Market-based health care reform proposals typically rely on 1) consumer choice among competing health plans, 2) premiums paid out-of-pocket for higher priced plans, and 3) a significant outof-pocket premium-price elasticity of health plan choice. Section 125 of the Internal Revenue Code exempts employee out-of-pocket premiums from personal income taxes and FICA taxes. The predicted effect is attenuation of the out-of-pocket premium-price elasticity of health plan choice. Using 1994 data from a national sample of large public employers, we find that employees are sensitive to out-of-pocket premiums, but tax-exempt out-of-pocket premiums reduce substantially the price elasticity of health plan choice.
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Dowd et al. (2001) studied this question.
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