Economists , Policy Entrepreneurs , and Health Care

Economists would have formulated several aspects of the health care reform debate differently than policy entrepreneurs did. Economists would have questioned whether health care costs must be contained and whether either competition or global budgets were a “magic bullet” for doing so. They also would have emphasized the distortive costs of subsidies and taxes necessary to reach universal coverage, as well as the shakiness of the arguments about international competitiveness and excess insurance industry profits. In Peddling Prosperity, his recent book on macroeconomic policy, Paul Krugman distinguishes between economists and policy entrepreneurs. The latter purvey solutions-Krugman’s less charitable term is “magic bullets”–for social problems. The macroeconomic policy entrepreneurs who concern Krugman come from both the left and the right, and he contrasts them with the “good guys:” academic economists. Although there is some blurring of the lines at the margin, economists as a group tend more toward diagnosis than treatment. When it comes to policy, economists tend to explain why things cannot be much improved, or in any event focus on the trade-offs. They thus preserve their reputation as dismal scientists. In this paper I discuss how certain health care financing propositions that are widely accepted among academic economists fared in the health reform debate, which was dominated by policy entrepreneurs. I emphasize two main points. First, although curbing growth in health care costs would ease the lives of federal budget officials, from a broader viewpoint the growth rate may not be too high. Second, financing universal coverage involves hard choices because of the distortions the financing introduces. Because the lecture on which this paper is based is dedicated to the memory of Carl Taube, I use mental health benefits in many of the examples. What Economists Had To Say What did economics as a discipline have to say about health care reform? To answer this question, I have chosen five findings about the workings of the health care economy that are widely accepted by health economists. Trade-off between risk aversion and moral hazard. The greater the protection of people from the random expenses of sickness, the greater the potential overconsumption of medical care, at least in the traditional fee-for-service system. Most US. economists believe that the best resolution of this trade-off involves some initial cost sharing. The empirical results of the RAND Health Insurance Experiment, which found no measurable positive effect on the health of the typical person as a result of the additional services consumed when care is free, bolster this conclusion. There are caveats, however, both theoretical and empirical: The poor cannot afford much cost sharing, and the more well-to-do may be willing to pay something on behalf of the poor, which reduces the optimal cost on O cber 6, 2017 by H W T am H ealth A fairs by http://conealthaffairs.org/ D ow nladed fom 184 HEALTH AFFAIRS | Spring 1995 sharing, for them at least, perhaps to zero. Furthermore, if chronically ill persons have to pay the cost sharing year after year, there is, in effect, less insurance against becoming chronically ill. These two caveats have been stressed at a theoretical level by Robert Evans.’ At an empirical level, the Health Insurance Experiment found some support for altering cost sharing for the poor and chronically ill. The second caveat applies to the chronically mentally ill. If mental health or other services are excluded from a stop-loss provision, then the mentally ill are poorly protected from risk. Cost sharing can, however, be modified to address these caveats: It can be reduced or eliminated for the poor, albeit at some increase in their marginal tax rate; and there can be a form of a multiyear “circuit breaker,” whereby if the cost sharing is satisfied in some number of successive years, it is reduced or eliminated for some period, with some diminution in incentives to economize. A different approach than cost sharing to the risk aversion/ moral hazard trade-off is managed care. In this case, persons commit to a contract with a health plan, which in principle can reduce the amount of care that brings negligible benefit. The rapid growth of managed care suggests some considerable appeal of this approach. Open-ended subsidy for employer-paid health insurance. This subsidy increases and distorts the demand for health insurance. Martin Feldstein and Bernard Friedman first popularized the notion that the demand for insurance is distorted by the excludability of employer-paid premiums from individual income tax. Although the literature is not conclusive about the magnitude of the distortion, the great majority of American economists believe that the subsidy induces too much insurance and should be capped. Adverse selection. Insurance markets may lack equilibrium because of adverse selection. Selection behavior–bad risks differentially signing up for insurance-can explain why a public program is probably necessary for the elderly, why employers heavily subsidize health insurance premiums, why small businesses have a lower rate of insurance coverage than large businesses do, why insurance contracts have preexisting condition clauses, and why many employers do not voluntarily provide mental health coverage. The literature on selection provides a rationale for government intervention in the insurance market, whether by way of abolishing preexisting condition clauses, mandating employers or individuals to purchase insurance, mandating benefits, or financing universal insurance through taxes. Price levels and payment to providers. Price levels affect provider behavior, and a single basis of payment such as capitation is unlikely to be optimal. Randall Ellis and Thomas McGuire introduced the concept of “supply-side cost sharing” into the theoretical literature, pointing out that on O cber 6, 2017 by H W T am H ealth A fairs by http://conealthaffairs.org/ D ow nladed fom ECONOMISTS AND REFORM 185 one could reimburse providers a lump sum for each person on their “list” and in addition pay a fee for each service. The traditional fee-for-service system is one extreme (no lump sum), whereas capitation or the Medicare prospective payment system (PPS) (at the case level) is the other extreme (only a lump sum). Supply-side cost sharing is a combination of the two. Outlier and reinsurance schemes (in a risk-adjustment context) are forms of supply-side cost sharing. Medicare reimbursement of psychiatric hospitals and units also involves supply-side cost sharing because there is a hospitalspecific target cost, based on experience, and a risk window (sharing of cost) for a range above and below the target. As in the case of the tax subsidy, the empirical literature has not reached consensus on the magnitude of responses to variation in payment levels, nor on the weights to be applied to various bases of payment if mixed schemes are used. Employer-paid premiums and other forms of compensation. Most economists agree that total compensation relates to labor productivity. If one part of an employer’s payroll increases, another part will decrease or increase less rapidly than it otherwise would. This means that higher employer-paid health insurance premiums come at the expense of lower cash wages or other fringe benefits.” What Politicians And The Public Had To Say How did what economists had to say stack up against what politicians and the public defined as important issues and how they proposed to address them? The two most prominent issues in the public debate on health care reform were framed as access and costs. Perhaps because of the oft repeated though seldom documented claim that U.S. medicine is the best in the world, the broader public debate focused much less on issues of quality. Access. Access meant different things to different people, but a common meaning was some kind of universal insurance entitlement. In economic terms, both universal coverage and insurance market reform could be seen as responses to market failure brought on by selection. Moreover, as economic theory would predict, these failures were most acute in the individual and small-business markets, which led some to focus there. There was, of course, opposition to universal coverage, and one can give an economic interpretation to that opposition. At current levels of insurance premiums–say $6,000 a year for family coverage-poor families cannot be expected to purchase coverage on their own; it simply takes too large a portion of their income. Thus, their care will have to be financed in some fashion by those who are more fortunate. The steady increase in medical care costs, however, has continued to raise the cost to persons with higher incomes of providing insurance to those who are less fortunate. Thus, on O cber 6, 2017 by H W T am H ealth A fairs by http://conealthaffairs.org/ D ow nladed fom 186 HEALTH AFFAIRS | Spring 1995 although one might naively expect the increase in national income over time to make achieving universal coverage easier, the even more rapid increase in medical care costs appears in fact to make it more difficult. Costs. In the public debate, universal coverage and medical costs were sometimes linked differently, such as in the argument that universal coverage would in fact lower costs by inducing more preventive care or by shifting patients away from inappropriate care settings. For the most part, economists did not concur; their dominant view was that universal coverage would add to spending, perhaps by 5-10 percent. Independent of the universal coverage issue, many public figures argued that medical care spending was too high. The press carried numerous stories comparing both the absolute level of U.S. health care spending with that of other countries, as well as the percentage of U.S. gross domestic product (GDP) spent on health care. On both criteria the United States was an outlier, even when income was controlled for. Most economists agreed that costs were too high, although there was dissent on certain specifics of the exorbitant cost argument. Based on all of their writing that insurance raised costs, economists can, I think, take some credit for the prominence of costs in this debate vis-a-vis prior debates over national health insurance. That focus, however, missed an important issue: the degree of inefficiency or waste in the rate of increase in medical care costs, which has been at an annual real per capita rate of around 4 percent for more than fifty years (Exhibit 1). As a result, since 1940 real per capita medical care costs have increased by a factor of ten. How much of that increase represents waste? There is an emerging consensus among economists that a major component of the 4 percent figure represents the increased capabilities of mediExhibit 1 Real Per Capita Personal Health Care Spending And Its Growth, Bv Decade. 1940 1993