Re-insurance in the Swiss health insurance market: Fit, power, and balance

•We analyze the effect of risk equalization on insurers' incentives.•We apply fit, power, and balance in the Swiss context.•The incentives to contain expenditures and to practice risk selection are high.•Re-insurance strongly reduces incentives to practice risk selection.•Simple risk equalization schemes supplemented with re-insurance seem to outperform elaborate risk equalization schemes.

Risk equalization mechanisms mitigate insurers' incentives to practice risk selection. On the other hand, incentives to limit healthcare spending can be distorted by risk equalization, particularly when risk equalization payments depend on realized costs instead of expected costs. In addition, cost based risk equalization mechanisms may incentivize health insurers to distort the allocation of resources among different services. The incentives to practice risk selection, to limit healthcare spending, and to distort the allocation of resources can be measured by fit, power, and balance, respectively. We apply these three measures to evaluate the risk adjustment mechanism in Switzerland. Our results suggest that it performs very well in terms of power but rather poorly in terms of fit. The latter indicates that risk selection might be a severe problem. We show that re-insurance can reduce this problem while power remains on a high level. In addition, we provide evidence that the Swiss risk equalization mechanism does not lead to imbalances across different services.