One environmental economist's simplistic thoughts on health care

Stepping a bit outside my area of limited expertise, but if I can't do it here, where can I?  If my economic training has taught me anything, it is this:  Anytime I see a proposal for a new government program or regulation I have to ask whether it is designed to address a market failure, or is it designed to address an inequity.  If it is the former, then correct the market failure and get out of the way.  if it is the latter, then do the minimum necessary to ensure a minimum standard of living, then get out of the way.  In the case of the current health care debate, it seems that the answer to my question is 'both.' 

Read on...

In terms of a market failure, the health insurance market fails because of the classic adverse selection problem in insurance markets.  In simple terms, insurance markets work by pooling risk between high risk individuals and low risk individuals.  Everyone pitches in an 'average' premium that serves as a buffer against low probability high cost events.  When one if these events occurs (cancer strikes), the victim borrows from the insurance pool to cover the expenses.  In other words, low risk individuals subsidize high risk individuals.  This must be the case for insurance to work properly.  However, problems occur when insurers can't tell the low risk individuals from the high risk individuals and/or low risk individuals are free to opt out of the insurance pool. 

In the case of non-mandatory health insurance, young healthy people are free (in many cases) to choose not to purchase insurance.  Yes, this is a rational choice, and yes, this is their right (in most cases, under current law).   But, it creates a problem for the insurers.  The remaining pool of insurees are high risk--that is, those more likely to get sick and require coverage.  This has two effects: 1) It makes it more likely that the pooled premiums will be insufficient to cover expenses, and 2) If premiums are priced so as to ensure coverage of expenses, they will be higher than if the low risk individuals were included in the pool.  So adverse selection in the health insurance market leads to higher premiums than mandatory coverage.  Which brings us to the issue of affordability (inequity).

The resulting high premiums mean that some people who want (and need?) health insurance will be priced out of the market.  At the risk of sounding pollyannish, basic human decency requires access to universal health care.  If you feel differently about this, there is probably no use in even engaging in a debate.  But universal access doesn't necessarily mean government provided insurance.  It simply means that the government has the obligation to ensure that everyone has the means to achieve a basic standard of living (note that I'm not saying an equal standard of living). 

Here's my simple plan (nothing new here, just combinations of various proposals that have been floated): The health care debate comes down to two simple issues:  Access and affordability.  Both of these problems can be addressed with minimal new regulation:

i) Require all individuals to carry a minimum level of health insurance.

Crap, we require you to be insured to drive a car, why not require you be insured against poor health? Requiring health insurance solves the adverse selection problem and may indeed drive premiums down:  the low risk individuals who previously opted out will now be subsidizing the high risk pool--just like insurance is supposed to work.  Insurers can adjust premiums based on risk--just like teen drivers are more expensive, insurers might charge the elderly higher premiums.

ii) subsidize the purchase of insurance for those less fortunate--yes, welfare.

While not ideal for the efficiency of markets, providing health insurance vouchers to those with demonstrated inability to pay for minimum coverage of health insurance. 

There you have it, one environmental economist's view on universally affordable health insurance coverage without a new government run insurance agency.  Sure there are other details to be worked out:  preexisting conditions clauses, transfer of policies in the event of loss of employment, how to get rid of medicare...but those are left for the politicians to figure out. I have to leave something for them to do. 

Comments

[Flynn]

What about cost containment? That's one big point of the public option as far as I see it. There are other market failures in the health care system more generally that lead to escalating costs, not least of which is a a huge agency problem. The lack of a direct relationship between services rendered and the price paid by the actual recipient of the services creates incentives for inefficiencies for all (three) parties involved. The public option cannot hope to fix them all, but it can put downward pressure on some costs.

[Tim Haab]

Flynn,

I get admittedly confused on the cost containment question. To me, most cost containment arguments quickly devolve into one simple reality--fewer incentives for innovation and ultimately lower quality health care. A public subsidized options which forces lower (possibly inefficient) prices results in reduced incentives for research and development. I guess the counter argument here is that prices are currently inefficiently high. I'm not sure I'm ready to admit that without understanding the market failure causing the inefficiency. once that's identified...then let's fix the inefficiency (not add another layer of inefficiency on top). I guess I'm just not a big fan of second best solutions (which explains my green jobs/stimulus objections).

[Drew M]

I think that in the case of cost containment, the market failure is partially (I'm not going to even pretend to know the half of it) due to imperfect information. People don't know what exactly they're paying for or how much they're paying for it. With hidden costs and insurance companies that don't hold people particularly liable for their own treatments, people can't demand lower prices to reach a market equilibrium when they don't know what they're paying for in the first place.

[Barbara]

The Swiss have precisely the sort of system you propose. Private insurers calculate premiums based on age, health, etc. No insurance company can refuse a high-risk person - they "share the wealth" or in this case the poor-risk amongst the companies. If you cannot pay, the government pays whatever portion of that premium for you. Last I heard that amounts to a third of the country's health care costs being government subsidized. The upside for those paying the entire bill is they, and the insurance companies, have an incentive to get off their b---- exercise, eat properly, etc.
The single-payer program the Dems want is to create a huge class of unionized government workers who can be guaranteed to vote for the Dems and if an when reforms are needed, while fight tooth and nail against them. Look at the auto unions.

[Tim Haab]

Barbara,

Interestingly enough, I recently found out that I have a distant relative who was President of the Swiss Federation (twice--1922 and 1929). Coincidence? I think not.

I have no idea of the relation or how distant but here's the Wikipedia page: http://en.wikipedia.org/wiki/Robert_Haab

Tim

[Alan Dove]

The insurance industry is certainly one major part of the problem, but I'm not convinced that simply implementing mandatory insurance will fix it. The Swiss have the advantage of having established their system long before health insurers gained their current level of clout, and they also have the much bigger advantage of a relatively small, healthy population. Pasting the same solution onto our deeply dysfunctional system will just redirect the dysfunction.

For example, I can imagine insurers establishing subsidiaries to dump the high-risk patients into, then letting those high-risk ghettos go under while the main company remains highly profitable. That's off the top of my head, and I'm not even an accountant - you can bet the green visors at Blue Cross et al. will be diligently probing much more obscure loopholes than that. The "public option" would help provide a backstop against such shenanigans.

Your solution also completely ignores the pharmaceutical industry, which has become almost as big a problem as the insurance industry. A government-run insurance system that could play hardball in negotiating prescription drug prices would be a step toward fixing that. Private insurers don't have much incentive to negotiate aggressively on drug prices. They can just make the co-pay higher and shift the costs to the patients.

Yes, the Obama plan would create a new, unionized government agency, but I don't think that's the main motivation. I doubt it would be bigger than Bush II's Department of Homeland Security, for example, and nobody accused him of trying to beef up unions.

[Lonewolf]

You lie!

[Josh]

From California, I fear the worst of both worlds coming to light, partly along the same lines as Alan's comments above. Basically, subsidizing for some a requirement to purchase from a private entity gives the individual no say in the performance of the product, while guaranteeing money straight from government to private companies for lobbying, profit-margins, etc.

In California, we saw this through partial de-regulation of the energy market and in control over water, and we all also see this in subsidizing big agriculture.

I am very leery about requiring individuals to purchase things from private companies, without even a choice of a publicly (consumers included) controlled option.

[odograph]

You can slice it any number of ways, but it comes down to liberals wanting "health care" and libertarians saying "that isn't insurance any more."

No, it isn't. Insurance in a market setting simply does not equal health care. The concepts overlap only for the well-employed who fall ill in very specific ways.

This mis-match isn't new. It's the reason we've been legislating insurance, trying to make it health care. Square peg, round hole.

My insurance is paid up, but my insurer is also required by the State of California to treat indigents as required. When that happens, my insurance becomes someone else's health care.

I'm not saying we should stop treatment, but I think we need leap the gap at some point, and stop making arguments about "insurance" acting in "markets."

We left that long ago.

[odograph]

Just curious, if a street person or a religious objector or a drug addict shows up at an emergency room without his "required" insurance, what happens?

If he gets immediate "John Doe" insurance on the spot, you've got the public option.

[Christopher Lutz]

Sound the Alarm! If economists are thinking this way, what next?

Firstly - "what crisis"?
Per Obama (last night's speach) 10 Million Americans don't have insurance. Earlier quotes were 47 Million. 47 Million out of ~350M is roughly 13% uninsured. That means 87% of the U.S. DOES have insurance.

In my mind - this hardly qualifies as a crisis.

Secondly - "under who's authority"?
Unless someone can prove otherwise, health care (in any form) isn't mentioned int he constitution and it for damn sure isn't enumerated as one of the powers of the federal government.

Drawing analogies to auto insurance (required at the state level) isn't OK.

Dems continue to draw analogies and compare the U.S. to Western Europe...except their comparison is too narrow. In the last 200 years, which formula has proven to work best? Limited Government and Capitalism or the Socialist/Liberal ways of western europe? I think the answer is self evident. The U.S. has become the strongest most productive country and Western Europe has continued to lose global relevance.

If you can get me past points 1 and 2 above, I ask you to define exactly what a "minimum standard of living is"

- Aparently, it includes health care
- Housing
- Food Subsidies
- What about a car? What if I can't get to my health care or my food? Do I deserve a car?
- How about a TV? Do I *need* this? if so, just the basic channels or all of the cable channels?

The points above are obviously hyperbolic; however, I don't know what the definition of minimum is.

As an psuedo-economist and lover of the country, I'm scared of making the minimum so sweet we lose productivity and innovation. (like Ireland and the UK have)

[odograph]

Christopher, my hat's off to you. Not many conservatives are so solid that their position boils down to:

"Nasty, brutish, short, and we like it that way."

FWIW, no the constitution did no provide for kidney transplants. Moving aside from the question of whether in 1776 you'd be better off if your physician even tried, or what the "worst" hospital bill might have looked like when leaches were the state of the art ...

The question I think is how much a rich society can set aside for the poorest, and how resolutely it must spend on geegaws. "You need a kidney? Sorry, I need a weekend in Hawaii."

[MJ Punt]

Although I disagree with christopher he has a point concerning the analogy with the car insurance.

Yes, car insurance is obligatory, but you can always opt out by choosing not to have a car in the first place and use public transport instead. But hey, that might just be a spoiled Dutch view, where there always is a bus/train stop 15 minutes away.

We do have mandatory private health insurance by the way. Plus below a certain wage level you get subsidized if you take insurance. We used to have public health insurance but it was recently replaced by this system, for money/many reasons.

[Tim Haab]

MJ and Christopher:

The analogy to car insurance was meant to illustrate the adverse selection problem. The car insurance market suffers from less adverse selection because there is a mandatory requirement for participation in the market. If you want to drive, you must have insurance (or face the prosepect of heavy fines or elimination from the market). Why not a similar requirement for participation in the health care system? If you want health care, you must have insurance. The problem is, those who opt out of the insurance market are still in the health care market (since human decency seems to lean towards not denying health care to anyone). Universal participation in the insurance market seems the only solution.

[odograph]

BTW, I suspect this relates, both to health care an environmental questions:

The Census Bureau's annual look at income and health coverage (based on surveys conducted in March) is out today. The rise in the poverty rate and in the percentage of Americans without health insurance got the headlines. But here's a fact that for some reason the Census Bureau didn't emphasize: The median household income in 2008 was $50,303. The median household income in 1999, expressed in 2008 dollars, was $52,748.

You've got to figure 2009 will see another decline in income, in which case Americans will end the decade significantly less well off than when they started it. We're not just treading water. We're going backwards.

I've said in the past that I suspect we are migrating toward a global wage. If that guess proves correct ... and the global wage does not climb spectacularly, the argument "we can do XYZ because we can afford them" becomes somewhat suspect.

[odograph]

From another source, for California specifically:

In its annual report on the state of working Californians, released today, the nonpartisan California Budget Project reports the job losses suffered during what is being called the “Great Recession” wiped out all the gains of the previous recovery and that the total number of jobs in the state is now roughly what it was nine years ago when there were 3.3 million fewer working-age adults.

I am not an economist(*), but I think globalization issues will come home to roost as we expand health care for an aging population.

* - and of course I expect them to stick to theory until reality really stares them in the face.

[Josh]

Mr. Lutz, does the Constitution specifically exclude nuclear and biological weapons from the definition of "arms"? NO! Therefore, they are a right to be borne by the citizenry.

Additionally, you write that you don't know what the definition of "minimum" is - I'll add you really didn't do a great job of defining "best" when comparing the US and Western Europe. But, you aren't alone, it's probably a silly, silly comparison... which makes it even funnier that your previous statement railed against bad analogies.

I love reading a response by an economist that has to refer to human decency. You've renewed my faith in humanity, Dr. Haab.

[joshua corning]

i) Require all individuals to carry a minimum level of health insurance.

Forcing young healthy people to purchase something they will not consume is solution to a market failure? We are already strapping on huge debt onto their shoulders perhaps it is not a good idea to limit their economic choices further if we actually want to them to be able to pay that debt off.

By the way....you don't have to buy car insurance if you don't own a car. And to ignore the negative impacts associated with forced car insurance is a bit one sided.

I don't see in the slightest how young healthy people subsidizing the risks for other peoples eating habits, lack of exercise and free base jumping hobby will be efficient.

How is using tax dollars to pay for subsidized flood insurance in hurricane alley a perverse intensive yet using young healthy peoples money to subsidize other peoples smoking habits and sweat tooth not going to be a perverse intensive.

Furthermore looking at young peoples earning power vs the older peoples earning power one will have to ask how is this not a regressive policy?

[Joshua]

Mr. corning,

I agree (gasp!) with your suspicion about forcing a private transaction. However, I don't think the proper analogy with health insurance is with any other insurance, because it isn't like any other insurance.

You point that out well with regards to car insurance. It's also unlike hurricane insurance, which is a scam because (like earthquake and flood insurance) when it occurs, the cashing-in will almost ALWAYS bankrupt the insurer, so we'd might as well just have a gov't insurance scheme, or let folks sink or swim, literally.

But, health insurance is different. First of all, it is THE driving force behind health care. Second, health care can reasonably fall under "promote the general welfare", in the preamble to the Constitution. Third, by both basing our health care on insurance and not including healthy people in the pool, we make it very, very expensive. Fourth, in that epidemics and pandemics are very real threats, adequate health care for everybody, ESPECIALLY recent immigrants, fits within "insure domestic Tranquility," and "provide for the common defence".

I don't understand your 'regressive policy' comment and would like to know more.

[Joshua Corning]

First of all, it is THE driving force behind health care. Second, health care can reasonably fall under "promote the general welfare"

So we should use an inefficient policy? Pointing out perverse intensives is an economic argument in regards to efficiency. Not one in regards to constitutional law.

I don't understand your 'regressive policy' comment and would like to know more.

Poor young poeple paying for the insurance and offsetting the risk of old rich poeple is regressive. Before you start misquoting the constitution this is an argument of equality.

The two things Tim tried to alleviate with this policy were inequality and inefficiency...I pointed out that the policy recommendation he put forth was both inefficient and unequal.

[Josh]

Mr. corning, the quotations of the Constitution were verbatim. By your standard, I may have misinterpreted it, but I did not mis-quote it. That is intellectually dishonest.

The elderly have one of the highest rates of poverty in the country. Your numbers are wrong, so the unequal argument should be thrown out.

The only disagreement in policy, therefore, should be around the interpretation of the Constitution. However, a reasonable person may imply the definition of "promote the general welfare" and "insure domestic Tranquility" as allowing for government health care, just as a reasonable person may not. Reasonableness of definition is an important legal concept around Constitutionality, as my atomic weapons argument inferred.

If you disagree, please explain how the government can reasonably restrict atomic weapons from private transactions.

[Tim Haab]

Joshua,

"Forcing young healthy people to purchase something they will not consume is solution to a market failure?"

Allow me a slight rewording:

"Forcing young healthy people to purchase something they will [consume with lower probability, but impose cost on others if they can't afford the treatment in the unlikely event of a high cost injury or illness] is solution to a market failure?"

In that case, the answer is yes.

If on the other hand, you would prefer to impose a strict rule that if you can't afford treatment you may not under any circumstances have access to the health care system, then i guess that would solve the market failure too. But, since in the real world we all live in but you, the local or federal government is (once again) the insurer of last resort, and young healthy people still have some probability of using health care at some point, mandatory insurance is a reasonable solution.