Health Commission Final Report - Major Changes for Private Health Insurers

The National Health and Hospitals Reform Commission (NHHRC) recently produced its final report. While much of the content of the final report was previewed in the interim report, there would have been surprises for some readers, particularly private health insurers.

This article provides an overview of issues relevant to Private Health Insurance (PHI), and discusses the possible impact on insurers of implementing the proposals. We also discuss what insurers should consider doing now in response to the report.

August 2009

18 months, 123 recommendations

The NHHRC was established in February 2008 to develop a long term health reform plan for Australia. The interim report was released about a year later, with the final report published in late July 2009.

As would be expected given the wide brief, the interim and final reports are both lengthy documents and contain a broad range of proposals. We provided details on the main themes of the interim report in a previous note (refer to “Health Reforms – Reforming for a healthier future?”, available from www.finity.com.au).

Many of the Commission’s proposals have the potential to impact private health insurers. However, we remain of the opinion that two proposals have particular relevance to PHI, Denticare and Medicare Select.

Denticare

Denticare is a proposal for a basic dental service available to all Australians, free at point of delivery. The proposal, which was in the interim report and received extensive publicity, is also included in the final report.

Under the Denticare proposal, some of the benefits currently offered by private health insurers would be available without charge. The proposal describes how the basic Denticare offering could dovetail with PHI. However, Denticare has the potential to impact demand for PHI.

The Denticare proposals in the NHHRC final report are essentially unchanged compared to the interim report. We discussed the proposal in our previous note, and so do not cover this further here.

Medicare Select

The Commission considered governance of the health system, including how the responsibility for delivery of health services should be shared between State and Federal governments. The draft report considered three options for reform, including a proposal for social insurance referred to as “Option C”.

Compared to the other governance proposals in the draft, Option C represented a significant shift from the status quo. Many suspected that Option C would not make the Commission’s final report. However, the Commissions recommendation, Medicare Select, is identical to Option C in almost every regard.

According to the Commission, the key difference between Option C and Medicare Select relates to whether or not individuals are required to opt out of Medicare. Under the Medicare Select proposal, organisations would compete with Medicare to attract individuals. Government funding to provide healthcare would follow the individual.

The following paragraphs describe how Medicare Select might work in practice. The comments are based on the illustrative model in the Commission’s final report. However, we note that the Commission has recommended that the government consult on all aspects of the proposal. Any final structure would likely be modified as a result of the consultation process.

Health and Hospital Plans (“Plans”) would be established to purchase health care for members. Each Plan would cover a mandatory set of core services, which form the universal core entitlement to health care. People could choose to purchase insurance to cover additional services, as they currently do with PHI.

The Commission does not specify the services that should be included in the core offering. However, one option noted by the Commission would be for only a few services to remain under automatic government control, for example, biosecurity, or centralised planning of specialised procedures such as transplants.

August 2009

Plans could be run by the government (Federal or State), not-for-profit organisations or shareholder-owned businesses. Initially, all Australians would be a member of a government Plan, but would have the option to switch providers. Plans would not be able to refuse membership.

The Commonwealth government would be the sole funder of the core health care services. Money would be provided to each Health and Hospital Plan on a risk-adjusted basis. There may also be a need for risk equalisation.

In some ways, Medicare Select is similar to the Dutch health care system. This is described in the case study below.

Case study: The Dutch Health System

There are some similarities between Medicare Select and the Dutch health system. The following paragraphs provide more details on the Dutch health system and draw out the similarities to the Medicare Select proposals.

As in other countries, the government of the Netherlands had spent many years considering health reform, including forming several review commissions over a period of around thirty years. Substantial health reforms were introduced in 2006, requiring every individual to purchase PHI. The government identified the main aim of the reform as making health care more efficient and affordable.

All insurers must provide at least a basic level of cover as specified by the government. This is analogous to the core entitlement proposed under Medicare Select. Insurers can provide additional cover and charge a top-up premium for this cover. However, Dutch insurers are able to decline to provide the additional cover to policyholders that do not meet underwriting requirements.

Dutch health insurers are funded by a combination of government, employer and individual contributions. The government pays the full premium for children, the unemployed and others on low incomes. Policyholders can switch between insurers up to once per year.

Individual contributions are community-rated, meaning the premium is identical for every policyholder with the same insurer. As in Australia, it is necessary to have a risk equalisation mechanism to support the viability of community rating. Risk adjustment is paid by government as an annual addition to the premium paid by the policyholder.

The risk equalisation amounts payable by the government to insurers depend on a range of factors, including whether the policyholder has pre-existing conditions or has recently been hospitalised, where the policyholder lives, and whether the person has a job. The risk-equalisation amounts are largely independent of the actual costs of providing care to an individual. This provides an incentive for insurers to purchase health services efficiently. By contrast, under current Australian risk equalisation, an insurer that purchases services efficiently (for example, by obtaining discounts from providers) must share a proportion of those savings with other insurers through risk equalisation.

It is too early to determine whether the Dutch system will be successful in the long term. However, the Dutch government is optimistic about progress so far. One outcome noted by the Dutch government is a change in the “balance of power” from care providers to insurers. Pressure from insurers is said to be providing an incentive for care providers to improve and measure performance.

Source: Dutch Ministry of Health, Welfare and Sport

August 2009

Advantages of Medicare Select

The Commission has identified a number of potential advantages of Medicare Select over other health governance models. The main advantages are:

Purchasing Incentives – Plans would be required to cover all of a member’s health needs. Plans are therefore incentivised to purchase treatments as efficiently as possible to ensure government funding covers the members’ care costs.

Joined-up Care - Medicare Select has the potential to create a “joined up” health system, because a single purchaser is responsible for all of a customer’s health needs.

In addition, a fund would need to provide an attractive offering to potential insureds and, with for-profit enterprises, offer acceptable returns on capital.

Possible impacts on PHI

Medicare Select would provide significant opportunities for private health insurers, potentially allowing a considerable expansion

of existing activities. However, Medicare Select would also represent a fundamental change to Australian healthcare funding, resulting in a number of challenges for insurers.

This section discusses the issues that a private health insurer would need to consider, should the Medicare Select proposals advance further. Again we comment on the Commission’s illustrative model of Medicare Select, but note that alternative models could have a very different impact on private health insurers.

Capital

If private health insurers provided Medicare-type benefits in addition to the benefits currently offered, this would result in a significant increase in premium income. Although the relationship between premium volume and capital requirements is not linear, it is likely that more capital would be required to underwrite additional business. The text box provides an example of possible increases in premium revenues.

Illustration of Possible Capital Requirements

Government currently funds 64% of health expenditure in Australia, compared to 11% funded by private health insurers*.

In the year ending 30 June 2008, the capital requirement of the PHI industry was $2.1 billion. Actual capital held by private health insurers (assets less liabilities) was $5.8 billion. If private health insurers provided one third of the health services currently provided by the government, premiums would need to be sufficient to cover 33% of all Australian expenditure. Given premiums currently only cover 11% of expenditure, this change could require a three-fold increase in premium revenue (ignoring changes in expenses and profit margins for simplicity). Simplifying again, forecast capital requirements could be $6.3 billion (that is, three times the current level of $2.1 billion). This exceeds the current capital held by the industry.

* Source: “Australia’s Health 2008” published by the Australian Institute of Health and Welfare, AIHW. These figures are for the 2005/06 year (the most recent available) have been adjusted to include PHI rebates within the private health insurers’ share of expenditure.

The ability to raise capital varies between insurers. Retained profits are the main (or only) source of capital for mutuals, making it difficult to raise significant amounts of capital over a short period of time. Larger insurers (including any listed on the stock market at the time) could be better placed to access equity from capital markets. However, capital markets will require an acceptable return in order to provide funding.

Purchasing

The Commission notes that purchasing arrangements will need to be considered by the government. For example, the Commission recommends research on whether there should continue to be a national payment and pricing mechanism for pharmaceuticals similar to the PBS, or whether this would be done by individual Plans.

Private health insurers have established relationships with hospitals, medical practitioners and general treatment providers. It would be necessary to broaden provider networks to include, for example, with GPs.

The Commission suggests the government consult on whether there should be default purchasing arrangements with all hospitals and primary care services. Default arrangements would make it easier for the smaller Plans to purchase services. However, this would need to be balanced with allowing funds the flexibility to negotiate more favourable purchasing arrangements.

Marketing

Although government funding would be risk-adjusted, it is unlikely that any practical system could completely equalise policyholder risks. Plans will therefore need to consider whether to aim their marketing efforts at particular demographic groups.

Advertising Medicare Select products would be expensive. It would be difficult to make products stand out as many providers would be marketing at the same time. The public may regard marketing spending as wasteful.

Because Medicare Select represents a significant change to the existing healthcare system, existing PHI policyholders may be prompted to shop around for the best deal on a combined Medicare Select-PHI package. This may result in a higher level of shock or one-off lapses for private health insurers.

Whole of Life Care

The Commission argues that Plans would have an incentive to manage the “whole of life” care needs of individuals. The Commission has noted it may be necessary to limit transfers between Plans to encourage the adoption of a longer term outlook. However, it is hard to balance reductions in portability with encouraging competition between funds.

Government Involvement

The Commission has recommended the government consider how PHI could work alongside Plans. This investigation would consider the potential impact of Medicare Select on existing PHI, and any changes that may be appropriate to existing government regulatory, policy or fiscal support for PHI.

The Commission’s recommendation acknowledges the requirement for a comprehensive review of PHI should the government consider adopting Medicare Select.

Funds for the core entitlement of services would be provided directly to Plans by the Federal government. The Commission does not propose a process for varying the basic level of funding provided to Plans. The Federal government may want a high level of influence over Plans, commensurate with the level of funding provided.

A particular issue to be resolved relates to how government Plans and private-sector Plans would interact. Government businesses have different objectives and financial capabilities to non-government businesses. This makes it difficult to create a market in which the two business types compete on an equal footing. A possible exception would be where government businesses are run “commercially”, a possible example being Medibank Private.

August 2009

August 2009

Industry Change

Insurers could require additional capital to remain significant market participants. This may provide a trigger for further consolidation of Private Health Insurers.

Small insurers may struggle to produce a credible Medicare Select product. One alternative model could involve a number of small insurers selling a common Medicare Select Plan. This would be bundled with the insurer’s existing private health product and sold to existing members. There could be opportunities to produce a Medicare Select Plan for distribution through small insurers.

Other Possible Impacts

Supply Side Issues

Purchasing efficiencies are identified as one of the main advantages of Medicare Select. In

simple terms, this means paying less for health care than would otherwise be the case, or expecting more to be provided for a given cost. Extracting purchasing efficiencies will provoke a response from health care providers.

Health care providers are vocal and often members of a well-organised profession. The response of the Australian Dental Association to the Denticare proposals is a case in point. It is not clear whether the government has the appetite to drive significant change in this area. An alternative view is that increasing health care costs will force this issue to be addressed.

Health services are currently provided by a mix of small practices and corporate providers. A need to negotiate with Plans would change the mix between the two provider groups. Increasing corporatisation of doctors may be a likely response to the changes.

Reactions to the reportCare Providers

“The long awaited final report of the NHHRC …demonstrates the same lack of appreciation of dentistry and the problems with dental care delivery as the earlier Interim Report”

Neil Hewson, Federal President, Australian Dental Association

“It is clear that (the report) properly focuses on some critical areas in health….Doctors and nurses working at the coalface must inform any final policy decision.”

Andrew Pesce, Federal President, Australian Medical Association

Private Health Insurers

“There is broad agreement that the current model is financially unsustainable and that fundamental reform is needed to deal with the substantial gaps in navigating the health system. We are pleased that the Commission has put the consumer at the centre of its considerations and has preserved choice and flexibility in the proposed reforms.”

George Savvides, Managing Director, Medibank Private

“We do not agree with the notion that single funding bodies would rely upon Government as their primary source of revenue. Rather, it would be more efficient for the funders to enrol people and levy the premiums, with Government then subsidising people based upon need. Government’s job is to ensure fair and equitable access and affordability, not manage the system.”

Mark Fitzgibbon, CEO, nib health funds limited

Sources: Press releases from each organisation.

August 2009

New Participants

Private health insurers will not be the only organisations to consider operating Medicare Select Plans. In addition to government Plans, competition could come in the form of new entrants to the industry.

With the exception of BUPA, international health insurers have not been active in Australia. Expansion of the Australian insurance market may cause international operators to revisit Australian opportunities.

Businesses from other industries may wish to enter the health market. One industry that might provide competition is superannuation funds. Over time, the health plan offering might be more closely aligned with superannuation through Health Savings Accounts. Employers may have a greater role if Plans are able to offer meaningful scale discounts for large accounts. Large employers may offer a Plan to their employees as part of their remuneration package.

Timing

The Commission recommended that the government spend the next two years investigating the Medicare Select proposal in detail. Responding to the report as a whole, the Prime Minister said the government will not make any decisions on the recommendations for six months. He also said it was inevitable that not all of the recommendations in the report would be accepted.

It is difficult to envisage the Medicare Select proposal being implemented in any less than four years. However, insurers should consider what they would do if something similar to the proposal was introduced. Capital will likely be a key consideration for some insurers. The largest insurers have an advantage in that they may have the resources to start considering the proposal in some detail. For other insurers, the immediate discussions should relate to how the business would react if the proposal is adopted, rather than focussing on making any actual changes now.

Conclusion

Medicare Select has the potential to fundamentally change the Australian health system. While presenting opportunities for private health insurers, it also presents challenges. If Medicare Select were adopted by government, the challenges are so significant that some insurers may not survive them, or might emerge with a significantly changed role.

Medicare Select remains far from being official government policy. However, its inclusion in the Commission’s final report means it is a possibility worthy of further consideration by insurers. Private health insurers should, at the least, consider the impact of a change such as this on their business, and be actively involved in any upcoming debate.

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