The Private Market for Long-Term Care Insurance in the United States: A Review of the Evidence

By Brown, Jeffrey R.; Finkelstein, Amy | Journal of Risk and Insurance, March 2009 | Go to article overview

The Private Market for Long-Term Care Insurance in the United States: A Review of the Evidence


Brown, Jeffrey R., Finkelstein, Amy, Journal of Risk and Insurance


ABSTRACT

This article reviews the growing literature on the market for private long-term care insurance, a market notable for its small size despite the fact that long-term care expenses are potentially large and highly uncertain. After summarizing long-term care utilization and insurance coverage in the United States, the article reviews research on the supply of and the demand for private long-term care insurance. It concludes that demand-side factors impose important limits on the size of the private market and that we currently have a limited understanding of how public policies could be designed to encourage the growth of this market.

INTRODUCTION

Health insurance is a subject of perennial interest to economics and insurance researchers, as well as to the broader health policy community. Although most of the research attention has focused on markets for acute health care insurance, in recent years a small but growing literature has analyzed the private market for insurance against long-term care expenditures. Unlike standard, annual health insurance policies that primarily pay for the diagnosis and treatment of medical conditions, long-term care insurance policies are long-term contracts designed to help pay for assistance (at home or in an institution) with "activities of daily living" for individuals who have difficulty performing them due to physical and/or cognitive impairments. (1)

Potential long-term care expenditures represent a significant source of financial uncertainty for most elderly households. For example, Brown and Finkelstein (2008) estimate that only about one-third of current 65-year olds will ever enter a nursing home and that most nursing home stays will last less than I year. However, of those who enter, 12 percent of men and 22 percent of women will spend more than 3 years there. These stays are financially costly: on average, a year in a nursing home costs $50,000 in 2002 for a semiprivate room, and even more for a private room (MetLife Mature Markets Institute, 2002).

Given the uncertainty about these expenditures, and in particular the very "long tail" of potentially catastrophic financial outcomes, standard economic models suggest that risk-averse individuals should place a high value on the ability to insure against these risks. (2) Yet the private market for long-term care insurance is not very well developed in the United States, leaving much long-term care expenditure risk uninsured. Only 4 percent of long-term care expenditures are paid for by private insurance policies, whereas one-third are paid for out of pocket (Congressional Budget Office [CBO], 2004). By contrast, in the health sector as a whole, private insurance pays for 35 percent of expenditures and only 17 percent are paid for out of pocket (National Center for Health Statistics, 2002).

The extremely limited private insurance coverage for long-term care expenditures has important implications for the ability of the elderly to engage in optimal consumption smoothing, and therefore may have first-order welfare effects for the elderly. In addition, because large uninsured medical expenditure shocks can rapidly deplete one's resources, the lack of private insurance may have important welfare implications for the children of the uninsured as well. The number of U.S. residents over the age of 85--a population among which the need for long-term care is quite prevalent--is projected to increase from just over 5 million in 2006 to over 20 million in 2050 (Oxford Analytica, 2007). As such, the welfare implications of the limited private insurance market will only become more pronounced in the coming decades.

The limited private market for long-term care insurance also has important implications for public policy. At an aggregate level, expenditures on long-term care services in 2004 accounted for 8.5 percent of all health care spending in the United States and about 1. …

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