Health insurance and individual labor market decisions.

• Author: Madrian, Brigitte C.

It is well accepted that health insurance distorts the demand for medical services. My research explores a further margin along which health insurance may affect behavior: by changing the labor market decisions of individuals. This distortion arises because in the current system of provision of health insurance in the United States, employers are the primary source of coverage for all but the elderly. As rising medical costs make health insurance an increasingly valuable component of employee compensation, we should expect coverage to be an important consideration in the labor market decisions of individuals.

There has been little previous research on the labor market effects of health insurance. However, there is growing interest in understanding this relationship, first because health insurance expenditures constitute a significant fraction of total employee compensation. Employers now spend more on health insurance than on any other employee benefit, including pensions. Health insurance expenditures are also the fastest growing component of benefit payments, increasing at an average rate of 15.6 percent annually from 1948-90.(1) Second, and perhaps more important, any health care reform that alters the current relationship between health insurance and employment has the potential to affect the labor market in significant ways.

The rationale for employer provision of health insurance is straightforward. By pooling their employees into large groups, employers can lower administrative expenses and reduce the risks of high health care costs faced by any individual employee. In addition, employer expenditures on health insurance are tax deductible, while individual expenditures generally are not. Given these cost advantages, it is not surprising that the delivery of health care in the United States has evolved into a system based primarily on employer provision of insurance.

Job-Lock

One significant disadvantage of employer-provided health insurance, however, is that it is not typically portable: when an individual quits his or her job, the insurance coverage associated with that job usually ceases as well. For many individuals, a change in insurers is inconsequential, but for some, relinquishing their employer-provided health insurance may be very costly. Exclusions on preexisting conditions are typical of almost all individual policies, and of many employer-provided policies as well.(2) In addition, half of full-time workers face length-of-service requirements before being eligible for any...