Wages, Health Insurance Benefits, and Worker Sorting Under Asymmetric Information

Employer-sponsored health insurance is the single largest source of health insurance in the USA. In this paper, we explore a model that treats a firm as a de facto insurance company. More specifically, we model a firm as both a producer of goods for an output market and a health insurance company for their employees. The model accounts for the joint provision of wages and health insurance, including the possibility of asymmetric information in employee health status. With this structure, a firm can choose to pay their workers in some combination of cash wages and health insurance. We characterize optimal employment contracts and show that the Rothschild–Stiglitz model results under asymmetric information extend to employer provided insurance. We also find that employment-based insurance offers pooling options that are typically not available when insurance is sold as a standalone product, suggesting a stability to employer-based insurance that is not dependent on the tax system.