Crumbling Economics Undermines Long-Term Care Offerings

All publicity may not be good publicity after all, the long-term care (LTC) insurance industry discovered last month.

The industry named November “National Long-Term Care Insurance Month” in hopes of raising awareness of the “need” for the product. However, the bulk of the month’s press highlighted LTC’s drawbacks as it focused on the woes of two key insurers, MetLife and John Hancock.

In early November, MetLife announced that it will stop selling LTC insurance as of Dec. 30. Although it will continue to provide coverage for current policy holders, it will no longer write new policies. It will also discontinue new enrollments in group policies and multi-life plans starting next year.

Meanwhile, John Hancock asked state regulators for an average rate increase of 40 percent on most of its existing policies. The insurer also plans to raise the price of new policies by 24 percent in 2011. John Hancock has stopped selling policies to employers that offer the coverage as an employee benefit but, unlike MetLife, it will continue to sell individual policies, so long as it can find anyone willing to pay its new rates.

There was no single event in November that crumbled MetLife and John Hancock’s LTC business. These two announcements were just the latest signs of the slow decay of the LTC insurance industry as a whole. The problem is not the economy, or any other environmental factor; it is that selling LTC insurance is an unprofitable venture.

The purpose of insurance is to spread the cost of a highly unlikely and catastrophic (read costly) event across a group of people. Instead of risking a potentially large loss, the insured takes a small, known loss in the form of a premium. The key is that the event must be unlikely. If it is too common, affordable premiums will not be able to cover the cost of the claims and still leave a profit for the insurer.

As any insurance salesperson would confirm, as we age our likelihood of needing long-term care approaches certainty. The risk no longer fits the “unlikely” category, and insurance becomes an inefficient and inappropriate solution.

As claims increase, the insurer passes the cost on to the policyholders in the form of higher premiums. Increasing premiums is only a temporary patch, however. Once premiums go up, those who are at lower risk abandon their costly policies. This leaves an even higher risk pool to share the costs, exacerbating the funding problems.

Persistently low interest rates expedited the industry’s current deterioration. Insurers have been unable to earn sufficient rates on their investment portfolios to fund policy payouts, and therefore have had to rely even more on premiums. According to the American Association for Long Term Care Insurance, insurers need to increase premiums 10 to 15 percent to make up for each 1 percent drop in interest rates.(1) It is unlikely that interest rates will rise enough in the near future to ease the stress on insurers.

MetLife vows that its current long-term care policy holders will not be affected by the recent decision. They will still be covered as long as they pay their premiums and they may even be able to change their coverage terms, depending on what their particular policies permit. However, it is unlikely that those currently insured will be entirely unscathed. Without a younger, healthier group of insured individuals entering the pool, it will be difficult for MetLife to find the cash to cover its claims. As a result, the company will most likely have to raise premiums on its remaining long-term care policies to cover its costs.

In its press release, MetLife acknowledged that LTC insurance in its current form cannot balance financing claims with its business goals.(2) That is, the business is unprofitable. However, MetLife suggested that it may return to the market if a profitable product is ever developed.

That profitable product might take the form of a hybrid policy, one that combines an annuity or life insurance contract with a traditional LTC policy. Several insurers are already beginning to offer policies of this sort. Hybrids are more likely to attract lower-risk customers because, even if a policyholder never needs long-term care, he or she still gets a guaranteed payout. This makes the business more likely to be profitable and sustainable.

While hybrid policies are more promising than traditional LTC insurance, I am hesitant to recommend them. The health care industry is too dynamic to be easily predictable, and these are still relatively new, untested products.

We all face a number of potential expenses that we may or may not incur in our old age. We might need to help support children or grandchildren; we might need to renovate a house that is also aging; or we might be unable to resist buying a vacation home on the beach. We might just live very long and healthy lives and need to provide for our own support.

There is no reason to treat the possibility of needing long-term care any differently from these other possible expenses. In all these cases, one should recognize the need for funds and save and invest appropriately throughout one’s lifetime. Relying on a flawed insurance product is not going to help.

Sources:

(1) Reuters: Is The Long-Term Care Insurance Market Sick?

(2) MetLife: MetLife Will Discontinue The Sale Of New Long-Term Care Insurance Coverage

Jan Tinbergen

Jan Tinbergen, (born April twelve, 1903, The Hague, Netherlands. – died June nine, 1994, Netherlands), Dutch economist observed for the development of his of econometric models. He was the co-winner (with Ragnar Frisch) of the very first Nobel Prize for Economics, in 1969.

Tinbergen was the brother of the zoologist Nikolaas Tinbergen and was knowledgeable at the Faculty of Leiden. He served as a business cycle statistician with the Dutch government’s Central Bureau of Statistics (1929-36, 1938-45) before turning the director of the Central Planning Bureau (1945-55). From 1933 to 1973 he had also been a professor of economics at the Netherlands School of Economics (now part of Erasmus Faculty), Rotterdam, and he subsequently taught for 2 years at the Faculty of Leiden before retiring in 1975.

While acting as an economic adviser to the League of Nations at Geneva (1936-38), Tinbergen analyzed economic development in the United States from 1919 to 1932. This pioneering econometric analysis offered a foundation for his business cycle principle as well as guidelines for economic stabilization. Also, he built an econometric model which helped shape both short term and broader political economic planning in the Netherlands.

Due to the political dynamics of his economic analyses, Tinbergen was one of the first persons to show that a government with a number of policy goals, such as total employment as well as price stability, should be in a position to bring on multiple economic policy equipment – say, fiscal policy and monetary policy – to get the desired success. Among the major works of his are actually Statistical Testing of Business Cycles (1938), Econometrics (1942), Economic Policy (1956), and Income Distribution (1975).

In 1969, Dutch economist Jan Tinbergen and Norwegian economist Ragnar Frisch discussed the initial Nobel Prize in economics “for having designed and applied dynamic types for the evaluation of economic processes.” Tinbergen, whom held a Ph.D. in physics, had become keen on economics while focusing on the dissertation of his, “Minimum Problems in Economics” and Physics (1929). He started applying mathematical resources to economics, and they at the moment was a non-mathematical and verbal discipline. In 1929 he joined the Dutch Central Bureau of Statistics to do research on business cycles. He stayed there until 1945, going for a leave of absence from 1936 to 1938 to work for the League of Nations in Geneva.

Along with Frisch as well as others, Tinbergen created the area of econometrics, the usage of statistical resources to evaluate economic hypotheses. Tinbergen was one of the very first economists to produce multi-equation versions of economies. He created a twenty-seven-equation econometric type of the Dutch economic climate, and his 1939 publication, Business Cycles in the United States, (1919-1932), contains a forty-eight-equation type of the American economy which describes investment activity as well as models American business cycles.

Another of Tinbergen’s main contributions was showing that a government with a number of economic targets – for both the unemployment rate as well as the inflation rate, for instance – should have a minimum of as many policy instruments, like monetary policy and taxes.

How Tulips Affect Economies – Why Economics History is Important

We have seen recently that a sudden change from excess demand to excess supply is devastating to the economy. The effects of overpayment for commodities resulted in the recent economic woes, the tech bubble a few years back and the disastrous economic events of 1929.  The bursting of economic bubbles goes way further back than we realize as shown by the events below.

 

Tulip Economics

 

Prices skyrocketed as demand for a future product soared (demand was inelastic in economic ‘speak’). The product was Tulips and the momentum of demand was like a huge tidal wave growing exponentially. Contracts were taken out for future crops of various derivatives of the beautiful Tulip flowers and bulbs.

 

Tulips, it is known, are not fast growers; it takes over seven years to grow flowering plants from bulbs or seeds however the rarest tulip, the multicoloured variety, only grows from a bulb. The multicoloured Tulip therefore was highly sought after, far more than it’s red, yellow and other single colored namesakes.

 

Demand Goes Crazy

 

The escalating prices were as a result of classic supply and demand economics. Supply was fixed due to the extensive time needed to grow the product whilst demand grew due to fortunes being made. The fortunes were made mostly because of the speculative nature of the future contracts. Tulips, the product, are seasonal and were only physically available for ownership transfer for a few short months each year. Because demand was high, and rising, the contracts could be sold for a higher price than the purchase price of the product itself. The contracts were eventually a product of their own accord and were traded and priced in line with booming demand.

 

Economic History Repeated

 

As we have seen recently, when demand is affected or finance becomes scarce, the market collapses. This is exactly what occurred in the Tulip market; very quickly demand plummeted and holders of the contracts for the Tulips were unable to sell the contracts which they had purchased for way more than the product was worth. The economic impacts were devastating and widespread.

 

The above events occurred four centuries ago, in February 1637 to be exact. The event became known as ‘Tulip Mania’ and resulted in the near collapse of the Dutch economy, where Tulip Mania began.

 

Isn’t it odd that we are still surprised when excessive speculation results in collapsed economies! Excessive overpayment and trading in overpriced products is called a bubble. Bubbles burst!