Measuring Selection Incentives in Managed Care: Evidence From the Massachusetts State Employee Insurance Program

ABSTRACT Capitation gives insurers incentive to manipulate their offerings to attract the healthy and deter the sick. We calculate the incentives for such service-specific quality distortions using managed care medical and pharmacy spending data for fiscal years 2001 and 2002 from the Massachusetts State Employee Insurance Program. Services most vulnerable to stinting are cardiac care, diabetes care, and mental health and substance abuse services. Empirically, the financial temptation to distort service quality increases nonlinearly with supply-side cost sharing. Our empirical results highlight how selection incentives work at cross-purposes with efforts to reward excellent chronic disease management. Initiatives coupling pay-for-performance with risk adjustment and mixed payment hold promise for aligning incentives with quality improvement. INTRODUCTION Capitation payment--or any payment featuring "supply-side cost sharing" (Ellis and McGuire, 1990)--gives health plans and providers the incentive to manipulate their offerings to deter the sick and attract the healthy. This behavior is variously known as "risk selection," "plan manipulation," "cream skimming," or "cherry picking" (Newhouse, 1996; Cutler and Zeckhauser, 1998, 2000). (1) When health plans compete to avoid the sick rather than provide quality care, the most vulnerable patients may experience access problems, and all patients suffer from the selection-motivated distortions in quality. Selection may also prevent individuals from being able to buy insurance against becoming a bad risk in the future (Newhouse, 1996; Feldman and Dowd, 2000). Selection thus poses problems of both efficiency and equity. Some societies embrace single-payer systems, which help to minimize selection concerns. Within multipayer systems, employers and other purchasers often enforce open enrollment periods, proscribe preexisting conditions clauses, and stipulate standard benefit packages. Yet competing insurers may engage in many subtle forms of risk selection. Examples include selective marketing, location of health facilities in profitable areas (see, e.g., Norton and Staiger, 1994), staffing and infrastructure decisions, and distortion of the quality of specific services (Frank, Glazer, and McGuire, 2000). (2) In this article, we estimate empirically how a profit-maximizing insurer would want to distort service offerings to attract profitable enrollees. For example, a health plan may find it financially rewarding to limit access to "indicator treatments" that attract less profitable patients, such as chronic disease management, but encourage access to services used by relatively profitable patients, such as preventive or acute care. Nonprice mechanisms may include waiting time, geographic accessibility, and other dimensions of convenience as well as payment incentives to clinicians. (3) The theory of service-specific quality distortions was developed to measure selection incentives in managed care, yet it has not yet been applied to managed care data; we do so. (4) Our data include claims and managed care encounter data including both medical and pharmacy spending for fiscal years 2001 and 2002 (July 1, 2000-June 31, 2002) from the Group Insurance Commission (GIC) of the Commonwealth of Massachusetts--one of the largest health care purchasers in New England. Our empirical results highlight how selection incentives work at cross-purposes with efforts to reward excellent chronic disease management. Insurers have financial disincentives to provide high-quality cardiac services, diabetes management, or treatment for mental health and substance abuse problems. Thus, plans that gain a reputation for quality disease management programs in these areas face a financial penalty through attracting an adverse risk pool. This selection effect further reduces the return to investing in disease management, already demonstrated to have a low overall return to a plan over a decade interval for some diseases such as diabetes (Beaulieu, Cutler, and Ho, 2005). …