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As health care costs continue to rise, medical expenses have become an increasingly important contributor to financial risk. Economic theory suggests that when background risk rises, individuals will reduce their exposure to other risks. This paper presents a test of this theory by examining the effect of medical expenditure risk on the willingness of elderly Medicare beneficiaries to hold risky assets. The authors measure exposure to medical expenditure risk by whether an individual is covered by supplemental insurance through Medigap, an employer, or a Medicare HMO. They account for the endogeneity of insurance choice by using county variation in Medigap prices and non-Medicare HMO market penetration. They find that having Medigap or an employer policy increases risky asset holding by 6 percentage points relative to those enrolled in only Medicare Parts A and B. HMO participation increases risky asset holding by 12 percentage points. Their results point to an important link between the availability and pricing of health insurance and the financial behavior of the elderly.

This paper made possible by the NIA funded RAND Center for the Study of Aging and the NICHD funded RAND Population Research Center.

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