Question

Use the simple model the self-selection problem in health insurance. Discuss why groups and community rating are useful tools to deal with the self-selection problem.

Answer 1

Self selection is a scenario when people willingly choose to be a part of something rather than being appointed. People willingly choose any particular company for their health insurance and invest their money in it. This is the problem of self selection.

The problem with biased selection is that it may undo the market. Various rounds of favorable selection amongst some handful health insurance plans can leave those plans with adverse selection in poor financial condition, leading to an increasingly higher risk population.

Ratings of groups and communities are useful while self selecting as individuals wish to choose the best and that judgement comes from good rating of other users of the same policy.