Moral Hazard
III. Features and Issues
Moral Hazard
PCFs may also serve to exacerbate the moral hazard already inherent in the insurance business, that is, the removal or reduction of the incentive for the insured party to avoid risks. This problem can be more acute with PCFs than private insurers because of PCFs’ lack of experience-rated premiums. Experience rating projects future losses and sets premiums using a provider’s history, giving that provider the incentive to avoid risk. PCFs that do not take this history into account in setting their surcharges eliminate the link between the physician’s behavior and the price of certain levels of liability coverage. (It must be noted, however, that the impact of PCFs on the loss prevention activities of primary insurers and physicians has not been extensively studied: “Conceptually, it seems likely that any non-experience rated excess coverage would lead to moral hazard, but empirical evidence that this has truly occurred is lacking.”[1]) One study concluded that PCF’s triggered an unintended moral hazard by which data showed claims were not defended as vigorously where PCF’s were existed.[2]
Of the states with PCFs, South Carolina, Louisiana, and New Mexico employ forms of experience rating; Pennsylvania’s regulations include the concept, but it has not been implemented.[3] In Indiana, however, PCF surcharges are calculated based on the average private insurers’ rates for all practitioners in a particular specialty; thus, all physicians in a class are assessed at the same rate, regardless of their own malpractice history.[4] Kansas also sets surcharges according to different “fund class groups,”[5] so physicians’ PCF assessments are not directly contingent on their personal performance in terms of malpractice risk.
PCFs may also distort the underwriting practices of primary insurers: If these insurers know that the fund will pay for large judgments, they may not exercise the same level of scrutiny and care in their decisions as to which physicians to insure. Rather, they can write policies for high-risk physicians knowing that losses above the PCF threshold will be paid by the fund. As a result, high-risk physicians will be more able to obtain medical malpractice insurance. This availability ultimately comes at the expense of other physicians paying into the PCF.
PCF create an additional moral hazard for primary insurers: “Without a PCF, a primary insurer should defend claims up to the point at which the last dollar spent on prevention equals the savings in payments to claimants … When a PCF exists, however, the primary insurer’s incentive to fight large claims may be substantially reduced” because its savings will be split among all PCF participants.”[6] In other words, establishing a PCF may actually discourage private insurers from vigorously defending against large claims.
To combat this problem, PCFs in Wisconsin, New Mexico, Kansas, and Pennsylvania employ their claims staffs to “closely monitor” claims filed.[7] PCFs in other states are involved in the claims management process to varying degrees: South Carolina leaves legal defense and claims management to its Joint Underwriting Association, while three other states choose not to provide any claims management.[8] Wisconsin requires the primary insurer to defend the PCF before it even involves the PCF in a claim, and on one occasion, the PCF brought a “bad faith case” against the insurer for failing to meet this obligation[9]. Such an action, however, requires a significant commitment of resources, and instances of “bad faith” may not be clear enough to justify litigation. Additionally, while monitoring is suggested as a mechanism for ensuring that primary insurers adequately defend all claims, the state’s involvement in the claims process can be a source of frustration for providers and primary insurers who still have a financial interest in its outcome. In a Pennsylvania survey, 74 respondents, including hospitals, insurance brokers, and primary insurers, reported “conflict with the PCF’s own separate claims management activities, especially in cases where the PCF refused to settle and insisted on a trial.”[10] This issue is not easily resolved: Making the state an actor in the medical malpractice claims process creates an additional level of bureaucracy for providers and private insurers and forces the state to engage in activities for which it may not have the necessary expertise and manpower. Conversely, leaving the state out of the process may put additional financial pressure on the PCF as private insurers are able to safely escape fully defending large claims that they know will be covered by the PCF.
[1] Sloan and Eesley, supra note 30, at 32.
[2] Jan A. Ambrose, et al., Medical Malpractice Reform and Insurer Claims Defense: Unintended EF-Efects?, J. Health Pol. Pol’y L. 843862 (2007).
[3] Id.
[4]Indiana State Medical Association, A History of the Medical Liability Issue: Indiana Compensation Act for Patients, 12 (May 2003), available at http://www.ismanet.org/pdf/INCAP_White_Paper.pdf.
[5] Kansas Health Care Stabilization Fund, Available at: http://www.hcsf.org/.
[6] Sloan, supra note 2, at 21.
[7] Frank A. Sloan et al., supra note 5.
[8] Id.
[9] Id.
[10] Sloan and Eesley, supra note 30 at 42.
