I've been working a bit on a long post on "How many Americans are dying each year because they lack of health insurance?" but it's turned out to be quite complicated, and I'm bogged down reading original research papers. I'm also very busy with a couple of other things, so it might be a while before I finish that post.
In the meantime, I'd like to write about adverse selection. Adverse selection is the idea that in the presence of asymmetric information, markets can fail. One common example is the market for used cars. Suppose the person selling you a used car knows if it's a lemon, but you don't; because of this, you will pay less for the car than you would otherwise. This will cause people with good cars do be less willing to sell their cars, which in turn will mean more cars in the market will be lemons, which in turn means you will pay even less, and so the market fails in a vicious cycle.
In health insurance, the analogous idea is that you know if you're a good risk, but the insurance company doesn't. Therefore, the insurance company must charge you a higher price than they would otherwise, to make up for the fact that you might already know that you're going to a need a lot of healthcare. In turn, because the price is higher, you will be more likely to wait until you know you'll need a lot of healthcare before buying insurance, and so on. This problem is greatly exacerbated if the insurance company is forced to sell a policy to anyone who wants one, and it's even made even worse if the company is forced to sell to anyone who wants one at a regulated price. The problem of adverse selection is frequently used to justify a very heavily regulated market, where insurance companies are forced to sell to all comers at prices that don't depend strongly on their current health.
Is this solution necessary? Well, the lynchpin of the whole argument is that the insurance company has to not be able to know if you're a good risk or not. Is this an essential component of the situation? In some cases, market forces will rewards those who come up with solutions. For instance, for used cars, it is now easy to buy used cars that are dealer certified and come with warrantees; you are able to know you are not buying a lemon, you are willing to pay more for it, the market functions, problem solved. For health insurance, there are many ways that health insurance companies can reduce information asymmetry &mdash notably requiring health tests before they sell you insurance and rescinding your policy if it becomes clear you've lied to them about your health.
Therefore, I don't believe that adverse selection is necessarily a first-order problem in the health insurance market. Instead, heavy government regulation of health insurance is about government control and massive subsidies. [The subsidies are massive: under the recently passed health bill, a family of 4 making up to $88,000 is eligible for subsidies. We are not just subsidizing the very poor here.] It is about massive subsidies from the young to the old, even though the old are on average much wealthier.
As usual, I believe that to whatever extent we believe redistribution is a critical element of healthcare in this country, the right way to do it is via direct cash transfers. Although I believe those transfers should be small or ideally nonexistant. I'm not strongly opposed to transfers to the poor to pay for basic care, but I think we're fooling ourselves if we think that a system that offers massive subsidies to the middle class is a good idea; we're taxing ourselves to pay ourselves, inefficiently pushing the money through a government bureaucracy.
Here's a post by Bryan Caplan with a better written version of some of this same material. And here's another.
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