On yesterday’s Virtually Speaking Sunday, Stuart Zechman and I spent the first segment discussing Rick Ungar’s article theorizing that the medical loss ratio is a “bomb” inside the Affordable Care Act waiting to explode. The MLR mandates a minimum percentage of insurer premiums that must be spent by insurance companies on medical treatment.

There’s a lot to be desired with this theory – first of all, there’s the fact that the 85% medical loss ratio required for large employer-based insurance groups is approximately what large-group insurers spend right now on medical treatment, or there’s the fact that comparable tightly-regulated insurance regimes in other first-world countries like Germany and the Netherlands impose an MLR of well over 90%. You also have the fact that Ungar believes this will make private insurance unaffordable and move the country inexorably toward a single-payer system, which means he wrote a whole article about the US shifting to single payer without discussing, um, the only evidence that the US may shift to single payer, a.k.a. Vermont passing a law for single payer.

But Sarah Kliff does a decent job defusing Ungar’s bomb through another recitation of facts.

To be sure, health insurance companies are not thrilled with the final regulation. But they’re not exactly outraged and definitely not anywhere near the verge of bankruptcy. Quite the opposite, health insurance executives and investors look to be banking on the health reform law’s success.

Health insurers have known since the Affordable Care Act passed about the medical loss ratio. But they haven’t seen their stocks drop as a result. Quite the opposite, major insurers have outperformed the market ever since shortly after the law passed […] Although there’s not a ton for health insurers to like in the medical loss ratio, there’s one part of the law they love: the individual mandate. The requirement to carry health insurance, or pay a fine, is expected to drive 16 million Americans into the private insurance market by 2019. That’s a huge new book of business, and one that insurance companies are actively preparing to absorb by expanding their individual market presence.

Far from a bomb, the ACA represents a salve for the insurance industry, a soothing balm that will give them a guaranteed market.

A couple other things here. One, the final regulations on the medical loss ratio are better than they could have been, and in the individual and small-group markets (a fraction of the insurance industry’s overall business) it will give the consumer more value. But there are plenty of ways to get around the rule, especially if you lack vigorous enforcement on accounting to ensure the required money does go to medical care. I wrote about that at the end of 2009:

I asked RJ Eskow, a blogger who previously worked for several years in the insurance industry, to assess […] Eskow described a number of ways that the industry could overcome the rules. He discussed a figure called “IBNR” – incurred but not reported medical losses. These numbers have some flexibility built into them. If the “unreported” medical losses are increased, the total amount spent on medical care would look bigger than the reality. Costs could shift across fiscal years as well, with more pushed into one year to make it look like the 85% number has been hit. Also, Eskow said, “They can – and probably will – reclassify some administrative expenses as ‘medical,’ rather than ‘non-medical.’ I’ve seen insurance companies do this in workers’ compensation. They’ll classify their own doctors, nurses, and medical paraprofessionals on staff as part of the medical expenditure in order to make their numbers look different and game the results.” […]

Finally and perhaps most perversely, the MLR requirements could lead to higher medical costs throughout the system, or at least push the incentives in that direction. “The easiest way to maximize profit under an 85% rule would be to increase medical payouts,” Eskow said. “That’s obvious, right? If you can keep 15 cents in profit for every 85 cents spent on medical expenditure, spend more on medical. There are easy ways to do that — one is to increase reimbursements to doctors. Another is to negotiate higher rates with key hospitals. Would they do that? I don’t know. Logic would say no, since premiums would go up and they would become less competitive. But it’s certainly not impossible. And, even in the best case, they’re certainly not being given an incentive to keep costs down.”

Some of the rules could put a stop to these games, but only with good enforcement strategies.

Second, even if you accept the dubious premise that this is a time bomb, it’s a time-released one, because certain types of plans (like the “mini-med” plans which are equivalent to having no insurance at all) and the insurance plans of entire states are exempt from MLR requirements until at least 2014.

So if I were the insurance industry, I wouldn’t call in the bomb squad anytime soon.