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George Ross Fisher M.D III
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One evening in 1979 my visiting son, puzzled by health financing, asked me to explain. A decade of asking myself the same question led to the prompt reply that there seemed to be two central problems, both of them man-made. It's axiomatic in our family that man-made problems can have man-made solutions.
I believed you adequately understood health care financing if you understood the price reduction which hospitals give to subscribers of Blue Cross but not to subscribers of their competitors, and if you also understood the income tax dodge which the Federal government gives to salaried, but not to self-employed people who buy health insurance.
He asked how in the world these two subsidies were defended, and I told him. He then asked how these monopoly-inducing subsidies related to other weird quirks of health finance, and I told him that, too. He listened quietly for thirty minutes, and then exclaimed, "Wow. That's really the Hospital that Ate Chicago!"
So he went to bed, while I stayed up and wrote a short fancy for the New England Journal of Medicine, called, "The Hospital That Ate Chicago". Next morning I polished it a little and sent it off to the editor. Within a few days, it was accepted. Six weeks later it was in print.
Our own John Fulton recently told the Right Angle Club the market gossip about just who did what, and to whom, in the March 2008 beginning of the investment banking collapse. It begins to look as though Merrill Lynch had quite a bit to do with the mechanics of starting this impending market melt-down, although lots of other people helped.
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Bear Stearn
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Going back to 2005, Merrill was late to the securitized debt party and stretched to catch up. The broker reportedly sold large quantities of mortgage-backed securities (CDO) to the two hedge funds run by Bear Stearns. A buyer was able to convince himself such securities might pay as much as 20% income if leveraged up -- so attractive that Merrill independently decided to keep a lot of them for its own account. Nevertheless, the primary business of any broker is to buy and resell quickly, holding as little inventory as possible. Such sales, especially to hedge funds and institutional investors, were largely on margin. When suddenly the price of CDOs started to fall -- the rumor is that some unknown European bank started unloading them -- someone at Merrill made the decision to issue a margin call, that is, ask for cash to replace the loans. Bear Stearns reportedly asked for extra time to get the money together, but Merrill was adamant. So, Bear Stearns had to sell some of the CDOs in question to raise cash, dropping the market price. (this had not been the case seven months earlier when a bewildering market saw good stocks being dumped to cover losses in bad stocks.) But remember, in addition to the securities sold to Bear Stearns, Merrill itself had acquired huge quantities of similar CDOs; the internal coordination of Merrill has to be doubted. So the market value of what Merrill held declined, too, quickly forcing Merrill to announce an $8 billion mark-to-market write-down of its holdings, eventually followed by write-downs approaching $100 billion. In time, its own losses greatly exceeded the debt it was forcing Bear Stearns to pay. Merrill had shot itself in the foot.
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New York Stock Exchange
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At that point, suddenly no one would write Merrill insurance against price declines through the Credit Derivative market, so it's stock price declined on the New York Stock Exchange, further reducing the amount it was allowed by regulators to lend. Because Bear Stearns was a major bookie in the Credit default swap market, both the insurers and the insurees were at risk; doubled-up "counterparty risk" was so enormous the Federal Reserve and U.S. Treasury felt they had to bail the situation out, even though other failing institutions of comparable size had been allowed to disappear. At a minimum, two parties were at risk, at worst, a whole daisy chain of companies insuring other overlapping companies multiplied the risks to much more than the loss that originally triggered the chain reaction. At $62 trillion, the Credit Derivative market is so much larger than other markets that anything to calm it seemed an urgent necessity. (As a matter of fact, when the swaps were sorted out they canceled each other by at least 90%) Every bettor had seemingly felt justified in betting the ranch, because some other bettor stood behind them, and then another and another; hard though it is to believe, that was nearly the case. Since Bear Stearns held thirty times as much debt as its total stockholder equity -- quite a different situation--, an average price drop of only three percent was enough to wipe them out. When margin calls went out to people who themselves had to issue more margin calls to pay the bill, the chain reaction did indeed bring markets to a precipice.
Until better gossip surfaces, this is the description now in circulation for the details of the slide which got going in March 2008. A larger view might be that things were starting to get ugly in 2005, and Merrill should never have entered this particular market at all.
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Fanny Mae Freddy Mac}
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We are definitely not out of the woods. John Fulton pointed out the next crisis is that Fannie Mae and Freddy Mac are best regarded as insolvent. But since the credit crunch dried up the other half of the CDO market for mortgages, only Freddie and Fanny now remain to support housing transactions, with $5 trillion at risk in the market. That's about the size of the national debt, so when the Government assumed the risks of these two corporations, the national debt was effectively doubled. That could potentially send the dollar into a tailspin, along with U.S. Treasury bonds, while sending the price of oil skyward. So far, the Chinese have been remarkably cooperative, and Ben Bernanke and Hank Paulsen have been remarkably sure-footed.
So, what do we do if we fall into this abyss? Well, one thing debtors usually consider when threatened with insolvency is to walk away from either their debts or their creditors. In the nation's case with its debts, one major victim would be our system of entitlements. The national debt is now effectively $10 trillion. The unfunded entitlements are about $52 trillion; this is much the larger problem. Is it really true? Are we really saying these things?
John did indeed keep us awake, which is the major duty of a Right Angle speaker. .
www.Philadelphia-Reflections.com/blog/1509.htm
Because so many people's circumstances are so different, we offer two ways for Grandpa to transfer one grandchild's health care to one grandchild, and skip any description of pooled transfers of the rest.
Grandpa can either transfer a lump sum single-payment upon the birth of the lucky grandchild or through his will if that is more suitable. Alternatively, the Health Savings Account of one generation can transfer $365 yearly to the grandchild's escrow account, which is set aside for grandchild to buy his way out of Medicare -- if he later chooses -- at the 66th birthday. Grandpa will only do this for 21 years, after which it is the child's own responsibility. According to my math, that will pay for the estimated costs of Medicare, stop the foreign borrowing to pay for deficits, and perhaps make a dent in the accumulated foreign debts.
What it won't do is pay for the grandchild's health costs if they escalate out of control between now and then, or if Medicare is forced to add on all manner of deductibles, copayments, taxes and other out-of-pocket exceptions to pay for cost escalation. His catastrophic health insurance is supposed to protect against that, and within limits, it will. But at the present time, catastrophic health insurance has been so jumbled that you cannot get a salesman to make an average quote for publication. It will only become possible to make sensible judgments after the United States Supreme Court has made a final judgment, or if Congress assembles a sufficient majority to clarify the situation. As matters stand right now, there is no need for excess coverage, and the money in the escrow account should be released to an Individual Retirement Account (IRA). The amounts of accumulated funds in HSAs are illustrated in accompanying tables, grouped in multiples of $365 contributions. For very high-cost over-runs, catastrophic health insurance would normally be an alternative to consider.
But that -- encompassing childhood costs and Medicare buy-out -- is only half of the proposal. The rest has to do with the age group 21-66, which is now tangled in the courts, under King v. Burwell and I cannot go further.
Independence Blue Cross (of Philadelphia) has imaginatively designed a Health Savings Account product for retirement purposes, by allowing the employer or the employee to overfund an HSA with $750 annual contributions, looking ahead to the employee's retirement. The HSA part is presented as an add-on to conventional Blue Cross, although it is unclear whether that is required. Independence Blue Cross should be given credit for a good idea. Whether it supplements health insurance before retirement, is apparently left up to the employee, but of course, it does supplement any other after-retirement arrangements the employee may have because the HSA continues on after Blue Cross itself terminates at age 66.
Since employers may soon face an un-suspended requirement to provide health insurance meeting ACA requirements, the high deductible from the government plan might simultaneously supply the high-deductible requirement for the HSA. This seems an efficient way to address present uncertainties and could provide the basis for compromise discussions between the two political parties on the whole subject of fringe benefits. High-deductible is good; adding subsidies confuses the intent. Keep them separate.
Savings unused for healthcare are available for retirement living.
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Overfunding is always a good idea for subscribers to HSA, whatever their other program features. Politicians avoid overfunding anything because of voter reaction, so private plans are generally more flexible than public ones, while voters tend to complain that instead of overfunding, taxes should be reduced. The program is so new, and its time periods so distant, that unintentional gaps in coverage are always possible. If worries prove unfounded, overfunding leads to more money for retirement, hardly a tragedy.
Over-investment in Health Savings Accounts -- The Retirement Alternative. Because it's a new program, with financing uncertainties, we advise everyone with an HSA to consider overfunding it as a precaution. Just about everyone could readily use surpluses for some of his retirement. Although the employer only donates $750 per year, the law allows a total of $3350 as a maximum, and so a $2600 personal supplement is required in the following three hypothetical but typical situations. At this level, the employer contribution is a small factor; what really matters are inflation and interest return. And starting at an early age.
Example One. Let's say an employee starts the program at age 21 and remains with the company until retiring at age 66, contributing $3350 per year to the HSA (in the Blue Cross plan, $750 comes from the employer, and the employee must supplement $2600 from personal funds). (It makes no difference whether the employee rises through promotions or remains at an entry level; the maximum is the same.) Result: the employee receives a taxable retirement income at age 66 from the HSA to IRA transfer of $81,616 per year until age 83, dropping to 66,642 with 3% inflation. If the life expectancy of 93 is anticipated, the yearly annuity drops to $65,621, dropping to 48,595 with inflation..
Example Two. Another employee enrolls at age 21 but retires to get married at age 26. At age 66, until death, there is a yearly $23,423 retirement income assuming a life expectancy of 83, and dropping to 19,125 with 3% inflation. Assuming 93, the annuity is $ 18,832 with and $ 13,946 without 3% inflation.
Example Three. An employee joins the firm at age 61 and remains until age 66. His retirement income is $1,886 per year, dropping to $ 1,540 with inflation, Assuming expectancy of 93, he gets $1,516 yearly, or $1,123 after 3% inflation.
In the examples, many things jump out. The first is the large disparity between what five years of work will get you, starting at age 21, compared with the almost pitiful amount a person age 61 will get for the same absolute, and maximum allowable, contribution. The difference between examples is the difference between whole social classes. That difference, of course, is made up out of the income compounded internally for 40 years. And the moral is clear, a small steady investment at an early age is worth far more than the same investment at the end of working life. It happens to cost the employer the same, either way, and he may not realize it. His viewpoint will depend on what value he places on maturity and experience in an older employee, as compared with vigor and strength in a younger one; the pension costs would be the same.
However, this is a major change in pension design, and people should familiarize themselves with it. The employer can make far more difference in an employee's life with the selection of savings plan, than with salary. Perhaps another way of looking at it is the employee gets to keep the interest compounding in an HSA, whereas in other plans the employer gets to keep it. Or, depending on how the contract is written, some middle-man gets to keep it. The old defined benefit plans placed much more emphasis on training and experience and much less on the age and duration of enrollment. It's a new ball game. For example, there is no reason why an employer couldn't have two plans, with an optional choice, one for young people, the other for latecomers.
The second point revolves around the interest rate being paid. The investment manager, whether in-house or by way of a vendor, is able to earn and should be able to earn, 12% on an index fund of the common stock of the whole American market. Inflation at a steady rate of 3% for a century, reduces that return to 9%, net of inflation. How much is the employee entitled to?
Much depends on whether inflation is pre-deducted in advance, or calculated at some later time. If an employee is paid less than 3% per year for his HSA, he actually loses money on the exchange. If he is paid 7.5% gross, he only receives 4% net of inflation, in spite of surrendering half of the net gain (4.5% of 9%) to the broker or manager.
In this example we have arbitrarily assigned him 6.5%, which is 3.5% net of inflation, yielding well over half of the margin to the broker. I have to wonder whether the services provided are really worth more than 1% (for example, one nearby trillion dollar firm only charges a tenth as much), so it seems as though a fair return to the investor/subscriber should be 5%, net of inflation, net of fees, or 8% gross. So, be careful to identify whether inflation is anticipated, or only calculated after it happens. Sometimes, both approaches are adopted, and someone is seriously affected by not noticing it.
That means the price debate ranges between 3% (no profit to the investor at all) and 8% (essentially the wholesale price). Throughout this book, I have generally adopted 6.5% as an average, mainly to be safely conservative and avoid arguments. The marketplace will eventually settle on the "right" price, but if it's less than 3.5% net of inflation, it's less than a quarter of the wholesale price. Eventually, I expect the price to be knocked up to 8%, net of inflation, or 11% gross. The ultimate effect of this price pressure on the cost of health care would be considerable, indeed. Sustainable retirement would come into sight, and as we have mentioned, the price of healthcare is linked to it.
Now, I don't want to be accused of starting a revolution, but my calculator tells me if the passive investment could achieve 6.5% income return, the first of the three examples cited above would receive a retirement income of $81,616 per year. And the old fellow who decided to work for a few years to build up his retirement would receive $1,866. The youngster who worked for five years and then quit could look forward to a pension of $23,423 per year. Something tells me this is too destabilizing, so I'm not going to get impaled on the barricades discussing it. Ultimately, it probably reflects a reduction of transactional costs by electronics, which has not yet worked its way through to retail consumers. So, one way or another, something is going to happen, and it's up to all of us to make sure it is benevolent.
Overfunding health insurance by one means or another is a very good idea if you can afford it -- and you keep your wits about you.
Modern health insurance is a century old in America, and much of its interesting history is irrelevant to present controversies. However, a few features are important to know as a preliminary. It started as benevolence by business to its employees after the First World War, at a time when most businesses were family-owned. In 1945, Henry J. Kaiser discovered health insurance could mostly be financed by successful corporate employers donating it to their employees, thus transforming a gift of health insurance into a business expense.
The gift soon became accepted as a normal part of wages, so the pay packet drifted downward to expect it. The employer paid the same total tax, but the employee got a tax reduction. When the corporate income tax rate became double the individual rates, the employer got twice the deduction the employee got. As other taxes began to be based on the remaining pay packet rather than the total wage cost, employers escaped the extra tax. The employer overall got more benefit from the tax shelter than the employee did, and he got it for every one of his employees. Less successful businesses (with less tax to pay) often could not share in these last two features, and often preferred to remain with Subchapter S incorporation, although their employees lost out on deductions and in general were the only losers. If this is new to you, read that last paragraph again.
In this way, the tax exemption became a normal part of business life, and tinkering was greatly resented. By a century later, CEOs have turned this matter over to Personnel offices and financial officers, forgetting its complicated mechanics, and have gone on to other matters. It was a gift, so the employees were seldom consulted about its details, and in time most employees became oblivious to them. The situation began to be known as "third-party" insurance, and in time the basic decisions were made without much consideration of either the employer or the employee, who seldom raised a fuss. In the course of a century, it was the wishes of the insurer that mainly dominated the decisions, mostly because decisions had to be made, and nobody else cared very much. A century of unopposed decision-making gradually warped the employer-based system into a very expensive, inexplicably complicated combination of incentives, all leading to escalating prices for healthcare. The foxes were in charge of the hen house, and everybody's incentive was to let healthcare prices drift upward.
It is the organization of incentives rather than greed or malice which led to this predicament, so it is not justified to attack anyone. But someone who has benefits to defend can become quite offended when the benefits are disparaged. For insurance company reasons, the useless and expensive 20% copayment system has persisted, while the deductible has remained too small to serve a purpose. For political count-the-votes reasons, the benefits package has favored numerous small pills over major surgery, warping the reimbursement system in favor of more transactions. As the disease has receded in younger people, young people have demanded "something for their money", even though it distorted the benefits package unwisely to use limited funds for small bills rather than large ones. Short-term gains repeatedly triumphed over long-term considerations, slowly but relentlessly warping it away from intended directions.
It is my feeling the average reader needs a little more background: in overfunding for Retirement, buying out Medicare gradually, first and last year-of-life insurance, and the plight of the latecomer to lifetime health insurance-- before we are ready to solve problems in the last five sections of this book. There are a few other salient issues to learn, and a century of history to skip before the casual reader is likely to be ready to address the issues in central contention. So, skip it or study it, that's what the rest of this section is all about.
Originally the "lower counties" of Pennsylvania, and thus one of three Quaker colonies founded by William Penn, Delaware has developed its own set of traditions and history.
Start in Philadelphia, take two days to tour around Delaware Bay. Down the New Jersey side to Cape May, ferry over to Lewes, tour up to Dover and New Castle, visit Winterthur, Longwood Gardens, Brandywine Battlefield and art museum, then back to Philadelphia. Try it!
Millions of eye patients have been asked to read the passage from Franklin's autobiography, "I walked up Market Street, etc." which is commonly printed on eye-test cards. Here's your chance to do it.
In 1751, the Pennsylvania Hospital at 8th and Spruce was 'way out in the country. Now it is in the center of a city, but the area still remains dominated by medical institutions.
Grievances provoking the American Revolutionary War left many Philadelphians unprovoked. Loyalists often fled to Canada, especially Kingston, Ontario. Decades later the flow of dissidents reversed, Canadian anti-royalists taking refuge south of the border.