Demand Cross Elasticities and 'Offset Effects'

Changing health insurance coverage for one service may affect use of other insured services. When improving coverage for one service reduces use of another, the savings are referred to as 'offset effects.' For example, costs of better coverage for prescription drugs may be partly 'offset' by reductions in hospital costs. Offset effects have welfare implications but it has not been clear how to value these impacts in design of health insurance. In this article it is shown that plan-paid - rather than total - spending is the right welfare measure of the offset effect. Building on this result, a 'sufficient statistic' for evaluating the welfare effects of change in coverage in the presence of multiple goods is developed and a simple rule for when a coverage improvement increases welfare due to offset effects is derived.