What am I thinking today?

Friday, December 04, 2009

Paul Krugman's Argument for Health Care Reform

wrt Paul Krugman's Oped in NY Times, note the following:

"First, the uninsured in America are, on average, relatively young and healthy; covering them wouldn’t raise overall health care costs very much." effectively means tax the young and the healthy. That is a disincentive for being healthy (& young -- but you don't have much choice there).

How does the government create incentive for being healthy? This way: "which include efforts to improve incentives for cost-effective care, the use of medical research to guide doctors toward treatments that actually work, and more." This basically means a Govt panel will tell what should money be spent on, what tests are OK to be done etc.

I have the following issues with these aspects of this plan. Other issue is mentioned here.
  1. Fix Medicare / Medicaid first. If people don't know how to run those programs, they won't run anything else properly. (hint: this is a trick command! The whole point of this is to get you in an infinite loop!!)
  2. Don't regulate health care by panel. From experience, all it ends up is creating a black market. People in UK and Canada come to US for treatment they cannot get there. That is effectively a black market. You can always argue that people have nowhere to go now since US also has govt run healthcare (problem solved!). What will end up happening is that there will be test centers / doctors who will perform one kind of procedure / tests and bill another one! A whole new era of fraud will be unleashed.
Paul isn't asking the right questions as an economist. He is playing a politician's role. I would urge him to get in his economist role and get the following questions answered:
  1. If insurance companies are making too much profit, why doesn't the supply of insurance companies increase?
  2. If pharma companies are making too much profit, why doesn't the supply of pharma companies increase?
  3. If doctors are making too much profit, why doesn't the supply of doctors increase?
  4. If testing companies are making too much profit, why doesn't their supply increase?
  5. If health care companies have too much inefficiency in them -- too much is spent on paper work, then why is there so much paperwork? Remember, President Obama proposed a national health record system to "improve" efficiency. Why does this inefficiency exist? No company would want to spend money on inefficient activities.
High profits by various health companies and high inefficiency has been stated as a reason for high costs by Democrats. Somewhere in the answers to the above 5 questions you will find some govt interference blocking supply and increasing inefficiency. Maybe I am prejudiced. Show me an economic argument. Find the truth and form policies based on that, not the other way around.

posted by Nitin M. Shetti at 7:41 PM

6 Comments:

  • Hey Nittin. Interesting points. I've had many an argument on this subject, one of which is in this thread:

    http://www.facebook.com/posted.php?id=605233008&share_id=152215658988&comments=1&s152215658988=

    In short, there's A LOT of economics answers to the questions you've posed that suggest privatized health insurance inevitably lead to market failures. Let me outline a few:

    1) Most people associate privization with choice. Health care choice includes the right to not buy health care. As a result, people often choose not to buy health insurance until they're sick. To combat this, health insurance companies try to deny coverage to those with pre-existing conditions (if they didn't no one would rationally choose to buy insurance until they're sick). So it creates a huge free rider problem. Economists call this "the adverse selection problem". The same problem exists for used cars. They call it "the lemon problem" (look it up on wikipedia). Basically, whenever you have a situation of asymmetric information, where the buyer or seller has more information about the underlying product than their counterparty, you have this problem. It causes prices to skyrocket, if everyone follows rational market behavior, leading to a market failure. Here's an example of how it works...

    By Blogger Justin, at 8:32 PM  

  • To illustrate, let's first assume health insurance companies don't have the power to deny coverage for pre-existing conditions (both parties have agreed this is necessary to reforming health care).

    Iteration 1: Health insurance companies estimate the cost of insuring the average person as $300 per month. 90% of people buy health care for $300 per month. The last 10% don't buy health care, because they are healthy, and know they have the right to buy it as soon as they're sick.

    Iteration 2: Because the 10% that were remove were more healthy than average, health insurance companies are forced to raise their premiums to $320 (approximation).

    Iteration 3: Even more healthy people leave the system, as they realize their expected costs are lower than the premiums they're paying. This causes the insurance premiums to increase more.

    Eventually, you have a system where only sick people are in the system, and they're paying what they would be paying without insurance plus admin costs.

    By Blogger Justin, at 8:40 PM  

  • In the current system, this effect is tempered by health insurance companies denying coverage to those with pre-existing conditions. This prevents most people from scamming the system as I've described above (although it does cause many younger people to choose to take their chances, since they're healthier than old people on average). But it also leads to really ugly situations where people who aren't even trying to game the system can't get coverage when they're sick.

    Or worse yet, consider this scenario:

    1) You're working for an employer who provides you with subsidized health insurance. You're safe, right? Think again. Let's say you get cancer, the kind that requires expensive treatment over a long period of time, but that with the right treatment, you can survive.

    2) You begin your treatment. Your work performance obviously suffers because you're in chemo every day.

    3) Now your company has every incentive to find a reason to let you go: a) you're not performing very well due to your condition b) you're raising the average cost to the insurance company, which tends to filter back to you company in terms of higher premiums, especially if the company you work for is small. So your company let's you go. They make up some excuse, because obviously, it's illegal to fire someone due to a health problem. But when the economic incentives point that way, I wouldn't count on this to protect me.

    4) I sign up for COBRA, which protect my health insurance for 18 months. My premiums jump 5 times higher however, because my plan is no longer subsidized by my company. The reality is, most people don't have enough saving to afford a 5 times increase in insurance premiums AFTER losing their job for 18 months. But let's say I manage to afford it somehow.

    5) 18 months have passed, and I'm still in treatment, but my COBRA expires. Now I'm on the individual market with an expensive pre-existing condition. It would be crazy for any insurance company to sell me insurance for anything less than the expected cost of care.

    So effectively, I'm screwed, even though I thought I had insurance.

    Something like this is also described here: http://baselinescenario.com/2009/08/05/you-do-not-have-health-insurance/ and here: http://www.cato.org/pub_display.php?pub_id=9986

    Note that the second link is to an article by one of the most famous libertarian economists in the country. Even he apparently agrees that under the current system (no one has real insurance). His suggestion is to create something called health status insurance. That's a market solution to the problem, but it's never been tried before. I don't see why we can't do it like other developed countries, where people are much happier with their insurance!

    By Blogger Justin, at 8:55 PM  

  • I could go on, but I didn't begin with 'in short', so I won't ;)

    By Blogger Justin, at 8:57 PM  

  • Ok, let me try to make the second point your post prompted, but briefly:

    2) The buyers of insurance are not generally the users of insurance. Your company chooses which plans are available, and you choose among those. It's difficult for free markets to solve the problem through supply and demand, because employees don't have the flexibility to change plans in a free market. The only way they can excercise bargaining power as buyers is to threaten to leave their job, which they have lots of other disincentives for doing. When the buyer of the product is not the same as the user of the product, as it is here, you have another situation where market failures are likely.

    I've read an interesting analogy made by a health care economist on this subject: Our health insurance market is more like a network of far apart islands, each of which provide benefits. If the benefits on one island seem inadequate, an inhabitant has the option to leave the island on a boat into the unknown with the hope of arriving at an island with better benefits. But the uncertainty is huge, and it's difficult to shop around because they don't have a global picture of what's out there. As a result, they're more likely to stay on the island they're on, and the benefits are likely to be overpriced significantly (by approximately the amount representing the cost of searching for a new island). In this analogy, the islands are the companies, inhabitants, employees, and benefits, are health insurance.

    By Blogger Justin, at 9:14 PM  

  • Also want to address this point of yours:

    "effectively means tax the young and the healthy. That is a disincentive for being healthy (& young -- but you don't have much choice there)."

    1) We're much more privatized than any other developed nation, yet we have pretty unhealthy citizenry by most measures (think obesity). So there isn't a lot of evidence that this will work. Keep in mind, shortened life span and less time in the hospital is already plenty of incentive to live healthy.

    2) Many people don't have a choice about their health. Usually, it's just bad luck when people get sick. Should these people be penalized for something they can't control?

    But I also want to make a broader point: The whole IDEA of insurance to to create pools of people that you can amortize the cost over to reduce everyone's risk. If you allow the insurance companies and individuals to tier themselves by risk, you're decreasing the effectiveness of insurance. To illustrate, consider the extreme case where everyone is in their own tier. Than everyone is paying their own cost, and it isn't even insurance.

    Think of fire insurance. What if it were possible for insurance companies and individuals to separate their insurance pools into 2 groups. Those who will have a fire, and those who won't (this is not realistic in practice). Then they would charge low premiums to those who won't have fires, and they'd charge extremely high premiums to those that will. At this point, the insurance is not serving a useful function, because everyone is just paying their own costs.

    So when you talking about incentivizing people to be healthy, you quickly end up with a system where insurance isn't even doing what it's supposed to do.

    There are other ways to incentivize good health that are used in european countries. For instance, in england, doctors are paid more if their patients are healthier and require less treatment. This means they are incentivized to provide treatment that leads to good health. In contrast, in the US system, doctors are paid based on how many expensive procedures they perform, not on the health of their patients. So they have an incentive to overtreat, raising costs. There's no incentive to provide treatment that will lead to good health in the US free market system!

    By Blogger Justin, at 9:38 PM  

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