Doubling Down on a Flawed Insurance Model

Thursday, October 15, 2009
John F. Cogan

“What this plan will do is make the insurance you have work better for you. . . . And here’s what you need to know, I will not sign a plan that adds one dime to our deficits—either now or in the future. Period.”

So spoke President Barack Obama in his August 2009 address to Congress, for the first time laying out his specific goals for health care reform. To persuade the American people to support his health reform agenda, the president has made two simple promises. First, his plan will benefit everyone who already has health insurance. Second, his plan will not add to the nation’s yawning budget deficit. Both claims are essentially false; examining them offers economic lessons for reform.

The administration’s plan imposes mandates that employers provide coverage, that individuals obtain coverage, and the form this coverage will take. All those will remove the freedom to choose one’s health insurance plan because government, in its effort to correct perceived inequities, will dictate which health care services must be covered and which health care providers must be used.

This proposed unprecedented intrusion of government into private markets will adversely affect people with insurance in both the short and the long run.

Those mandates will lead to large increases in the cost of health insurance for everyone. Research has shown that, as people become insured, especially under a health plan that offers broad coverage and low copayments, they consume more health care services. The best estimates indicate that each newly insured person will approximately double his or her health spending.

Thus, with thirty million to forty million newly insured persons under the administration’s plan, aggregate health care demand will increase significantly. But when demand expands, prices increase. We estimate that the higher demand will increase health insurance premiums for the typical family plan by about 10 percent. Because an employer-sponsored family insurance plan cost, on average, $12,680 in 2008, this translates into an increase of about $1,200 in the typical annual premium.

Those mandates will also have adverse longer-run consequences. According to provisions in both the House and Senate bills, mandated plans must have low copayments and provide health care services that are at least equal to a typical, current employer-sponsored plan. But those are the very flaws that are responsible for high and rising health care costs, flaws that stem directly from the misguided tax exclusion for health insurance and the extensive state regulation of the industry. By locking in those flaws, the mandates will inhibit the innovation needed to reform U.S. health care. Ultimately, as government seeks to rein in costs, it will curtail access to health care services by erecting barriers between patients and health care providers.

As government seeks to rein in costs, it will curtail access to health care services by erecting barriers between patients and health care providers.

Many of the 2009 House and Senate bills broke the president’s second promise: not to add to the deficit. In part because the health insurance that the administration’s plan forces people to buy is expensive, the plan proposes large financial subsidies to individuals to partially offset the cost. The entitlement-based subsidy, combined with the proposed Medicaid expansion, would add between $700 billon and $1.2 trillion to federal spending during the next decade, according to the Congressional Budget Office. Those new entitlements would come on top of existing federal health care entitlements that the government has been unable to control and unable to finance.

A portion of the additional spending is to be financed by savings from the existing federal health care programs. But, thus far, the alleged savings would come mainly from cutting future Medicare payment rates. If history is any guide, such savings won’t materialize.

For instance, during the past twenty-five years, Congress has repeatedly “cut” payment rates, yet Medicare’s expenditures have continued to outstrip its dedicated revenues. New taxes have been required, but revenues still can’t keep up with expenses. Recall that in the early 1990s Congress removed the cap on Medicare’s taxable wage base. Today, the Medicare Board of Trustees projects that the Hospital Insurance Trust Fund will be bankrupt in eight years.

More important, cutting payment rates is not reform. Ultimately, such price controls will lower the quality of health care and reduce the supply of health services, just as price controls have in every market in which they’ve been tried. Congress’s near-exclusive reliance on such cuts is a clear demonstration that the federal government has no idea how to reform its current insolvent health care program, much less how to properly design a new one.

Reform will be partly financed by higher taxes. The House bill proposes to raise the highest personal income tax rate by 5.4 percentage points, which is on top of the Obama administration’s plan to raise the top rate by another 4.6 percentage points next year. The combined 10-percentage-point increase raises the top income tax rate to 45 percent—an economic growth-destroying level not seen since the early 1980s. Senator Max Baucus (D-MT) proposes, instead, taxing some health insurance premiums. In neither bill do higher taxes match the proposed additional spending. Should the Medicare savings fail to materialize, as we believe they will, the spending in either bill will add more than $100 billion per year in perpetuity to the already soaring national debt.

Let’s return to President Obama’s 2009 address: “We did not come to fear the future. We came here to shape it.” But shaping needs a well-thought-out plan. To move forward, the country must have two separate debates. The first debate should center on how to improve current health insurance arrangements so as to rein in the epidemic of health spending that too often fails to provide good value for money spent.

The second debate should center on additional steps to improve access to health care for those who cannot afford it. This debate, however, must be separated from the issue of insurance coverage. Many currently insured Americans would no doubt be willing to pay some additional amount if extending health insurance coverage actually improved the health of the uninsured. The hard reality is that there exists little evidence that it does. Helen Levy and David Meltzer, in a 2008 review of research in the Annual Review of Public Health, summarize the overwhelming conclusion of academic research: “The central question of how health insurance affects health, for which it matters, and how much, remains largely unanswered at the level of detail needed to inform policy decisions.” We must experiment with alternatives, such as further expanding community health clinics, special assistance for the chronically ill, and other programs that might not supply traditional services but could have a big impact on people’s health.

The administration’s plan will dictate which health care services must be covered and which health care providers must be used.

Comprehensive, low-deductible, low-copayment insurance has brought us where we are today. The administration’s plan to expand and lock in this flawed paradigm will ultimately defeat the goal of making health services more affordable for everyone. Fortunately, there are options, including policies that encourage more cost-conscious health care choices, create greater competition among health insurers, and reduce the practice of defensive medicine.

President Obama claims to support those ideas. But the plan he outlined is not consistent with these claims, nor is the Senate Finance Committee bill. The American people should ask for a second opinion.