Public versus Private: A Dynamic Model of Health Insurance Choice∗

In order to improve the health status of their populations, many countries have turned to a mix of both public and private health insurance plans. There is concern, however, that the private insurance market may cover the healthier in the population, leading to adverse selection for public insurance programs. This paper presents a model of insurance choice for the case of Chile, where workers must choose between public and private health insurance coverage. This dynamic structural model estimated using data from Chile’s Encuesta Protección Social allows us to test whether the structure of the health system leads to adverse selection against public insurance and/or a crowding out of private insurance. We model the individual choice of health insurance type (public versus private) as a stochastic, dynamic process. Individuals take into account premiums, expected out-of pocket costs, and individual preferences in choosing health insurance type. However, there is asymmetry in restrictions for individuals with certain health conditions. Specifically, following a negative health shock, individuals may switch from private to public, but not vice versa, due to restrictions against pre-existing conditions among private insurance plans. The model predicts that the public system indeed services a less healthy and wealthy population. Simulation of the model over time predicts that the allocation of individuals in public insurance will actually decline over time to a slightly lower steady state value. Ex-ante program evaluation suggests that eliminating the restrictions on pre-existing conditions would ameliorate the disproportionate accumulation of less healthy individuals in the public insurance program over time.