Comparing the health plans Notes for October 7

Main points

We tried to isolate the major differences between the Obama and McCain health plans.

Obama’s plan tries to keep the present system in which most people get health insurance through their employers. He seeks to mitigate one of this system’s disadvantages through a combination of subsidies and mandates to encourage greater coverage. In particular, firms would have to either provide health benefits or pay into a federal health system; small businesses are exempt from this requirement, but would be subsidized for offering health insurance to their employees. Insurance companies would have to offer “community rating,” which would limit their ability to exclude people from coverage based on how likely they are to get sick.

McCain’s plan tries to move away from the present system towards one in which health insurance is purchased by individuals. He would replace the tax subsidies for health benefits with a tax credit. The idea is that health benefits would be treated just like wages; today, they are separated from wages and not taxed. Many employers would continue offering health benefits to their employees for the reasons given in the second Blumenthal reading. But the hope is that many will switch to offering their employees cash instead. The employees would buy health insurance with the additional wages. In either case, the tax credit would offset the difference in taxes; it is not primarily for buying health insurance, though that’s what many people, including the candidate, say.

Cost and coverage for McCain

Cost and coverage are linked. As the cost of health insurance goes up, coverage will go down. This linkage works in different ways for the two plans.

The McCain plan tries to increase coverage by lowering costs. Its theory is that costs are being driven by overconsumption: under the employer provided system, people are shielded from the true cost of health care and so consume more of it than they really need. Shifting the decision about how much health care insurance to buy onto individuals will mean that they will consume less. If that slows down costs, then more people will be able to afford health insurance than would otherwise be able to do so.

The main problem for the McCain plan is adverse selection: insurance companies will avoid offering plans to those who are likely to be sick. The cost of health insurance to the healthy will go down as they are offered health insurance plans that don’t have to cover sick people. But the cost of health insurance to the sick will increase for the opposite reason: they will be offered health insurance plans that don’t cover any healthy people. In the end, the chronically ill will be covered by the so-called GAP plan, that is, a socialized health plan. So many of the costs will just be pushed around. If you’re healthy, you’ll pay less for insurance, but more in taxes.

What will happen to the cost of health care in the system as a whole? The theory behind the McCain plan is that there is enough excessive coverage being purchased to make a significant difference. That is, leave the chronically ill out of it and just look at people with the normal range of risks to their health. The theory is that the current system purchases more insurance for these people than they want or need. If they make the decisions themselves, they will shift money from health to something else, like housing, and avoid paying for unnecessary care. By paying less for unnecessary care, costs in the system as a whole will go down. That’s the theory.

Is there evidence in favor of the theory? The RAND study, referred to in both the Blumenthal (p. 196) and Furman articles (p. 624), suggests that there is. People buy less when they’re making the decisions. I have two questions, though.

First, would it be a significant change in cost? As the Mongan article pointed out, 10% of patients account for 70% of costs (pp. 1510-11). I’m guessing that they aren’t going to be the ones who buy less insurance. Of course, what we care about is the growth of costs and it isn’t obvious that the 10% account for that. Maybe health care costs are growing because of unnecessary coverage. But we need some evidence.

Second, Blumenthal and Furman come to very different conclusions about whether individuals would make good decisions about their health insurance, meaning “good for their health” rather than “economically good”. Here’s Blumenthal:

“The classic, decades-old RAND Health Insurance Experiment confirmed that patients use fewer services when they pay more for them out of pocket, but it also made it clear that patients reduce the use of necessary services (including preventive care) as much as unnecessary services.” (Blumenthal, p. 196).

Furman, on the other hand, says that “evidence from the RAND Health Insurance Experiment (HIE) and other studies suggest that such a reduction in spending would result in little if any worsening in health outcomes” (Furman, p. 624).

Cutting costs is easy. Just give less health care! But that’s unpalatable, for obvious reasons. The trick is to give less unnecessary care. Then you spend less for the same result. So will individual insurance decisions get us there? It would be nice if professionals could read the same study and come to the same conclusion about this central question. Alas, this is not the world in which we live.

Cost and coverage for Obama

The Obama plan tries to increase coverage first. It takes a stab at reducing costs, but doing so is not its central aim. It faces two problems.

First, the fact that health care costs are growing faster than inflation will make it difficult to increase coverage without dealing with costs. That’s one of the McCain plan’s insights. I don’t think I emphasized this clearly enough yesterday.

Second, the Obama plan requires “community rating,” meaning that insurance companies cannot avoid adverse selection by the sick. They have to offer plans to everyone, regardless of how likely they are to become sick. That spreads the cost of using the health system across the insurance pool. However, since there is no mandate in the Obama plan, it risks shrinking the risk pool. That is, younger and healthier people will see the cost of insurance to them go up as they have to participate in a pool with older, sicker people. As their costs go up, some of them will not buy health insurance, shrinking the risk pool.

The Obama plan has a couple of tricky mechanisms for dealing with this. I’m going to let the Obama health group find them, though. (Ask me if you haven’t come across them yet: they’re very clever).

As for the problem of the growth of costs in general, the Obama plan isn’t significantly worse than the current system. By socializing more of health care insurance, it may move us toward being able to control costs. One big purchaser of health care, the federal government, may be able to influence costs more than the fractured firms (see Blumenthal).

Of course, those who are suspicious of social programs, like Tanner, have two fears. They doubt that the government will be willing to limit costs; political pressure will tend to favor increasing coverage regardless of the cost, they think. They also believe that so-called rationing decisions should be made by individuals rather than the government. They fear letting important questions about the quality and duration of life rest in the hands of the politically influential rather than the affected individuals.

Drugs and costs

During our discussion, Nina said that she thought significant savings could be achieved through better pricing for drugs. I said that while I thought that drugs were a significant expense for individuals, they weren’t a significant cost for the system as a whole.

I was partly right and partly wrong. So I want to make a concession to Nina, who was more right than I gave her credit for.

The Mongan article lists malpractice and drug-pricing reform as having the “lowest potential for cost savings.” That’s what I was remembering. The authors’ reasons for saying this are partly economic and partly political. They point out that “pharmaceuticals account for just 10 to 15% of health care spending” and that there is little political appetite for serious controls on pricing (p. 1512). For our purposes, only the first point is relevant and that’s what I hadn’t taken into account. Sorry, Nina.

In the end, though, I might have been closer to the correct answer. Multiply whatever cost savings you squeeze out of pharmaceuticals by 10 to 15%. That’s your total savings to the health system. So suppose you got drug costs down by 20% (which may be ridiculously high or low, for all I know). You would save the overall system between 2 and 3%.

Let’s not forget efficiency!

Economic efficiency was pushed off to the side in our discussion. But it should count! If we’re more efficient, we can produce more wealth with the same resources. That means we’ll have more to spend on everything, including health care.

The McCain plan addresses the inefficiencies of the current system more directly than the Obama plan does.

It’s also worth adding that the Obama plan would add to the cost of hiring employees. When you require firms either to provide health insurance or to pay into the government fund (play or pay), you’re imposing a payroll tax, like the one that funds Social Security. And that adds to the cost of hiring employees. And we know that the more something costs, the less demand there will be for it.

I can’t follow the back and forthing about taxes in the debates, but I wonder if this is what is going on. When McCain says that Obama would raise taxes, he’s at least partly referring to the payroll tax that Obama’s health plan would impose on firms that hire employees. (These are, obviously, indirectly paid for by the employees who forgo wages in order to pay the tax). When Obama says in reply that he will cut taxes for most individuals and businesses, perhaps he’s referring to income taxes, the taxes that are adjusted according to incomes and paid in April. If that’s so, it’s possible that Obama is being more misleading than McCain.

Why the hedging? Because, as I said, I don’t really follow this. I’m just guessing.

Anyway, how much does all of this matter? How much additional productivity would we gain if we did away with the employer based system and funded health insurance for the chronically ill through income taxes? Got me. It may be a huge number. Or it may be one that’s so small as not to warrant the upheaval that this sort of change would involve. What’s true in theory may not add up to much in practice.

I hope I’m making a case for taking some courses in the social sciences.

This page was written by Michael Green for The Election, ID-1, Fall 2008. It was posted October 8, 2008.
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