Why Doesn't the Market Fully Insure Long-Term Care?

51 Pages Posted: 13 Jul 2000 Last revised: 14 Apr 2008

See all articles by David M. Cutler

David M. Cutler

Harvard University - Department of Economics; National Bureau of Economic Research (NBER); Harvard University - Harvard Kennedy School (HKS)

Date Written: March 1993

Abstract

This paper examines the failure of the private market to fully insure long-term care. I argue that the failure is a result of large intertemporal variability in the cost of long-term care. Unlike variability in cross section use, variability in the cost of care affects everyone in a pool and therefore cannot be diversified within a cohort. Further, since costs are serially correlated, the cost risk cannot be diversified across cohorts. Estimates suggest that the standard deviation of cost uncertainty is on the order of 4 to 14 percent for an average long-term care policy. In response to this cost risk, most long-term care policies do not insure real benefits. Policies generally pay a fixed nominal amount for care, which is updated using predetermined nominal rules. Many policies also have lifetime maximum payments and other restrictions on aggregate risk bearing by the insurer. The lack of complete long-term care insurance may be one explanation for the low rate of purchase of long-term care policies.

Suggested Citation

Cutler, David M., Why Doesn't the Market Fully Insure Long-Term Care? (March 1993). NBER Working Paper No. w4301. Available at SSRN: https://ssrn.com/abstract=227014

David M. Cutler (Contact Author)

Harvard University - Department of Economics ( email )

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