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Cross-Subsidization in Employer-Based Health Insurance and the Effects of Tax Subsidy Reform

42 Pages Posted: 7 Jul 2013 Last revised: 22 Jul 2016

Svetlana Pashchenko

University of Georgia

Ponpoje Porapakkarm

National Graduate Institute for Policy Studies (GRIPS, Tokyo)

Date Written: March 19, 2016

Abstract

A major source of insurance coverage for non-elderly adults in the US is employer-based health insurance market. Every participant of this market gets a tax subsidy since premiums are excluded from taxable income. However, people have different incentives to participate in the employer-based pool – since premiums are independent of individual risk, high-risk individuals receive implicit cross-subsidies from low-risk individuals. In this paper we explore several ways to reform the tax subsidy by taking this implicit cross-subsidization into account. We construct a general equilibrium heterogeneous agents model and calibrate it using the Medical Expenditure Panel Survey Dataset. We find that even though the complete elimination of the tax subsidy leads to the unraveling of the employer-based pool, there is still room for substantial savings by targeting the tax subsidy. More specifically, the same level of risk-sharing in the employer-based market can be achieved at one third of the current costs if i) the tax subsidy is targeted only towards low-risk people who have weak incentives to participate in the pool, and ii) employer-based insurance premiums become age-adjusted. To improve welfare outcome of this reform the tax subsidy should also be extended to low-income individuals.

Keywords: health insurance, tax subsidies, risk sharing, general equilibrium

JEL Classification: D52, D91, E21, E65, H20, I10

Suggested Citation

Pashchenko, Svetlana and Porapakkarm, Ponpoje, Cross-Subsidization in Employer-Based Health Insurance and the Effects of Tax Subsidy Reform (March 19, 2016). Available at SSRN: https://ssrn.com/abstract=2290091 or http://dx.doi.org/10.2139/ssrn.2290091

Svetlana Pashchenko (Contact Author)

University of Georgia ( email )

Athens, GA 30602-6254
United States

Ponpoje Porapakkarm

National Graduate Institute for Policy Studies (GRIPS, Tokyo) ( email )

7-22-1 Roppongi, Minato-Ku
Tokyo 106-8677, Tokyo 106-8677
Japan
+818095248741 (Phone)

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