Asymmetrical Information - Megan McArdle

01.07.13

Do We Have a Spending Problem, or a Health Care Problem?

We're spending a lot of money on health care. But there's no easy way to stop.

That's how James Joyner frames the conflict between John Boehner and the president. Joyner sides with the president on this one:  

While neither is completely right here, Obama is much closer. If we did nothing else, the deficit would largely disappear if we could get our healthcare costs down to the levels of our Western European counterparts. In addition to the obvious—Medicare, Medicaid, and VA hospitals—health care is everywhere in the federal budget. It’s a significant added cost for all of our civil service and military employees. It’s a massive added cost in maintaining our burgeoning military and civil service retiree populations. Plus, we’d take is radically more tax revenue without changing anything in our tax code if business weren’t writing off huge health insurance expenses.  

It's true that healthcare spending is a big part of the government's budget, but not quite as large as this implies.  Here's 2011 spending compared to two revenue figures: 2011 actual, and 2014 projected:

And here's the percentage breakdown:

As you can see, healthcare is not anything close to our largest spending category; the largest expenditure is on straight transfers to various folks, most of them older.  

Beyond that, I'm not sure what it means to say that we don't have a spending problem, except for the money we spend on healthcare.  It's like saying that I'm rich--except for the money I have to spend on food and mortgage.  If I could get my housing costs down to what my house cost in 1995, or my grocery bill down to 1995 levels, the McArdle-Suderman household would be sitting pretty.  Unfortunately, I don't know any way to do that.  

But over the course of the health care reform debate, Democrats and liberal policy wonks have insisted--outright or by implication--that we do know how to get spending levels down to Western European levels: just have the government take over, the way they have in Western Europe.  This is a little bit like thinking that I can get my housing costs down by wearing shortalls.  

No, maybe, that's not quite fair: governments in Western Europe did use price controls to hold down the cost of health care.  But the operative words are "hold down"--now "lower".  It is much easier to keep a price from rising than it is to push it down after it's risen.  That's why pay freezes are common during a recession, and mass pay cuts aren't.  

But it's not even that easy to hold down health care costs, which is why our counterparts in Western Europe are having such trouble doing it.  Behold the rate of per-capita cost growth in the OECD from 2004-2010.  


The United States is solidly in the middle of the pack--on the low side, in fact.  This is what it looks like over time:  


I've punched up the bright red line that represents the United States.  Again, note that we are far from the top of the heap.  

So why are our costs so high?  Noah Millman did an excellent post on this a while back.  The answer is that we had a big burst of cost inflation in the 1970s and 1980s, which means that while our rate of health care cost growth is lower than that of many other countries, the level off of which they are growing is much higher:  

We got into this mess primarily because our per-capita health-care spending growth rate didn’t slow as quickly as our peer countries. Back in 1972, American health care was already dramatically more expensive on a per-capita basis than the British system, which operates very differently. But it was only modestly more expensive than Danish, Swedish, Canadian, German or Swiss health care. And health care expenditures were rising across the board in this period. From 1972 to 1978, American health care expenditures per-capita grew by a bit over 12% per year. But German per-capita expenses went up by 14%. British per-capita expenses went up by just under 12%. French per-capita expenses went up by over 13%. Swiss expenses went up by 11.3%. And this was the era of double-digit inflation; similar increases in prices and wages in all sorts of sectors were normal.

The problem is that America maintained a very high rate of growth in per-capita health care expenses well into the 1980s, well after inflation in general was tamed, and didn’t bring our growth rates down to internationally comparable levels until the 1990s. From 1978 to 1984, America’s per-capita health-care expenses grew nearly 12%, versus a bit over 8% for the Netherlands and a bit over 9% for Germany. In the next six-year period, America’s expenses grew over 9%, versus less than 7.5% for the Netherlands and a bit over 5% for Germany. Similar comparisons obtain with Switzerland, Canada, Belgium, the UK, France. It was in the 1980s that American health care went from being modestly more expensive than other wealthy countries with mixed public-private systems, to being wildly more expensive than other wealthy countries with mixed public-private systems.  

There's all sorts of argument over why this happened, but you can't put it strictly down to our lack of a public system--in the early years, the explosive growth of Medicare contributed substantially to cost growth.  But even if we knew why it happened, it wouldn't then follow that we could fix it now.  Health care costs are path dependant; you can't just hit the reset button and decide we'd rather do it West Germany's way.  America does all sorts of things more expensively, from medical education to staffing levels to private hospital rooms instead of wards.  Some of those things can't be undone at all (the hospitals that have been built with private rooms cannot easily be retrofitted for cheaper open wards). Others cannot be undone without brutal political fights: doctors and nurses have planned their whole lives around the higher-than-OECD-average-wages that their services command in the United States, and they will not give in without an ugly fight.  Still others are the byproduct of social service structure and our legal system: deinstitutionalized mental patients who end up living on the street cost a fortune to treat, but courts have decided that it would violate their constitutional rights to commit them, and state governments have proven unwilling or unable to do what it would take to keep them medicated and housed.

The good news is that health care costs seem to be growing more slowly.  The bad news is that this is probably due to the recession, not to some sort of natural decline in our propensity to spend money on the medical system.  If growth picks up, cost growth will probably pick up too.  And if growth doesn't pick up . . . well, we're in an even worse pickle.  Faster-than-inflation cost growth is trouble even in a rapidly growing economy; in a slowly growing economy, where people are fighting more fiercely over their share of the pie, it is both politically and economically problematic.  

In other words, yes, we have a spending problem.  It's not a huge spending problem if we want to raise taxes to Nordic levels and (most of us) accept permanently reduced consumption in exchange for a bigger government.  I myself don't favor that solution, but mathematically, the books would balance if we decided to tax away 50-60% of our national income.  

However, I gather that most of my fellow countrymen do not want to balance the books that way; instead, we just passed a fiscally irresponsible permanent extension of the Bush tax cuts for almost everyone.  Which means that we have a spending problem.  Cuts to healthcare spending will probably be part of the solution.  But those cuts will not be easy, no matter how wonderful they look in Western Europe.