NOTE: Manatt’s recent post on the Health Affairs Blog takes a detailed look at the dramatic rate differences in state-based Exchanges and the reasons behind them, including a table showing sample variations. A summary of the key points is below. You can access the full post by clicking here.

The 2014 premiums for state health insurance Exchanges represent nothing short of a referendum on the “affordable” in Affordable Care Act. As premiums are unveiled, however, one fact is instantly obvious. With the very big exception of California, the variance among plans is startling.

To understand the differences, we looked at rates for silver plans, the ones most closely watched, as they form the basis for computing premium subsidies. We also examined variations among the second-highest and second-lowest cost silver plans.

Focusing on four major US cities representing three different state-based marketplaces, we determined what a non-smoking 40- year-old would pay—and found wide swings in rates. For example, in New York City, premiums for the 40-year-old vary by more than 75%, a total of $292 per month. (New York State requires a full community rating, meaning everyone buying the plan pays the same premium, regardless of age.) In Baltimore, there is a 40% difference in premiums--$119 per month--between the second-highest and second-lowest cost silver plans.

The outlier is California, where premium rates show far less variance. For instance, in San Diego, the difference between the second-highest and second-lowest cost silver plan is just 6%--only $20 a month. In San Francisco, the difference is a mere 3%--a minimal $10 a month. (California requires all plans to offer a standard benefits package, which for silver plans includes a $2,000 deductible, $65 for specialist visits and $25 for generic drugs.)

Why Are We Seeing Such Dramatic Differences?

While it is not surprising that rates vary among states and regions within a large state, it is surprising to see the large variance of rates within the same regional market at the same metal level. All plans in the same metal level within a state are required to offer the same ten essential benefits and have the same actuarial value. They also must play by the same Minimum Loss Ratio rules that limit administrative costs and profits. So why do rates vary so dramatically? And why is California different? There are five key reasons:

  • 1. Plan actuaries are working in the dark. With the Exchanges, there are huge uncertainties around who is going to sign up and what their health history has been. As a result, actuaries must make more assumptions than usual to estimate prices, leading to the wide variations in results. Understanding the issue, insurance executives may prefer a range of pricing estimates, so they can make strategic decisions. As might be expected, some leaders have been conservative, some have taken on more risk, and some even have decided to set different prices in different areas, based on where they want to grow business.
  • 2. Plan members are loyal. Based on years of experience with private insurance, Medicare Advantage and Medicare Part D, insurers know that once people choose a plan they stick with it—whether due to satisfaction or inertia. This “stickiness” can make pricing below the expected cost a potentially smart strategy for year one. Plans could accept early losses to win a large number of new, loyal members—then raise rates in 2015, trusting many members will re-enroll.
  • 3. Plan sponsors are not all the same. Some plan sponsors are large players that already may have attractive contracts in place with providers they can build on to create Exchange plans. In contrast, new or small players may not have the same leverage. Medicaid MCOs bring a third dimension, with the option of using their Medicaid reimbursement rates—typically lower than commercial rates—to gain a competitive advantage in Exchanges. Overall, plan sponsors may charge different rates, because they have different costs for providing the same benefits.
  • 4. Plans are not all the same. While much may appear the same when comparing plans within the same metal level, there can be real differences that impact costs. For example, one plan may have a narrower provider network than another. (While the ACA has access requirements, it allows for offerings with limited networks that can be more closely managed for price and quality.) There also may be differences in prescription drug benefits among plans that impact cost, such as having fewer brand name medicines.
  • 5. Active purchasing works. There’s a good reason California is not seeing the same rate variations as other states. In contrast to the 34 states where the federal government will accept all insurers who meet minimal standards, Covered California negotiated rates with each insurer, with the implicit threat that the Exchange would exclude insurers not offering acceptable rates.

Conclusions

The rate variations are likely a positive sign for the future of the ACA. Plans with relatively high premiums may choose to lower their rates—or may find a niche offering premium products to a target segment of the population. Both outcomes indicate success for market-based competition.

Plans with lower premiums help balance the Exchange risk pool by attracting young, healthy lives. The improved risk pool can lead to better pricing in 2015, further enhancing the risk pool and leading to even better rates in 2016 and beyond.

As we saw with Medicare Part D, we expect plans with low premiums to attract the lion’s share of enrollment. If these plans can sustain low premiums, they will maintain their high share over time. Competitors will need to reduce premiums, exit the market or pursue strategies that let them maintain profitability in spite of low market shares.

If other states follow California’s lead and begin playing an active role in negotiating premiums, they will speed these market forces by eliminating rate outliers upfront. We will have to wait and see if this strategy will result in lower rates than allowing the market to operate on its own.