The Healthcare Fix

The MIT Press

Chapter One

The status quo, we're conditioned to believe, is the safe bet, the conservative option, the riskless alternative. But when the status quo involves driving off a cliff, maintaining course is the risky, radical, indeed suicidal choice. The United States is now engaged in precisely this behavior: perpetuating a suicidal status quo. Its policies, primarily those connected with Medicare, Medicaid, and the rest of the healthcare system, are driving the country to fiscal, financial, and economic ruin. The only question is when the crash will occur and who will be in the passenger seats.

Financial markets appear to have no inkling of what's coming. But these markets often need a two-by-four across the forehead to come to their senses. This is one of those times. Long-term U.S. Treasury yields are remarkably low when, in fact, the United States is facing bankruptcy and will surely end up printing vast quantities of money to meet its bills. This prospect should be driving interest rates through the roof. Bankruptcy is a strong word and not to be used lightly. It's particularly hard to justify when the economy is growing well, the deficit is shrinking as a share of national income, and the stock market is rising. But economic growth and rising stock markets don't preclude economic collapse. Recall that the Great Depression followed the Roaring Twenties. And consider Argentina's decade of outstanding growth and stock market appreciation prior to its economy going belly-up in 2002 thanks to a financial crisis precipitated by a fiscal crisis. As with physical health, when it comes to economic health, what you don't see can hurt you, even kill you. What the politicians and public don't see, or don't want to see, are the enormous future fiscal obligations facing the U.S. government. These obligations are gargantuan for two reasons. First, we have 77 million baby boomers heading inexorably into retirement and relatively few workers coming up behind them. When the last of them retires, in roughly twenty-five years, we'll have twice the number of retirees we have today, but only 18 percent more workers to help support them. Second, in twenty-five years, the combined benefit payment to retired baby boomers through the Medicare, Medicaid (state as well as federal) and Social Security programs, which I denote the MMS benefit, will average well over $30,000 measured in today's dollars. Thirty thousand dollars is incredibly high. It's more than three-quarters of current per capita income, the standard measure of our nation's living standard!

Could a time come when Uncle Sam provides the elderly, on average, benefits that exceed three-quarters of per capita income? Yes. In fact, Uncle Sam is already doing just that. Today's MMS payment per elderly is $30,304, which is 79 percent of the current $38,367 level of per capita income.

Uncle Sam wasn't always this generous. In 1965 the MMS payment to the elderly averaged only 28 percent of per capita income. But over time Uncle Sam has opened his wallet. In 1980 he handed the elderly average MMS benefits equal to 63 percent of per capita income. By 1995 his generosity had reached 76 percent. And today it's 79 percent.

The Giver Who Keeps On Giving

Clearly Uncle Sam is on a roll, and there's every reason to expect his largess to continue. Indeed, in adding prescription drug coverage (Part D) to Medicare, Uncle Sam helped ensure that MMS benefits at the end of this decade will equal 83 percent of Americans' standard of living. And based on the intermediate projections of the Congressional Budget Office (CBO), the MMS payment will grow to 88 percent of per capita income by 2020, 91 percent by 2030, 98 percent by 2040, and 106 percent by 2050.

Today's fifty-year-olds were born in 1957, smack dab in the middle of the baby boom. In 2035, they'll be smack dab in the middle of their retirements. Their MMS benefit in that year, measured in today's dollars, will average $50,540, two-thirds higher than today's average.

Multiply 77 million baby boomers by $50,540, and you arrive at an annual aggregate MMS payment in 2035 of $3.9 trillion. That's one colossal amount. To put it in perspective, it's 30 percent of our current $13.3 trillion gross domestic product (GDP).

Of course, twenty-five years from now is a long time, and our economy will be much larger than it is today. But it won't take twenty-five years for the total MMS costs to become exceptionally large compared to GDP; indeed, they're already very large.

Back in 1965 MMS costs represented 2.5 percent of GDP. Today they represent 9.4 percent. In a decade, they'll constitute 11.9 percent. By 2020 they'll be 13.6 percent. In 2035 they'll represent 18.4 percent. In 2050, they'll total 21.8 percent.

These programs aren't free. They are paid for with payroll and income taxes. Hence, scaling up MMS spending relative to the size of the economy by a factor of 2.3 (21.8 divided by 9.4) between now and midcentury means scaling up the tax rates needed to pay for these programs by a huge factor as well.

The main cost culprits are Medicare and Medicaid. The reason is simple: their benefits levels have risen and are expected to continue to rise much more rapidly than social security's. Today Medicare plus Medicaid expenditures represent just over half of total MMS spending. But by 2035, the Medicare plus Medicaid share of MMS spending will reach two-thirds. By 2050 it will reach 70 percent.

If moving from spending 9.4 percent of our nation's output on the elderly to spending 21.8 percent sounds problematic, it is. But given the way Medicare and Medicaid are structured, we'll be incredibly lucky to get away with this size increase. The CBO's intermediate projection, which entails the rise in the MMS-GDP spending share to 21.8 percent by midcentury, assumes that Medicare and Medicaid benefits per beneficiary grow in the future at a rate that is only 1.0 percentage point higher than the growth rate of per capita GDP. That's a truly heroic assumption given that over the past three-plus decades, the differential has been not 1.0 percentage point but 2.6 percentage points.

When the CBO assumes higher spending on Medicare and Medicaid (a 2.5 percentage point rather than a 1.0 percentage point differential), the MMS benefit level rises from its current 79 percent share of per capita income to 90 percent in 2015, 96 percent in 2020, 107 percent in 2030, 129 percent in 2040, and 159 percent in 2050. Total MMS spending rises from 9.4 percent of GDP today, to 20.5 in 2035, to 28.5 percent in 2050.

Paying the Piper

Can our country afford to allocate an ever increasing share of its output to the care and sustenance of the elderly? Clearly no. The cost of paying for this largess, given everything else the country has on its plate, far exceeds the capacity or willingness of current and future taxpayers to pay.

The elderly are surely highly valued. Indeed, they are in many ways revered members of our society. But they are not the majority of the population and never will be, notwithstanding the significant aging of our country. Indeed, according to current projections, the elderly will never constitute more than one-quarter of the population. The rest of the population-the children, teenagers, young adults, and the middle-aged-have their own economic and healthcare needs. And these needs have become more pronounced with the rise in healthcare costs, the ongoing decline in health insurance coverage, and the relative and, in many cases, absolute declines in the real incomes of the poor and the middle class.

Since 1970 the elderly have received, on average, real (measured in today's dollars) Medicare and Medicaid benefit hikes of 4.6 percent per year. At the same time, the workers paying for these benefits have experienced real increases in total compensation per hour of only 1.7 percent per year. In the past fifteen years, the MMS benefit has risen in real terms by almost 52 percent, whereas median household income has risen by less than 12 percent.

Moreover, much of the increase in total compensation per hour has taken the form of higher employer payments for health insurance, which hardly feels like getting a raise. Leaving out employer-paid health insurance premium payments and other fringe benefits reveals something truly striking: workers have seen their real wages decline over time at the same time the elderly have been enjoying benefit increases. Average real hourly wages are now actually 3.4 percent lower than they were in 1970. In comparison, the real MMS benefit is 200 percent larger today than it was in 1970.

As the elderly have sat back and enjoyed ever greater healthcare benefits-extra benefits that will have to be paid for by today's and tomorrow's workers-working families have experienced more and more difficulty protecting themselves financially from adverse health events. Today 47 million Americans, almost all of working age or younger, have no health insurance. In 1987 the number of uninsured was 32 million. Thus, in two decades we've seen almost a 40 percent rise in the number of uninsured.

Think about 47,000,000. It's an enormous number on its own terms, but also relative to the number of young and middle-aged Americans. Since there are 267 million Americans under age sixty-five, we're talking about almost one in five working-age and younger Americans having no health insurance. Lots of our uninsured compatriots are very young; they are children. Indeed, more than 8 million of America's uninsured are below age nineteen.

What happens when uninsured folks show up at the emergency room with no medical insurance? It used to be they'd be seen and sent the bill later. That's no longer the case. Today many hospitals require that the uninsured charge their treatment. This explains why one in five low- and middle-income households now report charging major medical expenses on their credit cards. When these households fail to pay their hospital bills, it's not the hospital they stick with the bills. It's the credit card companies. And the credit card companies aren't in the habit of getting stuck. They have no compulsion against charging fantastically high interest rates on outstanding balances and forcing delinquents into bankruptcy.

What a marvelous country we live in. All of a sudden your gallbladder goes south, you are in terrible pain, you barely make it to the hospital, you have surgery, and after the anesthesia wears off, you're presented with a staggering bill that puts you into bankruptcy and hands over your house to the credit card company.

Why Remain Uninsured?

Why, you might ask (if you aren't currently paying for your own health insurance), would anyone remain uninsured if that choice entails so much financial risk? The answer is that buying health insurance on one's own (outside of an employer's plan) is astronomically expensive. Today Blue Cross Blue Shield is charging a family of four living in Boston $19,757 to buy a plan with full coverage. United Health is charging $45,166, an amount larger than U.S. per capita income.

The average premium costs to employers of insuring the health expenses of their employees and their families is lower but still incredibly high: over $12,000 per worker for large firms with 200 plus employees. Small businesses with fewer than 200 employees aren't so lucky: they pay 80 to 90 percent of the price charged to individual purchasers of health insurance. If all this weren't bad enough, rising healthcare costs are driving American companies broke. Collectively, our nation's firms are now paying some $500 billion annually in employee and retiree health insurance premiums and health expenditure claims (in the case of companies that self-insure). It's no coincidence that Ford Motor Company is spending over $3 billion per year for healthcare for its retirees and current workers, that these costs are rising annually in real terms at roughly 6 percent, and that it is in the process of laying off 40 percent of its workforce. Nor is it a coincidence that General Motors is sitting on a $15 billion healthcare liability.

Most economists would counter that in providing health insurance to its employees, GM, Ford, and other companies are simply paying their workers in a different form, so that rising healthcare expenditures are really coming out of workers' pockets in the form of lower regular wages than would otherwise be the case. There is, surely, much truth to this observation. But what it overlooks is that American companies are engaged in either explicit or implicit long-term contracts with their workers under which they've agreed to bear certain risks, including the risks of paying for rising health insurance premiums (or rising healthcare costs, if they are paying for healthcare directly). Indeed, there are millions of retired autoworkers who are receiving healthcare based on past promises by their firms. Few of the firms paying these healthcare benefits anticipated the type of healthcare inflation we've seen in recent years. They can't lower their retirees' wages because they are already as low as they can get, namely zero. None of these firms have any recourse other than paying for these benefits or reneging on their obligations by either refusing to pay (a perfectly legal option for most companies) or going out of business.

Many employers are starting to wise up and get out of the highly risky business of providing health insurance coverage for their workers. In 2000, 66 percent of nonelderly Americans were covered by employer-based health insurance. Today's figure is 59 percent. Employers that continue to offer health insurance are beginning to renege on their implicit contracts by asking their employees to pay for ever larger shares of the premiums. As a consequence, millions of U.S. workers are declining coverage in their employers' plans. So yes, much of what has the appearance of higher employer costs is starting to come out of the hides of employees. But during this transition period, much is also coming out of the hides of firms that are fulfilling their part of explicit or implicit contractual relationships, leaving them with fewer resources to invest in their operations.

What Can't Go On Can Stop Too Late

Herb Stein, the distinguished economist, used to say, "What can't go on will stop." That's absolutely true. But when it comes to growth in public and private healthcare costs and the effects of this on individual welfare, employers' bottom lines, and our nation's overall finances, what can't go on will stop too late.

Take the MMS benefit. The level of this benefit is already so high that were it simply to remain steady over time at 79 percent of per capita income, the aging of our population would, by midcentury, raise the share of GDP spent on MMS from 9.3 percent to 14.7 percent. That's 5.4 more percentage points of GDP. To put this figure in perspective, total FICA tax revenues (total receipts from employer plus employee Social Security Old Age Insurance Disability and Health Insurance contributions) currently amount to only 6.4 percent of GDP. So just the aging of our population will eventually require close to a doubling of our current 15.3 percent combined employee-employer payroll tax unless we make provision in advance.

The Overall Fiscal Gap

Given a projection of future MMS spending as well as all other government expenditures, how does one tally up total future spending and compare the size of this fiscal bill with all the tax and other receipts the government can expect to collect in the short, medium, and long runs? The answer is called the fiscal gap, which equals the value in the present (the present value) of all the government's projected future expenditures, including servicing the national debt, minus the present value of all the government's future taxes.

(Continues...)

---

Excerpted from The Healthcare Fix by Laurence J. Kotlikoff Copyright © 2007 by Massachusetts Institute of Technology. Excerpted by permission.
All rights reserved. No part of this excerpt may be reproduced or reprinted without permission in writing from the publisher.
Excerpts are provided by Dial-A-Book Inc. solely for the personal use of visitors to this web site.

---