Moral Hazard and Long-Term Care Insurance

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Project Summary Recent passage of the Community Living Assistance Services and Supports (CLASS) Act as part of health reform has drawn renewed attention to the long-term care insurance market, a market which has long presented many unanswered questions to researchers and policymakers. Despite the potentially high cost of long-term care and the skewed distribution of those costs, only 10% of elderly adults have long-term care insurance, and insurers consequently express greater concern about adverse selection and moral hazard than in typical health insurance markets. While a limited body of research has begun to make progress in understanding long-term care insurance markets and associated behavior, the extent of adverse selection and moral hazard remain largely unknown. Regardless of the eventual fate or form of CLASS, the projected demographics of long-term care use and the associated strain on government budgets point to a more and more urgent need to answer these questions. A particularly under-researched area is that of moral hazard, or the additional use of services that can be attributed to long-term care insurance coverage. Existing research finds little evidence for moral hazard in the case of Medicaid-financed nursing home use, but Medicaid- financed nursing home use may be considered an inferior good. Home health care and privately financed nursing home use may be normal goods and thus more likely to be subject to moral hazard. A broader perspective, including all nursing home use and especially favorable alternatives to nursing homes, such as home care, is required in order to capture fully the extent of moral hazard. Furthermore, recent theoretical work has revisited the common assumption that all moral hazard is welfare-reducing, positing instead that moral hazard attributable to income effects is efficient and welfare-improving while moral hazard attributable to price effects remains inefficient and welfare-reducing. This distinction may be particularly important in long- term care, an area of health care in which public payers currently dominate. In this project, we propose to use a long panel of the Health and Retirement Study to 1) assess the overall extent of moral hazard associated with long-term care insurance coverage, including use of home care; 2) disentangle the estimated moral hazard into efficient moral hazard due to the income effect and inefficient moral hazard due to the price effect, thereby enabling an assessment of the net welfare effect; and 3) conduct policy simulations to aid in appropriate benefit design. Assessing the extent of moral hazard associated with long-term care insurance coverage is essential to financial viability and sustainability of the market, to appropriate benefit design, and to an assessment of the overall welfare effects of a public policy such as CLASS.