RALEIGH — Flaws built into the Affordable Care Act are leading to an older, sicker mix of insurance policyholders in North Carolina. That’s a sign of so-called “adverse selection,” and market-oriented policies offer a better cure for the problem, according to a new John Locke Foundation Spotlight report.

Adverse selection plays a key role in this morning’s announcement that Blue Cross and Blue Shield of North Carolina will seek an average 34.6 percent rate increase, said report author Katherine Restrepo, JLF Health and Human Services Policy Analyst.

“Despite mechanisms in place designed to sustain the Affordable Care Act’s health insurance exchanges, insurers suffer adverse selection because they must now accept all policy applicants, including those with pre-existing conditions and those who decide to purchase insurance only after they are diagnosed with a severe illness,” Restrepo said. “This is equivalent to someone buying homeowner’s insurance after her house burns down.”

The market for ACA policyholders is on “precarious footing” and could stay that way for the next few years, Restrepo said. Her report details basic elements in the health care law that contribute to the problem, along with decisions from the Obama administration that have made the adverse selection problem worse.

In the health insurance context, adverse selection refers to a situation in which an individual’s demand for insurance is higher when the risk of loss is higher, but the insurer cannot allow for this additional risk when setting prices.

The end result includes the “first financial loss in over 15 years” for BCBSNC, the state’s largest health insurer, Restrepo said. “It amounted to a $50.6 million revenue decline.”

Blue Cross covers about 86 percent of the state’s nongroup health insurance market, and it has lost $123 million on ACA customers, according to the report. That loss factors in $343 million in payments from the federal government designed to help insurers cope with the health reform law’s impact.

Now BCBSNC is seeking to increase 2016 rates by an average of 34.6 percent, while Coventry Health Care of the Carolinas has asked for an 18 percent increase. United Health Care is seeking a 12.5 percent hike.

“Claims data from January through June of this year reveal that Blue Cross individual market policyholders in North Carolina are older and sicker in 2015 when compared to 2014 customers,” Restrepo said. “Claims data also show increasing hospital admissions, imaging services, emergency department usage, chronic health conditions, and specialty medications.”

Blue Cross also identified a classic example of adverse selection, Restrepo added. “One in five customers signed up for coverage, paid the first month’s premium, used services, and then dropped the plan.”

Restrepo identifies three components of the Affordable Care Act designed to keep health insurance exchanges viable. “First, an individual mandate makes it compulsory for citizens to purchase a government-approved health insurance plan,” she said. “Second, high-risk individuals cannot be charged more than three times the amount of a low-risk individual’s health insurance premium. This is called the 3-1 community-rating ratio.”

“Third, subsidies are employed to offset premium costs and help ensure that more young, healthy individuals will buy expensive plans that subsidize the costs for the old and sick,” Restrepo added.

The Obama administration has contributed to adverse selection when responding to public complaints, Restrepo said. “The individual mandate is supposed to ensure that younger, healthier people buy more expensive government-endorsed plans,” she said. “But that would have meant plan cancellations for millions of Americans. To mitigate a public backlash, the administration urged insurers to extend existing ‘subpar’ policies until 2017.”

“This unilateral decision produced an imbalance between anticipated and actual individual-market risk pools starting in 2014,” Restrepo added. “Many policyholders — especially the young and healthy — decided to hold onto their existing plans, creating a higher-risk enrollment mix. That’s a recipe for adverse selection.”

The report spells out problems associated with “guaranteed issue,” the technical term for the Obamacare rule that restricts insurers from denying coverage to applicants with pre-existing health conditions.

Restrepo also details unintended consequences of the community-rating ratio. “Higher premiums burdening low-risk individuals as a means to subsidize the cost of the chronically ill discourages low-risk customers from purchasing federally approved health coverage.”

This creates special problems among healthy policyholders from 18 to 34 years old, often dubbed the “young invincibles,” Restrepo said. “This group is instrumental to preventing an actuarial imbalance,” she said. “The entire scheme is unsustainable if younger, healthier individuals are not in the system to subsidize those who are older and less healthy.”

The individual mandate is supposed to help prevent adverse selection, but the penalty tied to the mandate “lacks muscle,” Restrepo said. The U.S. Treasury Department reports about 7.5 million people nationwide were subject to an average $200 fine for opting out of coverage in 2014.

“An increasing monetary penalty in forthcoming years may compel more people to purchase ACA-approved health plans, but wouldn’t it better for insurers to lure low-risk consumers to the market by offering flexible products at a more affordable price?” Restrepo asked.

The data raise serious questions about the Affordable Care Act’s long-term viability, Restrepo said. “The ACA focuses on expanding coverage through a massive redistribution of wealth in the amount of $1.2 trillion over the next decade,” she said. “Market-oriented tactics can make health insurance — and, more importantly, medical care — more accessible and affordable and can lessen the risk for insurers to experience adverse selection.”