Curing Healthcare: First Fix Problems Caused by Gov’t

To cure our healthcare system, we have to look at the system holistically. Just one or two reforms will have a small effect. We need comprehensive reform. First, we must identify the pathologies. Then, we must offer prescriptions. But most reform efforts get this the wrong way around. In other words, many would like to treat the symptoms, but ignore the underlying problems.

The U.S. has never really had a healthy, well-functioning healthcare system. Instead, we have had a patchwork of regulations, government programs, quasi-markets, and socialism. But we can imagine what a healthy system would look like. To remedy the problems in our healthcare system, we have to isolate them.

Let’s start with state coverage mandates.  Coverage mandates are items in your plan the state government forces you to pay for.  North Carolina, for example, has 47 mandates, including: chiropractic, drug/alcohol abuse treatment, and pastoral counseling. By contrast, Idaho has only 15.

N.C.’s average annual premium costs $3,080, while Idaho’s is only $2,006. Since some mandates are more expensive than others, a simple counting of mandates doesn’t explain everything. But when you consider both the number and the total cost of a given mandate, you’ll find a direct correlation between mandated coverage items and the cost of the average health plan.  In short, mandates drive up costs, which makes insurance less affordable.

Current tax law allows for businesses to deduct the cost of health insurance for their employees from their taxes. Should inddividuals who purchase insurance on their own be allowed the same tax deduction? Yes           – 88% No             – 6% Not Sure  – 6%

The second major problem of healthcare is the unequal tax treatment of different types of health insurance. “Workers may receive this tax-favored benefit only if health coverage is provided through an employer” says health expert Grace Marie Turner. “Because it is excluded from their taxable income, the value of the health coverage, the tax benefit, and the costs in foregone cash wages are largely invisible to workers.” All of which is to say: if you’re lucky enough to get health insurance through your employer – once you have it – you don’t think about it. But what about the distortions this causes?

First, job-based insurance undermines cost-consciousness by hiding the true costs of both insurance and medical care from employees. Because the full cost is not entirely visible, there is increased demand for medical services and more expensive insurance. As a result, wasteful, inefficient healthcare delivery is subsidized at the expense of more efficient care and coverage.

Next, as health insurance costs rise, people get lower wages and salaries. That’s because any economic growth goes to expanded health insurance costs at work (that you pay little attention to). Of course, most employees with job-based coverage have little choice about their health insurance provider. Most jobs offer only one provider. But because it’s subsidized, why would you shop around? But that limits competition.

Ultimately, tax benefits are skewed to favor higher-income individuals. So the tax system actually subsidizes wealthier people and the gainfully employed! That’s no way to deal with the problem of the uninsured. Millions of Americans who are unemployed or whose employers do not offer health insurance are discriminated against because they receive much less assistance, if any at all, when they purchase health insurance.  In short, if you’re employed by a big company, you’re probably getting subsidized healthcare. If you’re not – say you’re a waiter, are self-employed, or unemployed – you get unfavorable tax treatment.

Now, consider the third major pathology: Overconsumption.

“Overconsumption?” you may be wondering. How is this a problem? Well, think about the last time you went to the doctor’s office. And let’s say she did a blood test. Can you say how much this cost? If you answer is $15, your answer is incomplete. We’re looking for the full cost. How much did the doctor charge your insurance company? You probably don’t know. Most people don’t care, either.  But that extra cost you don’t ever hear about everyone pays for – in the form of higher insurance premiums. And that blood test? It might have been $300. Someone has to pay for that.

Here’s how it works. Imagine you’re at a restaurant dinner party. Everyone at the party decides to split the costs of the dinner evenly. Do you order the chicken or the surf-and-turf? Since the costs are shared evenly, you conclude you might as well get the most expensive item. Otherwise, everyone else will, and you’ll be subsidizing their more expensive meal. But what happens to the total price when everyone thinks that way? That’s right, the total price goes up.

Likewise, if you’re only paying $15 for any prescription you may be getting, or any doctor visit you might have: why not choose the most expensive option or let the care provider choose it for you?  For example, heartburn sufferers can pay a co-pay for a prescription of Nexium, or they can get Prilosec OTC. (Zantac would be even cheaper.) If you’re only paying $15, why not go for the most expensive stuff (Nexium, which is more than a $100 per prescription)?

Or say you’ve got a case of the sniffles.  Is there any reason for you to go to a licensed MD? But people do. With a third-party payer system, we are simply insulated from the full costs. Indeed, most people don’t even know what healthcare prices are. How can anyone ever be cost-conscious if they don’t what anything costs? But when you add up all of the overconsumption that results from our third-party payer system, premiums go up.

Let’s turn now to Medicaid.  Medicaid was originally intended for the very poor. But now, many politicians want to extend Medicaid benefits to people who aren’t poor –especially children. The problem with this approach is manifold:

First, Medicaid is a massive unfunded liability that threatens to break the bank sometime in the future.  This is not just a problem of demographics, but of a perverse system in which – for every $1 a state like North Carolina pays in Medicaid – the state gets $3 from the federal government. Such sends a signal to politicians: Find more ways to spend money on Medicaid. Why do you think states are going after middle class children? But this doesn’t make sense given that not nearly all of the poorest people are enrolled. Shouldn’t Medicaid priorities should go to the poor?

Another problem with expanding Medicaid into the middle class is that it causes “crowd-out.” That means people who could afford private insurance opt instead for Medicaid. But this shifts costs onto a system that is already straining state and federal budgets. What’s worse: since people have to qualify for Medicaid based on income, they will be less inclined to get a better job if they think they will lose the health benefit. They become dependent on Medicaid and locked in at one level of wages. This is known as a “wage trap.” If you get a raise, you lose your overall benefit. But isn’t upward mobility a good thing? Medicaid discourages upward mobility.

Let’s go back to the idea of expanding children’s Medicaid (or SCHIP). This might seems on its face to be a good thing. Who doesn’t want children to have health insurance? The trouble with expanding children’s Medicaid is that it helps drive adeath spiral, as we will see. Consider a risk pool in health insurance. Risk pools work because people who are lower risk (younger, healthier) offset costs of those who are higher risk (older, sicker). As folks get older, more young people offset their increasing risks. But when you take younger, healthier people out of the private risk pool—who is left? Older, sicker people. Their costs go up.

Indeed, as premiums go up, younger adults starting their careers who might otherwise get insurance decide it’s too expensive to get insurance. But this represents a further strain on the risk pool. Older, sicker people can’t do without insurance, so they have to pay a lot more.  Young “invincibles” who go without insurance invariably get hurt or sick, anyway, and strain the system in other ways. But since they opt out, prices keep going up for everyone else. The whole process is a vicious cycle known as the “death spiral”. Medicaid expansion contributes to that cycle. 

The fifth major problem is called “in-state lock.” Simply put: have you ever tried to buy less expensive insurance in another state? You can’t. Know why? Because the government won’t let you. Part of the reason for this is linked to the mandated regulations mentioned earlier. North Carolina, New York, and Massachusetts each have their own government regulations on healthcare.

The problem is that since there is no interstate competition for health insurance (at least none to speak of), virtual in-state monopolies emerge.

In North Carolina, it’s Blue Cross Blue Shield. In another state it might be Aetna or Anthem. But in all those cases, it’s not worth it to try to compete within another state in which a provider is already dominant. But people aren’t dropping like flies in Idaho because they don’t have our insurance regulations. So why can’t you get cheaper insurance from a company in Idaho? The regulations are used to protect the monopoly power. But consumers don’t benefit. Since regulations protect in-state monopolies and limit competition, costs go up.

The sixth pathology of our healthcare system is un-pooled risk.  In other words, we currently have a number of fractured markets, which means it becomes increasingly difficult to put more people in a risk pool. There is a risk pool for the individual market, a risk pool for employer-based insurance and a risk pool for group insurance. Many times the pool may only include the people in your small office. If your office is composed of older people in poorer health, you’re probably paying more than you need to for health insurance. (So much for that big raise this year.) The upshot? If risk is not pooled as it could be, costs go up.

When one considers the six major pathologies of the U.S. healthcare system, you see exactly why the system – taken as a whole – is unhealthy. What do all of these pathologies have in common? In one way or the other, they are all caused by government.  Thus, only changes in the law can fix these six major pathologies.

So, what are the prescriptions? What do we do?

First, we have to do something about state mandates. One option for North Carolina is to do what a number of other states have done and offer “Mandate Lite” legislation. This means insurance companies are mandated to offer certain coverage items, but consumers can choose whether or not to include them.

Another option is simply to take out as many “unnecessary” mandates as possible. This, of course, is tough, because what is considered by one person to be necessary may not be for another. Nevertheless, there are certainly some things on which a legislature might find consensus.

Second, what about the inequitable treatment of job-based insurance in the tax code? The best thing that could happen is for the federal government simply to change the tax code. That means that the federal government would give the same subsidy for people on the individual market as they get buying insurance through their job. Simple. If the federal government continues to sit on its hands, state governments could offer tax credits until the federal government decides to act. Equalizing the tax code makes healthcare more affordable.

Third, what do we do about overconsumption and the lack of price transparency? Expand the availability and use of Health Savings Accounts (HSAs). HSAs are tax protected accounts that allow people to save money for out of pocket healthcare expenses. That means, if you aren’t sick or injured, you get to save money (with interest) using pre-tax dollars instead of using all your healthcare dollars on insurance. HSAs are coupled with a catastrophic plan so that if you get seriously injured, you’re still covered. But since these plans have a higher deductible (say, $1500 or $3,000), you pay more out of pocket for routine care. Still, what you don’t spend, you save—which means you’ll be more cost conscious (that is, you may pick the Prilosec over the Nexium, or think twice before seeing a doctor for a simple cold.)

When more people think of healthcare dollars as theirs to keep, they’ll be wiser about how they spend. Indeed, an army of thrifty healthcare shoppers will eventually make care providers much more transparent about their prices. Until that time, we must find ways to encourage the use of HSAs and catastrophic plans. In short, expanding consumer-driven plans makes healthcare and health insurance more affordable.

Fourth, what do we do about Medicaid spending and crowd-out? Before anything else, we must stop expanding eligibility.  95 percent of the poorest people (defined, say, as 200% of the federal poverty limit) should be covered before any Medicaid expansion beyond that threshold. Then, we should offer refundable tax credits (subsidies) and private-sector options like HSAs as an alternative to Medicaid. We should return to federal block grants that track the rate of inflation, which will take away the incentive for bureaucrats to find ways to spend more on Medicaid. In short, reining in Medicaid will make healthcare more affordable.

Fifth, what do we do about in-state monopolies? Easy. Government should allow people to buy insurance in any state they choose. Federal legislation ensuring interstate competition would achieve this. Individual state governments, however, should take a hard look at allowing their own citizens out of intra-state lock.  Competition will drive down costs.

Sixth, what should we do about un-pooled risk? Pooling risk through government fiat is okay. It would be better than the status quo. For example, expanding associated health plans (AHPs) and high-risk pools are by in large good things. But nothing would be more effective than de-fracturing the health insurance market in order to allow it to evolve risk pooling mechanisms that would be unforeseen by bureaucrats.

So, what do you get when you practice holistic medicine? You get a healthy system. And that means healthier individuals and healthier families.

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