lar group Blue Cross coverage pass the 65-year mark, does Blue Cross insist that they convert to nongroup or one of the senior citizen

contracts?

Mr. McNERNEY. We have prevailed for years on labor and management to keep these people within the group, but the essential decision lies there, whether the employer, through whatever program he is going to establish, retirement or otherwise, will let them be a part of the group:

Now it is important to note that if the employer does not make provisions for them to continue as a member of the group in some manner then we give them the prerogative of what we call group conversion. They can convert to a direct pay, but they are never canceled under these circumstances.

Senator Moss. They are not canceled but they might have to take a different premium rate because they go to another

Mr. McNERNEY. If they go from a group to a nongroup category and pay directly. They would lose the contribution of the employer under those circumstances. I will have to use the word "average," in an average instance we would subsidize that rate.

Senator Moss. Thank you. That is all, Mr. Chairman. Senator MCNAMARA. Thank you very much, Mr. McNerney. We appreciate your help and you can be sure your testimony will be given every consideration.

Mr. McNERNEY. Thank you very much, Senator.

Senator MCNAMARA. The next witness is Prof. Frank Van Dyke, New York, School of Public Health and Administrative Medicine, Columbia University. Apparently Dr. Van Dyke is not here. The final witness is Paul E. Hanchett, educational director, Chicago Memorial Association.

Doctor, we are very glad to have you here and want you to proceed in your own manner.

STATEMENT OF DR. PAUL E. HANCHETT, EDUCATIONAL DIRECTOR, THE CHICAGO MEMORIAL ASSOCIATION

Dr. HANCHETT. Thank you Senator McNamara, and members of the committee. I want to say first of all that I am speaking as an individual. The organization I represent is a cooperative and we are not of uniform opinion, although I think many members would agree with me.

I am a professional economist

Senator MCNAMARA. Let me ask you at this point: Does your group write any insurance?

Dr. HANCHETT. No; we do not, sir. We are concerned about the cost of death for the aged and we try to help older people or anyone who dies to get a dignified, economical, and simple funeral.

Senator MCNAMARA. I see; yours is a burial cooperative?

Dr. HANCHETT. Yes, sir.

Senator MCNAMARA. Thank you; go right ahead.

Dr. HANCHETT. I am a professional economist who has been specializing in medical economics. I have taught in colleges and universities for about 15 years, and it is going to be a little bit hard for me to hold myself down to 5 minutes.

Senator MCNAMARA. You go right ahead; you are not going to be too pressed for time. We recognize you came a long way and want you to get your testimony in the record. Go right ahead.

Dr. HANCHETT. Thank you very much, sir.

During the last 30 years there have been three very hopeful events related to the prepayment of the costs of medical care. First was the "Birth of the Blues" in the 1930's which brought the idea of service benefits. Then in the early fifties there came major medical which was an attempt to provide more comprehensive coverage.

Finally after 1957, the open-enrollment guaranteed-issue, senior citizens plans tried to break down the barriers for people who had preexisting conditions or who were obviously high risks.

Each of these three creative attempts was ardently pursued either by the nonprofit corporations or the insurance industry. Each, unfortunately, proved to be disappointing in results.

At the present time, our position is that we have a plethora of enrollment and a very moderate level of coverage.

Our good risks and our relatively high income people are enrolled. Our poorer risks and our lower income people either are not enrolled at all or are enrolled in inferior, high cost plans.

Furthermore, the strategy of today's insurance market, of which I have obtained some forebodings from the preceding testimony, indicates that attempts at enrollment from this point on will probably be obtained at an actual decrease in effective total coverage.

It is my suggestion that the predicament, the impasse that this situation implies, is not a matter of accident or lack of diligence on the part of the insurance industry. Rather, it is inherent in the medical care market itself.

Medical costs in this country simply are not budgetable for the typical individual, and they may not even be insurable.

The problems inherent in this situation have produced a "vicious circle" in which the sort of policies that the insurance companies try to write are actually automatically self-depreciating. Moreover, the structure of the insurance market is such that a kind of Gresham's law operates so that poor insurance policies tend to drive out good. The irony of it all is that the very impossibility of writing an effective, comprehensive coverage today makes it that much easier to sell a multiplicity of inadequate policies. First let me explain why medical costs are unbudgetable.

Both budgeting and insurance involve the attempt to substitute average costs for actual costs. However, there are two reasons why the individual cannot budget for his own medical expense and why the insurance industry today cannot provide an effective, firm, adequate insurance policy in the health field.

In connection with medical costs, it is not so much the total amount of the expense as the dispersion, what the statistician would call skewness. For example, in 1961, the average old person paid approximately $226 for medical care. Now, that would be budgetable, if every individual had approximately that amount of expense or close to it. But this is not the case.

The great majority of senior citizens did not have that much expense, and in a particular year many of them will have as much as $3,000, or $4,000 bunched up at one time. It is not practical for a

senior citizen (or anyone for that matter) to set aside the average amount of cost that the whole group experiences in budgeting for his own expense. There is too great a risk, too big a chance of being hit by one of the high expenditures that would undermine his whole budget and his whole future position.

There is a second reason besides the skewness or dispersion that makes medical expenses unbudgetable: This is the fact that any average that we can obtain is always yesterday's average.

As you know, the medical expense field has become the most dynamic, and explosive in the whole economy. Since 1957 medical costs have risen three times as rapidly as the cost of living, and certain components such as hospital costs have risen about six times as fast. There is no reasons to think that this higher rate of escalation is going to stop next week. As a result medical costs are the one large expense of the individual that he cannot budget for because he is in danger of being hit by a very large amount in one particular but unforeseeable year and because any average that might be calculated would actually be obsolete.

Now the same considerations make for strains in the insurance industry such that the insurance companies and Blue Cross find it very difficult, if not impossible, to average. It is necessary, first of all, to obtain a reasonably firm average in advance, and second, it is necessary to obtain a nonselected group. I have already commented about the fact that averages of medical costs insofar as they are firm, are always out of date. So let me just mention the second point. It is next to impossible in the insurance industry to obtain a nonselected group to which any true average would validly apply.

In the early days of health insurance the companies went out looking for the better risks. In other words, company-selection prevailed. More recently as insurance became more popular and as the industry became more competitive, the buyers of insurance selected the companies so that self-selection prevailed. Either way there is a biased population.

Furthermore, even if you could in origin obtain a random, nonselected group, it tends to deteriorate over time because there is no guarantee that the members of the group will continue. In fact what happens, the purchase of a policy educates the buyer to a closer attention to the economics of speculation and risk. No one is closer in touch with the facts that control his own health prospects than he. Buyers will discontinue policies for assorted reasons, logical and illogical, but no one lets his policy lapse because he has contracted chronic illness or thinks that he has become illness prone. The insurance company is left holding on to an actuarially deteriorating group.

The net result is that a randomly selected group fails to be attained because either the company or the insured makes the selection originally, in the renewal of the policy, or both.

To summarize these points, the fundamental reason why health care costs are not an insurable risk today is because they are adversely subject to open end averages and open end groups.

In the attempt to meet this dilemma, the insurance companies have had to devise a very special contract-what I call the self-debasing insurance policy. They have to put fixed dollar amounts in it, like $20 a day for hospital room and board and $6 for medical visits. This is

not because the insurance companies are inhumane. It is because of the necessities of the situation. But these fixed dollar benefits-even in the absence of general inflation depreciate in real benefit value so long as medical costs continue to rise. I give a specific example in my paper-not a hypothetical-specific example of an actual policy. This was a very progressive policy in 1939, a renewable hospitalsurgical policy that was calculated to go on into retirement years. The insured who bought this policy in 1939 at the age of 61 is still living today. He still has the policy. At the time that policy was purchased it would cover 50 percent of his hospital costs on a shortterm visit.

Five years later that 50 percent had depreciated to 33. Another 5 years later, to 19. Five years later, to 13 percent. Five years later, to 9 percent, and finally, just a little over a year ago when he went to the hospital, that policy actually covered only 711⁄2 percent of his hospital cost.

That is what I mean by "the self-depreciating insurance policy." However, there is even a more fundamental reason why any attained level of coverage under private insurance tends to deteriorate.

Selling health insurance has become something like a war or a football game--you cannot stand still; you have to go ahead; you have to sell more and more. A kind of parasitic competition has developed.

After any given level of selling the best risks and the people who most want insurance will be enrolled on the books of some insurance company. The poorer risks and those interested in insurance will not.

Any company or any salesman wanting to expand his volume, as is necessary in order even to stand still in today's market, realizes that his best sales opportunity is to go after a group that is already enrolled. In order to do so, he has to offer something that looks attractive.

In practice, he has to offer what looks like a lower price, because the market is very cost conscious and because price is objective. However, to make it seem even better, what he actually does is to offer a lower price and a better package of benefits at the same time.

Of course, this is ordinarily impossible, but the policyholder is neither a CPA, nor an insurance actuary. Hence he is not able to evaluate the quality of the package, although he can add up the dollar cost. The end result is that a kind of Gresham's law operates so that poor policies drive out good, and poorer companies sell larger volumes than better companies.

This is a series of interlocking vicious circles within vicious circles. The ultimate tragedy is that even the best companies finally contaminate themselves with the practices of their inferior competitors.

I want to call your attention to table II in my paper that lists the 10 largest insurance companies in this country. Every one of those companies Prudential, Metropolitan, John Hancock (firstline, wellestablished legal reserve companies)-every one of them sells health insurance.

Not a single one of them has a comprehensive contract or a major medical policy for senior citizens. In February of this year I checked the insurance reporting forms for each of these 10 companies. Several of them have major medical policies, but they terminate at age 59. I found one company-I believe it was Aetna-that had a major

medical policy renewable to age 64. Of the 10 most substantial insurance companies in the country, not a single one is offering a major medical policy that goes beyond the age of 65.

Now, what I have to say can be brought to a very quick conclusion. If the insurance industry could offer an adequate policy, 56,000,001 policies would be more than enough, because we have only 56 million household units in this country. However, under the present circumstances the insurance industry knows that it cannot offer an adequate policy and the buyer knows that he cannot buy one.

The result is that both on the side of supply and on the side of demand, a proliferation of partial, inadequate enrollments is encouraged. We have arrived at the situation where no conceivable number of policies could be sold that would give a comprehensive, adequate coverage, because the gaps, the holes, that exist in the policies of one company are equally matched by gaps and holes in the policies of others.

This problem is one that is too big for the insurance industry and it is too big for the nonprofit corporations.

The only possibility is that government might do something about it. I wish to list four advantages which the Federal Government would have over the insurance industry in dealing with this problem for the aged.

First, the Federal Government can obtain a group without adverse initial selection. Second, it can maintain the continuity of a group, once enrolled. Third, it can avoid the parasitic, competitive destruction in the quality of insurance that is inherent in the private insurance industry. Fourth, it has the financial power to supplement the contributions of needy groups to make this insurance policy possible. I do not wish to indicate that the insurance industry has been deficient in energy, determination or goodwill. But these are not the problem. It is my hope that if the Federal Government provides a suitable program for the aged, that the insurance industry will then be able to put its good intentions to work to provide adequate policies for those who are not above 65. Thank you.

Senator MCNAMARA. Thank you very much, sir. You have made some points that I am sure are very interesting to the committee. We will give them very careful attention.

PREPARED STATEMENT BY DR. PAUL E. HANCHETT, EDUCATIONAL DIRECTOR, THE CHICAGO MEMORIAL ASSOCIATION

SUMMARY

Medical care has become an unbudgetable commodity-especially for the aged. Being unbudgetable, it is not strictly insurable.

This predicament actually stimulates the sale of private insurance polices. Fixed-dollar insurance contracts, under the explosive conditions of the market for medical care, are automatically self-debasing. Any attained level of benefits melts away. The process of erosion has now become independent of general inflation.

Erosion is more disastrous for the old than the young: Medical payments accumulate toward the end of life after insurance contracts have had a longer time to depreciate.

In the strategy of the insurance market, poor insurance drives out good. So any attained level of coverage becomes further diluted.

Poorer insurance companies outsell better insurance companies. To survive, the better companies must contaminate themselves with the practices of thir competitors.