But the headline premium increase of 3.25 per cent is still well ahead of inflation and wage growth. And it is part of a problem that has experts warning the industry is sliding into a crisis due to slow but unrelenting trends that represent an existential threat for all private health insurers. The ageing population is putting unprecedented pressure on the entire health sector, especially the growing cohort of baby boomers who have become heavy users of their private insurance. At the same time, the gap between low wage rises and high premium increases highlights the affordability problem for younger members, many of whom are leaving the private health insurance system. As younger people drop out, the pool of remaining insurance members gets older and more expensive for insurers. It forces up premiums and creates a vicious cycle that is expected to force smaller funds to either go to the wall, or into the hands of the larger players that dominate the industry.

"What has happened over the last decade is the proportion of the insured population which is over 65 has gone up a lot and the proportion of the under 65s correspondingly, has gone down," says Stephen Duckett, the program director of health at the Grattan Institute. Loading The proportion of health insurance benefits paid out to the over 65s is also increasing disproportionately. “It's not a tsunami it's a glacier. It gets worse day by day," he says. Dwayne Crombie, the head of BUPA's health insurance operation in Australia, had another term for the unrelenting financial pressure on the sector with costs rising at 4.5 per cent and premiums rising at 3 per cent.

"We call it the jaws of death," he says of the gap between rising costs and capped premiums. Young versus old With APRA estimating that the sector operates on an average profit margin of only 5 per cent, "in three years' time there won't be a margin on the sector," says Crombie. Citi analyst Nigel Pittaway agrees with the severity of the diagnosis.

"If they let the status quo persist for a number of years then clearly the sustainability of the current system is going to be called into question," he says. "It’s not at crisis point yet, but unless they do something we are slowly drifting towards that." Medibank boss Craig Drummond agrees that major change is needed to avoid a crisis. Credit:Jim Rice JRZ And Pittaway does not share Minister Hunt's confidence that the recently introduced reforms, which include discounts for younger members, will help lift a participation rate for hospital cover that has fallen from 47.3 per cent in 2014 to just 44.5 per cent as of March this year. "I don’t think that’s necessarily going to be enough to shift the participation ratio, there doesn’t seem to be enough attraction really for young people to come into the industry per se and consequently you are getting some of those pressures,” he says.

Medibank chief executive Craig Drummond acknowledges the existential threat to private health insurers, but says it applies to the entire health system thanks to health care costs which are rising at 5 to 6 per cent a year. Loading "Unless we address the growing demands on both the public and private health system, the future of our world class health system is under threat," he says. The Australian Prudential Regulation Authority (APRA), which regulates private health insurance in Australia and ensures its financial resilience, has signalled its growing concerns about the health of the sector. "The underlying cost of Australia's health system is the ailment; rising insurance premiums are just the symptom," APRA's Geoff Summerhayes said in a speech last year.

"The prospect of a shrinking, ageing and less healthy population of health insurance policyholders raises questions for APRA about the industry's long-term sustainability," he said. One part of the problem is the community rating principle which is the bedrock of the entire health sector. Australian Prudential Regulation Authority's Geoff Summerhayes started sounding the alarm last year. Credit:Wayne Taylor Unlike car insurance, in which individual circumstances determine your insurance premium, the burden of any increase in healthcare costs is shared by all private health insurance members - rather than being dumped on members whose health care needs are more extensive. This has been a boon to the baby boomers who are pushing the boundaries of active retirement with hip replacements and other expensive surgical procedures.

Older members are joined at the proverbial hip with the young and healthy under the assumption there is something in it for everyone. But no one is under the illusion that this tenet is holding up. Younger Australians who do hold private health insurance are questioning its value, according to the latest data from Roy Morgan, a research firm. Barely half of private health insurance members thought it was "essential" to have, according to the data published in March. This figure was as high as 65 per cent when it began polling members in December 2014. "If current members don't think health insurance is essential, it is most unlikely that new members will think it worthwhile to take it up," said Roy Morgan in the update just days before yet another round of premium increases on April 1, that exceeded both inflation and wage growth. The increases ranged from 1.64 per cent to 5.91 per cent, with an average premium increase of 3.25 per cent.

This jaundiced view is worse for the younger, healthier members the health funds need to retain. Loading Just 43 per cent of 25 to 39-year-olds with private health insurance regarded it as essential compared with 68 per cent of 60 to 69-year-olds. Private health insurers are well aware of the problems. "The choice to decline private health insurance (PHI) cover is driven primarily by cost, and is exercised primarily by younger and healthier people," said the private health insurer's peak body, Private Healthcare Australia (PHA) in a pre-budget submission this year.

The submission reported that 60,000 members walked away from private health insurance in the June quarter of 2018 alone, and many more are downgrading their cover in an effort to reduce costs. One fund told the peak body that its lowest tier of hospital cover is now used by 35 per cent of its members, an increase of 50 per cent in just five years. According to Citi's Pittaway, it means that health insurers are not getting the full benefit of the premium rises and means that "for the first time in almost ten years, the growth in average premiums, after coverage downgrading, has fallen to be in line with wage growth". Tough remedies There are solutions, if the government has the stomach for them.

Private Healthcare Australia chief executive Rachel David points out that the growing health burden of the ageing boomers "is exacerbated by our community rating system in Australia which, while fair and equitable, creates a cross-subsidy from younger to older generations". "As both major political parties currently support community rating, there are only two options to keep the private health system sustainable – increase the subsidy, for example, re-index the private health insurance rebate, or permit more effective management of wasteful claims costs," she says. Medibank's Drummond emphasises the latter point. "We need to ask tough questions because that is the only way to tackle cost drivers across the health system," he says. "Why, for example, should a patient who can receive rehabilitation at home with the exact same clinical outcomes spend days on end receiving rehabilitation in a hospital? And why can’t we as a community do more to keep Australians out of hospital in the first place, especially through preventative programs that help people avoid or minimise chronic disease onset?"

Two of the laregest health insurers Medibank and NIB have been vocal proponents of out-of-hospital care, preventative care like flu vaccines, and dealing with chronic disease which soaks up a disproportionate amount of health resources. "We’re doing a better job of helping people who are chronically ill," NIB's chief executive Mark Fitzgibbon told the Sydney Morning Herald and The Age earlier this year. Threat of mergers Meanwhile, Duckett's glacier is already making its crushing presence felt among the smaller private health insurers. In a speech given by APRA's Peter Kohlhagen last month, the prudential regulator ramped up its threat of forced mergers or even closures if it thinks individual insurers are not addressing viability concerns.

APRA requested information from Australia's 38 private health insurers last year to see how they were managing the risks of affordability and policy change risk. It was not happy with the results. Kohlhagen said the regulator was not convinced that any insurer yet has a robust strategy for managing the risks, especially in terms of the growing affordability crisis. APRA has ramped up its threat of forced mergers among Australia's 38 private health insurers. Credit:Michele Mossop "Insurers need to quantify the impact of an adverse affordability scenario at meaningful extremes and start implementing actions to address the materialising risk," he said. His speech came just days after the regulator had sent a letter to private health insurers about its concerns.

APRA had "already commenced bilateral discussions with a number of insurers who we have identified as the most likely to face sustainability challenges." The prudential regulator has since started discussions with some of these insurers and sent out letters with specific time-frames and guidance for "recovery planning". Hunt's office deflected queries about this issue to the Health Department. "APRA is requesting all private health insurers to develop a recovery plan, similar to APRA’s work in other industries," says a Health ministry spokesman. It says the recovery planning is designed to improve the sector’s preparedness for "adverse events and crisis" which may require merging with another insurer.

"The department understands that APRA has no immediate concerns for the financial viability of any private health insurer," it says. But concerns must be growing. According to APRA data, one-third of private health insurance funds made a loss in the 2017 and 2018 financial years from their insurance business. APRA is saying how come certain funds are going up at 4 per cent and some at 8 per cent and they all face the same regulatory environment. Stephen Duckett, Grattan Institute Industry observers say the losses are concentrated among the smaller not-for-profit funds that have not had the flexibility and scale to adjust to the current market conditions. It is not a problem at the big end of town as NIB's Fitzgibbon puts it.

“Understanding and preparing for risks that confront our very sustainability as a business are fundamental to our strategic planning and risk management framework. We think about it daily," he says. It isn't hard to find operators that might be vulnerable. In a research report last year, when Labor's proposal to cap premium increases at 2 per cent for two years hung over the sector, Citi's Pittaway named Phoenix, Mildura, Police Health, Queensland Teachers Union Health, Queensland Country Health, and Rail and Transport Health Fund as among the "dozen or so insurers screening red in the capital/liquidity metrics" of APRA's data. The peril is very real for these operators with Grattan's Duckett interpreting the recent speech by APRA's Kohlhagen as a signal the government is not going to automatically come to the rescue of funds which are not doing enough to help themselves. "The regulator is now saying 'No, you’ve actually got to look at this yourself because different funds are performing differently'," says Duckett.

"We are seeing huge variations in premium increases between different funds, and so APRA is saying how come certain funds are going up at 4 per cent and some at 8 per cent and they all face the same regulatory environment." A case in point is the Railway and Transport Health Fund which has paid dearly for the $27 million acquisition of insurer Transport Health from Primary Health Care in 2016. The merger of private health insurers won't help consumers, says Leanne Wells, chief executive of the Consumers Health Forum of Australia. In its accounts for the year ending June 30, 2018 the fund recorded a deficit of $13.1 million after writing off $14 million in assets associated with the acquisition. "In light of the results, the directors have decided that a full impairment is appropriate," said the directors' report which was signed off by chairman Julie Pascoe.

The insurer also recorded a multimillion-dollar impairment on a project to build a policy management system after "concluding that the project was no longer in the best interests of health fund members". The good news is that the insurer reported an increase in premium revenue overall to $133.6 million from $130.4 million the prior year, and an improved underwriting result at $2.85 million - reflecting that the core health insurance business is still healthy. The insurer did not respond to requests for comment. The outcome of APRA's current tête-à-tête with insurers may provide the strongest signal of just how worried the prudential regulator is about the affordability crisis which threatens the industry. But advocacy group the Consumers Health Forum (CHF) is doubtful of the benefits of mergers, forced or otherwise.