The $ 1.2 Trillion Health Care Tax

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Dean Baker
Al Jazeera English, August 21, 2012

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Economists tend not to be very good at economics, which is one of the main reasons that the world is facing such a prolonged downturn. Few economists were able to recognize the enormous imbalances created by housing bubbles in the United States and elsewhere, nor to understand that the collapse of these bubbles would lead to a prolonged period of stagnation in the absence of a vigorous response by governments.

Economists’ grasp of economics has not improved since the start of the downturn. There is little agreement within the profession on the appropriate way to bring the economy back to its potential level of output. Nor is there even agreement as to whether this is possible.

Instead, many economists are running around like chickens with their heads cut off, yelling that we have to do something about budget deficits. This concern is bizarre since it is easy to show that the current deficit in the United States is almost entirely due to the collapse of the housing bubble. The loss of revenue from this collapse, coupled with the measures taken to offset the impact of the downturn, explain almost all of the rise in the deficit since 2007, when it was just 1.2 percent of GDP.

The financial markets presumably recognize this fact, which is why the interest rate in 10-year Treasury bonds remains near a 70-year low. The more serious among the deficit hawks will acknowledge that current deficits don’t pose a problem, but then point to scary projections of large deficits 10 years and further down the road.

While some of these projections can look scary, these projections are driven almost entirely by projections of exploding health care costs. If the United States paid the same amount per capita for its health care as people in Canada, Germany or any other wealthy country we would be looking at long-term budget surpluses, not deficits.       

This is where the response of the deficit hawks is truly bizarre and shows their poor grasp of economics. They invariably complain that health care costs are hard to control, so instead we must rely on cutbacks to public sector health care programs, like Medicare and Medicaid.

The reason why this response is bizarre is that a bloated health care sector has pretty much the same impact on the economy whether or not the government pays for it. The bloated payments for health care have pretty much the same impact regardless of who pays the bill.

To be concrete, imagine that because of their ability to use licensing restrictions to limit the supply of doctors, physicians in the United States can charge twice as much as their counterparts in Germany or Canada (that’s pretty close to the reality). These excess fees have roughly the same impact on the economy as if doctors got German or Canadian salaries and the government imposed a tax of $100,000 a year on each physician. In both cases, patients would have an excessive amount of money drained from their pockets to pay for their doctors’ services.

It would be the same story with an insurance industry that adds $200 billion a year or more to the cost of health care in the United States. From the standpoint of the economy, there is little difference between a situation in which insurers drive up the cost of care by $200 billion and a situation in which we have a more efficient system of health care delivery and the government imposes a tax on health care of $200 billion.

The same can be said of all the other areas where the enormous inefficiency of the U.S. health care system drives up costs: drugs, medical equipment and supplies, and hospital services. In total, the difference between the cost of care in the United States and the cost in countries with comparable care, like Germany or Canada, comes to more than $1.2 trillion dollars a year. According to the OECD’s health care data, this would be the annual savings to the United States if its per person health care costs were equal to those in either of these countries.

You would think that economists would be upset over a $1.2 trillion annual tax due to the inefficiency of our health care system. This is at least an order of magnitude larger than most issues that economists spend their time worrying over. Yet there are few economists who make this obvious point when debates over the budget come up. Instead, they typically chime in with the choir saying that we need to cut the budget, not fix health care.

The cynical among us might point out that fixing the budget mostly means beating up on older people getting Social Security and Medicare benefits. Fixing health care means going after powerful lobbies such as the insurers, the drug industry and doctors. But whatever their motive, the facts are clear. The vast majority of economists in the United States are not especially concerned about a $1.2 trillion annual health care tax; they have much less important matters to take up their time.


Dean Baker is a macroeconomist and co-director of the Center for Economic and Policy Research in Washington, DC. He previously worked as a senior economist at the Economic Policy Institute and an assistant professor at Bucknell University.