Category Archives: Risk and Uncertainty

The Affordable Care Act, adverse selection, and the “insurance death spiral”

The so-called Affordable Care Act provides a superb “real world” study of the consequences of adverse selection. This is further analyzed and illustrated in a Forbes article which was published today on the forbes.com website. The author of the article is Dr. Scott Gottlieb, who holds a research appointment with the American Enterprise Institute in Washington, DC. Also see “Adverse Selection – a definition, some examples, and some solutions” and the Wikipedia article about adverse selection (@ http://en.wikipedia.org/wiki/Adverse_selection).


Obamacare Faces A ‘Death Spiral’ — But It Turns On The Declining Participation Of Health Plans, Not Just Rising Premiums

www.forbes.com

“Given the failed launch of Obamacare, there’s a real chance that the entire scheme falls into an “insurance death spiral” — but not as visibly (or rapidly) as the way these sorts of unsuccessful insurance pools usually unravel. A death spiral happens when only the sickest beneficiaries get into an insurance pool, causing the cost of medical claims to rise, and in turn raising future premiums. These higher premiums, in turn, dissuade healthier beneficiaries from buying coverage. This exacerbates the strains and makes sure the pool continues to attract only the sickest consumers who are most in need of the medical coverage, and willing to pay the rising premiums. This is how the downward spiral ensues.”

Today’s page 1 Wall Street Journal story…

This (an article entitled “Software, Design Defects Cripple Health-Care Website”) is THE page 1 story in today’s issue of the Wall Street Journal. It provides a fascinating case study which corroborates historian John Steele Gordon’s essay from May 2009 entitled “Why Government Can’t Run a Business” (available from http://on.wsj.com/BZpZW); in that essay, Gordon notes (among other things) that “Politicians need headlines. Executives need profits.”

Software, Design Defects Cripple Health-Care Website

online.wsj.com

The federal government acknowledged for the first time Sunday it needed to fix design and software problems that have kept customers from applying online for health-care coverage.

Today's page 1 Wall Street Journal story…

Wall Street Journal. It provides a fascinating case study which corroborates historian John Steele Gordon’s essay from May 2009 entitled “Why Government Can’t Run a Business” (available from http://on.wsj.com/BZpZW); in that essay, Gordon notes (among other things) that “Politicians need headlines. Executives need profits.” Software, Design Defects Cripple Health-Care Website online.wsj.com

The federal government acknowledged for the first time Sunday it needed to fix design and software problems that have kept customers from applying online for health-care coverage.
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Michael Mauboussin rocks!

From Knowledge@Wharton: “How do we know which of our successes and failures can be attributed to either skill or luck? That is the question that investment strategist Michael J. Mauboussin explores in his book “The Success Equation: Untangling Skill and Luck in Business, Sports, and Investing”. Wharton management professor Adam M. Grant recently sat down with Mauboussin to talk about the paradox of skill, the conditions for luck and how to mitigate against overconfidence.”

I also recommend Mauboussin’s book entitled “Think Twice: Harnessing the Power of Counterintuition”. Mauboussin does a wonderful job explaining how to use modern social science findings (particularly behavioral finance) to become a better decision-maker when facing risk and uncertainty.

Are You Brilliant, or Just Lucky?

Are You Brilliant, or Just Lucky? – WSJ.com.

This article applies insights from Michael Mauboussin’s new book entitled “The Success Equation: Untangling Skill and Luck in Business, Sports and Investing” to investment decision-making. I particularly like the author’s description of a classic experiment in which “… people guessed the outcome of a coin toss. When told they got the first four tosses correct, they concluded on average that they would be able to guess 54 of the next 100 coin flips.” In other words, people often fool themselves into attributing skill to pure luck.

We Already Went Over the Fiscal Cliff

We Already Went Over the Fiscal Cliff | The American Conservative.

It’s Paul Krugman vs. Paul Krugman.  Paul Krugman v.2 says there’s nothing to worry about, whereas a previous incarnation of Paul Krugman (from a decade ago – let’s call him Paul Krugman v.1) says that there is plenty to worry about…  Hat tip to my Baylor colleague economist Dave VanHoose for pointing this article out to me…

The political economy of “All cribs now must pass tough new safety rules”

Last week, the Chicago Tribune published a story entitled “All cribs now must pass tough new safety rules” which describes in some detail new regulatory crib safety standards that have been promulgated by the Consumer Products Safety Commission (CPSC).  While crib deaths are obviously incredibly tragic, they are also very rare events.  Here, I call attention to some potentially deadly (and unsavory) “unintended” consequences associated with the proposed policy changes.  I’ll do this through the lens of George Stigler’s theory of regulatory capture.

The Wikipedia definition for regulatory capture is as follows: “…regulatory capture occurs when a… regulatory agency created to act in the public interest instead advances the commercial or special interests that dominate the industry or sector it is charged with regulating.”  A good place to start in this particular case is by thinking carefully about the underlying interest group politics behind this new federal regulatory initiative. The above referenced Chicago Tribune article notes, among other things, that “federal regulators recommend that families that can afford to do so buy new cribs and destroy their old ones (italics added for emphasis).” Think of the market consequences if everyone followed the CPSC’s “advice” – all of a sudden, you would have a sharp reduction in the supply of used cribs; furthermore, without the presence of a viably competitive used crib market, this means that the primary demand for baby cribs will likely be met by manufacturers whose products comply with the new regulations. Given this adverse supply shock while holding demand constant can only mean one thing – higher prices for baby cribs.  The next obvious question is, who is likely to benefit financially from these new regulations?  Baby crib manufacturers who can produce new cribs which are fully compliant with the new regulations obviously stand to benefit, particularly if the effect of the regulations is to create entry barriers (in the form of regulatory fixed costs) to this industry (hat tip to my Baylor colleague Dave VanHoose for pointing this aspect of regulatory capture out to me).  I can’t help but wonder whether the Juvenile Products Manufacturers Association has been actively lobbying for these new regulations for these very reasons.

Another interest group which stands to benefit is the plaintiffs bar who can be expected, in the wake of this change in regulatory policy, to pursue quite aggressively products liability cases against companies whose baby cribs at the time of manufacture were not fully compliant with the new safety regulations.  That it is possible to successfully litigate cases under such circumstances came as somewhat of a surprise to me, until I read Peter Huber’s book entitled Liability a number of years ago and more recently, a Supreme Court decision which seems to have established a precedent that full compliance with federal safety regulations at time of manufacture does not necessarily grant manufacturers immunity from liability after the fact (e.g., see “Supreme Court allows lawsuits over seat belts”, Reuters, February 23, 2011). It will be interesting to see whether this new regulatory initiative emboldens the plaintiffs bar to also pursue formal certification of pending baby crib lawsuits as class actions (if they haven’t already done so!). Of course, the additional legal cost will quickly become reflected in the price of new baby cribs, which will in turn make lawsuits all the more profitable to pursue (since payments to attorneys in such cases are largely based upon contingency fees) and baby cribs less affordable.

In the meantime, parents who can’t afford the sharply higher prices (due to higher direct and indirect regulatory and liability costs) for baby cribs will either violate regulatory policy outright by buying cribs off eBay and from garage sales; other parents will simply improvise their own sleeping solutions for their babies, which will likely be far more hazardous for babies than the cribs that the CPSC is currently in the process of outlawing. What a mess!

The political economy of "All cribs now must pass tough new safety rules"

Last week, the Chicago Tribune published a story entitled “All cribs now must pass tough new safety rules” which describes in some detail new regulatory crib safety standards that have been promulgated by the Consumer Products Safety Commission (CPSC).  While crib deaths are obviously incredibly tragic, they are also very rare events.  Here, I call attention to some potentially deadly (and unsavory) “unintended” consequences associated with the proposed policy changes.  I’ll do this through the lens of George Stigler’s theory of regulatory capture.

The Wikipedia definition for regulatory capture is as follows: “…regulatory capture occurs when a… regulatory agency created to act in the public interest instead advances the commercial or special interests that dominate the industry or sector it is charged with regulating.”  A good place to start in this particular case is by thinking carefully about the underlying interest group politics behind this new federal regulatory initiative. The above referenced Chicago Tribune article notes, among other things, that “federal regulators recommend that families that can afford to do so buy new cribs and destroy their old ones (italics added for emphasis).” Think of the market consequences if everyone followed the CPSC’s “advice” – all of a sudden, you would have a sharp reduction in the supply of used cribs; furthermore, without the presence of a viably competitive used crib market, this means that the primary demand for baby cribs will likely be met by manufacturers whose products comply with the new regulations. Given this adverse supply shock while holding demand constant can only mean one thing – higher prices for baby cribs.  The next obvious question is, who is likely to benefit financially from these new regulations?  Baby crib manufacturers who can produce new cribs which are fully compliant with the new regulations obviously stand to benefit, particularly if the effect of the regulations is to create entry barriers (in the form of regulatory fixed costs) to this industry (hat tip to my Baylor colleague Dave VanHoose for pointing this aspect of regulatory capture out to me).  I can’t help but wonder whether the Juvenile Products Manufacturers Association has been actively lobbying for these new regulations for these very reasons.

Another interest group which stands to benefit is the plaintiffs bar who can be expected, in the wake of this change in regulatory policy, to pursue quite aggressively products liability cases against companies whose baby cribs at the time of manufacture were not fully compliant with the new safety regulations.  That it is possible to successfully litigate cases under such circumstances came as somewhat of a surprise to me, until I read Peter Huber’s book entitled Liability a number of years ago and more recently, a Supreme Court decision which seems to have established a precedent that full compliance with federal safety regulations at time of manufacture does not necessarily grant manufacturers immunity from liability after the fact (e.g., see “Supreme Court allows lawsuits over seat belts”, Reuters, February 23, 2011). It will be interesting to see whether this new regulatory initiative emboldens the plaintiffs bar to also pursue formal certification of pending baby crib lawsuits as class actions (if they haven’t already done so!). Of course, the additional legal cost will quickly become reflected in the price of new baby cribs, which will in turn make lawsuits all the more profitable to pursue (since payments to attorneys in such cases are largely based upon contingency fees) and baby cribs less affordable.

In the meantime, parents who can’t afford the sharply higher prices (due to higher direct and indirect regulatory and liability costs) for baby cribs will either violate regulatory policy outright by buying cribs off eBay and from garage sales; other parents will simply improvise their own sleeping solutions for their babies, which will likely be far more hazardous for babies than the cribs that the CPSC is currently in the process of outlawing. What a mess!

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