A HEALTHY DEBATE: Health Care Reform

Tuesday, February 1, 2005

The United States leads the developed world in spending on health care, at nearly 15 percent of our GDP. But based on measures such as life expectancy at birth, Americans receive a lower level of care than do the citizens of many countries that spend less. What's wrong with health care in America? And how should we fix it? Peter Robinson speaks with John F. Cogan and Alain Enthoven.

Recorded on Tuesday, February 1, 2005

Peter Robinson: Today on Uncommon Knowledge: healthcare to die for.

Announcer: Funding for this program is provided by the John M. Olin Foundation.


Peter Robinson: Welcome to Uncommon Knowledge, I'm Peter Robinson. Our show today: how to get the healthcare system that we're paying for. At some fifteen percent of GDP, the United States spends more on healthcare than any other nation on the planet yet by many measures including life expectancy at birth, we Americans receive worse healthcare than do the citizens of some countries that spend less. What's wrong with the American system of healthcare and what can we do to fix it?

Joining us today, two guests: Alain Enthoven is a professor emeritus at the Stanford Graduate School of Business. John Cogan is a professor of public policy at Stanford University, a senior fellow at the Hoover Institution and an advisor to President George W. Bush.

Title: Physician, Socialize Thyself?

Peter Robinson: Nobel Prize-winning economist Milton Friedman, "We are heading toward completely socialized medicine and if we take indirect tax subsidies into account, we're already halfway there." True? Alain?

Alain Enthoven: More than halfway.

Peter Robinson: More than halfway and are we heading toward completely?

Alain Enthoven: If we don't get serious about and effective about making the market system work which it's not doing now.

Peter Robinson: John?

John Cogan: Agreed.

Peter Robinson: Agreed. All right. How bad is it? In every industrialized country, medical spending tends to rise faster than the overall national economy or output. The Economist magazine reports for example, that in a group of eighteen developed countries, the share of GDP devoted to healthcare rose from 5.2% in 1970 to 8.9% in 2001. Before we turn to the United States specifically, comment on the overall phenomenon that people spend more on healthcare than the economy grows. What's going on?

Alain Enthoven: Healthcare is a kind of luxury good. As incomes grow, people are happy to devote a larger share of their--you know, when they've taken care of their basic needs of food and housing, they're…

Peter Robinson: Food and shelter.

Alain Enthoven: …they're willing to spend a 100% of their income on healthcare. And combine that with the fact that in the past thirty or forty years--especially in the last ten or fifteen, there's been a tremendous outpouring of wonderful new technologies that really do benefit people, you know, like joint replacements, for example, or invasive cardiology. And people want that.

Peter Robinson: Why shouldn't it rise at a rate faster than economic output? People get food and shelter taken care of. What's more important to them than their health? What's the problem?

John Cogan: The problem is that the cost growth goes beyond cost increases that are buying higher quality healthcare. So part of the phenomenon that Alain mentioned is people are buying higher quality healthcare. They're doing it as a matter of demand when their income rises. They're doing it through better and better technology being developed. What has happened in most advanced countries of the world is the government has gotten involved in providing healthcare directly. As a consequence of that, healthcare costs have risen substantially above the rate of GDP growth.

Peter Robinson: Your argument is there's nothing wrong with it as long as people are getting their money's worth.

John Cogan: Absolutely.

Peter Robinson: All right. Now to the American case in particular. The United States spending almost fifteen percent of GDP on healthcare far outspends any other nation on the planet. Germany and Switzerland come in second at about twelve percent. Are Americans healthier? Once again I quote The Economist magazine, "Although America spends easily the highest proportion of its GDP on medical care, its people's life expectancy at birth is lower than in many countries with more modest budgets." Explain that conundrum.

John Cogan: We spend a lot more because we're richer.

Peter Robinson: But we spend it in a sloppy way?

John Cogan: We spend it in a very sloppy way.

Alain Enthoven: Very sloppy way. Definitely.

Peter Robinson: Okay, let's distinguish the way we in the United States pay for healthcare from the way people in other nations do.

Title: You Don't Get What You Pay For

Peter Robinson: Among industrial countries there are fundamentally three ways of paying for healthcare. Canada and Britain it's taxation. The government takes it from people and the government spends it. Germany and France, compulsory contributions by employers and workers. Government tells people how much they must set aside and spend on healthcare. Here in the United States, the government pays for healthcare directly chiefly for the poor and the old. The greater part of Americans remain covered by private insurance. Now here's the conundrum. We have a much larger private component and yet it is in this country that costs seem to be spiraling out of control most rapidly. How come? The market is failing?

Alain Enthoven: The market is failing.

Peter Robinson: You going to let that one stand?

John Cogan: The market is working as we'd expect it to work, given the incentives that we have provided through government. Look…

Peter Robinson: The government is messing up the marketplace somehow?

Alain Enthoven: Right. Yeah.

Peter Robinson: That you agree with?

Alain Enthoven: Yeah.

John Cogan: Both in the private sector and in the government sector, the same problem exists. In neither sector are the people who are receiving the healthcare paying for the healthcare they receive. As you put it, in the government sector, the government's paying for virtually all of the healthcare that's provided.

Peter Robinson: That is--you said there was a purely socialist component so to speak.

John Cogan: Right. Right.

Peter Robinson: All right.

John Cogan: And in the private sector now in the United States, individuals who are receiving the care pay for only one out of every six dollars of care.

Peter Robinson: You're the doctor, I'm the patient but the insurance company ends up paying for almost everything.

John Cogan: Right. Or the employer. No one…

Peter Robinson: And what's wrong with that arrangement?

Alain Enthoven: Cost-unconscious demand. Talking to some doctors about restructuring our programs here at Stanford, the doctors said you know, with these Stanford professors, they come in and they say to the doctor, I want an MRI. And the doctor says well, you want to tell me where it hurts. Can we discuss your symptoms? No, I want an MRI.

Peter Robinson: An MRI which costs…

Alain Enthoven: Thousand dollars…

Peter Robinson: Thousands of dollars.

Alain Enthoven: A thousand or something…

John Cogan: The patient doesn't know how much it costs.

Alain Enthoven: The patient doesn't know how much it costs.

Peter Robinson: The patient is out of pocket ten dollars for medical…

Alain Enthoven: And so this particular doctor said to me so those guys are going to have to pay co-insurance. They're going to have to pay twenty-five percent of the bill anyway.

Peter Robinson: Just to make them feel the pain or to--is that the point John?

John Cogan: The point is yes, people--if you do not have skin in the game, that is you don't pay for part of your consumption of healthcare directly, you won't be a cost conscious consumer. As Milton Friedman said, nobody spends somebody else's money as widely as they spend their own.

Peter Robinson: And it's as simple as that. Fundamental insight into human psychology. That's what's messing up the system…

John Cogan: It explains an awful lot of what's going on with the current cost but not all of it.

Alain Enthoven: I'd add to that though is that our system is dominated by doctors in solo practice paid on a fee-for-service basis. And I think that solo practice is inherently inefficient.

Peter Robinson: Inefficient.

Alain Enthoven: It's a multi-specialty group practice where the doctors practice in teams. There are lots of opportunities to improve the efficiency and effectiveness of care and then fee-for-service is an incentive to do more whether or not more is necessary or beneficial for the patient.

Peter Robinson: The more services you provide, the more money you get.

Alain Enthoven: Right.

Peter Robinson: Gotcha. Okay. Now let me ask one more large question. In the 1990's healthcare in the United States becomes characterized by managed care. You have the huge explosion of HMO's, Health Maintenance Organizations, and for a while it seems to work. The rise in health costs moderates through much of the 1990's but then toward the end of the 1990's, even though this system of managed care remains in place, costs take off again. Why did managed care seem to work and why did managed care stop working? John?

John Cogan: Well, managed care I think was able to get some of the excess out of the system. As Alain said, you have a lot of complementarities among physicians when you have a team approach. It also changed the incentives that physicians operate under. No longer was it true the more work you did, the more you got paid as it was in the fee-for-service system. The reason that it didn't work completely, I believe, is that it did not eliminate the fundamental incentive that exists in our healthcare system which is for consumers to demand more and more healthcare services because they don't perceive themselves as paying for those services.

Peter Robinson: So it did squeeze some inefficiencies but after it squeezed out those you might say, easy to get to inefficiencies, all it did was in effect, keep the lid on for a while and as we know in a market economy, you can only keep the lid on consumer demand for so long. Is that a correct…

John Cogan: And it led to a enormous amount of frustration in the current system. Consumers were still demanding more and more services and yet the financial reimbursements to physicians led them to cut back.

Peter Robinson: It was the physicians who got squeezed?

Alain Enthoven: I think one major problem was employers made a huge mistake with managed care that almost always--or it has to mean limiting your access to doctors. You pick a subset of doctors and agree to be with them for a year at a time let's say. And so a lot of people were put into managed care not by choice. Their employers just said, you know, last year we were fee-for-service. We can't afford it anymore. So next year you're going to be with company managed…

Peter Robinson: Here's your HMO and this is what we're making…

Alain Enthoven: …your HMO and that's it. And I chaired a commission in the late '90s in California where we researched this. And what we found as did other researchers--the dissatisfaction was concentrated among people who were there without a choice.

Peter Robinson: I see.

Alain Enthoven: And so, you know, when you say how should the world be in a phrase, it's going to be responsible choice. Skin in the game.

Peter Robinson: Now we come to healthcare reform according to Alain Enthoven.

Title: Free to Choose (Responsibly)

Peter Robinson: I'll quote you and I'll ask you to explain your--the reforms you propose. "Employers should create shared health insurance exchanges that bring together several or many risk bearing health insurers and several or many employment groups for the purpose of arranging multiple choice of carrier on the part of individual employers." Now what does that mean--explain that in ways that a layman like me can grasp.

Alain Enthoven: Okay. It starts with the idea we have numerous different delivery systems in California.

Peter Robinson: Right.

Alain Enthoven: Different multi-specialty group practices, individual practice associations and so forth. California's particularly strong on that. People should have a responsible choice of delivery systems. By responsible I mean if you choose anything more than the low cost one, you pay the difference yourself.

Peter Robinson: I see.

Alain Enthoven: Okay. Some employers do that. Wells Fargo Bank, Hewlett Packard, Stanford. At Stanford now, we offer our employees six choices. Stanford pays the low price plan. You pay the rest. And the result is three-quarters of our employees have chosen to be in HMO's. There's no managed care backlash. On the contrary, there's kind of a market trend toward managed care.

Peter Robinson: By free choice.

Alain Enthoven: By free choice.

Peter Robinson: But they don't feel forced into it.

Alain Enthoven: Exactly. They don't feel for--so then the problem is small employers say oh we're too small to offer choices to which I say we have in Southern California a brokerage company called California Choice which is set up to offer individual employees of small employers six or eight different delivery systems.

Peter Robinson: It's in effect a broker that bundles employees and bundles delivery systems.

Alain Enthoven: Yeah.

Peter Robinson: Okay.

Alain Enthoven: And so each individual employee gets a choice. You can go with Health Net or with Kaiser or with Community Care or whatever.

Peter Robinson: And your suggestion would be that this is simply the wave of the future, that employers will find their way to this system because it's so smart the market will leap--or are you suggesting that there ought to be state laws or federal laws that push this?

Alain Enthoven: Well, some employers have found their way there but it's like the employers of ten percent of the American people. It's just too slow. Something's going to have to be done to prod them to give them a shove.

Peter Robinson: Okay. John Cogan you now comment on healthcare according to Enthoven.

John Cogan: I think it's a fine idea so far as it goes. I think Alain's…

Peter Robinson: So far as it goes. Them's fightin' words I think.

John Cogan: Alain's basic insight is that if you have a fixed payment by an employer for a low cost plan and then you ask employees to pay for everything above that should they wish to choose a more generous plan, that basic insight is getting…

Peter Robinson: Skin in the game…

John Cogan: Skin in the game and I think that's extremely important in solving this problem. And the more employers you get to be in a position of offering choices, the more they will gravitate to a system like that. The worst thing you can have is an employer saying well if you choose the higher cost plan; we'll pay for fifty percent of the excess cost of that plan. That's sort of self-defeating and yet a lot of employers continue to do that. The hardest thing about it as Alain pointed out is getting small employers to offer a multitude of health insurance plans.

Peter Robinson: Just the administer--if you're running a company that employs twenty people full-time and thirty people part-time, where do you put the administrative overhead on that? Just running a company…

Alain Enthoven: Well there are companies innovative--you know, start-up…

Peter Robinson: You hire it out in effect.

Alain Enthoven: Yeah, that are set up just to do that, contract with the employer. There's a start-up near here called Venue. And they go to the employer and they say if you contract with us, we will be your sole source of health insurance and we'll manage the whole thing and we have software to do it. But your employees will see--in the Northwest where they're working two or three different flavors of Kaiser Permanente and two or three different flavors of Cigna like HMO, PPO, Point of Service Plan.

Peter Robinson: Right.

Alain Enthoven: And so they'll get the choice and our computers will keep track of the whole thing and not only that but we will do what's called risk adjustment. That is, we will estimate who's getting the bad risks and the good risks and move the money around to compensate those bad risks.

Peter Robinson: And now healthcare reform according to John Cogan.

Title: A Skins Game

Peter Robinson: "The starting point to fixing the healthcare system is recognizing that a handful of existing public policies prevent markets from working." Now by this you mean tax--explain how the tax system…

John Cogan: Well let's start with the tax system…

Peter Robinson: Okay.

John Cogan: …because I think that's the most fundamental source of our healthcare problem.

Peter Robinson: Right.

John Cogan: We--you have to ask why do Americans rely so much on third party payments and so little out of their own pocket in purchasing healthcare.

Peter Robinson: Consider the question asked.

John Cogan: I believe the reason for that and a lot of other economists believe the reason for that lies in the tax code. Since the 1940's, if you purchase healthcare through your employer, it's tax free. If you purchase healthcare out of your own pocket, it comes from after tax income. That provides an enormous financial incentive for individuals to buy their medical care through their employer's insurance plan.

Peter Robinson: And that tax policy got set up during the 1940's as a result of…

John Cogan: First we had wage and price controls during World War II. Employers figured out that if they provided the extra compensation to attract employees in the form of fringe benefits that they were outside of those wage and price controls. And then we decided that fringe benefits as a general rule would be non-taxable events.

Peter Robinson: So you're telling me then that this fundamental problem of third party payers results largely from the tax code? And that this change in the tax code took place during the Second World War as the government was in an ad hoc way monkeying with the tax code not to improve healthcare in the United States but to fight the Second World War?

John Cogan: That's right.

Peter Robinson: So in a fit of absentmindedness the government of the United States created this mess. Is that fair?

Alain Enthoven: Yeah, somebody said to me, you know, they created the second largest federal health insurance program without even knowing it. That is the--what John is referring to costs the federal budget 185 billion dollars a year.

Peter Robinson: In forgone tax revenue?

Alain Enthoven: In forgone tax revenues.

Peter Robinson: Okay. Now John, you have three basic reforms. I'm going to quote you again with the first. "For anyone with at least catastrophic insurance coverage, all healthcare expenses, employee contributions to employer provided insurance, individually purchased insurance and out-of-pocket spending would be tax deductible." What's different about that and what difference would it make?

John Cogan: Well, under the current system, you've got insurance being subsidized by the tax code and out-of-pocket expenses coming from after tax income--no tax subsidy. So the key is to level the playing field, the tax playing field, between buying your medical care through insurance or through your employer's insurance plan and buying it on your own. You only have two ways to do it. One is to remove the exemption for employer provided health insurance. The other is to extend the deduction to out-of-pocket expenses.

Peter Robinson: And the former would be from the point of view of sheer economic efficiency preferable but you judge to be politically, utterly impossible.

John Cogan: Utterly impossible.

Peter Robinson: Okay.

John Cogan: Here. I'm for the government. I'm here to help you and I'm going to do that by levying a thirty percent surcharge on your health insurance.

Peter Robinson: Okay. Alain, this fundamental idea of making all medical expenses tax deductible?

Alain Enthoven: Well, I still believe in the tougher approach. I agree with John on the level playing field. I just think that that's too generous to healthcare to say you can do it all with pretax dollars and that that's just going to--you know, people think if it's tax free then it's almost free and they'll spend more and more. I would prefer to see the tax break capped at some level that corresponds to the cost of an efficient healthcare plan. But I have to accept that right now it looks politically impossible.

Peter Robinson: How much does his tax deductibility plan cost the government in additional forgone tax revenues in the time of a deficit?

Alain Enthoven: A lot.

Peter Robinson: A lot.

Alain Enthoven: A lot, yeah.

John Cogan: Actually my colleagues and I have done a little work on this. And we've estimated that the effect that Alain talks about is there. That is, individuals for their out-of-pocket expenses will find that out-of-pocket expenses that are now made from after tax income; they'll find that to be cheaper because I can now deduct it. So there'll be some expansion of out-of-pocket spending.

Peter Robinson: Right.

John Cogan: But there will be this big shift from health insurance to out-of-pocket spending. As health insurance premiums decline by choice…

Peter Robinson: Right.

John Cogan: …wages will go up…

Peter Robinson: Which are taxed.

John Cogan: …by that amount. Which are taxed. Our estimate is that the annual cost to the United States Treasury of making out-of-pocket expenses and your own individual health insurance purchases tax deductible is about eight billion dollars a year.

Peter Robinson: On net--only eight billion.

John Cogan: The savings--on the savings…

Peter Robinson: Only when you're talking about the federal budget can you say only eight billion but go ahead.

John Cogan: The savings to our healthcare system which will flow back into the economy in the form of other productive enterprises…

Peter Robinson: Right.

John Cogan: …including higher quality healthcare--the savings are about forty billion dollars.

Peter Robinson: Finally, predictions.

Title: The Road to Wellville

Peter Robinson: Alain Enthoven wrote an article entitled "Death Knell for Private Health Insurance" in which he lays out this scenario. Spiraling healthcare costs enticed Hillary Clinton to run in 2008 for president under the slogan "Medicare for Everyone Now." She is elected on that slogan and within a matter of months; the healthcare system is almost entirely socialized.

Alain Enthoven: And her finance committee is headed by the Fortune 500.

Peter Robinson: Because they have had--they've had it up to here with this.They just want the government to…

John Cogan: That's right.

Peter Robinson: …fix it. Get it off their budgets and off their backs. I want to know--give me the chance--what I want now is a political prediction. You two not only know the details of healthcare but you also know a lot about politics. What are the chances that something like that will happen? In other words, which way are we going? You both said we're more than halfway to a socialized system right now. What's likely by 2008?

Alain Enthoven: I think that if recent growth rates in healthcare expenditures continue, the pain is going to become so unbearable. I mean, here at Stanford our low cost plan is ten thousand dollars per family per year. That's a big bite out of the earning power of an awful lot of people.

Peter Robinson: Right.

Alain Enthoven: And we can just see so many signs of employers struggling to get out from under that burden, reducing the number of people they cover, cutting back on retirees so retirees who used to get Medicare supplemental no longer get it.

Peter Robinson: And your sense of it--you wrote this with this scenario of 2008--your sense of it is that we're talking about just a single digit number of years before something has to give.

Alain Enthoven: I'm not sure whether it's four years or, you know, I wrote it in…

Peter Robinson: Or a decade or…

Alain Enthoven: …'03, but something like that. Yeah. Call it a single--it just--if we have another doubling, we--from 1999 to 2004, our base health premiums here at Stanford even when we use the Enthoven model doubled. Okay. I think another doubling to where it's twenty thousand dollars per family per year…

Peter Robinson: People just won't be able to put up with that.

Alain Enthoven: It just--it's going to motivate very drastic changes.

Peter Robinson: John?

John Cogan: I agree with Alain. The current system is not sustainable. It's going to go either more towards government, which is I don't believe a solution or it's going to go more towards getting market forces to…

Peter Robinson: We have political disequilibrium and something has to give.

John Cogan: And in--I don't think however that if the system were to change, that it would change with a big bang. We're either going to slide slowly and steadily into a more socialistic system or we're going to introduce market forces gradually and let the market forces work their magic to correcting the cost problem.

Peter Robinson: Where's the center of the action in the White House in this second term of the Bush Administration or in the House of Representatives or in the Senate?

John Cogan: Too early to tell. There's a number of bills that have fairly significant insurance reforms that have been moving in the House of Representatives. So I don't think it's limited just to the tax side. I think the solution lies in making sure that there's health ins--the insurance market reforms, that you have legal liability reforms and that you have other reforms that restrict the ability of states to impose very bad regulatory policy in their health insurance markets.

Peter Robinson: In general, you're relaxed about the future whereas Alain is a little on the despairing side?

Alain Enthoven: Well I--I just think the pain is getting and will be getting worse and worse and that that's going to force some--when millions of Americans…

Peter Robinson: The way it works is the government intervenes when people scream. Right?

Alain Enthoven: Yeah. And we have now forty-five million uninsured and, you know, when that gets up to eighty million, there's going to be a lot of screaming. And I appreciate that Medicare for all is kind of counter to American cultural preferences and it's certainly counter to what John and I think is the best way to go but change is so slow. You know, one of the things that we need to do is to figure out a way that changes the link to employment so that people who have a particular healthcare delivery organization can stay there. You know, if they love it and want to be there, that they don't get jerked out of it when they change their jobs.

Peter Robinson: Okay, final question. Let me just put it to you tightly. We've got to--alas it's television so we have to end it--I'll repeat Milton Friedman, "We're heading toward completely socialized medicine. By 2008, will we be closer to more completely socialized medicine or will we have peeled back a little bit. Alain?

Alain Enthoven: Well, I'm not sure. I think some of the things…

Peter Robinson: Economists are allowed to say that, but only one guest per show. What's your prediction?

John Cogan: I think we're going to end up being more socialistic in 2008. I think there's an intervening presidential election that's got to occur before the system is ready to adopt market forces.

Peter Robinson: George W. Bush didn't take it on this time so we have to wait for a later…

John Cogan: George W. Bush had enough on his plate with the war in Iraq and social security.

Peter Robinson: John Cogan, Alain Enthoven, thank you very much.

Peter Robinson: I'm Peter Robinson for Uncommon Knowledge. Thanks for joining us.