Private health insurance: the sad history of a system in crisis

The Contribution Cost Spiral

Health funds such as the old 'Blue Cross' funds, which have been in existence for many years, have a relatively higher level of older, long time members, and the fact is that benefit payments to members tend to increase with age.

So there is a downward spiral in which:

• low cost members leave the fund.
• a greater proportion of higher cost members remains to share the contribution burden.
• contributions are therefore forced up.
• this increase causes 'marginal' members to re-evaluate the cost/benefits of health insurance.
• low cost members leave the fund.

In 1989-90, in round terms, 92.9 cents of every dollar paid in contributions was paid back in benefits and 13.1 cents was paid in administration costs. The shortfall of 6.0 cents was made up from investment income of 5.8 cents, and a reduction in reserves of 0.2cents. By 2001-2002, the equivalent figures were 90.3 cents for benefit payments, 11.1 cents for administration costs, but investment income of only 0.9 cents. The Annual Report of Registered Health Benefit Funds for 2001-2002 is instructive on this:

"Although industry management expenses were 11.1 per cent, the ratio is dominated by the few large funds in the industry and individual organisations' management expense ratios continue to vary markedly from the industry average.

Pricing and margins

There is currently the expectation that funds will alter their premiums only once each year, and that the timing of all premium changes is consistent for all funds. This expectation leads to increased risk in the funds' ability to set their premiums at appropriate levels, particularly in the environment of claims and membership volatility, experienced in the post-Lifetime Health Cover period.

Many funds have had, and continue to project, very narrow gross and net margins for their core operations. These funds tend to rely heavily on other income particularly investment income, to achieve positive returns from their health insurance operations. These decisions are likely the result of the 'mutual' ethos of the industry. This may be unsustainable in the longer term.

In 2001-02 benefit payments increased significantly (15.8 per cent) and were unmatched by contribution income (increase of 1.9 per cent). Should this trend continue, income from investments and other sources is likely to prove inadequate to cover the shortfall. In 2001-02 investment and other income was equivalent to 0.9 per cent of contribution income and 1.0 per cent of total benefits. If a shortfall were to occur funds would be forced to fund this mis-match either from their reserves or seek other capital sources. For many funds their primary and possibly only source of additional capital is derived from contribution income."

The setting of contribution rates is a carefully balanced exercise based on claims experience, anticipated costs and a range of other variables. It is not an exercise that can be linked to movements in the CPI.

Medicare

The introduction of Medicare by the Hawke Labor Government from 1 February 1984 was the most substantial challenge to private health insurance since 1952, (including the introduction of Medibank Mark 1 by the Whitlam Labor Government in 1975).

At one stroke, this removed roughly half of the business of private health insurance funds, the insurance of medical costs. The industry was strongly opposed to Medicare, although it has somewhat grudgingly come to accept its existence. But even before Medicare, Liberal, free market philosophy had been the natural focus of private health care funds, and there have been links between the industry and the party, with funds and fund executives providing input into Liberal health policy.

Following the introduction of Medicare, private health insurance membership dropped steadily and consistently. At 30 June 1984, 50 per cent of all Australians were covered for private hospital insurance. By 30 June 1998, this figure had fallen to 30.6 per cent and stayed at that level in 1999.