Effect of Comprehensive insurance Abstract:Many countries are implementingcomprehensive medical insurance for their people to reduce financial strain onlow income people. This will lead to the reduction of spending or out of pocketmedical expenses for the households.
I want to explore the effect of thisintroduction of comprehensive health insurance on aggregate saving rate. I expect that with this introduction of healthinsurance, the households will tend to save less which might becounterproductive for the national economy. Theoretical background and bibliography: Households are generally riskaverse. They tend to keep in mind about future possible economic shocks and tryto prepare for it. Households can try to mitigate the negative economic shockby precautionary saving, sending more members of the household into labormarket or by borrowing from different sources. But with the introduction ofcomprehensive insurance, they can be certain to avoid negative financial shockfrom sickness and will save less because of this certainty.There is also income effect thatwe need to take into consideration.
Due to the introduction of comprehensivehealth insurance, people will have more disposable income. The standardlife-cycle model predicts that increasing personal income will also increase aggregatesavings. The net impact on aggregate saving thus depends on which effect is dominant.So, we need to consider these two effects to see the ultimate effect onsavings. There is considerable literaturethat provides evidence of a negative correlation between comprehensive healthinsurance and saving. Kotlikoff (1989) in his paper “On the Contribution ofEconomics to the Evaluation and Formation of Social Insurance Policy” showedwith a simulation that, when there is comprehensive insurance available, thehousehold savings is lowest and when agents must get their own insurance,savings level is highest.
Shawn Kantor and Price Fishback(1996) test whether the introduction of social insurance has led to a reductionin private insurance purchases and precautionary saving by examining theintroduction of workers’ compensation. They find that the presenceof workers’ compensation at least partially crowded out private accidentinsurance and led to a substantial reduction in precautionary saving.Thomas C.
Buchmueller and Robert G. Valletta (1999) found a strong negative effect ofhusband’s health insurance on wives’ work hours, particularly in families withchildren. Chung-Ming Kuan and Chien-Liang Chen (2003) finds thatcomprehensive insurance has greater impact on the households with higher incomeand those with retiring heads, especially on high savers in these groups.
Starr-McCluer (1996) conducted anempirical finding which showed that US households who have health insurancesaved more than those who doesn’t have coverage, which is a violation with thestandard consumption–saving theory. Theoretical Model: When comprehensive health insurance is introduced, thehouseholds face two savings decisions or this could affect the householdssaving decision in two ways: i)Substitution effect or Precautionary motive andii)Income effect When a comprehensive health insurance is introduced in aneconomy, households face less uncertainty about their future medical expenses.So, they can reduce their precautionary saving or specifically, the portion ofthe precautionary saving that they thought would need to be spent on futurehealth issues. But, also there is an income effect. When households have healthinsurance, they have more to spend compared to the case when they didn’t haveinsurance. And, also, they would have to spend less in case of any medicalemergency. So, their income would also increase and they would have moredisposable income to spend.
In the end, the result will depend on the overall strengthof the two effects. If the substitution effect is strong, they will increasesavings after the introduction of comprehensive insurance and decrease savingsif the income effect is stronger.Behavioral effect: The actual social insurance is usually followed by theexpectation of such. A government will announce a policy that will result inthe introduction of social insurance policy, starting from a specified date inthe future.At the point of the announcement there is likely to be abehavioral effect on the part of individuals who will be affected by thischange.
Empirical estimate: The asset accumulation equation is: At+1= At + Yt + trt ? Mt ? Ct………………(1)Here, Mt= government expensestrt= government transfersYt=Post tax income The borrowing constraint: At+ Yt + trt ? M? Ct ? 0 Proposition : Aggregatehousing saving rate:The aggregate householdsaving rate at any time t0, ASratet0 , can beexpressed as: As there is no change in aggregate disposable income, we canwrite: Proposition for themedium run: The medium-term effectof the introduction of social health insurance on the aggregate householdsaving rate, is negative when the behavioral effect dominates, and ambiguouswhen the combined effect of savings and disposable income dominates. When the savingsand disposable income dominates, the effect on the aggregate household savingrate depends on the relative magnitudes of the increases in Aggregate savings”AS” and disposable income, “yit”.
So, to observe anincrease in savings, we need to observe a very strong combined effect ofsavings and disposable income In the long run: In the long run, it is expected that the behavioral effectwill be spread among the population or among most of the population. So, thiseffect will become stronger eventually and the combined effect will most likelybe even smaller compared with the behavioral effect in the long run. So, it isvery likely that in the long run, savings will fall with the introduction ofsocial health insurance.