Assessing the Intended and Unintended Effects of Employer

Incentives in Disability Insurance: Evidence from the Netherlands

Pierre Koning (VU University, IZA, Tinbergen Institute, and

Ministry of Social Affairs)

Thursday March 12 2015, 12:30-13:30 ELS Seminar Series OECD, Paris

Introduction

• The Netherlands stands out as a country with high Disability Insurance (DI) employer incentives – Since 1998: Experience rating of DI benefits and Opting-

out to private insurance since 1998

– Since 2004/2006: Wage continuation sick leave extended from 1 to 2 years at maximum, at the cost of the employer

• These measures were taken to curb DI inflow – Enrolment peaked to about 12% of working population..

– Employers needed to be stimulated to increase preventative and reintegration activities

Did these measures work?

This presentation

• Study on intended and unintended effects of experience rating (work with Nynke de Groot)

– Effects on DI inflow, DI outflow, and employer bankruptcies

– Dif-in-dif setup: experience rating abolished for time period between 2004 and 2006

• Study on incentive effects of opting-out (with

Wolter Hassink and Wim Zwinkels) – Private insurance as a means to curb moral hazard?

– Decomposition of selection and incentive effects

Part I

Assessing the impact of Experience Rating on DI inflow, DI outflow and

employer bankruptcies

(work in progress!)

Experience rating (ER)

• The Netherlands is one of the few countries with DI experience rating

• DI premiums ranged between 0 and 8% of the wage sum of firms between 2000 and 2011, with 1.5% on average

• Koning (2009): firms are triggered to increase prevention and reintegration after premium increase. Effect estimate: 16% less DI inflow

Other studies

• Experience rating DI:

– Korkeamaki and Kyyra (2012) and Kyyra and Tuomala (2013): mixed evidence on effect pension reform on DI inflow that is experience rated

• ER in Workers’ Compensation

– Survey: Tompa et al. (2013)

– Negative impact on inflow, fatalities, injuries.

– Positive impact on return to work

– Unintended: underreporting, increased lawsuits

Institutional setting: timeline

Experience rating

• ER is based on the ‘employer risk’, equaling the ratio of the DI benefit costs of (former) workers and the employers’ wage sum

• The DI premium is bounded by a minimum premium if the DI risk is zero, and a maximum premium to mitigate large fluctuations.

• The minimum and maximum premiums differ between firms that are classified as small or large

Experience rating: policy reforms

• 1998: Start of DI experience rating (ER)

• 2003: Removal of ER for firms with wage sum < 15 x average wage sum.

• 2003: Threshold for small firms increased from 15 to 25 x average wage sum

• 2008: Re-introduction of ER for small firms (but only partially and/or temporarily disability costs)

→ This allows us to use a difference-in-difference design with two treatment groups!

(small and medium sized firms)

Extent of Experience Rating: share of DI costs borne by employers

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

0 5 10 15 20 25 29 34 39 44 49

One enrollee in DI 1 or more enrollees in DI

Employer and worker data, 2000-2011

• In principle, all workers (13,000,000) and employers (360,000) in this period are included in the analysis

• Statistics Netherlands: Individual data on DI benefits, individual data on employment, firm level data

• Social benefit administration: Experience rating data

• Note: employer DI inflow rates measured in percentage point

• Firm types (small, medium sized and large) are defined by their total wage sum, with 15 and 25 times the average wage sum as thresholds.

Empirical strategy

• Estimate DiD model for employer DI inflow: – Control for employer size effects, year dummies, and

worker characteristics

– Control for employer fixed effects

– Treatment effect: firm is small in years 2003-2007 (=not experience rated).

• Estimate DiD model for worker DI outflow – Similar setup, duration model (so without fixed effects)

– Treatment effect: individual was employed in a firm that is small in years 2003-2007 (=not experience rated)

Empirical strategy, continued

• Estimate probability of firm quit in duration model, explained by:

– Time varying firm characteristics

– Year effects

– DI risk

– Treatment effect defined as DI risk, multiplied by years where experience rating did not apply (for small and medium sized firms only)

2001-2004 2006-2011

Removal of ER, small firm 0.053** (0.011)

0.031* (0.017)

Removal of ER, medium-sized firm

0.014 (0.013)

0.000 (0.026)

Small firm -0.031 (0.056)

0.333** (0.089)

Medium-sized firm -0.002 (0.031)

0.133** (0.049)

Average partial effects: removal of ER, small firm

0.0010** (0.002)

0.0002* (0.0001)

removal of ER, medium-sized firm

0.0003 (0.0002)

0.0000 (0.0002)

Number of observations 855,199 727,272

Number of unique employers 250,236 221,079

Estimated effects on DI inflow (fractional Probit model): main results

First year of DI benefit

First and second year of DI benefit

2001-2004

2006-2011

2001-2004

2006-2011

Removal of ER, small firm 0.867** (0.024)

0.990 (0.088)

0.904** (0.021)

1.103 (0.083)

Removal of ER, medium-sized firm

0.944 (0.046)

1.087 (0.190)

1.028 (0.042)

1.082 (0.164)

Small firm 0.959* (0.020)

0.966* (0.019)

0.968 (0.061)

0.944 (0.047)

Medium-sized firm 0.974 (0.034)

0.971 (0.032)

1.044 (0.117)

1.020 (0.089)

Number of observations 118,806 32,642 118,806 32,642

Estimated effects of DI outflow Cox duration model

Indication of size of the effect for small employers, before 2005: Removal of ER

increases the probability of remaining in DI after 1 year with 2,6%-point (from 76.9% to

79.6%), after 2 years with 2.5%-point (from 69.4% to 71.8%)

Coefficient Standard error

Difference in premium due to ER 1.0395** (0.0070)

Average national premium 1.0330** (0.0101)

Risk percentage 1.0010** (0.0003)

Small firm 0.8580** (0.0426)

Medium-sized firm 0.9278 (0.0458)

Job openings 0.9788** (0.0019)

Number of observations 423,387

Number of unique firms 115,836

Estimated effects on bankruptcies (duration model): main results (1999-2006)

Indication of size of the effect: an increase of the premium of 10% (due to ER),

increases the quit rate with 0.08%-point.

Note: Bankruptcies also include mergers and changes of the legal form.

Conclusions (preliminary)

• Experience rating (ER) has worked in the Netherlands, for better or for worse

– Substantial effects, but smaller than reforms w.r.t. the sickness waiting period (Van Sonsbeek and Gradus, 2012)

• Effect of ER has diminished since 2005, when the sickness waiting period has been extended to two years and DI reform started

Part II

Assessing the Effect of Disability Insurance Opting-out to Private Insurance:

Selection and/or Incentive Effects?

Privatization of Disability Insurance?

• Privatization is one way to combat moral hazard. Yet.. – This may lead to incomplete insurance at worker level

– And: Employer experience rating may also induce incentives in case of public insurance!

• Next to DI experience rating, opting-out from public insurance may enhance incentives, while maintaining full insurance coverage of workers.

• This implies a mixed-system of DI. Two examples: – Opting-out of Workers’ Compensation in Texas

– Opting-out to private insurance in the Netherlands since 1998

Current analysis

Studies relative effectiveness of private DI providers, compared to public insurance with experience rating

– Measured as employer DI inflow rates for 2007-2011.

– Extensive controls for (adverse) selection effects

– In line with public experience rating system, we distinguish between ‘small’ and ‘large’ employers

Related literature

• General literature on moral hazard and adverse selection in social insurance

– Cohen & Spiegelman 2010, Dionne et al. 2012

• Literature on opting-out

– Limited to studies on effect underreporting (Butler 1996) or motives of opting-out (Morantz 2006)

Conditions of opting-out

• After opting-out: – private insurers became responsible for prevention and

reintegration of workers.

– employers committed to private insurance for three years

– ‘tail charges’ of current and expected DI benefit costs have to be financed by deposits (i.e., capital financing)

• Practically all employers that switched opted for private insurance, not self-insurance

• In 2006-2011, virtually no employers returned to UWV – Probably due to strong competition on premium rates

Opting-out and experience rating

• In the public scheme, DI employer premiums were experience rated, with incomplete rating

– Maximum premium was higher for employers with more than 25 workers;

– Thus, minimum premium was lower for this sample

• In this setting, any premium gains of opting-out were critically determined by room for cross-subsidies

– .. which in turn depended on employer size!

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“Calculate your

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instantly and choose

the best insurer!”

“We have workers in

our firm that are sick

for longer than six

months”

Data • DI inflow and DI enrollment rates of employers

for 2007-2011 as key variables – This only includes fixed term workers that are

assigned to (former) employers – DI recipients are only partially and/or temporarily

disabled

• We focus on a balanced panel of about 140,000 employers – Comparison of employers that have opted-out, or not. – Improves efficiency of panel data models – Large employer: total wage sum > 25 x average wage

sum per worker

Selection effects?

Estimation strategy

• Private insurers and employers had some room to exploit information on DI risks, key challenge is to account for this

• Our research strategy aims to control for three sources of (adverse) selection: – 1. Selection on time constant employer DI risks that

cannot be observed by the researcher

– 2. Anticipation effects due to waiting period

– 3. Remaining anticipation effect, based on time varying information on DI risks

Estimation strategy in three steps

1. Control for employer fixed effects for selection on time constant unobservables

2. Use lagged value of private insurance to control for waiting period anticipation effects

3. Compare Fixed Effect and First Difference estimates of effect private insurance (vs. public insurance) as a test on further anticipation effects (Wooldridge 2002)

Specification

• i (i=1 , … I ) indicates the individual employer • t (t=1 , … T ) indicates time • X includes age and gender composition • Y indicates the year • u is the employer fixed effect • ε is a residual term that is i.i.d. with (0 , σ2)

Estimation results for small employers

Estimation results for large employers

Estimation results, summarized

• Both small and large employers: lower premiums of those who opted-out explained by sickness waiting anticipation effects

• Weak evidence of higher DI inflow in case of private insurance for small employers

– Less incentives due to higher employer coverage?

• Selection effects strongest in sectors with high DI risk

Assessing the impact of experience rating: small versus large employers

• Some employers may have switched from ‘small’ to ‘large’ in ER system, or reverse

• Switch implied strong increase or decrease in extent of rating

• Idea: perform Fixed Estimate estimation of effect of changes in experience rating on probability of private insurance

– .. while controlling for employer size

To conclude..

• Our analysis provides consistent evidence that private insurers succeeded in attracting employers with lower DI risks, due to:

– Lower current DI enrollment

– Anticipation on DI inflow the next year

• No evidence on incentive effects

– Is likely in light of private insurance contracts

• Overall: no value added of opting-out, compared to public system with experience rating