 Jan 2008

See all articles by Erik Schokkaert

Erik Schokkaert

Catholic University of Leuven (KUL)

Carine Van de Voorde

Catholic University of Leuven (KULeuven)

Date Written: July 2007

Abstract

Direct and indirect standardization procedures aim at comparing differences in health or differences in health care expenditures between subgroups of the population after controlling for observable morbidity differences. There is a close analogy between this problem and the issue of risk adjustment in health insurance. We analyse this analogy within the theoretical framework proposed in the recent social choice literature on responsibility and compensation. Traditional methods of risk adjustment are analogous to indirect standardization. They are equivalent to the so-called conditional egalitarian mechanism in social choice. In general, they do not remove incentives for risk selection, even if the effect of non-morbidity variables is correctly taken into account. A method of risk adjustment based on direct standardization (as proposed for Ireland) does remove the incentives for risk selection, but at the cost of violating a neutrality condition, stating that insurers should receive the same premium subsidy for all members of the same risk group. Direct standardization is equivalent to the egalitarianequivalent (or proportional) mechanism in social choice. The conflict between removing incentives for risk selection and neutrality is unavoidable if the health expenditure function is not additively separable in the morbidity and efficiency variables

Suggested Citation

Schokkaert, Erik and Van de Voorde, Carine, Direct Versus Indirect Standardization in Risk Adjustment (July 2007). Available at SSRN: https://ssrn.com/abstract=1084865 or http://dx.doi.org/10.2139/ssrn.1084865

Erik Schokkaert (Contact Author)

Catholic University of Leuven (KUL) ( email )

Oude Markt 13
Leuven, Vlaams-Brabant 3000
Belgium

Carine Van de Voorde

Catholic University of Leuven (KULeuven) ( email )

Naamsestraat 69
B-3000 Leuven, 3000
Belgium

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