Health Insurance Exchanges: What If They Issued 347 Pages of Regulations and Nobody Cared?

The U.S. Department of Health and Human Services has issued regulations governing Health Benefits Exchanges and Small-Business Health Options Exchanges under the Patient Protection and Affordable Care Act (PPACA).

• These regulations are poorly defined, confirming that the exchanges will empower state functionaries to reduce choice and competition in health insurance.

• Fortunately, at least two-thirds of the U.S. population lives in states which will not have exchanges operating by the 2014 deadline.

• Even the small number of states that have legislated exchanges will struggle to have them operating, because this first draft of regulations avoids the difficult decisions necessary to design functioning exchanges.

• Advocates for repealing PPACA and replacing it with patient-centered reform should recognize that the failure of exchanges is a significant victory.

A few days ago, the U.S. Department of Health and Human Services released the first raft of regulations purporting to govern Health Benefits Exchanges and Small-Business Health Options (SHOP) Exchanges established in the March 2010 Patient Protection and Affordable Care Act (PPACA). These exchanges are the means whereby the government will force millions of Americans to acquire health insurance chosen by state functionaries, starting in 2014, as discussed in an earlier issue.1 PPACA delegates to states the authority to establish exchanges.2

The regulations total 347 pages, with one set of 244 pages for the organization and policing of the exchanges, and another 103 pages for the so-called “risk regulation.”3 The latter is necessary because Health Benefits Exchanges will not be allowed to charge actuarially accurate premiums to enrollees, even though the enrollees will be signing up as individuals. Therefore, there will be an incentive for people to wait until they become sick or injured to apply for coverage. The regulations seek to minimize this risk in various ways, including taking money from insurers which experience below-average costs and transferring it to those which experience above-average costs.

The regulations are light on precisely defined mandates or prohibitions, and heavy on feel-good finger-wagging. For example, exchanges will have the power to “implement selection criteria” for insurers such as “past performance of the health insurance issuer” and “enhancements of provider networks including the availability of network providers to new patients.”

This kind of wooly language is unfortunate because it confirms the arbitrary power that state functionaries will have to restrict competition and choice by preventing a variety of health plans from participating in any exchange. Thus, it looks like California’s Health Benefits Exchange, which grants unlimited power to the board to contract selectively with as few health plans as it wishes, will be in compliance with the emerging regulations.4 Perhaps this should not trouble us because it is becoming increasingly clear that Health Benefits Exchanges exist primarily in the imaginations of public servants, not actually in the real world.

The critical date for exchanges is not January 1, 2014, but exactly one year earlier. By New Year’s Day, 2013, the U.S. Department of Health and Human Services must decide which states will have exchanges that are ready to operate in 2014. In reality, that means Secretary Sebelius will have to make her decisions about certifying states’ exchanges in the second half of 2012 – during the heat of President Obama’s re-election campaign.

Analysts at the Commonwealth Fund, a cheerleader for PPACA, reviewed states’ actions to establish exchanges as of July.5 Only 10 states have signed legislation enabling the creation of exchanges: California, Colorado, Connecticut, Hawaii, Maryland, Nevada, Oregon, Vermont, Washington, and West Virginia. That’s only about one-fifth of the U.S population. Illinois, New York, and North Carolina have had exchange bills pass only one legislative chamber. Let’s anticipate that these three get their bills signed. That gets us to about one-third of the U.S. population living in states that might be covered by Health Benefits Exchanges. And let’s not forget Massachusetts and Utah, which deployed exchanges before PPACA became law.

If those exchanges become certified, that would mean that about 38 percent of the U.S. population will be in states that might have Health Benefits Exchanges. I would not be so certain, however, that Utah will even apply to be approved by Secretary Sebelius, so deep is the revulsion in that state to PPACA. Indeed, Utah’s incumbent exchange continues to underwhelm. Although open to individuals and families since August 2009, and small groups since September 2010, only about 3,500 beneficiaries were enrolled in June 2011. Even worse, three-quarters of the employers participating in the exchange had dropped traditional small-group insurance, suggesting that the net increase in insured individuals is likely less than one thousand.6

Virginia, North Dakota, Wyoming and Mississippi have passed legislation to dip their toes in the water by appropriating funds to investigate whether they should have exchanges. Governors in Alabama, Arkansas, Georgia, Indiana, Montana, and Rhode Island are using their executive powers to “study” or otherwise move the ball sideways after their legislatures rejected exchanges. I do not view these as serious efforts to establish exchanges, but primarily ways to increase federal grant money made available via PPACA.

Most other states are vocally hostile to collaborating with PPACA. Concerned citizens note that if states refuse to establish exchanges, the U.S. Secretary of Health and Human Services has the power to establish federal exchanges in those states. But this is hardly likely. Health care is local. For the federal government to establish competing health-insurance regimes in huge states like Florida or Texas in the next year and a half would stretch the skills of the most heroic entrepreneurial talent – and nobody has accused Secretary Sebelius’ team of possessing such skills.

Even if she did have the capacity to establish federal exchanges, states are discovering that they have a “nuclear option” to prevent it. PPACA states that health insurers operating in exchanges – whether state or federal – must be licensed to do business in the state where the exchange functions. Thus, a state facing a credible threat of a federally imposed exchange can simply pass a law revoking the license of any health insurer that participates in it.

Furthermore, as professor Timothy Jost, one of the law’s most vocal supporters, has cheerfully warned us, “This is only the first set of regulations; more will follow.”7 Indeed, this month’s draft defers the most difficult decisions, including how to determining individuals’ eligibility for tax credits to acquire health insurance in an exchange. Recall that these tax credits depend on household income. This is a monumentally challenging task because employers will be fined if they don’t offer qualifying health insurance to their employees. But employers do not know their employees’ household income.

The IRS can figure this out – with a significant time lag. By 2013, most employers will have to report the value of their health benefits on employees’ W-2s. Somehow, the IRS will have to collate this information and communicate household income and employers’ non-compliance with their mandate to the appropriate exchanges. But the IRS has not issued any guidance as to how it intends to do this.

As professor Jost notes, the approval process for exchanges looks a lot like the approval process for Medicaid or State Children’s Health Insurance Programs (SCHIP). The federal government granted significant Medicaid waivers to California and Rhode Island, both of which took five months to approve. And these were based on regulations that have existed for years.

Health Benefits Exchanges will not exist in time to channel the millions of dollars of subsidies for which they are designed. The tax hikes will still be levied – but they will have nowhere to flow. The Administration has to decide how to respond to this failure. It might keep quiet, not wanting to remind voters how broad and deep the opposition is. Or, it might panic, certifying exchanges thrown up at the last minute in order to demonstrate that PPACA is “working” when it isn’t.

This all sounds complicated but the central message is simple and upbeat. The failure of Health Benefits Exchanges is a significant step in the defeat of Obamacare.

John R. GrahamDirector of Health Studies, Pacific Research InstituteSan Francisco, CA

E-mail: [email protected]
Twitter: johnrgraham


1 John R. Graham, “Should Your State Establish an Obamacare Health Insurance Exchange?” Health Policy Prescriptions, vol. 8, no. 10 (October 2010).

2 This article does not grapple with the issue of whether PPACA itself is a usurpation of state authority and individual rights, as a number of lawsuits contend.

3 45 CFR parts 155 and 156 (July 11, 2011). Available at 45 CFR part 153 (July 11, 2011). Available at

4 John R. Graham, “Governor Schwarzenegger: Don’t Build This Wall,” Capital Ideas, vol. 16, no. 34 (September 22, 2010).

5 Sara R. Collins and Tracy Garber, “State Health Insurance Legislation: A Progress Report,” The Commonwealth Fund Blog (July 11, 2011). Available at

6 June Dashboard (Salt Lake City, UT: Utah Health Exchange, June 9, 2011). Available at

7 Timothy Jost, “Implementing Health Reform: Health Insurance Exchanges,” Health Affairs Blog (July 12, 2011). Available at

Nothing contained in this blog is to be construed as necessarily reflecting the views of the Pacific Research Institute or as an attempt to thwart or aid the passage of any legislation.

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