We find that incentives to a plan to devote resources to services depend on the demand for that service among the plan’s current enrollees, how well potential enrollees can forecast their demand for the service, whether the distribution of those forecasts is uniform or skewed in the population, the correlation of those forecasts with forecasts of other health care use, and on the risk-adjustment system used to pay for enrollees. We show how all these factors fit together into an index for each service the plan provides in detail.
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In this paper we take a very different approach to address the question of how to monitor selection-related quality distortions in the market for health insurance with managed care. We start from the assumption that plans maximize profit. We show that to do so, each plan rations by, in effect, setting a service-specific “shadow” price for each service. We interpret the shadow price as characterizing the incentives a plan has to distort services away from the efficient level. The shadow price captures how tightly or loosely a profit maximizing plan should ration services in a particular category in its own self-interest. Services that the plan should restrain will be characterized by higher shadow prices than services that the plan should provide generously. The shadow price is an operational concept, measurable with data from a health plan. We take the ratio of the shadow price for a particular service in relation to some numeraire service to create a “distortion index.”
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Researchers on the economics of payment and managed care are well aware of the issue. Ellis (1998) labels underprovision of care to avoid bad risks as “skimping.” Newhouse et al. (1997) call it “stinting.” Cutler and Zeckhauser (1997) call it “plan manipulation.” As Miller and Luft (1997:20) put it:

“Under the simple capitation payments that now exist, providers and plans face strong disincentives to excel in care for the sickest and most expensive patients. Plans that develop a strong reputation for excellence in quality of care for the sickest will attract new high-cost enrollees….” The flip side, of course, is that in response to selection incentives the plan might provide too much of the services used to treat the less seriously ill, in order to attract good risks.
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Many countries are turning to competition among managed care plans to make the tradeoff between cost and quality in health care. In the U.S., major public programs and many private health insurance plans offer enrollees a choice of managed care plans paid by capitation.1 Recent estimates are that 40% of the poor and disabled in Medicaid and 14% of the elderly are enrolled in managed care plans paid by capitation (Medicare Payment Advisory Commission, 1998).

Both figures are bound to increase rapidly. In private health insurance, about three-quarters of the covered population is in some form of managed care, though in many cases, employers continue to bear some or all of the health care cost risk (Jensen, 1997). Health policy in the Netherlands, England, and other countries shares similar essential features. Israel, for example, recently reformed its health care system so that residents may choose among several managed care plans which all must offer a comprehensive basket of health care services set by regulation. A common feature of such reforms is for plans to receive a risk-adjusted capitation payment from the government or private payers for each enrollee.
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i (6)
The empirical analysis used the 1970, 1980, and 1990 Public Use Microdata Samples of the U.S. Census. These data permits the tracking of specific cohorts of immigrants over a 20-year time frame. The immigrant cohorts were defined in terms of national origin, year-of-migration, and age-at-arrival. The study generated a number of findings:
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