The Long Term Is Now
As the population ages, the costs—financial and social—of long-term care will rise rapidly. And our current model of funding it will not work.
Despite the fact that the public sector finances more than 70 percent of all long-term care costs in the United States, U.S. public outlays for this purpose are on a par with the rest of the Western world, as are total outlays. Although technological change—a principal driver of cost increases—is not nearly as important in long-term care as in the health-care sector as a whole, expenditures have been growing faster in the former over the past half century and are projected to continue to do so over the next four decades. The most plausible explanation is that the aging of the population increases the demand for long-term care even faster than for acute care. If so, the kinds of measures that are projected to slow health-care cost increases are unlikely to prove effective for long-term care. Aging Americans face the prospect of high and rising long-term care costs as far as the eye can see.
If most of us could anticipate that we were going to face extended periods of near-total dependence, then only the wealthy could bear the costs, because only they would have the money to set aside. The rest of us would have to throw ourselves on the mercy of our children, private charity, or high-income taxpayers. But that is not the case. Even with today’s medical advances, which enable a higher percentage of the population to live into frail old age, most elderly do not experience extended stays in nursing homes or extended periods of dependence on professional home health services. Still, according to the much-cited estimate of health policy scholars Peter Kemper, Harriet L. Komisar, and Lisa Alecxih, 35 percent of all Americans who turned 65 in 2005 will end up needing institutional care at some point. Economists Jeffrey Brown and Amy Finkelstein estimate that between 10 and 20 percent of those who use a nursing home will live there for five years or more. Anthony Webb and Natalia Zhivan of the Center for Retirement Research at Boston College estimate that couples turning 65 face a 5 percent risk of incurring long-term care costs exceeding $260,000. There is, then, what Brown and Finkelstein call a “considerable right tail” in the distribution of nursing-home expenditures.
This structural fact suggests that long-term care is a classic insurable event—that is, an area of life in which each of us faces a small chance of a catastrophe with which we could not cope on our own. We do not buy insurance for the expenses—such as painting the walls and replacing the roof—that every home-owner incurs. We buy it, rather, to guard against disasters such as fires. Because relatively few of us will experience such disasters, we can use insurance to spread the risk among large groups of homeowners, making the protection we want far more affordable than it would otherwise be.
The Response Thus Far
There are many reasons why our long-term care policy should shift dramatically toward forward-funded insurance based on individual contributions. As more people use such insurance, the pressures on public finances, especially at the state level, would decline. Such a shift would alleviate harsh trade-offs states confront between health care and education, and would allow states to avoid choosing between Medicaid funds for health care for poor children and nursing-home operators. While it’s difficult to estimate the effect on overall health-care costs, rebalancing public and personal financing of long-term care would certainly lower the baseline costs of health-care entitlement programs—a must if we are to address our largest long-term fiscal challenge. Not least, moving toward such insurance would reflect a morally as well as fiscally sustainable balance between individual and social responsibility.
For various reasons, the private market for long-term care insurance has been slow to develop. One issue is information: Many people mistakenly believe that Medicare or their Medi-gap supplemental insurance policies will cover long stays in nursing homes. Time horizon is another impediment: The evidence suggests that consumers exhibit weak demand for other insurance products that must be purchased years or even decades before expected use. (If individuals were reasonably sure that they would incur at most limited health-care expenses prior to retirement, how much demand for health insurance would there be?) By the time most middle-income adults begin to consider purchasing long-term care insurance, they have reached the age at which annual premiums are very high, pricing many of them out of the market. (The average individual purchaser is 59 years old!) And most individuals tend to underestimate the odds that they will need long-term care services, in part because contemplating the prospect of frailty and dependence is so distasteful.
The health economist Richard Frank cites a number of additional factors reducing demand for long-term care insurance. Policies tend to be complex and call for a daunting number of design choices. They require potential purchasers to make sophisticated financial calculations and to assess multiple risks over multiple decades. And the time horizon of these policies raises doubts about the competence and reliability of the insurance companies who issue them. Many companies have been forced to raise premiums abruptly in response to overly optimistic estimates, while others have withdrawn from the market altogether.
There are also factors that tend to depress the supply of long-term care insurance, including the well-known problems of adverse selection and moral hazard. Individuals have information about their personal circumstances that they can use to time their purchase of insurance. Providers respond with forms and tests designed to screen out people whose health profiles suggest elevated risks. Because individuals who are aging and becoming frailer have increasing incentives to claim benefits, providers institute demanding procedures to determine actual eligibility for benefits. And finally, insurers have no choice but to limit their exposure to changes in demography and medicine that can affect entire populations over time, but these limits eliminate a range of policies that some individuals would otherwise wish to buy.
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