Health and Human Services Secretary Doesn’t Understand What Insurance Is

Via: The Daily Beast

Kathleen Sebelius thinks insurance isn’t really insurance unless it covers routine expenses. This is exactly backwards.

by Megan McArdle Mar 27, 2013

How can insurance make everyone better off?

After all, the insurance company has to make money. That has to mean that the expected value of the claims they pay out is lower than the expected value of the premiums their customers pay in. In some sense, then, the expected value of your insurance premium is negative.

But insurance does make everyone better off, because it covers very large costs that most people would have trouble paying. Even most really good savers would have a hard time replacing the value of their house, or paying off a $250,000 judgement for an auto accident. The expected value of those incidencts is very, very negative–more than just the value of the cash, you have to factor in the horror of being homeless or bankrupt. When you factor in the homelessness, the bankruptcy, and so forth, the slighly negative expected financial value is more than outweighed by the positive value of being protected against personal catastrophe. Not to mention the peace of mind one gets from not having to worry about homelessness, etc.

This is the magic of risk pooling. But notice that it’s the catastrophe which makes insurance a good deal. You wouldn’t get much value from buying “grocery insurance”. At best, you’d be paying an extra administrative fee to route your routine expenses through an insurer, rather than paying them directly. At worst, you’ll end up with bills skyrocketing as all sorts of perverse incentives appear. After all, if the insurer is paying all your grocery claims, why not load up on filet mignon instead of ground turkey?

But insurers try very hard never to sell insurance for less than the cost of your expected claims. If you expect to buy $10,000 worth of groceries next year, it will not charge you less than that for a “grocery policy”. And if we all drive up the costs of grocery insurance by consuming more, the insurer can do one of two things: raise everyone’s “insurance premiums” to cover a filet mignon budget, or create a list of “approved groceries” that it will cover, and start hassling anyone who tries to file an excessively expensive claim.

Sound familiar?

Read more: here

A rigged game! A scam I say!
-Moose

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