Subsidy Tagging in Privately-Provided Health Insurance Markets

Public welfare programs have a long history of linking their benefits to observable characteristics of potential recipients, such as age, income, or employment status. We argue that this common mechanism, tagging, whose goal it is to improve efficiency with better targeting of subsidy funds, may lead to substantial market distortions in an environment where public insurance is provided by strategic private firms and the level of subsidies is anchored to the price information supplied by these firms. We explore this possibility empirically, using data on Health Insurance Marketplaces that were created in 2014 under the Affordable Care Act. We build a model of supply and demand in this new market. The estimated model primitives allow us to analyze the efficiency of market equilibria and the incidence of subsidies under the observed subsidy regime with tagging, as well as under counterfactual subsidization mechanisms.