Fundamentally Reforming the DI System: Evidence from Germany

Abstract

This paper studies how the private disability insurance (DI) market responded to a 2001 reform that abolished public occupational disability insurance (ODI) for German cohorts born after 1960 while leaving basic public work disability insurance (WDI) intact. A major reason for cutting public ODI was its inherent ’social status protection’ function, benefiting higher social classes. We first show that cutting public ODI reduced overall DI inflows by more than 30% in the long run. Next, using representative data and reduced-form estimates, we find, at best, modest private ODI take-up responses. We then employ an equilibrium model featuring public-private ODI policy interactions to trace out demand and supply-side factors that produce strong take-up gradients by health and income and explain the modest take-up response to the reform. The model comprises key market characteristics such as coverage denials, health risk rating, private information, WDI, and the means-tested safety net. It simulates a population-wide reform take-up effect of 14ppt that matches reality well. Finally, we simulate and discuss additional reforms and their welfare implications: increasing WDI benefits, lowering means-tested benefits, or limiting broker commissions could further increase private ODI take-up, but private ODI coverage would remain incomplete, mostly because of the limited ODI insurance value for lower-income populations as well as coverage denials, and high, risk-rated premiums for the sick.