Philadelphia Reflections

Steep Yield-Curves Subsidize Banks

The steepness of the federal interest rate curve on a graph -- three-month treasury bills pay less interest than ten-year government debt, with yields for intervening time durations sloping from low to high -- is all a carefully maintained function of the Federal Reserve. The slope of this curve in the newspapers quickly summarizes the current Fed policy. The Federal Reserve mainly controls the money supply by issuing or retiring short-term government debt; the effect upon supply by such action raises or lowers short-term rates, which in turn "changes the slope of the yield curve at the short end". The Fed ordinarily ignores the cost of longer-term debt, leaving that to be determined by the public bond markets. Less often, the Federal Reserve buys or sells long-term treasury bonds to modify long-term yields, or to adjust the international value of the dollar. By affecting rates at either end of the curve, change in the curve's slope is the result. Sometimes that's intended, and sometimes it just can't be avoided.

Because banks pay interest to depositors at around the short-term rate, while the same banks charge interest rates to borrowers at about the higher federal long-term rate, the current slope of the curve is said to be the main determinant of bank profits. In fact, banks charge whatever the market will bear, and their profitability mainly reflects the cost of the money, which the Fed has the power to set. Banks borrow short and lend long. If the Federal Reserve artificially cheapens costs for the banks, then bank profits get fattened by public subsidy. Of course, it works the other way as well; in a banking crisis, the yield curve can be forcibly steepened to rescue banks from failure, temporarily sacrificing ideal monetary levels for the purpose. For the most part, what's good for banks is good for the economy; but it turns out bank profits are artificially subsidized much of the time. This artificially widened yield curve eventually punishes retirees and other savers by lowering interest rates on their savings accounts, or else it could punish debtors by increasing the interest rate they pay on mortgages and other credit. For political reasons, the pain is usually shared among voting blocs. It can be argued this subtle subsidy of banks by the public creates the compensating benefit of economic stability despite occasional bubbles and recessions like the present one. However, the Federal Reserve system has operated for almost a century, revealing an enduring bias in favor of inflation, i.e, the subsidy of debtors by creditors. Present policy intentionally allows a steady rate of 2-3% inflation, and the century-long effect of such policy since 1913 has been to increase the price of gold from $17 to $900 an ounce. A penny then is a dollar now, making no allowance for income tax shrinkage of such fictitious gains. Overall, the effect of semi-stabilizing the yield curve is to reward banks and debtors, extracting this subsidy from creditors and retirees. To go a step further, independent of the Federal Reserve but by government action, retirees have been compensated in the past by unearned Social Security payments. The payment imbalance of the entitlement programs is admittedly about to shift in the other direction in a few years. All this is rough math, with many individual exceptions; but the initial effect of the Federal Reserve system is to benefit bank profits at the expense of creditors. If we assume creditors react by demanding higher interest rates to compensate for the cost, bank stability is being maintained by increasing interest rates by 2-3%, mostly paid for by borrowers.

Is this standardless monetary standard worth its inflationary cost? Compared with a strict gold standard, yes, it probably is. A limited supply of gold to support a constantly growing economy once led to deflation and economic instability and would do so again. An economy without a hard monetary standard responds to politics, is inevitably inflationary. The political independence of the Federal Reserve is dubious at best, and constantly under populist attack. So slow steady inflation seems to be one part of the system we can live with, in order to avoid either deep deflations or galloping inflations. Gradual low inflation may well be the best compromise we can devise, assuming the method of achieving it is otherwise tolerable. The 2008-2010 banking crisis, however, may be a moment of discovery that market systems must also be able to rely on the assumption that almost every bidder in an auction is limited by his pocketbook. When two or more determined bidders are eager to buy but unlimited in resources, price ceases to have restraining power and becomes irrational. A marketplace can tolerate a few bidding frenzies, but excessively flexible monetary systems lead to bubbles in small markets, explosions in big ones. Disregard of the price is particularly exaggerated by globalized trading systems, where customary prices are soon forgotten by abstraction within a virtual environment of essentially unlimited bidding power by essentially unlimited numbers of bidders. Forbidding to stop, all bidders but one must run out of discretionary money.

Union, Now and Forever

BIG nations gobble up small ones, so small ones band together. As George Washington observed, when you are strong the others leave you alone. But other forces sometimes make smallness seem more attractive, especially if the nation is already uniform in religion, language, and culture. Nations search for an ideal size for both War and Peace and discover they praise two incompatible sizes. Both the American Revolution of 1776 and today's struggles of the European Union fit a common formula: banding together for military security, then pulling back from declining Liberty. The American experience of a Civil War after eighty years under the Constitution suggests the margin for error is narrow. And enduring; even in the Twenty-first century, it is striking that both little Scotland and that little bit of little Belgium that is Flemish seem willing to sacrifice major economic benefits for what seems to outsiders a minor step for Liberty. But the whole point of the Constitutional Convention then seems to emerge: Nine years previously, thirteen separate sovereignties had been more or less hustled into a military alliance by the appearance of a hostile British fleet. That war was now over, the thirteen had grown accustomed to living together, but the Articles of Confederation had not foreseen a large nation clearly enough in 1776. The Articles did not even provide for an executive branch. In the chaotic conditions of 1787, a calmer choice could be made between breaking apart and unifying, for a different set of reasons based on Peace and Prosperity rather than war: Either surrender some aspects of state power to a real union or let each contentious state confront its future, unsupported. In many ways, it was the vision of Liberty which changed between times of peace and times of war. In 1860 the stakes were higher than in 1787 but the issues were mixed. Industrializing states in the northern part viewed the Union as an economic opportunity. Purely agricultural southern American states were not so sure; in the end, preferring the older set of rules, they took their leap. To the amazement of Southern leaders, the North was ready to die to preserve that Union, and so the demands of warfare reasserted themselves.

Europe

Geography doubtless imposes variable limits for both war and peaceful prosperity, anywhere. Some nations have therefore banded together for military reasons then split apart in local quarrels, more or less regularly. Thirteen American colonies had been afraid to confront Britannia alone, but somewhat overconfidently took on that challenge as a confederation. At the other extreme, little Rhode Island even refused to send delegates to the Constitutional Convention, fearing big neighbors more than remote British rule. Fortunately, similar possessiveness about local perks was unable to collect enough political power to dominate other states. After a year by the time of the state ratifying conventions, however, it was a close call. Peace and prosperity: getting bigger discourages predators, but getting smaller offers sole possession of what you have. Since the United States grew in jumps through most of its history, it probably learned intangible things from alternating episodes of being too big and then too small. Frederick Jackson Turner's thesis of the advancing frontier as a shaper of culture is not greatly different in the essence of its argument.

When ideas of Union first gained traction, both the thirteen American colonies in the Eighteenth century and the twenty-five nations of the Eurozone in the Twenty-First, were dominated by the memory of war. The American objective was the simple one of military parity with a common enemy. The nations of the European Union had a longer view; a seemingly endless cycle of bloody wars sustained their conviction that other wars would inevitably follow unless they did something innovative. National unification on the American model sounded ideal but difficult. Perhaps the habits of cooperation and trade would lead to it. The unexpected decline of the Soviet empire further reduced the fear of war. Pride may also have led to over-reaching; twenty-five is comfortably larger than thirteen, which up to that time was the largest nation merger to survive. But twenty-five is smaller and thus more manageable than the present American fifty. To begin the process with monetary union might produce quick benefits from a source too mysterious to produce much public resistance. Nobody could think of a war started by a monetary dispute.

Justice Blackmun

, Of course, the Europeans expected difficulties from speaking many languages, but they probably still underestimate how far the legal profession has already gone in confining nuanced words to a single meaning; it is essential to their trade. When many languages split off from a common stem, many unaccepted interpretations re-emerge when they are later re-combined. Even without the nuance problem, translation into many languages is a serious expense, which is at least as burdensome as currency exchanges were among multiple sovereignties. By contrast two centuries earlier, the American revolutionaries shared a single language but soon found espionage was an unusually serious problem. Even their enemy spoke English, so sometimes improved clarity itself creates unexpected problems. Indeed, in American disputes about Original Intent, we repeatedly encounter the tenacity of people believing a document says what they want it to say. Vigorous legal advocates think they are paid to marshall every argument weak or strong. Staying within the English language, the evolution of U.S. Supreme Court interpretations often turns on subtle differences in the meaning of simple words. Penumbras and emanations from the word "Privacy" in Roe v. Wade soon force our judges to decide whether abortion within a right of privacy is simply too far from a common understanding of English, in a double way. Both in the discovery of a right to privacy within a document which does not use the word, and then in the inclusion of abortion within that, Justice Blackmun clearly overestimated the capacity of excited citizens to be flexible. Much more surely, he would have overestimated public willingness to grasp his meaning in two-step translations of a foreign language. Since this famous decision is destined to stand or fall, depending on public tolerance for such wordplay, having almost every citizen confidently understanding English is at least one advantage. Parenthetically, we will need every advantage possible. The really serious box which Justice Blackmun put us in, was to invent a Constitutional mandate which thus can only be compromised in a Constitutional amendment. In almost every other conflict, the system of checks and balances permits either the Congress or the state legislatures to soften the conflict with conciliatory modification. The constitutional amendment is already difficult to achieve; inflaming the religious passions of the forty-odd bodies who must agree to amendment makes amendment nearly impossible.

Auto-de-fe

By contrast with important language confusions, "hatreds between nations" are often mentioned as an obstacle to unification but the claim seems largely bogus. Argot and slang are commonly invented to conceal the opinions of a minority group. Over thousands of years, this purpose of "jiving" a secret code among conspirators has been perfected exquisitely. It's hard to overcome, easy to teach children. But the memory of actual wars really dies out rather quickly, not least because atrocities are so hideous, mankind wants to forget them. I was seventy years old before someone told me I had ancestors burned at the stake. By whom? By someone who has also been dead for four hundred years, not likely to seem threatening to me. Over the fifty years since the Second World War, I have run into former German and Japanese soldiers; they now seem pretty benign. One American former prisoner of war was forced to stand at attention while his Japanese captor pulled out his gold teeth with pliers; he told this story with a faint smile. It is one of the benevolence of biology that we are born without memories, and a second is a biological impossibility of remembering the feeling of pain without first re-dramatizing the experience for future reference. Once actual onlookers stop grinding the grievance ax, it should be possible to get on with devising a European constitution, provided it contains a meaningful equivalent of our First Amendment.

Helen of Troy

It's an important point for a proposal unifying two dozen different priesthoods and a number of nations wholly defined by a single religion. A workable constitution for them must contain a strict separation of church and state, because ballads, epic poems, and traditions are synthetic, quite different from actual experiences. Helen of Troy may or may not have had a face that launched a thousand ships, but Homer's Iliad certainly glorified more hatred than she did; who can say whether the poem portrays the truth? That's the war side of things; the Odyssey is powerful in evoking the special virtues leading to prosperous nationhood. Because you can't argue or reason with epic myth, it is the many exaggerated glorifications and exaggerated condemnations by them which supply endurance to patriotic myths, easily reducing macroeconomists of the European Central Bank to tears of frustration. Because the best of these epics stand alone as powerful literature, their propaganda strength is all the more difficult to deconstruct with mere logic. Quoting Arnold Toynbee, it is not weaknesses, but overextension of their finest qualities, which usually brings nations down.

Euro Zone

While true grievances seldom pose obstacles of their own, they do often misdirect political leadership from what is best for their countries. European Unification had a primary goal of eliminating future wars, but its leaders decided the peace goal was achievable only by indirection and began first with monetary tools for prosperity. That takes a long time; America was still fumbling monetarily until the end of the Civil War. So while starting with small victories seems a plausible route to big victories, in fact, it drains much of the idealism out of revolutions by avoiding the cataclysmic issues which justify great sacrifices. Even worse, it here made the financial disaster of the Euro symbolic of tawdry hazards on the road to Prosperity, raising issues of corruption and self-advancement, rather than idealistic sacrifice. At least when you struggle for national security, every day you survive is another victory. There is, of course, no room in past struggles for Americans to gloat over their superior approach to permanent Union. But a defeat is a defeat, and the Euro mess could become a big defeat.

Congressman Ron Paul

From a commentator's perspective, currency matters are difficult to understand and explain. For contrast, the Battle of Normandy is thrilling and awe-inspiring; every death is the death of a hero. But rises in productivity and the risk implications of volatility, seem hopelessly confusing to an economics beginner. Worse still, there exists real uncertainty among experts. We now have a currency which has no backing in precious metals and is really just a book entry. That's useful for transactions, less certainly useful for a storehouse of value. Mr. Ron Paul ran for President of the United States challenging the whole Federal Reserve concept, and a possibility must be admitted that his speeches have a grain of truth. We trust our bankers to devise a workable system of exchange without gold and silver, and readily admit that Mr. Bernanke knows more about it than we do. But. But the world economy nearly collapsed utterly a few years ago, and you know, Dr. Ron Paul might just have a valid point or two. Europe has not yet emerged into a fit environment for enjoying a monetary Crusade to a World Without War. For a striking contrast, just go to any Civil War movie. And watch those teenaged soldier boys charge up the hill, ready to die for the Union.

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REFERENCES

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A Study of History Arnold J. Toynbee ISBN-13: 978-0195050806

Amazon

Comparatively Easy Financing for the Uninsured

Paul Krugman

Paul Krugman has been quoted as saying "Health Savings Accounts will increase the number of uninsured while benefitting only the wealthiest taxpayers." In fact, financing healthcare for the uninsured is pretty simple, if it would use Health Savings Accounts for pre-funded insurance. To do the very simple math (mind the zeroes, please), giving or loaning $5000 to 30 million uninsureds would cost a total of $150 billion dollars, or fifty billion a year for three years. By contrast, the annual deficit of Medicare alone is $250 billion. We'll get to the quibbles in a minute or two, but because most people aren't accustomed to dealing in numbers so large, let me introduce the jab that financing permanent health insurance for the uninsured would be quite a relief, compared with the unsustainable costs looming for the Affordable Care Act. The Federal Reserve currently spends $80 billion, every month, purchasing treasury bonds which perhaps few private investors should buy. The HSA subsidy cost would not be entitled to tax exemption, so it would actually be somewhat cheaper than $150 billion after-tax. This isn't a monthly cost we are describing or an annual one, it's a one-time expense, spread over three years.

To repeat the refrain, this one-time expense if invested would comfortably fund the average lifetime health costs of the uninsured population, except for one thing. The clients would have to buy a high-deductible health insurance policy (but only during the years the account is building itself up after being used), paying benefits in audited costs, not posted charges. People eligible for a subsidy would probably invade the fund for small expenses more than tax-sensitive people do so the statistics on existing use may be skewed. There would be startup administrative costs. State laws mandating small-cost items would have to be re-examined. Before all this cost shifting became popular with hospitals, the AMA offered its members a $25,000 deductible for $100 annual premium.

Yes, there would be an annual in-flow of new uninsured being born or imported, and so there would likely be a mechanism for recapturing the loan from those who move out of the subsidy category, structured so as not to act as an incentive to remain uninsured. No one can possibly predict future cures for disease or their cost/benefit, but that is true of any system. We hope the cures will increase and their costs will go down, but we certainly can't promise it. We can safely predict that reducing the cost of the uninsured would reduce everybody's liability for them, including the wealthiest. But also including minimum-wage earners, for whom a proportional reduction would be much more beneficial and welcome. And -- the 30 million recipients of this subsidy would undeniably be better off. It would, however, be entirely sensible to use part of any savings to reduce the national debt from earlier borrowings.

It would, however, be entirely sensible to use part of any savings to reduce the national debt from earlier borrowings. Furthermore, newspapers relate we have 7 million people in jail, and we steadily produce replacements when they are released. There is a constant inflow of new citizens mentally retarded enough they will never be self-supporting. The local school district where I live spends 8% of its budget on what it calls "special services for the mentally handicapped". The uninsured will always be with us. The American public is spending, and will always be spending, a great deal more on charitable healthcare than it gets credit for. We probably should be spending even more on these problems, but universal health insurance isn't going to do the job.

Without much doubt or dispute, the most serious problems with implementing this funding innovation would come from unanticipated effects, about which its opponents would be happy to expatiate without help from its proponents. In general, unanticipated effects begin to appear slowly, and if we remain alert, they may be minimized. But what about the unanticipated beneficial effects? If we really succeeded in wiping out the main causes of health cost, what then? Since an awful lot of people are employed within 17% of gross domestic product now spent, what in the world do we do with them if the expenditure is seriously reduced? Come to think about it, you really have me, there.

Blue Sky Flying for Congress: What to Do With Money Which Health Savings Accounts Drop in Your Lap

Let's be clear about our role. It is to suggest four or five main ways to rearrange health financing, so enormous sums are available to reduce health costs. Once the money is available, only Congress can decide what to do with it. In fact, my prediction is anything else would be brushed aside as an amateur suggestion. Nevertheless, I have given the matter some thought, and offer my ideas. They begin with leaving the practice of medicine alone, on the grounds that the public will not support any major intrusion into what they consider their private affairs. And my suggestions end with the opinion a change such as I propose can only be done once in a century. So please get it right if you do it.

Starting Young, and Playing With Numbers. The power of compounding is brought out by starting really young, possibly even at birth with a gift from parents. At 10%, money doubles in seven years; at 7%, it doubles in ten. In 65 years there are eight doublings at 10%, six doublings at 7%. The real power of compounding comes at the end of the series. The last three doublings were added in the past century. It makes them eight times as valuable to us as to our grandparents. So, something slow, gradual and unnoticed, creeps up on us before opening an entirely new set of possibilities.

Eight times as valuable to us as to our grandparents.

Three doublings added.

We divide the roughly 85 years of life into three compartments: (1) Children from birth to age 25, whose health expenses are a debt they owe their parents. (2) Working people, from age 25 to 65, who essentially generate all the wealth of society. (3) And over 65, when working income ceases, and living costs are paid from savings generated earlier in life. There are forty years to earn, preceded by 25 years of being supported, and followed by 20 years of living on savings. That's why so much of this book pivots around ages 25, 65, and 85. If you learn it from your parents, you get a head start. If you must learn it for yourself, mostly it's all gone before you react.

Learn from your elders, get a Head Start.

If You Learn for Yourself, mostly it's gone.

Working backward from $80,000 at age 65, you need to start with only $200 at birth with 10% working for you or $1,000 at birth with 7%. What's the significance? If you make a lump-sum payment of $80,000 on your 65th birthday, the lump sum generates what we now assume is the lifetime average cost of Medicare. Translating $200 at birth into $80,000 in 65 years is definitely possible. Figuring out how to translate the money earned into what the average person will spend 65 years later, is too complicated to be precise, but we have learned you always underestimate the change in such a long period. We always underestimate the change, but the cost of it cannot exceed the money we will have. Paradoxically, that may be a little easier. Remember, the stock market averaged 12.7% during the past century, but here we only project a 10% return to an investor, therefore few would dispute results of this financial magnitude are a reasonable goal. I'm not entirely sure what we are predicting, but perhaps it is an invisible limit to the rate of inflation a viable economy can withstand. No gold or silver standard, but perhaps the velocity of money standard. Maintaining a future goal of 3% inflation during the next century, for example, seems entirely within the power of one person, the Chairman of the Federal Reserve. He may fail, and the world economy flies apart, but if it holds together, something like this velocity will have to continue, even if we all are commuting to Jupiter for lunch. The final conclusion would be unchanged: a comparatively minor investment at birth could be fairly comfortably projected to pay for average Medicare costs, half a century from now. You might even get all of Medicare for a single $200 payment; now that's really a bargain. Even $1100 (at 7%) is still a trivial price for retirement with unlimited health care. But remember, we are not promising to pay for it all, just some big chunk that presently isn't paid for. During major inflations such as Germany, Russia and China had, the individual nation disintegrates but eventually catches back up with the rest of the world. Our whole financial system seems to have been stabilized by some such notion for the past four or five centuries.

The Debts of Our Parents. We started by showing it would likely be feasible to assemble $80,000 by the 65th birthday, and that much money on average, would likely pay for Medicare because the relative values will not change unrecognizably in thirty years. Remember, Medicare is spending $11,000 a year on the average Medicare recipient, for roughly 20 years, or roughly $200,000 during a 20-year lifetime after 65. If you start with a nest egg, sickness will slowly wear it down. At the same time, you do make a certain return on your nest egg. The goal is to build the egg up when you are working, so you have something to spare between the interest you make on your nest egg, and the annual cost of the illness. Eventually, the sicknesses win the race, but your task was to stretch things out as long as you can. Eventually, a few people will have to resort to dipping into the last-year-of-life fund (see below), and if things go badly wrong maybe we can only pay fifty cents on the dollar. There is this contingency provision, but it will not be infinite.

Let's examine the concern, which isn't entirely fanciful. Since earning power starts to disappear around age 65, there will inevitably be some people who throw themselves on the mercy of Society with no hope of paying their substantial medical costs. My suggestion is we anticipate this contingency by initially excluding payment for healthcare in the last year of life, which as I have said many times, comes to everyone. Because nearly everyone who dies, is on Medicare, we have pretty good data about the cost of the last year of life. Setting aside the funds to pay for it would allow us to add the cost to our estate or insurance. For those who have somehow escaped pre-payment however, this remains the last final debt and a fairly substantial one. Segregating this debt as the last unpaid one, allows for the people who fall through the cracks, to fall through this one, last. Whether we make this deficit into an unfunded debt of society, or a pre-funded responsibility of a benign society's natural obligations to its citizens, or a debt of society to its medical institutions -- makes only a rhetorical difference. The problem has been concentrated in a single focus, where it can be dealt with as generously (or as tight-fisted), as we choose to appear in the eyes of the world. As envisioned, all other debts are paid before this one, so to some people, it will seem like a contribution to the Community Chest, while others will treat it like highway robbery by welshers and ne'er do wells. But at least we have provided for what we all acknowledge is inevitable.

We estimate compounding will add more revenue, roughly matching the costs of robust stragglers who live from 85 to 91. That is, the growing costs of the elderly are like a longer neck on a giraffe -- rather than a bigger belly on a hippopotamus. Average costs actually go down a little after 85. We assume a fair number of them will be healthy during most of the extra longevity, with heavy terminal care costs merely shifted to 91 instead of 85. We started at age 65, with 65 years of health costs already paid; we paid down the estimated costs of twenty years, and the interest on the remainder pays five more. We get there with money left over, we haven't diverted the premiums from Medicare, and we still have to pay for that last year of life. Except we let Medicare calculate the average cost from the people who decline this gamble, and the fund reimburses the hospital or whatever, for average terminal care costs -- during what is only then recognized to have been the last year of life. If the money from fund surplus isn't enough, the agency can look at raiding the Medicare payroll deduction pool. And there can always be recourse to liberalizing or restricting enrollments, to age groups which experience shows will either enhance or restrict the growth of the fund, as predictions come closer to actual costs. And finally, the last recourse is to have the patient pay for some of his own costs, himself, by re-instituting Medicare premiums. Those who feel, paying for all of the healthcare with investment income was always a pipe-dream, will feel vindicated. But all this book ever claimed was it would reduce these costs by an unknowable amount, which is nevertheless a worthwhile amount.

Whoops, Medicare is Subsidized. A major explanation for the astounding bargain in Medicare funding can be traced to a 50% subsidy of Medicare by the Federal government, which is then borrowed from foreigners with no serious provision forever paying it back. Medicare is:
about half paid for by recipients,
about a quarter paid for by payroll deductions from younger working people, and
about a quarter paid for by premium payments from Medicare beneficiaries, collected by reducing their Social Security checks.

A quarter paid in advance, a quarter paid at the time of service, and half of it a subsidy from the taxpayers at large. No wonder Medicare is popular; everybody likes to get a dollar for fifty cents. But the Chinese might be astonished to hear Medicare described as self-funded, sort of ignoring the repayment of their loan.

America's Big Benevolent Gamble.

Billions for Research

So I'm sorry but if you want to pay your bills, it might cost more than $80,000 on your 65th birthday, based on the assumption that you do want to notice the nation's huge debts run up by your ancestors. And to go further, it will take at least $200 a year, starting on the average person's 25th birthday, even making what some people would say was an optimistic estimate of 10% return. So you might as well call it $500, just to be safe from other rounding errors, and to allow enough time for hesitation lag about doing such a radical thing. No one says you have to do it my way, but this is how you reach a rough approximation of what it will cost, to do what I think has to be done, including paying off our debts.

That's indeed how much it will cost if you do it all by raising revenue. You can also do some of it by cutting costs, where fortunately we are well along on a uniquely American way to do things. No one else has the money to do it our way, so everyone else tries to cut costs by turning out the light bulbs. But without saying a word, notice how we have united in what the rest of the world thinks is madness.

Americans Unite, Others Think It's Madness.

Eliminate Costs by Eliminating Disease

Starting about fifty years ago, we began pouring outlandish amounts of money into medical research. In fifty years, we extended life expectancy thirty years, through eliminating dozens of diseases, along with the cost of caring for them. Just think of the money saved in treating tuberculosis alone, tearing down those TB hospitals seen in every city during my student days. Infectious diseases, particularly typhoid and syphilis, consumed the time of a medical student, and much of the budget of every municipality. One of my professors said we had two challenges left: cancer and arteriosclerosis. He was an optimist because we still have cancer. And the three main mental disorders, schizophrenia, Alzheimer's and manic-depressive disorder. But add five more to that list, and cure them in twenty years. After that, our main problem would no longer be dying too soon. It would be, outliving our incomes. Financially, these are features of the same thing, except one pays for Social Security and the other pays for Medicare.

Consider a moment, how difficult it is to say how much medical care will cost. Remember, a dollar in 1913 is now called a penny, and today's dollar is very likely to be called only a penny in 2114. We long ago went off the gold standard, and money is only a computer notation. Looking back, it is remarkable how smoothly we glided along, deliberately inflating the currency 3% a year, and listening to assurances this was the optimum way to handle monetary aggregates. Even more remarkable still is to hear the Chairman of the Federal Reserve ruminating we don't have enough inflation. It took a thousand years to get used to metal coins, several centuries to get used to paper money, and almost a century to get used to being off the gold standard. The political task of convincing the whole world that inflation is a good thing sounds very close to starting a world-wide civil war.

But we now have more than a million people over the age of 100. They got cough drops as a baby for a penny, and now hardly blink when a bottle of cough medicine costs several dollars. But instead of that, they are likely to get an antibiotic which was not even invented in 1913, retail cost perhaps forty dollars when it was invented, and now can be bought for less than a dollar. If they got pneumonia in 1935, they probably died of it, no matter how much was spent for the 1935 medicine, so how do you figure that? Or someone who got tuberculosis and spent five years in a sanatorium, who today would be given fifty dollars worth of antibiotics. The problems a statistician is faced with are impossibly daunting.

The current practice, which reaches the calculation of $325,000 for lifetime medical costs, is to take today's health costs and today's health predictions, and adjust the average health care experience for it, both backward and forwards. Every step of this process can be defended in detail. But the fact is, average lifetime health cost of someone born today is only the wildest of guesses, no matter what kind of insurance is in force, or who happens to be President of the United States. The cost of drugs and equipment go through a cycle of high at first, then cheaper, then they vanish as useless. But adjusting the overall cost of materials and services when only a faint guess can be made about healthcare and disease content, can be utterly hopeless, or it can be quite precise. Unfortunately, even its probable degree of future precision is a wild guess. It's a wonderful century to be living in unless you are a healthcare analyst. The only safe way to make a prediction is to make a guess that is too high and count on public gratitude that it actually wasn't much higher than you predicted. But to guarantee a particular average outcome, which an insurance actuary is asked to do, will be impossible for quite a few decades.

So, here is a plan for paying for healthcare, which is nothing if not flexible. If we start running out of money too early, we just don't pay our foreign debt, that's all. Doing it overtly is probably to propose a change in our entire culture so it would be done by inflation, a dime on a dollar.

If that isn't enough, we inflate some more until we can stop running up foreign debt.

If that isn't enough, we cut costs, inflate some more, and reduce the quality of health care.

And if that isn't adequate, we put a stop to funding biological research, by letting foreigners try their luck at it. Americans would be particularly loathed to do that because it represents a confession we were wrong about our boast to put an end to the disease.

This four-step process is absolutely mind-boggling to me, absolutely unspeakable, although the Chairman of the Federal Reserve is able to hint around about it. To me, it is so repellant that absolutely no circumstances would allow me to endorse it, and my hope is that just the mention of it will be enough to stir up the newspapers and the Congress. Stir them up, that is, to take some of the harsher measures which are necessary to withstand such suggestions. Meanwhile, we have the satisfaction of generating some compound income on the premiums, which will make the direst eventuality, to be not quite as bad as otherwise.

To keep track of how we are doing, the alternative I propose is to create a semi-permanent agency with adequate resources to oversee the transition and release honest white papers about how it is going, judge how it must be modified. After that, no doubt, a blue-ribbon oversight board must be appointed with power to suggest to Congress what needs to be modified. The blue-ribbon approach is to designate a couple of dozen private institutions to send one representative, and to rotate the appointees among a smaller board than the number of institutions which nominate one. Let's say, twenty positions among thirty institutions, rotating on a three-year cycle, to minimize overlap with Congressional elections. No doubt, that would produce an annual flood of half a dozen books a year by board members, agitating a process which is ultimately decided by elected Congressional representatives.

The Two New Revenue Sources for HRSAs: Investments and Compound Interest

Two "new" revenue sources, which we need to discuss, are really quite old. But widespread use of third parties to pay medical bills diminished consumers' attention to their value. Patients become like Queen Victoria, indifferent to what it costs to run a household, even forgetting how to do it. We fit some details into the discussion of Health and Retirement Savings Accounts, but they are capsulized here for descriptive convenience, in an era when personal management has largely moved from junior high schools to the curriculum of graduate business schools. In the process, we have forgotten a timeless message: never let an agent manage your checkbook for you.

1. Compound Interest. Aristotle complained it gets more expensive to repay debts, the longer you take to pay them off. That's the debtor's viewpoint, of course. The creditor's view of it is, the longer the better. But restated as a neutral mathematical comment, an essential feature of compound interest is that both principal and effective interest, rise over time. To repeat: income rates (and/or borrowing costs) from a debt, increase with duration. About half the capital of every major corporation consists of debt, so even owning common stock has some of the quality of being a debtor. Furthermore, this effect is seen sooner, with quite small rises in nominal interest rates. A graph of sample interest rates demonstrates this simple truth with greater clarity:

As a result of centuries of haggling and experimentation, most modern loans charge interest rates of 5-15%. That's an enormous swing, but only for long-term investing. It makes little difference whether this range of rates reflects the supply of money in the economy, or the vigor of the economy, or something else macroeconomic. So long as rates remain steady, or even if they are changing at a slow steady rate, borrowers and lenders can reach an agreement and negotiate a long-term loan. If there is uncertainty about rates in general, they may rise precipitously, so all borrowers know to keep loans as short as possible, and creditors quickly raise rates when they must cover longer time periods.

The moral is, as you become older you tend to become a creditor, so adjust your mentality from borrowing short to lending long. For centuries, nobody thought much about this invisible equilibrium, because life expectancy was stable at the Biblical threescore and ten -- and in fact only twoscore. But suddenly around 1900, life expectancy at birth began to rise, and starting in 1950 it entered a steep climb from forty-seven to eighty-four years. Thirty-year loans remained the extreme, however, because the proportion of those who would chisel you doesn't seem to change much. Stagecoach robberies went away, but inflation took their place. Underneath it all, governments prefer to expand the currency supply rather than raise interest rates, printing repayments rather than repaying them. Interest rates are, as they say, volatile. Within limits, they are also malleable.

Nevertheless, the expansion of longevity created a new opportunity. The long-term investment was more profitable for everybody. The upturn in interest rates was relatively negligible for the first forty years of compound interest, but progressively quite handsome after that. In practical terms, buy-and-hold became a better strategy. The difference of a tenth of a percent means little in a ten-year loan, but it can create a stupendous profit in a ninety-year loan. One suspects the interest rate on a bank loan has more to do with the debtor's working life (the period available for confident repayment) than his life on earth. In this book, we concentrate on the creditor, whose lifespan should not affect interest rates as much as it affects his opportunity to enjoy money, so long as he has some of it. But a long life without money at the end of it is a fearsome prospect, indeed.

2. Equity Index Investing. The stock of only one company (General Electric) was a member of the Dow-Jones Industrial Average a century ago. By definition, the DJII always contains thirty leading stocks; others have been replaced many times. It takes a long time to become a household name, and by the time an investor has heard the name, it is often ready to decline. Active investing, meaning sell one to buy another, was once quite necessary for success. Unless fading leaders are replaced by new leaders, however, the average would fall behind, But it is easy to see the average has moved steadily upward, so it must be actively managed by someone.

If you are careful to avoid the spongers and the fly-by-nights, the investment world is rapidly changing, mostly for the better. To some extent, this reflects a flight from the bond market which governments deal with, but most investors now think total market index funds are safer. When the Federal Reserve forces banks to buy its bonds through "Quantitative Easing", the supply of bonds goes up and so the price goes down. "Passive" investing is certainly easier for the small investor to deal with, and investors are responding.

Later we will try to take advantage of one obvious flaw in such investing. If a single investment represents thousands of companies, investor control is diluted to meaninglessness. The only effective control over management then resides in the shares which are not held by funds; and even there, more and more corporate control rests with insiders and managers. The effect of such a trend is not merely that manager salaries are inflated, but the corporation becomes less responsive to the consumer public. Its legitimate business plan is to make a profit, but to make a short-term profit at the expense of long-term profits is not so defensible. Because of the corporate shield, many corporations borrow too much, risk too much, and collapse too often, but their managers often walk away with riches. If Health and Retirement Savings Accounts really get popular (at last count, they only had thirty billion dollars invested), its counterweight of stock ownership should help restrain consumer prices. Nevertheless, experience seems to show that competition between companies has been a more effective guardian of public interest, than stockholder control of individual competitors.

HSAs collect money when it is not needed, spend it decades later when it is badly needed, and invest the money during the interval, tax-free. The longer the interval, the more it earns. And with careful application of the principles of compound interest and index investing, the earnings are considerably magnified. If your Christmas Savings Fund earns more money, it reduces the effective cost of what you buy. But if you are careless, investment fees and inflation will ruin everything. So that, in sum, is another message.