October 24, 2012

The Obamacare Election

The Romney-Ryan plan is maddeningly vague, but at least it reduces the role of government in health care.

As the fractious 2012 presidential campaign careens down to a photo finish, no issue presents a starker contrast between the two candidates than health-care reform. President Obama is committed to implementing his elaborate reform of health-care markets by creating state exchanges, extending Medicaid coverage to some 25 million new enrollees, retaining the current reimbursement system for Medicare, and implementing an individual mandate.

Former Governor Romney seeks to repeal and replace Obamacare. On Medicare, Romney proposes a “premium support” or voucher system that would offer an alternative method of financial support to senior citizens and is calibrated to offer the largest subsidies to the most needy persons.

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  Illustration by Barbara Kelley

In assessing these two programs, a recent New York Times editorial minces no words in its denunciation of Romney’s proposals. The Times argues that Romney’s undeveloped proposals will not grant sufficient coverage both to those who are currently uninsured and current Medicare recipients.

But the Times does nothing to protect its own flanks. The Times assumes, for example, that so long as Obamacare announces its intention to expand coverage and control costs that the techniques that it proposes will necessarily achieve that result. In fact, my greatest fear about the law is that it will topple on all fronts because its reach exceeds its grasp.

The law is, at best, a work in progress. It is not a complete program. Many of its features have already proved themselves to be economically unviable. The problem is the law’s key assumption that competition among private insurers will not bring down the cost of health care or reduce the ranks of the uninsured.

This same flawed reasoning led to disaster in real estate markets, where rent controls caused a reduction in the quality of housing and a reluctance of firms to remain in the field. Similar results are already happening with respect to health care under Obamacare. Its “medical loss ratio” (MLR) imposes a maximum amount of revenues that can be spent by insurers on “administrative” cost—a term of art that has yet to be fully defined.

The consequences of this one regulatory initiative have not been trivial. Many extant insurance plans, especially those targeted to low-income workers with high turnover rates, have applied for and received administrative waivers from the MLR requirements because their actual costs are far higher than the allowable MLR.

On this issue, the Department of Health and Human Services really had no choice, because the alternative would have been the wholesale withdrawal of insurance coverage to a vulnerable portion of the market given that the so-called insurance exchanges are not yet up and running. We are not talking about a small breakdown in the system: Over 3,000 employers have received waivers to keep their plans in operation for over 3 million workers.

The Messy State-Run Exchanges

The health-care law fares no better with its state-run exchanges, directed at those who are unable to procure health-care insurance through the voluntary market. Right now, there is a conscious equivocation on the part of the states to sign up, let alone invest, in a program that may well not be around after the November election. Even so, the law is unstable when taken on its own terms. As an economic matter, it may well be in the interest of employers to “dump” their employees—especially their high-risk employees—onto the exchanges that may not be up and running by the highly ambitious January 2014 date for their implementation, leaving many employees (whose income is too high for Medicaid) with no place to go.

It is unclear whether it is rational for employers to pay the required, but smaller, fee to the exchanges in order to avoid the direct costs of the new programs. One possibility is that they will retain coverage because they are able to pass much of these health-care costs down to their employees. But what if employees prefer higher wages and exchange coverage to lower wages and ostensibly better coverage?

The uncertainties here are great because it is not clear if either employers or the exchanges can afford to pay for the rich set of minimum coverage benefits that could prove unaffordable even for individuals eligible for generous government subsidies. The law presumes Cadillac plans as its default.

The Revenge of the Law of Unintended Consequences

The New York Times is heedless of the institutional risks of the law. For instance, it lauds the program for its decision to “require insurers to accept all applicants and charge them without regard to health status” starting in January 2014. That program was in effect as of September 2010 with respect to children, and it led to a contraction in the number of health-insurance suppliers in the market.

The larger initiative promises more of the same. Why? Individuals will likely load up on insurance when they need it, only to drop it, as they are allowed under the law, when their personal medical emergency has passed.

There is of course no way in which any market-based system of insurance will provide cross-subsidies to high-risk patients, which is what Obamacare tries to do. But in the concern for health-care access, it is easy to overlook one major advantage of market-based insurance, which is that people will retain their coverage no matter who else is admitted into the plan. Once cross subsidies are mandated, however, many people will find it cheaper to drop out of their plans than to pay insurance premiums for other people. The individual and employer mandates are intended to block that alternative, but, ironically, the law may well have set the penalties—or “taxes”—too low to achieve that particular end. Yet once these plans unravel, it could well increase the number of uninsured.

In an effort to respond to these concerns, the defenders of the law have claimed that it includes various efficiencies that are intended to keep the program from spiraling out of control. Really? The provisions already cited do no such thing, and the most careful analysis of the cost structure that I have read, The Fiscal Consequences of the Affordable Care Act, by Charles Blahous of the Mercatus Center at George Mason University, projects the exact opposite result by concluding that between 2012 and 2021, “The ACA is expected to add at least $340 and as much as $530 billion to federal deficits while increasing federal spending by more than $1.15 trillion over the same period and increasing amounts thereafter.”

As Blahous notes, these numbers are necessarily spongy because of the now inveterate tendency for everyone to regard new benefits as fixed in stone, but to treat new cost constraints as unfortunate nuisances rightly subject to constant erosion by future Congressional action.

The Times also falters in its claim that a government advisory board can make good on its promise to “propose cuts in payments to providers and insurers if necessary to meet budget targets.” That task requires the heroic assumption that the physicians and insurers will never exit the market if the payment cuts make it impossible for them to cover their costs, including those needed to comply with the law. Indeed, the real fear here is that the supply of health-care professionals will fail to meet the added demand generated both by the exchanges and the Medicaid extension.

Time For a Fresh Start

Plainly, there is need for a fresh start on this program. David Hyman and I have proposed that the only way in which it is possible to reduce costs and increase access is by a systematic program of deregulation that allows new entry into the market by parties such as out-of-state medical groups, corporate providers of basic health-care services, or out-of-state insurers now blocked from doing business within the state.

The Times itself pays a backhanded compliment to this proposal when it chides Romney for consigning the uninsured to emergency room care. But the entry of these new market players would reduce that grim prospect by allowing the entry of private health-care businesses into the market that specialize in providing walk-in care to all individuals at lower costs. Once those costs are reduced, individuals will filter back into the health insurance market without government compulsion.

The same can happen to employer health-care programs. Over the past 30 years, employers have dropped about 15 million workers from such plans because they cannot afford to pay for the government mandates that force them to offer expensive coverages for benefits that employees do not want.

In short, it is not possible to cure the present dangers of current regulation by more regulation.

The same can be said here of Medicare’s perilous situation, where the current program is not sustainable so long as it provides all individuals with expensive care at zero margin costs. It is difficult, of course, to figure out how to work a premium support plan, but at least the Romney-Ryan plan offers the promise of forcing individuals to internalize some of their own costs in an effort to prevent the system from going bankrupt, which it easily can do. The difficulties here stem in part from the delicate problem of transition, as it is not possible to cut current Medicare recipients from the program without massive and unacceptable dislocation.

The Romney-Ryan programs seek to introduce a ten-year transition period, after which those individuals who do not like the current Medicare program can opt into the voucher-like support plan that gives them greater control over their own health care expenditures. It would be rash to predict that any system like this could work, given the political risks that are sure to crop up during a long transition period. But it is foolish to think that yet another round of payment controls can bring the Medicare budget into balance, when all such efforts have had, at most, limited success during the 47 years of Medicare’s existence.

There is no easy path to health-care reform and there is no way in which market mechanisms, going forward, can undo all of the damage done to the system. But doubling down on government control of the market will not make matters better, as President Obama would have us believe. The Romney proposals are maddeningly vague in many respects, but at least they hold out the prospect of unraveling many of our past regulatory mistakes by shrinking the size of the government role in health care.


Richard A. Epstein, Peter and Kirsten Bedford Senior Fellow at the Hoover Institution, Laurence A. Tisch Professor of Law at New York University, and senior lecturer at the University of Chicago, researches and writes on a broad range of constitutional, economic, historical, and philosophical subjects. He has taught administrative law, antitrust law, communications law, constitutional law, corporate law, criminal law, employment discrimination law, environmental law, food and drug law, health law, labor law, Roman law, real estate development and finance, and individual and corporate taxation. His publications cover an equally broad range of topics. His most recent book, published in 2013, is The Classical Liberal Constitution: The Uncertain Quest for Limited Government (2013). He is a past editor of the Journal of Legal Studies (1981–91) and the Journal of Law and Economics (1991–2001).


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