Why Reduce Health Care Costs?

By Frank Pasquale
In Drug Pricing
April 21, 2011
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drugcostsOne rare point of elite consensus is that the US needs to reduce health care costs. Frightening graphs expose America as a spendthrift outlier. Before he decamped to Citigroup, the President’s OMB director warned about how important it was to “bend the cost curve.” The President’s opponents are even more passionate about austerity.

Journalists and academics support that political consensus. Andrew Sullivan calls health spending a “giant suck from the rest of the working economy.” Gregg Bloche estimates that “the 30% of health care spending that’s wasted on worthless care” is “about the price of the $700 billion mortgage bailout, squandered every year.” He calls rising health spending an “existential challenge,” menacing other “national priorities.” Perhaps inspired by Children of the Corn, George Mason economist Robin Hanson compares modern medicine to a voracious brat:

King Solomon famously threatened to cut a disputed baby in half, to expose the fake mother who would permit such a thing. The debate over medicine today is like that baby, but with disputants who won’t fall for Solomon’s trick. The left says markets won’t ensure everyone gets enough of the precious medical baby. The right says governments produce a much inferior baby. I say: cut the baby in half, dollar-wise, and throw half away! Our “precious” medical baby is in fact a vast monster filling our great temple, whose feeding starves our people and future. Half a monster is plenty.

But when you scratch the surface of these sentiments, you have to wonder: is the overall level of health care spending really the most important threat facing the country? Is it one of the most important threats? There are many ways to raise revenue to pay for rising health costs. Aspects of the Affordable Care Act, like ACOs and pilot projects, are designed to help root out unnecessary care.

I am happy to join the crusade against waste. But why focus on total health spending as particularly egregious or worrisome? Let’s explore some of the usual rationales.

Terrible Tax Expenditures and Suspect Subsidies?

Employment-based insurance gets favorable tax treatment, and much Medicare and Medicaid spending is drawn from general revenues. So, the story goes, medicine’s big spenders don’t have enough “skin in the game.” Once health and wealth are traded off at the personal level (as the Harvard Business School’s Clayton Christensen advocates), people will be much less likely to demand so much care. Government can attend to other national priorities, or individuals will enjoy higher incomes and will be free to spend more.

I respect these arguments to a point, but I worry they partake of the “nirvana fallacy.” If I could be certain that leviathan would repurpose all those wasted health care dollars on infrastructure, or green energy, or smart defense, or healthier agriculture, I’d be ready to end tax-advantaged health insurance in an instant. But I find it hard to imagine Washington going in any of these directions presently.

Giving tax dollars back to taxpayers also sounds great, until one processes exactly how unequal our income distribution is. In 2004, “the top 0.1% — that’s one-tenth of one percent — had more combined pre-tax income than the poorest 120 million people.” To the extent health-related taxes are cut, very wealthy households may see millions per year in income gains; the median household might enjoy thousands of dollars per year. Sure, middle income families will find important uses for those funds (other than bidding up the price of housing and education). But at what price? What if the insurance systems start collapsing without subsidies, and more physicians (who are already expressing a desire to work less) start seeking out pure cash practices? A few interactions with the the very wealthy may be far more lucrative than dozens of ordinary appointments.

Consider the math: billing a $20,000 retainer from each of 50 millionaires annually may be a lot more attractive to physicians than trying to wrangle up 500 patients paying $2000 each—or, worse, getting the money from their insurers. There are about 10 million millionaires in the US; that’s a lot of buying power. One $10,000 score by a cosmetic dentist from such a client could be worth 400 visits from Medicaid patients seeking diagnostic procedures. Providers are voting with their feet, and a Medicaid card is already on its way to becoming a “useless piece of plastic” for many patients. Given those trends, simply reducing health care “purchasing power” generally risks some very troubling outcomes for the very people the health care cost cutters claim to protect. No one should welcome a health care plutonomy, where the richest 5% consume 35% of services, regardless of how sick they are.

Is Anyone Underpaid in Health Care?

Health commentators rightly draw attention to big insurer CEO paydays. Top layers of management at hospitals and pharma firms are also getting scrutiny. Wonks are up in arms about specialist pay.

But for every high-flying specialist making over $1 million annually, there’s probably at least one primary care physician struggling to pay med school loans. For every Aetna CEO grabbing $20 million per year, there are thousands of poor home health care workers. A JAMA study estimated that, by 2020, “the United States could face a shortage of up to 800,000 nurses and 200,000 doctors.” The usual solution to a labor shortage is higher, not lower, pay.

A US gastroenterologist’s pay may seem extremely high compared to a French one’s, but may be well below that of a 24-year old bond trader making $800,000 two years out of college. If we’re going to shrink a sector, maybe we should focus on finance first, as the Kauffman Foundation suggests.

Again, I have no quarrel with countless studies showing fraud, abuse, and waste in the health care sector. I find it hard to believe how many unproven treatments and devices are business successes and public health failures. But I have no idea whether funds now spent on them should be reallocated to other health care initiatives, or kicked out of the sector altogether. For example, what if half the current funds dedicated to erectile dysfunction or baldness cures went to antibiotic research? I’d be much happier to see that reallocation than to see drug researchers simply close up shop and move to cosmetics firms.

Unlimited Growth of Health Care Costs?

Bloche, however, thinks that health care costs are still a problem, even if all waste were eliminated:

Even if it were possible to slash the entirety of the 30% spent on useless care, plus the 10% spent on excess administration, the resulting savings would pale by comparison with the cost control challenge ahead. Suppose (implausibly!) that a package of reforms [could eliminate this 40% in 5 years]. That’s a formidable accomplishment, but it would only temporarily offset the 5 to 10 percent annual increase in health spending that’s been near-constant over the past few decades.

Bloche therefore worries that health care could go from 16% of GDP (as of 2007) to 30% or more, a percentage he appears to regard as outrageously high. But would that number alone, as a feature of the US economy, doom us? Or even significantly impair the US in, say, 2020?

Here, some historical perspective (and forward-thinking extrapolation) are helpful. As David Cutler has noted, experts used to fret that an economy that spent 10% of its GDP on health care was unsustainable. Cutler offers the following assessment of a world where health spending takes up 25% of income:

While that amount seems clearly excessive, there is a good reason not to worry: people in the future will earn more than people do today, and that will make their spending burden smaller. . . . [The average] family is expected to earn nearly $75,000 by mid century. Even if medical care took one quarter of that amount (nearly $19,000), non-medical consumption would still be large. In fact, it would be significantly greater than today.

The trade-off we face is that if we have more rapid medical spending, we get slower increases of everything else – new cars bought less frequently, less frequent updating of new computers, houses being built with a longer delay, and so on. People have different views about whether that is reasonable, but I see no reason that this trade-off cannot be made.

The typical American family will continue to be able to afford increased medical spending, but not all families will. Those at the bottom of the income ladder will find it increasingly difficult . . . [and] government will have to help [them] afford insurance.

Admittedly, Cutler may be too sanguine about health cost increases. Imagine a future where basic commodities, such as oil and food, cost far more than they do now. In that scenario, even middle-class families will find their paychecks inadequate to support a bloated healthcare infrastructure. Some economists might welcome that possibility. For example, David Dapice has argued that “lowering US health care costs may help the world:”

US healthcare costs are nearly double that of other developed nations, and are without any attendant benefits: US life expectancy is no greater. . . .In one sense, the US is starving investment in growth by swallowing up so much of the world’s savings. With a lower budget deficit, capital flows that are directed to funding US debt might now go toward developing nations. . . .

But we should think clearly about why commodities might become more expensive for the US. Part of the answer is a long overdue “global rebalancing” of buying power. Perhaps the US could continue to import a disproportionate share of the world’s oil if its productivity were equally disproportionate. But that is not the case; we persistently run trade deficits. The easiest way to cure these deficits is to devalue the dollar, but as that happens we should expect higher prices for oil and all that is based on it. Our vaunted “weightless economy” only persists thanks to the recycling of petrodollars and loans from China and other creditors. In this respect, Michigan is the canary in the coal mine, learning that the new economy needs some old foundations:

The sputtering Michigan economy is dragging down the state’s once-strong health-care system, offering a preview of how a lingering recession could corrode Americans’ hospitals, savings and health. . . . Years of auto-industry layoffs and benefit cuts to white-collar retirees have left hundreds of thousands of Michigan workers . . . without employer-provided health coverage. . . .

The seven-hospital St. Joseph system lowered its operating margin and projects it will cut $60 million from next year’s budget, about 7% of its revenue. The William Beaumont Hospital system, which traditionally attracted well-insured patients at its hospitals in the affluent suburbs of Grosse Pointe and Royal Oak, reported its first net loss last year.

In other words, the expense of the health care sector may be less a sign of its own lack of efficiency, than of the rotting foundations of the manufacturing and other sectors surrounding it.

Inequality also plays a major role here. Health costs may seem astronomical because most workers’ contributions to their sectors’ productivity have been captured by their top managers:

Globalization is making U.S. companies more productive, but the benefits are mostly being enjoyed by the C-suite. The middle class, meanwhile, is struggling to find work, and many of the jobs available are poorly paid. . . . [T]echnology has had a “polarizing” impact on the U.S. work force – it has made people at the top . . . better paid and hasn’t had much effect on the “hands-on” jobs at the bottom of the labor force. But opportunities and salaries in the middle have been hollowed out.

To the extent US workers are competing head-to-head with those in less developed countries, they can expect their health benefits (like their wages) to converge with their competitors’. Wasunna and Callahan have described the stark features of those catch-as-catch-can, cash-based systems. Journalistic accounts also give a sense of how bleak a “low health costs” equilibrium can get. A doctor in China might refuse to fix a grandmother’s broken hip until she deeds over the family home; hospitals may balance the benefits of rationed care against the risk of angry mobs. That is cost-containment with a vengeance.

A Humane Endgame for Global Rebalancing

So, to recap: we are in the midst of a global rebalancing of purchasing power. Maybe Americans spend too much on health care, but our trade and budget deficits, and consumer debts, indicate we spend too much on many things. That borrowing isn’t mere profligacy; rather, it reflects a deeper pathology in our economy. Whether we solve that pathology by becoming more export-oriented, or autarkic, a few humane groundrules should govern future discussion of America’s economic possibilities, and the place of health spending in them.

In a global labor market, all workers gain when those at the bottom get more access to basic care. Today’s managers confront workers with tough choices: “Strike, and you’re fired. Don’t strike, and your pay is probably going to be cut. Don’t like it? Sorry, we can open a plant abroad.” If the plants abroad have to offer some kind of health care, that is at least one small buffer against a broader “race to the bottom.”

Global rebalancing can be a positive sum game. But there have been painful transitions toward it, and these will only get more painful in the short run. That sacrifice must be shared. You should not propose a general reduction in health care spending to address the deficit without simultaneously proposing new revenues from those at the top of the winner-take-all economy.

Finally, let’s focus on the real problem: wasted care, rather than some magic number of 10 or 20 or 30% of GDP going to the medical sector. If our cable TV, food, furniture, and other bills shrink over the coming years, and health care looms comparatively larger in our budgets, that’s not necessarily a problem. Ask anyone who’s been gravely ill: there’s not much you can enjoy if you’re in constant pain or discomfort.

Photo Credit: Anolobb.

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3 Responses to “Why Reduce Health Care Costs?”

  1. […] adequate supply are moving at a snail’s pace, thanks both to truculent manufacturers and the bipartisan drumbeat to “cut health care costs.” But at least some folks are thriving: as the NY Times […]

  2. […] see two takeaways from this sad situation. First, the next time someone says that generic “health care costs” are too high, consider whether they really mean we need to reallocate funds from less productive […]

  3. […] see two takeaways from this sad situation. First, the next time someone says that generic “health care costs” are too high, consider whether they really mean we need to reallocate funds from less productive […]

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