Figure 4. Risk Adjustment and the Fixed Contracts Price Distortion.

Notes: Larger positive risk adjustment payments, like RA_h, are made by the regulators for individuals with larger expected costs, and smaller or negative payments like RA_l, for enrollees with lower costs. Given the (arbitrary) demand and cost curves drawn in the diagram, the competitive equilibrium under risk adjustment is determined by point b. Enrollment with risk adjustment, Q_{CE, RA}, is higher than the unregulated case, and closer to the optimum. However, risk adjustment does not completely resolve the inefficiency by raising the enrollment rate to 100 percent, at least not without an additional subsidy.