Philadelphia Reflections

Warning: Crowding Out

Warning: Crowd-Out. When Health insurance was still a novelty, sickness and health seemed like a lottery. With time, it became apparent that about half of healthcare costs were routine, particularly if you view the cost of being born and the cost of that dreadful last year of life as 100% certain for everybody. In this book, we gradually evolved a system which is about half insurance, half pre-payment. Bear with a little repetition: medical costs are crowded near the end of life, concentrated in people who are no longer working. That is an advantage when you imagine a method of saving in advance because a considerable cost reduction will result from investment and compound interest coming early, while heavier expenses come late. By instituting a "pay as you go" system at the beginning of a huge scientific reduction in disease, "pay as you go" managed to survive for fifty years. Meanwhile, the pre-paid system we have conjectured would have done much better, because increased longevity compounds investments for a longer period of time. Health pre-funding seems to be the better approach, no matter what happens to the science of medicine. That may not be true if non-medical forces dominate the next century of the environment of health care, but at least this point seems settled.

That's one way of looking at health costs, but it is also possible to see them as part of a huge transfer system between generations, which will endure under any set of circumstances. The really sick people are often unable to pay for themselves out of current earnings; that's the old retired generation. Working people in a younger generation are better able to pay, but they mostly aren't sick. Since there is essentially no one else left, working people must simply face up to paying for sick people, under any system it is possible to devise. To acknowledge those facts isn't a sign of being compassionate, it's a sign of common sense.

And there is one more fact of the matter: most people simply don't trust an implicit promise of repayment "when their turn comes", fifty or more years later. Governments develop more urgent priorities, like national defense, which for thousands of years repeatedly diverted loose cash to new projects. Regardless of motives or promises, experience teaches that governments are unreliable custodians of private wealth. Experience, therefore, suggests it might be best to exclude routine medical costs from a government-run system, thereby enhancing public protectiveness for what is left. If circumstances force routine costs to be included, the long-run strategy should endure: try to transfer such costs back to the private sector, and if possible back to individual responsibility whenever that does become feasible. Don't let government get off cheap when you must ask for its help.

The Medicare Annual Deficit. The present predicament of Medicare offers a particularly vivid example. Medicare is popular with everyone, so popular indeed that many wish to convert the whole medical system to "single payer", which is to say: put everyone on Medicare. Unfortunately, the reason it is so popular is exactly the reason we can't continue it; it's at least fifty percent subsidized, and the government is running out of borrowing power to cover it. In 2011, Medicare spent $550 billion, but its total revenue was $530 billion. That leaves the impression that Medicare debt only increased by $19 billion. Unfortunately, $223 billion of its "revenues" were "transfers from general revenue", which is to say: deficits ten times bigger were made up from general tax revenue. The government borrowed this money, incidentally depleting the so-called trust funds of $19 billion, for a total program deficit of $242 billion. Distributed over the 48 million Medicare beneficiaries, that's an average yearly deficit of over $5000 apiece. The average Medicare subscriber meanwhile shares in Medicare expenditures amounting to about $10,000 a year apiece. (Medicare expenses $10,000 a year per subscriber, program revenue only $5000.) No wonder it is popular. Indeed, since the Department of HHS reports that hospitals across the country routinely surcharge their audited costs by 400% in their claims charges (and patient bills), the public is easily under the illusion that it gets $50,000 of services at a cost to themselves of only $5,000. But the ratio of charges to costs is another matter entirely, taken up later. The point here is that there is a $5,000 subsidy, per Medicare subscriber per year, and there are about 50 million subscribers. These are 2011 statistics; the subsidy is constantly growing, is now the largest domestic contributor to the national deficit, and Obamacare may or may not make it worse.

In 1965 it was possible to look at these matters with more tolerance. In the first place, America had enjoyed a favorable balance of trade with the rest of the world for twenty years since World War II, and could not be expected to realize this balance was about to turn negative, apparently forever. Medicare was then new and untested, and the employer-based insurance community argued strongly and effectively that it had done its fair share without government subsidy. So, it seemed fair for the government to act as payor of last resort for the unpredictable costs of starting the system with a large cohort of elderly -- who immediately had Medicare costs but no prior opportunity to pay any Medicare payroll withholding taxes, the main source of new funds for the program. There had to be a way to pay for the indigent elderly, and the startup costs; and to get it through Congress. Presumably, it was planned to make adjustments and creep up on the deficit, but it never happened. So the designation of "transfers from general revenue" as a revenue source instead of a liability was not an accounting accident or illegal; it was just the complicated new system making optimistic guesses about the future, and guessing wrong. From the beginning, a well-intentioned design generated unsustainable deficits, and no one had the heart to say so. Now that we begin to see we must give up something else to be able to afford to continue on this path, we hear other things are being crowded out. The alternative to facing facts will lead to an unsustainable debt burden, adding force to a recession's artificially suppressed interest rates, potentially leading to a weakened international dollar, eventually raising the unthinkable specter of the dollar losing its status as a reserve currency. It is not necessary to understand monetary policy to understand that an implacable limit to the nation's borrowing -- is beginning to arrive.

When creditors sense they may not be repaid, they raise interest rates, so it gets even harder to "service" the debt. Other valuable parts of the economy cannot pay higher interest rates, so they get "crowded out" of the debt market, or else something they must buy gets crowded out. That's the first sign of serious trouble, and should be taken seriously, because people getting crowded out lose their willingness to help others.

Originally published: Sunday, August 25, 2013; most-recently modified: Wednesday, June 05, 2019