The Effects of Price Regulation in Markets with Strategic Entry: Evidence from Health Insurance Markets

Abstract

Regulators often enact price restrictions with the goal of improving access to products at affordable prices. However, the design of these regulations may interact with firm entry and exit decisions in ways that mitigate the effects of pricing regulation or eliminate access to certain products entirely. In the US individual health insurance market, the Affordable Care Act established community rating areas made up of groups of counties in which insurers must offer plans at uniform prices, but insurers do not have to enter all counties in a rating area. They may partially enter a rating area by entering some counties but not others. Allowing partial entry creates trade-offs in rating area design. Larger areas may support more competition, but heterogeneous areas may promote partial entry as firms choose to not enter high cost areas. To evaluate these trade-offs, I develop a model of insurer entry and pricing decisions and investigate how insurers respond to rating area design. I find that banning partial entry increases entry overall, but at the cost of higher average prices since costs are higher in previously non-entered counties. On net, consumer welfare increases. Further, increasing the size of a rating area improves consumer welfare most when marginal costs are similar. Regulators must balance promoting competition with pooling high and low cost consumers in rating area design.