Tuesday, August 28, 2012

Will Increased Competition in the Health Insurance Market Lower Health Care Costs?

One of the things economists, and indeed most people accept--often at face value--is that increased competition is always a good thing in the marketplace. Paul Ryan's plan for Medicare seems to capitalize on this idea as a means to reduce health care costs. To be sure, the great majority of the time, I think that competition maximizes consumer welfare by lowering costs and--as cliche as it may be to say it--spurring innovation. But what if there was a case where increased competition didn't necessarily do either of these things? The case I'm referring to, as I'm sure you've already surmised, is the market for health insurance.

Before I can explain my case to all of you, a quick economics lesson may be in order. A health insurance plan is a wildly different product than the oft-mentioned "widgets" of our microeconomics classes. A widget, we've been told, is a simple, uniform, manufactured good, the price of which tends to fall as more firms compete to produce it. By contrast, a health insurance plan exchanges the cost of a premium for an innumerable set of potential services. These services fall under two general categories: insurer services and hospital services.

The first of these, insurer services, would include things like risk-pooling, claims processing, marketing to customers, etc. For these services, larger insurers have a clear advantage in cost control--that is, they have to spend a smaller percentage of their cash-flow on these services. Think about it like this: an insurer who has 50,000 enrollees in its electronic database probably has to spend far less per-enrollee on administrative costs than an insurer with 5,000 customers. The logic behind this stems from the idea that something like an electronic health database has a large, fixed start-up cost, but adding each additional person to the database has a fairly small cost. 

Put another way, imagine a small insurer and a large insurer both have to purchase a computer to store client files on. The computer, roughly speaking, doesn't cost any more or any less for either of them, but the small insurer has 5,000 customers paying them and the large has 50,000. If the computer costs $1,000, then the large company has paid a significantly smaller share of its total income from premiums on its electronic records database. Sure, they may have to pay someone to input all of those names, but the additional cost for each new name is likely to be small. It is for reasons like this that smaller insurance companies have much higher administrative costs than larger ones do. In the parlance of economists, these are called economies of scale

We can see the real-world evidence of this, too. According to the Council for Affordable Health Insurance, smaller insurers use 35-45% of their premiums for marketing and administration, while larger insurers have administrative costs around 20%. Even lower still are the administrative costs of something like Medicare, which covers over 50 million people. That money spent on advertising and administration is, in other words, money not spent on paying for medical procedures.

The second part of the services rendered in a health insurance plan would be on the hospital side--paying doctors and hospitals for health care. As you may or may not know, doctors and hospitals often negotiate with insurers over payment rates and what procedures will or will not be covered. Now this is where health care costs come in: the costs of procedures depends heavily on how much market power--that is, how much leverage--a doctor, hospital, or insurer has in payment negotiations.

Let's say an insurance company's client base represents a large part of any given physician's cash-flow. Now, if the physician's revenue is at stake here, he or she will be more willing to put up with lower payment rates and restrictions set forth by the insurance company during contract negotiations. This is, as I said before, because the insurer's client base is so large that the doctor stands to lose much more if they don't do business with such a large insurer. After all, less money is still better than no money! On the flip side, if a physician or hospital group treat most of the people a certain geographical area, they will have more leverage in negotiations with insurers--they're effectively the only game in town. As such, they will be able to charge higher prices for their services to insurers, because insurers have no real alternatives. You'd better believe that the insurer's increased costs are passed on to consumers, too, sticking us all with higher premiums. Sadly enough, this has become something of the rule, rather than the exception, and studies have shown that hospital mergers and physician group consolidations have played a large role in raising the costs of health care. 

All of this brings me full circle back to my initial question: will increased competition in the health insurance market actually lower health care costs? Based on what I've read, no, it won't. At least, it won't if numerous, smaller insurers compete in a market for ever-consolidating hospitals and physician groups, which is what seems to be the trend right now. With a larger number of insurance companies in the market, each one would represent a smaller share of a hospital's or a physician's income stream, so, if anything, this may actually raise costs further, as physicians would be able to refuse to do business with certain insurers and use their increased market power to extract higher payment rates from others. 

In reality, what economic theory and research suggests would yield lower costs for you and I would be a market in which hospital and physician group concentration was lower (read: had less leverage and more competition) and health insurers were somewhat larger and fewer in number. In this way, insurers would couple their increased negotiating power with hospitals and their lower overhead costs to ultimately yield lower costs overall. 

So really, based on what evidence we have, increased competition between health insurers likely won't lead to any meaningful reduction in health care costs for Americans. To be sure, it is certainly fashionable to pay lip-service to the magic of the marketplace, but that magic won't be of much help to something like Paul Ryan's Medicare plan, or indeed any plan that uses insurer competition alone as a means to lower health care costs.

Sorry to burst everyone's collective bubble.



Friday, August 24, 2012

Keynesian? That's Just A Name That Stuck...

Those of you who have been following this blog since its inception know that I regard the current  Republican deficit hawkery as mostly a farce. Yet again, though, they've made it abundantly clear that debt apparently doesn't matter to them. The CBO report released yesterday said that the "fiscal cliff" -- the automatic spending cuts and tax hikes set to take place beginning in January -- will plunge the U.S. economy into a recession, leading to a loss of 2 million jobs and 4 percent of GDP. As horrible as the prospect of that is, that isn't the interesting part.

The interesting part is that Republicans are seizing on this to try and argue that Democrats are somehow in favor of fiscal tightening. Okay, first things first, Democrats are threatening to repeal the Bush tax cuts for top earners, but that's a fairly small part of the larger package of spending cuts and tax hikes. Those spending cuts, might I remind all of you, are the same ones that Republicans steadfastly demanded in return for raising the debt ceiling last year. Just to be clear, though, tax hikes and spending cuts are both austerity measures. They both qualify as being fiscally contractionary. 

Let's take a walk down memory lane, though. Remember when numerous Republicans and right-wing groups said that balancing the budget by cutting spending would lead to economic growth? Well, I certainly do. If you'll recall, Mitt Romney accidentally told the truth earlier this year when he said that cutting spending harms economic growth. The result? A flurry of criticism from groups like the Heritage Foundation and the U.S. Chamber of Commerce. Oops.

In any case, my point in spelling all of this out is that what Republicans are currently saying is a clear contradiction of what has seemingly become the official dogma of the GOP. In 2011 and earlier this year, they claimed that cutting spending can and will yield economic growth by instilling confidence in investors, businesses, and consumers. Now they're bemoaning the fiscal cliff at the end of the year, because it will...harm economic growth? If anything, to be logically consistent, they ought to be denying the CBO report's findings, rather than embracing them. By their logic, those budget cuts and tax hikes ought to instill confidence in businesses and consumers. So why the sudden turn to Keynesianism?

P.S. Name the (kind of) movie quote in the title...win a prize?



Sunday, August 19, 2012

Privatized Medicare We Could All Probably Live With, Part 1

Quick post today, but I felt like sharing an idea that I've been mulling over in my head fairly recently. The more I think about it, the more I begin to like it. The idea isn't a new one by any stretch of the imagination, but it certainly may seem novel to people who don't fancy themselves as policy wonks. In any case, the idea I'm referring to is the privatization of Medicare. I know, for me to say something like that may strike many of you as particularly hard to believe. But there's a specific way that Medicare could be privatized that I think would be a fairly decent idea, at least on paper. 

The idea would be, in short, something like this: eliminate the distinction between over- and under-65 health insurance markets. How might we do this, you ask? Well, I think a great way to pull something like this off would be to expand Obamacare's health insurance exchanges to be available to everyone over 65 as well. This way, someone who has purchased private insurance most of their lives can have continuity of coverage from their preferred insurer. Ordinarily, insurers wouldn't have to necessarily worry about the long-run health of the people they cover, since at age 65, most are just covered by Medicare. With the two markets integrated, there's much more incentive for insurers to invest in the long-term health of their clientele, rather than waiting to pass off costs to Medicare.

What sort of relevance does this have to current policy debates? Well, ironically enough, Paul Ryan's plan for Medicare privatization is effectively Obamacare for people over the age of 65. Now, I don't support Ryan's particular plan, because it provides seniors with a federal subsidy that has been shown to be too small to cover the costs of seniors' health care. However, Ryan's plan does do one thing that Obamacare does not do--it has a public option in it. Basically, this means that in Ryan's plan, traditional, government-funded Medicare would compete with private insurers in an exchange for people over the age of 65. Ironically, it is Obamacare that lacks a public plan. Oh, and Ryan's plan also includes a mandate.

Now, what I think could actually end up being a viable system of universal health care in the U.S. would be one in which the health insurance exchanges would incorporate the over- and under-65 insurance markets, with people being given adequately-sized federal tax credits/subsidies to purchase the insurance of their choice. Ideally, these exchanges would also contain a public option, like Medicare, competing with private insurers. I could honestly live without it, though, provided that all other criteria are met.

Obviously this is just me rattling off ideas right now, rather than citing hard facts, but like I said, this is pretty preliminary stuff. I feel like this is the kind of idea that Democrats and Republicans could agree on, assuming, of course, that the latter party was feeling reasonable.

We economists do so love to assume, though, don't we? And you all know what happens when you assume.

Thursday, August 16, 2012

Big Government?

Government spending has fallen during this recovery. In spite of what anyone tells you, in spite of what attack ads may say, government spending as a whole in the United States has fallen during this recession/recovery. Regular readers will know that I've written about this before back in the spring. I bring it up again for a few reasons, chief among them being that I think this is critically important to understanding why unemployment remains stubbornly high. The more proximate cause, though, is because I came across this chart, that compares historical post-WWII economic recoveries with our current recovery by comparing different economic indicators:
Any one of these indicators would be worth discussing, but I think there's one in particular (I bet you can guess which) that I want to point out. Yes, that's right, the change in government spending. Note how it is actually negative, while the postwar average is actually almost 20%.

This helps to invalidate one of the GOP's main talking points--that  tremendous and unprecedented levels of government spending are holding back our recovery, presumably because of the "crowding-out effect." For those of you who don't know what crowding-out is, I'll give a brief explanation. The idea is that there is a limited supply of savings available in the economy, and that savings are loaned out by financial intermediaries (like banks) to both the private and public sector. Now, crowding out is when public sector spending quite literally crowds out private sector spending--that is, the government borrows so much of available savings in the economy that banks have to increase the cost of borrowing (interest rates) because of the now-diminished supply. Thus, borrowing money is much more expensive for the private sector and hinders business expansion.

Let me be perfectly clear on this: crowding out is not going on right now. Interest rates are tremendously low. "But Andre," you say, "interest rates are only low because the Fed is holding them down by buying bonds! If they stopped buying bonds, rates would spike!" Not so, dear readers. Not so. How do I know this? Well, between June and September of 2011, the Fed stopped its bond-buying programs and interest rates failed to spike:


Anyways, you get the idea. Rates tumbled. Crowding out isn't taking place right now, both for this reason as well as the fact that government spending as a whole in the US economy has fallen by about 5% during the tepid recovery. 

Personally, I am of the persuasion that the decline in government spending is in part the cause for our persistently sluggish employment growth. In fact, I just found another study, this time by the Brookings Institute, that says that our current unemployment rate would be 7.1% had public sector employment held at the 2001-2007 average levels. 

Once again, I have to point out the irony of it all. In spite of GOP assertions to the contrary, Obama's big government isn't so big. And that's a huge part of why we're still in this mess.


Saturday, August 11, 2012

Romney/Ryan 2012?

 
By now most of you have heard that Mitt Romney has picked Congressman Paul Ryan to be his running mate. This will be one of those very rare times where I delve into a purely political issue that is utterly unrelated to economics, but it seems important enough to warrant a post. I've already torn into Ryan's budget plan and health care plan before, so I won't waste any more breath on that sort of thing. Romney's VP pick is interesting to me for a few reasons.

The first reason is that Mitt Romney's strategy has been to be as vague as possible about his policy proposals. Now, I know what you're all probably saying, "He's just a politician, all politicians are vague about promises and proposals!" Well, yes, I guess that's true. But the vagueness of the Romney campaign's policy proposals has transcended traditional political bounds. They're more like the suggestion of policies than actual, detailed proposals. Romney picking Ryan as his VP puts him in a bit of a bind, though. As much as he may or may not want to admit it, Paul Ryan has policy proposals. They may not add up when all is said and done, but they have more in the way of detail than anything Romney has proposed thus far in the campaign. And now, for better or for worse, Romney is now inextricably linked to Paul Ryan's past policy proposals. To name a few examples:

  • Ryan's budget plan.
  • Ryan was one of the main driving forces behind the 2005 Bush Administration attempt to privatize Social Security. You know, the one that was scrapped because even the Bush Administration thought it was too aggressive?
The other reason this is such an interesting, if risky pick for Romney is that Paul Ryan has spent his entire life in politics. On its own, this fact would be basically irrelevant. But Governor Romney has based much of his campaign on the fact that he is a talented businessman and that Barack Obama has not spent a "single day in the private sector." It runs somewhat counter to his message, then, to appoint a man who has likewise not spent a single day in the private sector to be his Vice President. This probably won't be a major issue for Romney, but still, something to mull over.

Above all, I think this pick represents a very risky move by the Romney campaign. I can only speculate as to why they made this choice, but I'm almost certain that the main dynamic of the campaign will change from being about economic growth to one about debt and entitlement reform. David Frum is too right when he says that the Romney campaign will now have to explain why restraining cost growth in Medicare after 2023 will create spectacular economic growth in 2013.

I, for one, am skeptical.

Thursday, August 9, 2012

Blog Overhaul

Quick post for now just to say that I've just finished a complete overhaul of the blog. I figured it was about time I made the blog look like it wasn't designed by a fifth grader. Let's hear some feedback, shall we?


This about sums it up, I think. 

Misleading Charts and Tepid Promises

Via Matt Yglesias, I learn that the Mercatus Center released a chart today of Presidential job-creation records at the end of each President's time in office.
To their credit, the Mercatus Center does offer the qualifier that Obama hasn't even finished one full term yet, while most of these men on here had finished two. Matt basically says everything that I want to say though:
"By my calculations, that'd give him 52 additional months in office. And say that for those next 52 months, Obama totally fails to spark bounce-back growth or make meaningful progress back toward full employment. Instead, we keep on adding about 150,000 jobs per month just as we have for the past 18 months. That'll add 7.8 million jobs to the current total, rocketing Obama ahead of Kennedy, Eisenhower, George H.W. Bush, Gerald Ford, and George W. Bush. Still hardly the greatest record in American history, but not too shabby at all."
I don't have anything more to add to this, really. There's just one more thing I'd like to mention, since we're on the topic of job creation. Some of you may know that Romney has vowed to create 12 million new jobs in his first term in office. I thought I might put that in perspective based upon the available forecasts of job growth between 2012 and 2016--the hypothetical Romney first term. Moody's Analytics is forecasting a job growth number around 11.84 million new jobs and Macroeconomic Advisers is forecasting 11.8 million. The Congressional Budget Office is forecasting 10 million jobs being added in a Romney first term, but that forecast assumes that the so-called "fiscal cliff" takes place at the start of next year, which most economists don't believe Congress will let happen. So it is likely that the job creation forecast will be substantially higher than 10 million.

Obviously macroeconomic forecasting is hard and often inaccurate/flawed, but Romney is doing a bit of forecasting of his own when he makes that kind of campaign promise. I guess all I'm saying is that I find it kind of funny that Romney's campaign promise is that he will create roughly the same number of jobs that most forecasts are saying will be created regardless...


Always good to set a high bar.




Sunday, August 5, 2012

One Point Five Trillion Dollars

That's the amount of excess reserves banks are sitting on right now. For those of you who don't know, excess reserves are basically just the money banks keep  on hand above and beyond their legally-required reserves of money. Now, in normal cases, excess reserve levels are pretty low, since banks can usually just loan the money out to people, other banks, or whatever. If you think about it, why would they keep extra money around? It wouldn't earn them anything in interest, ordinarily. Except that right now, sitting on excess reserves is profitable for a bank.

The reason for this is that, in 2008, the Federal Reserve started paying banks interest on their excess reserves. The Emergency Economic Stabilization Act of 2008 gave the Fed the power to do this, although the reasoning behind it is spurious, at best. The point, I guess, is that the Fed started paying interest on excess reserves (IOER) to signal to banks that it may later pay higher rates on them if the Fed needs to pull money out of the economy in the case of an inflation problem. The way this would work is that, by paying higher interest rates on excess reserves, banks would have an incentive not to loan out more money, thus cooling off the overheating economy. But this leads to the question: why don't they just do what they always do to head off inflation--raise interest rates? Well, I don't really know. Moreover, this policy makes even less sense when you consider the fact that the Fed is supposed to be taking expansionary activity right now, not trying to head off inflation risks that are nowhere to be seen:

In any case, do you all remember how I said that banks usually can lend their excess reserves to one another at a certain interest rate? Well that interest rate is called the federal funds rate, and that's what the Fed cuts when the headlines say that they cut interest rates. Since late 2008, the fed funds rate has been somewhere between 0 and .25%. So basically, banks lending to one another would have a rate of return somewhere between those two numbers. Recently, that number has been about .13%. 

But here's the problem: the Fed is also paying banks interest on their excess reserves right now. They're only paying about .25% in interest, but that's a pretty solid rate of return when compared to what they'd get lending it out to other banks (remember, 0 to .25% interest rates on those loans). This creates the incentive for banks to hoard their money. And they have a lot of money on hand right now. 1.5 trillion dollars of it.

Now just think about that for a minute. The point of the Fed cutting interest rates is so that loans are more attractive for businesses and consumers. But if the Fed simultaneously rewards banks for hoarding excess cash by offering a riskless rate of return, any newly printed money is much less likely to end up into the system. Perhaps this graph will paint a more vivid picture for you than I can:


The blue line is how much money the Fed has "printed" and the red line is the amount that's actually flowing through the economy, rather than sitting in banks. The red line is the actual amount of money that banks have lent out into the economy. You'll notice that the trend hasn't so much as budged since the Fed started ramping up its money-printing extravaganza. That's quite a lot of excess money that banks could be lending out, don't you think?

I realize that this may not seem like a powerful tool for central bankers to use, but what do they have to lose, realistically? From what I've read, the arguments against lowering the interest paid on excess reserves are all fairly weak, just like the initial reasoning for the policy. Meanwhile, the potential upsides to such an action by the Fed are pretty substantial. The Fed has never paid interest on excess reserves before, and as you can see, the previous two recessions don't look as if they had similar issues with bank hoarding. Obviously this recession is much, much more severe, but I feel as if we might have seen hoarding on a much smaller scale in milder recessions if the Fed had paid interest on excess reserves in the past.

Something else to consider, too:


Just a thought, is all. Anyways, I think we should take a page out of Sweden's book right about now and turn that interest rate negative--charging banks a fee for sitting on excess cash. Or at the very least we could stop paying them to hoard cash. 

Paying them to do so seems like a waste of money, if you ask me. $4 billion a year, to be exact.

Thursday, August 2, 2012

'Americans for Tax Reform' Doesn't Understand Taxes

Well, I've finally been suckered back into the blogosphere. Sadly enough, the impetus for this was an article I read this morning about how Senator Marco Rubio and Rep. Blake Farenthold are introducing bills that would make the cash prizes of Olympic medalists tax-exempt. Yeah, because that's a priority right now. All snarkiness aside, let me preface by saying that there are going to be two main points to this blog post. The first is me deconstructing why this is a pointless bill and the second is to explain in clear terms how federal income taxes work, because it seems that even a group like Americans for Tax Reform, headed by Grover Norquist, doesn't seem to understand how they work anything about them. If I were a paranoid sort, I'd even think that Norquist is deliberately misleading Americans into thinking that they pay much higher tax rates than they actually do. If I were a paranoid sort.

But anyway, these bills aim to make the cash prizes tax-exempt because, according to Senator Rubio, it "punishes success." By that logic, we shouldn't tax anyone who's ever made any money ever, because that would be punishing success, too. But I digress. Let me take this from the top. Americans pay taxes on money they make from working--payroll or income taxes, or both. Olympians presumably make their living by being professional athletes. As part of their jobs, they train to compete in the Olympics once every four years. Winning a cash prize is part of their income, derived from doing their jobs as pro athletes. Thus, it is taxed. Simple as that. The tax code doesn't care if you sweep floors, jump hurdles at lightning speed, or fly a damned rocket ship into space. Income is income is income. Plus, the bill doesn't exempt from taxes the far larger sums of money derived from sponsorships. So there's that.

The impetus for this bill comes from a study done by Americans for Tax Reform (ATR from now on) that says that the tax bill for medalists would be $8,750 for the gold prize, $5,250 for silver, and $3,500 for bronze. They estimated this by saying that medalists would be in the top tax bracket, paying a rate of 35%. And here is where their so-called "study" goes completely off the rails. 

In the United States, income is taxed by bracket with marginal rates. In other words, if you're earning under $249,999 a year today, you're just on the edge of being bumped up into the next tax bracket. Many people think that they stand to lose money if they are bumped into the next bracket, but this is simply not the case. Let's do a quick run-through of how this would work:

Say you're making $249,999, so you're just shy of the top marginal rate of 35%. Should you be afraid of making even 10 more dollars in income, lest your entire fortune be subjected to the higher rate of 35%? No! Not even close. What so many people seem to think is that income taxes work like this:

$249,999 taxed at 33% = $82499.67

If they made ten more dollars, they think that their tax liability would become:

$250,009 taxed at 35% = $87503.15

Sounds like a pretty raw deal, right? Wrong. That isn't how income taxes work. Once you pass that $250,000 threshold, only the money you make above that $250k mark is taxed at the new rate, so really the extra taxes you'd pay would be about $3.50, not $5,003.48. My example was a bit simplified, because realistically, the first $10,000 or so would be taxed at 10%, the next $20,000 at 15%, and so on up until the top rate was reached. So really, the tax burden is even lower than that. In any case, you get the idea, I'm sure.

This is something I've often seen in debates, news articles, and things politicians say. They seem to think that somehow, small business owners who are in the $200-250k income bracket are paying 1/3 of their income in taxes. This is not even close to being true. Unfortunately, people like Grover Norquist like to capitalize on this misconception and reinforce it so that people further misunderstand how federal income taxes work. 

And you always hate what you don't understand. 

P.S. This isn't to say that people should love taxes (I don't), but deliberately spreading misinformation about them won't get us any closer to making our tax code any better.

P.P.S. I find great irony in the fact that one of the biggest obstacles to tax reform in this country is a group called Americans for Tax Reform. (quote semi-lifted from Jon Stewart)