Health Insurance: Medical Treatment vs. Disability Payment∗

We present arguments for treating health insurance and disability insurance in an integrated manner in economic analysis, based on a model where each individual’s utility depends on both consumption and health and her income depends on her earnings ability. When purchasing insurance, she may choose a contract that offer less than full medical treatment. We find that high-ability individuals demand full recovery and equalize utility across states, while lowability individuals demand partial treatment and cash compensation and suffer a loss in utility if ill. Our results carry over to the case where health states are not observable. JEL Nos.: I11, G22, D81 ∗We are grateful to Agnar Sandmo and Sören Blomquist for helpful comments on earlier versions. Part of Asheim’s and Nilssen’s research is financed by the Research Council of Norway through HERO The Health Economics Research Programme at the University of Oslo. They are both associated with the ESOP centre at the University of Oslo. The ESOP centre is also financed by the Research Council of Norway. Emblem gratefully acknowledges financial support from the SiS Programme at the University of Agder. †Correspondence: Tore Nilssen, Department of Economics, University of Oslo, P.O.Box 1095 Blindern, NO-0317 Oslo, Norway. Fax: +47-22855035.