Cochrane's alternative to Obamacare

Here's a couple of paragraphs from John's essay, to which he  links on his blog:

This line of analysis is obviously aimed at the long run. Thinking through how a freer and more
competitive health care and insurance market can work, and how most of the regulatory apparatus is doomed, won’t get anyone hired as a consultant, lobbyist or adviser. But it is important nonetheless. Opponents of the ACA who would see it repealed need a detailed, coherent alternative, and to understand and explain how it can realistically address the cost, “access,” and other evident pathologies of contemporary health-care and insurance markets. The status quo was a mess, and the concerns that motivated the ACA were real. If the ACA remains, as is likely, but stumbles from one crisis to another and eventually falls apart of its own weight in the next health insurance/health care/budget crisis, it will be equally important to have that detailed coherent alternative in our back pockets.  

I focus on the supply and demand for health care, which gives this essay a bit of novelty. Curiously, most of the current policy debate, and most of our regulation, focuses on health insurance, the question of who will pay the bill, as if the market for health care were functioning normally. The market for health care, which seems even more dysfunctional, is relatively neglected. 

(...) 

Health care is singularly ill-suited to payment-plan provision, either by government directly or by heavily regulated insurance by a few large well-protected businesses. A functional cash market must exist in which patients can realistically feel the marginal dollar cost of their treatment, or (equivalently) enjoy the full financial benefits of any economies of treatment they are willing to accept, and are not patsies for huge cross-subsidization and rent-seeking by an obscure system negotiated behind the scenes between big insurance companies, hospitals, and government.  

Both supply and demand must be freed, along with insurance. Without supply competition, asking consumers to pay more will do little to spur efficiency. Without demand competition, new suppliers will not be able to succeed.  

So, the alternative to the current health care and health insurance mess (both pre and post-ACA) is clear. Getting there will be a long hard road. It’s not a simple matter of “deregulation,” given how deep and widespread the offending restrictions are, and the many legitimate purposes which they purport to serve, and sometimes do. We need to construct a different, but wiser, legal and regulatory regime. I know an interest group when I see one: Don’t worry, there will be lots of jobs for health economists, policy analysts, and lawyers.

John has written and talked about health care in many other occasions. Here's a recent podcast. Here's a 2012 podcast. Here's an op-ed on the Wall Street Journal.

Bush's health plan: a step in the right direction

In my previous posting I wrote about why introducing a new standard deduction in the income tax would do almost nothing to reduce the number of uninsured Americans. This week I will focus on what Bush’s reform will do for the 247 million of citizens who already have health insurance, whether obtained through the workplace (175 million) or purchased privately (72 million).

One of Bush’s propositions was to turn employer-provided health insurance into taxable income. A virtue of this proposal is that it would improve on the fairness of the fiscal system. Nowadays, if you have to pay for your own insurance, you receive an implicit “tax penalty” from the government. This is because the value of the insurance purchased by the employer on behalf of the employees is not considered taxable income.

Consider a four-person family (two adults and two dependents) with an annual income of $75,000, consisting entirely of salaries. Nowadays, if this family receives employer-provided health insurance worth $5,000, their tax bill amounts to $6,970. Consider another four-person family, with an income of $80,000. If they purchase a $5,000 health policy on their own they end up with $75,000 in disposable salaries, the same as the first family. Their tax bill, however, amounts to $7,720, $750 more. Under Bush’s proposal, both families would pay exactly the same.

The current situation looks even more unfair once you consider that most jobs without health insurance are in the lowest echelons of the salary distribution –jobs which are either part-time or temporary or hourly paid or requiring low skills, or all of the above. For the record, in 2005 the average family income for families who purchase their own insurance was $40,000; for families who get their insurance through the workplace, average income was $87,000.

Another result of Bush’s plan is that it would provide a tax cut to all families with health insurance costing less than $15,000 (for families) or $7,500 (for individuals), thanks to the standard deduction. In the example above, the family with employer-provided insurance would get a $1,500 tax benefit, whereas the family with private insurance would get $2,250.

This should be good news to taxpayers, although it is a second-order feature of Bush’s plan, really. Families with basic health insurance policies, costing well below $15,000, also tend to have the lowest incomes, and therefore lowest marginal tax rates, which leaves them with small tax savings. Besides, the tax cut would vanish in just a few years, because the cost of health insurance would rise, whereas the amount of the tax deduction most likely would not rise as fast, if at all.

One the flip side, the tax cut would mean lower revenues for the government and a subsidy for health insurance, which I really do not support. It is hard to justify why the government should pay for a service, health care, which is provided in the private sector under market competition and whose consumption (or lack of) does not generate any externalities. The fact that wealthier families would get bigger subsidies is even harder to justify.

The government’s responsibility should be limited to making sure that everyone is insured against catastrophic health problems and, perhaps, that all children receive basic health care. That would be best done by: (1) making catastrophic and basic child insurance mandatory and then giving health vouchers to those families who cannot afford it, and (2) making employer-provided insurance taxable, as proposed by Bush, but not granting any tax deduction for health insurance whatsoever.

Including employer-provided health insurance as part of regular income improves on the fairness of the federal income tax. In spite of its shortcomings, most notably the absence of a provision to make basic insurance mandatory, let us hope that Mr. Bush’s reform will be put into effect.

The wrong way to reduce the number of uninsured Americans

Last week President Bush unveiled the current administration’s master plan to make health insurance more affordable. Under the proposed system, taxpayers would apply a new deduction to their Adjusted Gross Income (AGI), much like the existing deduction for dependents, as long as they enroll in a health care plan. The deduction would amount to $15,000 for families, and $7,500 for individuals.

The proposed plan would do almost nothing to universalize health care coverage. Most people who do not have insurance have relatively low incomes, their marginal tax rates are low and the proposed plan would lead to little or no tax savings for them. For example, a married couple with two children and $40,000 in AGI, who files jointly, would save $1,570 in taxes if they switch from being uninsured to being insured. If their AGI was $20,000 they would not receive a dime, because their taxable income after applying the deductions for dependents would already be negative. (Yes, this family would receive an Earned Income Tax Credit (EITC), but the EITC would not be affected by health insurance status, according to what we know so far about Bush’s plan.) The figure below shows the tax savings for different levels of AGI and family types.


As you can read off the graph, currently uninsured married couples with two children and incomes below $25,000 would not benefit from the deduction at all, and those with incomes between $25,000 and $35,000 would receive less than $1,000 dollars in tax savings. On the other hand, families who make more than $85,000 per year would receive over $2,200 in tax savings.

What Bush probably did not realize is that those who would benefit the most from the plan would be single-parent families. This is because single filers face a steeper marginal tax rate profile than married couples, and they would benefit from the $15,000 family health insurance deduction, instead of the $7,500 individual deduction, if they have children. For example, a single parent with one child and $30,000 in AGI would receive a tax cut of $2,200, whereas a married couple with the same income and one child would save $980 in taxes, and an individual without children would get $1,125.

But many uninsured families and individuals have lower incomes than those in the examples above. Using data from the Current Population Survey (CPS) Annual Social and Economic Supplement in 2005 (the latest year for which complete statistics are available), 51 percent of uninsured married couples with two children have incomes below $35,000, and 35 percent of those families take home less than $25,000. (See the graph below, which tells you what percentage of uninsured families have a family income below a given level.) That means that 35 percent of those families would not benefit from Bush’s plan at all, and 16 percent of them would receive a tax cut of less than $1,000. The average tax reduction for this type of family would be $1,285.


In most cases, the tax savings would be insufficient to finance health insurance. For example, the cheapest health insurance plan I could find, for a family of non-smoking young parents with two children, would cost $2,085 a year. And that is for a health plan with basic coverage and a deductible of $10,200.

Out of the 46.6 million uninsured Americans, according to the 2005 CPS, I estimate that 9.9 million would not benefit at all from this plan, 7.3 million would receive a tax cut of less than $1,000 if they purchased insurance, and 13.1 million would receive a tax reduction between $1,000 and $2,000, scarcely enough to buy any kind of medical insurance, for most families and individuals.

Another 7.1 million of uninsured individuals had family incomes above $75,000. Given that affordability is probably not the reason why those people do not have insurance, they would not purchase become insured after receiving a token incentive from the government either.

If the goal is to universalize health insurance, here is what I propose: make participation mandatory, and subsidize it for families and individuals with low income through health vouchers, not through the income tax. And, in order to discourage people from remaining unemployed or under-employed so as to receive subsidized health care, make the subsidy significantly higher for working individuals.