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CHAPTER 4 These questions will help you prepare the review session. We have barely touched the topics of some of them. We shall go over as many questions as possible in class. True/False 1) The Law of Large Numbers explains why it is unlikely that the actuarially fair premium for an insurance policy will be the same for a small start up firm as it will be for a large employer such as a university. 2) Depending on assistance from family and friends to pay for one’s unforeseen medical expenses is an example of an economic trade-off between consumption today and consumption tomorrow. 3) The ultimate solution for adverse selection is to include everyone in a social insurance system, similar to what the United States did for the elderly by creating Medicare. 4) The U.S. is unusual in the developed world in that it uses a general tax to fund health insurance for the elderly. 5) Title XVII of the Social Security Act of 1965 dealt with the problem of adverse selection in health insurance markets for elderly people. 6) Bill’s employer offers a new health insurance benefit which covers preventive and cosmetic dental services, including orthodontic care, for employees and their family members. If Bill knows his children need extensive orthodontic care, he will buy the policy. This is an example of moral hazard. 7) Bill’s health insurance covers preventive and cosmetic dental services, including orthodontic care, for employees and their family members. Bill is willing to pay $30 per month for over the counter teeth whitening strips at the local pharmacy. With his co-pay, he learns he can pay $25 per month and receive professional teeth whitening services at his dentist. He chooses to go to the dentist for the service, which costs the insurance company $75 per month. This is an example of adverse selection. 8) Increasing the ratio of part time instructors to full time professors reflects one of many ways that universities attempt to reduce costs of its workforce. 9) Bill is an aging snowboard instructor at a local ski resort. All winter, he takes over the counter pain medication to deal with his aching joints. Each summer, he moves home with his parents and takes a part time job making minimum wage. This summer, he got qualified for and enrolled into state government subsidized health insurance. Now he plans to undergo arthroscopic surgery by the end of the summer to repair his knee. Though this is an economically rational decision for Bill, it represents a welfare loss to society as a whole. 10) Catastrophic medical expenses are large, infrequent and unpredictable. Risk aversion explains why people buy insurance which covers such catastrophic events. 11) The primary funding source for the expenses of current Medicare beneficiaries is the fund current beneficiaries contributed to throughout their lifetime. Multiple Choice 12) Medical bills may be paid by any of the following methods except a) shifting consumption from one period to another. b) reducing your welfare loss. c) charity. d) family or friends. e) third party insurance companies. 13) Social insurance a) is not found in the U.S. b) would most likely provide more extensive coverage for dementia treatments than family or private savings. c) is based on actuarially fair premiums. d) is funded by voluntary contributions from large corporations. e) does nothing for people who cannot afford to buy insurance or for people excluded from purchasing insurance (e.g., people with disabilities). 14) A sudden escalation in the utilization rates and, correspondingly, medical expenditures for treatment of ischemic heart disease (a procedure usually covered by insurance) would immediately a) benefit providers. b) result in Ex Ante moral hazard. c) reduce welfare loss. d) benefit insurance companies. e) increase insurance company profits in the short term. 15) A company with 1,000 employees has the following experience this year 25 hospitalizations at $5,600 each. 24 births at $10,000 each. 4.1 physician visits per employee at $60 per visit. 2.4 prescriptions filled per employee at $25 per prescription. The actuarially fair premium for this company a) is less than $500 per employee. b) is greater than $1000 per employee. c) is approximately $686 per employee. d) is less than the loading factor per employee. e) is the same as the loading factor per employee. 16) The U.S. government subsidizes the private provision of health insurance through employers. Benefits paid to employees are deductible as expenses by firms, but not recognized as taxable income by employees. Consider two employees, Ann and Bob, who work for two different employers. Ann earns $30,000, pays 15% in taxes, and pays $12,000 in premiums for health insurance offered by her employer. Bob earns $40,000, pays 25% in taxes, and has $12,000 worth of medical bills which he has to pay out of pocket, as Bob’s employer does not offer health insurance. Which of the following is true about Ann and Bob’s incomes? a) After paying all taxes and medical bills, Ann and Bob’s incomes available for spending will be exactly the same. b) After paying all taxes and medical bills, Ann and Bob’s incomes available for spending will differ by exactly $10,000. c) After paying all taxes and medical bills, Ann and Bob’s incomes available for spending will differ by less than $10,000. d) After paying all taxes and medical bills, Ann’s income available for spending will be $18,000. e) After paying all taxes and medical bills, Bob’s income available for spending will be $15,300. 17) Many employers in the U.S. pay significant amounts towards their employees’ health insurance premiums. If the benefit cost per full-time employee rises (e.g. when the insurer raises premiums) and the employer does not want the total cost of the employees’ compensation (wage + benefits) to rise, all of the following would represent valid options for the employer to consider, except a) replacing some full-time employees with part-time workers. b) laying off some of the full-time employees and instituting mandatory overtime for the remaining full-time employees (assuming overtime is paid at the same wage rate as regular work hours). c) prohibiting fulltime employees to work overtime and hire temporary part-time workers to work those extra hours instead (assuming overtime is paid at the same wage rate as regular work hours). d) increasing full-time employee’s contribution towards premiums; not changing wages. e) not changing full-time employee’s contribution towards premiums; decreasing wages. 18) Insurance coverage of which treatment would likely cause the most problems with moral hazard? a) emergency room services for fractured ankles. b) hip replacement surgeries. c) colon cancer screening tests. d) allergy medicine. e) services of Neonatal Intensive Care Units (newborn intensive care). 19) Offering insurance coverage through an optional rider would likely cause the most problems with adverse selection for which condition? a) concussion treatment. b) stress reduction counseling for employees. c) HIV/AIDs treatment. d) preventive dental examinations. e) policy covering accidents for children in daycare. For Questions 20 - 22 Sahar does not have medical insurance and pays all her medical bills out of pocket. Her demand schedule for chiropractic visits is shown in the table below. Price, $ per Visit Number of Visits per Month 0 10 5 9 10 8 15 7 20 6 25 5 30 4 35 3 40 2 45 1 50 0 20) Sahar responds only to her out of pocket payment when deciding how many office visits to make. Assume Sahar obtains insurance coverage which requires her to pay 20% of the price per visit. At a price of $50, how many office visits will Sahar make? a) 10. b) 8. c) 6. d) 4. e) 0. 21) With insurance, at the $50 office visit price, how many of the services Sahar demands are worth less to her than what they cost? a) 10. b) 8. c) 6. d) 4. e) 0. 22) With insurance, at the $50 office visit price, the welfare loss to society due to moral hazard (if any) in Sahar’s case is a) $400. b) $320. c) $180. d) $80. e) $0. 23) Which of the following is an example of adverse selection in the private health insurance market? a) Consumers regularly engaging in bungee jumping but being able to hide it from their insurer, who developed premiums based on the average utilization rates of that large group in the past. b) Consumers anticipating regular (twice a year) visits to the dentist for preventive care but being able to hide it from their insurer, who developed premiums based on the average utilization rates of that large group in the past. c) Young and healthy consumers having access to multiple plans offered by the employer (from low-priced HMO and high-deductible plans to higher-priced PPO) and ultimately choosing the most comprehensive PPO plan. d) Elderly people enrolling in Medicare. e) Poor family enrolling their chronically ill children in Medicaid. 24) Patient cost sharing is now a permanent feature in almost all health insurance contracts. The insurers introduce patient cost sharing with the goal to a) reduce adverse selection. b) reduce risk aversion. c) reduce consumer demand. d) increase consumers’ medication compliance. e) use those funds to guarantee full coverage of catastrophic events.
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