20 November 2008

The Looming Health Care Crisis

What exactly is the problem with Health Care? What is all the buzz?

What is the basic reason that all the politicians are proposing policies to influence the Health Care Industry?

The answer sits on the Balance Sheet.

Take a look at the expenses of the Government run health insurance programs: Medicaid and Medicare.

These expenses are the largest rising share of US GDP, while the resources given to the programs hasn't grown with them.

What are the government's options?

  1. Give more resources
  2. Lower costs

    First, let's consider (1).

    Government budgets are very lean across the board right now, there is no extra money available.

    Therefore, the government can either cut resources from other programs to cover Health Insurance costs, or raise taxes.

    If raise taxes, raise taxes from where?

    The poor are already poor. The rich provide the jobs and the industries. Taxing their income only incentives their industries less. Maybe there is some government revenue to be had by taxing the incomes of the rich, but not much. A famous Econ textbook publisher recently remarked that he will only be able to keep 7 cents for every extra $ he earns. He's probably not going to work much harder to drive the economy.

    We could tax capital, but that only lowers savings. We already face a 'lack of savings' problem, and nobody wants another Social Security program where the government does our savings for us.

    Therefore, let's consider option (2) for the government to deal with the rising expenses of Health Care.

    Are there any expenses that we can cut?

    Well, analysis shows that some of the expense increases come from the improved Medical service being provided; better equipment, better trained physicians, and better techniques.

    We don't want to cut quality of Health Care, are there other growing components of Health Care expenses that can be cut?

    The answer is yes, but it is not easy.

    The insurance industry is prone to 2 market failures (moral hazard, and adverse selection).

    Targeting these holds promise for decreasing health expenses.

    Eliminating moral hazard would make individuals only go for operations they would get if they were paying for the operation.

    Eliminating adverse selection would cut down major insurance screening costs to make sure they don't sign on people with unobservable expensive prior conditions (note, I am not saying don't provide health care to these individuals in need, I am for reducing the costs that everyone pays the insurance companies to deal with screening).

    I am pretty busy right now, so I think I will save the details of how best to target these problems for my next post.

    I will outline the basic strategies that are used to target these expensive market frictions.

    To eliminate moral hazard, individuals must internalize more of their own medical cost. This is how we get closer to realizing when individuals would really go for care. Also, this would incentivize Americans to lead healthier lifestyles. I do not propose pay-your-own-way, there are benefits to having insurance for unforeseen and unpreventable illnesses; all I am saying is that there are definite moral hazard costs for having too much insurance.

    To eliminate adverse selection, the costly screening by insurance companies, the government should require some low level baseline insurance to cover emergencies and prior existing conditions. The idea is analogous to how everyone must hold car insurance for the damage they may cause others. Since, doctors and hospitals won't let individuals with emergency medical needs perish on the doorsteps, everyone should hold some insurance and that pool covers the emergencies. With everybody then having to hold some insurance for the emergency procedures and prior conditions, insurers don't have to expend as much resources screening.

    As can be seen, as in all economics, there is a balance to be struck here. Not too much insurance or we get moral hazard, but require some to diminish adverse selection.


Ryan said...

Is adverse selection a real problem? Think about the people you know who have lots of insurance. Are they (a) the sort of people who were already prone to taking huge risks, or (b) the sort of people who don't smoke, don't drink, don't jaywalk, look both ways, and double-check for transfat in their breakfast, which by the way is a balanced one and something they never skip? I'm betting it's (b).

Is health insurance like car insurance? Car insurance is an externality problem. You have to buy insurance against the event you harm someone else and are judgment proof because you're broke. But my being sick doesn't impose costs on anyone else, unless they choose to help me out, which is their choice (and don't we normally think of voluntary transactions as Pareto improving?) So we kind of have to make two claims here: (a) we don't want to help the uninsured sick, and (b) when we see the uninsured sick, we are actually incapable of preventing ourselves from helping them. This doesn't sound like a very plausible story.

Seriously, can someone explain to me why health care is a public good? It looks for all the world like a private good to me. Rival? Check. Excludable? Check. Can we just admit it's about as much of a public good as a car? (And speaking of gov't funding of autos ...)

Sorry, this is an overly long comment.

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