Critical condition

Insurance: In the first of a series, John Chapman finds private medical cover approaching a crisis

There is - to some people at least - something deliciously exclusive about private medical insurance. The ability to choose the day of one's operation, plus the the hospital and even the surgeon, are in sharp contrast to the often lengthy wait one is forced to undergo when receiving the same treatment through the NHS.

For many others, private medical insurance (PMI) is viewed not as a luxury but a necessity, the choices it permits being fundamental to the organisation of a busy work schedule.

Even so, PMI is still described as a luxury product. It does not cover accidents and emergencies, nor pre-existing or chronic medical conditions. It is for acute and somewhat elective conditions, such as wisdom teeth, hernias, and hip replacements.

Luxury or not, take-up of PMI is concentrated among the upper and middle classes. Its greatest appeal is among professionals: of the 6 million covered by PMI, about 60 per cent are within company schemes. Frequent headlines about NHS waiting lists have also drawn in many self-employed people.

Should one be concerned about what people spend on "luxuries"? Perhaps, for many PMI is rather more a hedge against some collapse in the NHS. Maybe also there are lessons to be learned from the wider application of PMI.

Last year, a report by the Office of Fair Trading drew attention to the complexities of PMI products, a lack of understanding of their coverage, and the difficulty of making choices between products that are presented differently. The OFT also criticised selling techniques designed to dispense with medical checks.

The main revelation in the OFT report was the scale of PMI inflation. Premiums on specific policies had risen by 10-15 per cent a year in cash terms, that is some 6-12 per cent a year above the retail price index. The industry is in a costs and claims spiral.

As in the NHS, medical equipment costs have risen with new techniques. But the main factor appears to be the increase in claims. One re-insurer, which handles claims from PMI providers themselves, was reported in the OFT paper as saying that the industry was attracting "health investors", determined to recoup through claims more than their premiums.

According to Julian Stainton, chief executive of Western Provident Association, the industry was suffering from "compression". By this, he meant that steeply rising premiums were forcing the non-claiming healthy first to downgrade from comprehensive to budget plans, and then to stop subscribing altogether. Companies were increasingly left with the less healthy high claimers.

As our table shows, the implications of PMI inflation are frightening for those who take out this form of insurance.

PMI provides medical consultants with an "incentive to trade". Even those employed full-time by the NHS may earn an extra pounds 20,000 to pounds 50,000 a year working privately part-time. One consultant at a large NHS hospital comments that the local private hospital is known as "The Golden Nugget".

Enthusiasm for PMI may be misplaced. John Yates of Birmingham University has shown that, while only 11 per cent of the population are covered by PMI, some 20 per cent of all operations are carried out privately, and 30 per cent of minor operations. He has suggested that PMI holders may even need to be protected against inappropriate operations.

The consequences of spiralling premiums and inappropriate operations are well illustrated by American experience. In the US, healthcare accounts for 14 per cent of GDP, about twice as much as in the UK and other European countries. This cost explosion has been attributed to the "perverse, cost- increasing incentives of third party coverage", another term for insurance.

But how better are Americans served? Research shows their life expectancy and infant survival rates are no better than those in the UK. If they do have any edge it has been very, very costly to achieve.

What can be done to avoid the comfort of PMI becoming a personal calamity for policyholders, and even a national calamity, as in the US?

Providers need to solve the problem of "health investors", and to warn potential subscribers of the danger of PMI inflation. One company, WPA, has indeed included such a warning in its literature, referring to increases in premiums faster than the RPI and quoting the increases in the OFT report. Will other companies be so honest?

The Government is committed to removing tax relief on premiums from pensioners. But it also needs to consider whether some redeployment of consultants would both reduce NHS waiting lists and take some of the pressure off PMI premiums by making private operations less available. That may mean paying consultants more through the NHS, but unless the NHS is better funded the yawning abyss of American healthcare beckons.

Finally, individuals need to be more canny - more selective and less ready to part with their money.

John Chapman, a former official at the Office of Fair Trading, wrote the first draft of the OFT report on Health Insurance, published in July 1996.

Inflation in private medicine

PMI annual real inflation rates (above RPI)

0% 3% 6% 9%

Annual premiums

Age 30 pounds 400 pounds 400 pounds 400 pounds 400

Age 50 pounds 600 pounds 1,084 pounds 1,924 pounds 4,363

Age 70 pounds 1,200 pounds 3,914 pounds 12,343 pounds 37,691