Question

The federal dependent coverage mandate (FDCM) allows young adults to stay on family/parent health insurance plans until they reach age 26. At 26, they must find their own insurance coverage. Many studies show that this age limit causes individuals to be 4-10 percentage points less likely to be insured at 26. a. One study shows that individuals who lose insurance at 26 because of the FDCM do not change their smoking or drinking behavior. What would the theory of moral hazard say should happen to smoking and drinking behavior when individuals lose insurance coverage? What might explain why these individuals’ smoking and drinking behaviors do not change? b. Another study on the FDCM shows that when individuals lose insurance coverage, they are less likely to purchase addictive prescription drugs such as benzodiazepines (for example, Xanax), opioids (OxyContin), and stimulants (Adderall). What does this imply about price elasticity of demand of prescription drugs?

Answer 1

Part A)

The moral hazard theory in economics suggests, that a person may take an associated risk if they know that the cost of the same is being covered by other people and not them. This is true for insurance which makes people drive their cars relatively freely, knowing that insurance would cover majority of the costs. In the absence of insurance, people would as per this theory drive relatively carefully for an example.

In the current case, the theory suggests that when people lose their insurance titles at the age of 26, the moral hazard theory should kick in and they should stop the behaviour of smoking and drinking respectively.

On the contrary this does not stop and may be explained as follows: -

Part B)

The single most reason as to why people do not quit smoking or drinking even after losing their insurance is that they become addicted to the same. This makes it difficult for them to stop taking whatever they are just because they may face additional costs. Further, the per unit costs of these products is relatively cheap and people do not realize the costs which they may have to make towards healthcare at a later age. Young people tend to be relatively more carefree towards health costs.

Part C)

The cost of prescription medication is majorly covered by insurance policies which pay a major proportion of the purchase for residents. The decline in the purchase of prescription medicines tells us that the elasticity of price meaning the degree of responsiveness which buyers have towards price change is relatively high.

If the insurance companies do not pay for the prescribed medication, their prices for consumers increase. If they continued to purchase the same in the same quantity as in the past it would indicate that the medicines were not price elastic.

In the current scenario a higher price elasticity is indicated as the quantity demanded for these products rapidly changes as indicated in the case study due to withdraw of insurance benefits.

Please feel free to ask your doubts in the comments section if any.