Medicare Part D and Portfolio Choice

This study evaluates the impact of medical expenditure risk on portfolio choice among the elderly. The risk of large medical expenditures can be substantial for elderly individuals and is only partially mitigated by access to health insurance. The presence of deductibles, copayments, and other cost-sharing mechanisms implies that medical spending risk can be viewed as an undiversifiable background risk. Economic theory suggests that increases in background risk reduce the optimal financial risk that an individual or household is willing to bear (Pratt and Zeckhauser 1987; Elmendorf and Kimball 2000). In this study, we evaluate this hypothesis by estimating the impact of the introduction of the Medicare Part D program, which significantly reduced prescription drug spending risk for seniors, on portfolio choice.