The other ex ante moral hazard in health

It is well-known that pooled insurance coverage can induce people to make inefficiently low investments in self-protective activities. We identify another ex ante moral hazard that runs in the opposite direction. Lower levels of self-protection and the associated chronic conditions and behavioral patterns such as obesity, smoking, and malnutrition increase the incidence of many diseases and consumption of treatments to those diseases. This increases the reward for innovation and thus benefits the innovator. It also increases treatment innovation which benefits all consumers. As individuals do not take these positive externalities into account, their investments in self-protection are inefficiently high. We quantify the lower bound of this externality for obesity. The lower bound is independent of how much additional innovation is generated. The results show that the externality we identify offsets the negative Medicare-induced insurance externality of obesity. The Medicare-induced obesity subsidy is thus not a sufficient rationale for "soda taxes", "fat taxes" or other penalties on obesity. The quantitative finding also implies that the other ex ante moral hazard that we identify can be as important as the ex ante moral hazard that has been a central concept in health economics for decades. (C) 2011 Elsevier B.V. All rights reserved.