Health insurance, like most insurance, can be priced using risk ratings, where premiums are set based on the relative risk of insured lives and the propensity to claim. This may result in unaffordable health insurance for the most high-risk members of society. As a result, many governments restrict the use of risk ratings in health insurance markets in favour of “community rating.”
In a community-rated system where all consumers are charged the same premium, many high-risk consumers are protected from paying unaffordable premiums. Other consumers, such as healthier or younger individuals, will generally pay a higher premium to subsidise sicker and often older individuals. Consequently, premium revenue collected by insurers or other risk-bearing entities may no longer truly reflect the underlying risk associated with their insured populations.
In many healthcare systems and health insurance markets around the world where risk rating is not allowed, risk equalisation is used to enhance consumer protection and market stability. Its aim is to compensate for the risk profiles of different groups of the population such that the additional medical expenses associated with high-risk members are shared amongst healthcare providers or insurance companies.
In this paper, Milliman consultants have set out a “how-to” guide to risk equalisation, or risk adjustment. They use illustrative examples from around the world to explain the challenges and practicalities that should be considered in the design and management of a risk equalisation program.