March 16, 2021
(This post first appeared on my Patreon page.)
One item in President Biden’s recovery package that deserves more attention is the increased subsidies for people buying health insurance through the exchanges created by the Affordable Care Act (ACA). These subsides will make insurance purchased on the exchanges far more affordable, by capping the cost at 8 percent of income. It also removes the current income cap on subsidies, so that even upper middle-income people can benefit under this proposal.
The increased subsidies will lower the cost of insurance purchased in the exchanges for most people but will likely have the largest impact for older middle-income people. Before the American Recovery Act (ARA) was passed, there were no subsides available for anyone earning more than four times the poverty level. For a single individual, this cutoff was just under $50,000 last year.
This meant that a person earning $50,000 a year had to pay the full price for whatever insurance plan they purchased in the exchanges. For a person in the oldest age group (55 to 64), the average cost of a silver plan without the ARA subsidies would be $12,900 a year. However, the ARA caps the payment at 8.5 percent of income, which means this person would pay just $4,250 for a silver plan, a savings of $8,650 a year.
Even a person earning $100,000 would only pay $8,500 a year for a silver plan under the ARA, a savings of $4,400 a year. In short, for the vast majority of people, the ARA makes health care far more affordable than the subsidy schedule in the ACA.
Under the ARA, these expanded subsidies only apply to the remainder of 2021 and 2022, but many hope that they can be made permanent. This would be great if it could be done, but the cost will likely be far higher than is immediately apparent.
The Congressional Budget Office (CBO) put the cost of the expanded subsidies in the ARA at $35.5 billion, with most of that cost being in 2022, since the larger subsidies will be in place for the full year. This cost comes to less than 0.8 percent of the federal budget, an amount that should be easily doable, whether it means a larger deficit or finding some tax increases and spending cuts as offsets.
However, the cost of sustaining subsidies of this size over a longer period of time will almost certainly be considerably higher than this $35.5 billion figure. The reason is that, for a single year of a subsidy, most people are not likely to change their health insurance arrangements.
The vast majority of the pre-Medicare age population gets health insurance through their employer. Workers are not likely to leave an employer who offers a plan they like, in order to take advantage of the lower cost of insurance on the exchanges, if the subsidies will only be there for a year. But, if they expect the enhanced subsidies to be in place indefinitely, then getting insurance through the exchanges becomes a far more attractive option.
Employers are likely also in many cases to stop offering insurance in order to effectively share the savings with their workers. The pattern of subsidies in the ACA, which cut off altogether for workers earning more than four times the poverty level, meant that employers would effectively be giving upper middle-income workers a substantial pay cut if they handed them the money previously paid towards their premiums, and then told them to buy insurance on the exchange. (The real world generally does not work this way, but the point is that we can envision employers doing this sort of calculation.)
However, the expansion of subsidies in the ARA puts out a large pot of money that employers can effectively look to share with their workers. In most cases, employers could probably increase pay by an amount equal to half of their current health care premiums, and still leave workers purchasing insurance through the exchanges far better off, since the subsidies would make plans relatively cheap for most workers.
This sort of move away from employer-provided insurance would be a great thing. There is no reason to want an employer to be an intermediary in workers’ insurance. Also, the link between employment and insurance creates the difficult situation we saw during the pandemic, where people who lose their job also lose their insurance. So, if enhanced subsidies in the exchanges substantially lessen the reliance on employer-provided insurance, that should be seen as a positive development.
The flip side of increased reliance on the exchanges is that the cost of the subsidies will increase substantially. If we are subsidizing policies by $7,000 or $8,000 a piece and then see tens of millions more people getting their insurance through the exchanges, then we could be seeing the annual cost of the subsidies rise by hundreds of billions of dollars. This is not an expense that can be easily swept under the rug. If we end up paying another 2 percent or so of GDP ($420 billion in today’s economy) in subsidies, then we almost certainly need to raise some serious taxes to offset the increased expenses.
Getting Costs Down: The Alternative to Large Tax Increases
Needless to say, large tax increases are not likely to be popular, even if they are structured to be relatively progressive. As an alternative we can try to get our costs more in line with the costs in other wealthy countries. The OECD put per capita health care spending in the United States at $11,100 in 2019. That compares to $6,600 in Germany, $5,400 in France, and $4,700 in the United Kingdom. The latter two are less than the $6,100 in public per capita public health care expenditures that the Center for Medicare and Medicaid Services reported for the United States for 2019, and Germany’s spending is only modestly higher. In other words, if health care cost the same here as in other wealthy countries, the government would already be spending enough to provide universal health care.
As I’ve written elsewhere, the reasons for the higher costs in the United States are not a big secret: we pay twice as much for our drugs, our doctors, and our medical equipment. In addition, we face $400 billion to $500 billion annually in excessive administrative costs due to our system of private insurance, that can be avoided with a simpler Medicare type system.
I go through prospects for potential savings in each of these areas here and here. The basic story is that with drugs and medical equipment we have to move away from the current system where research and development is supported by government-granted patent monopolies. The point that needs to be endlessly emphasized is that drugs are cheap; it is patent monopolies that make them expensive. The same is true for medical equipment.
But it is also important for Biden to start making progress in reducing the waste in excessive administrative costs due to our system of private health insurance. The problem here is a fairly basic one: insurers can best increase their profits by not insuring people who are likely to have major medical bills and to avoid paying those bills when they do get sick. This is not consistent with ensuring that people have adequate access to health care.
Of course, we do regulate insurers. This limits the extent to which they can avoid insuring people with health conditions or paying the bills for which they are supposed to be responsible, but people who believe in the ingenuity of the private sector know that government efforts to prevent insurers from screwing patients will never be completely successful.
If those last two paragraphs sound like vague ideological accusations, then you have never heard of surprise medical billing. This is the story where out-of-network providers, like anesthesiologists or testing services, hit patients with huge bills for medical procedures that should have been covered by their insurers. The insurers get off the hook with these by saying that they are not responsible because the patient chose (not really the right word for someone getting an emergency medical procedures) a provider that is not in their network. Anyhow, insurers have a thousand and one ways to screw patients, and they use them all the time.
Improving and Expanding Medicare
The best way for Biden to start to squeeze out the waste from the insurance sector is to carry through on one of his campaign promises. He should offer a Medicare buy-in option to everyone. This would save a huge amount of money on administrative fees for the people who took advantage of this option.
Since this option would be available through the exchanges, it could reduce the cost of providing insurance for those already in the exchanges, in addition to making it possible to add people at lower cost. The potential savings are substantial, since the overhead costs (administration and profit) of private insurers are between 20 and 25 percent of the medical expenses they pay, while the administrative costs for Medicare are close to 2.0 percent.
However, there is a further issue that has to be addressed to make a Medicare option attractive; the traditional Medicare program has to be modernized. I have written about this elsewhere, but the key points are to have a cap on out-of-pocket spending (e.g. $6,000) and to combine at least Part A and Part D to make the program simpler. Ideally, Part B could be folded in as well, but since this division dates back to the creation of the program, it would be more complicated to end it. Also, Medicare must be expanded to include essential items like hearing aids in its coverage.
As it stands, nearly 40 percent of new beneficiaries opt for private Medicare Advantage plans rather than the traditional Medicare program. If we offer the option to buy into an unreformed Medicare program, most people would likely still go with private insurance. That would rule out the possibility of large savings on administrative costs.
If Biden did offer a buy-in option to a reformed Medicare program, there would likely be a large number of people switching from private insurers. There could well be a snowballing effect, where instead of doctors and other providers refusing to take Medicare because of the lower rates, they refuse to take private insurance to avoid the additional paper work. There are real advantages for providers from only having to deal with one insurance system rather than the dozens now operating, each with its own forms and coverage rules.
As a political matter, improving the existing Medicare program should be quite popular. Currently, most people in the traditional program have to pay for supplemental private plans. If the program was improved so that these private plans were no longer necessary, it will be a very real and visible gain for millions of beneficiaries.
As important as it is to reduce the waste on administrative costs associated with private insurers, the Biden administration should be aggressive in taking steps to reduce prices for drugs and medical equipment and increase competition to bring the pay of our doctors more in line with pay in other wealthy countries.
It is also worth noting that lower prices for medical inputs also makes insurance issues easier. We would want our insurers, whether public or private, to be careful in authorizing drugs that cost several hundred thousand dollars a year. We would want to be very sure that these drugs were medically necessary. However, if these drugs were selling for a few hundred dollars, as cheap generics, there would be less reason to scrutinize the decision made by a doctor in prescribing them. Bringing the cost of drugs and other items under control makes everything else in health care much easier.
Making the Exchanges Affordable Is Only the First Part of the Problem
While progressives have almost universally applauded the expanded subsidies that are part of Biden’s rescue package and have called for making them permanent, we must recognize that this is only the beginning of what is likely to be a major transformation of the U.S. health care system. If health insurance is much cheaper in the exchanges than in the private health care system for most people, it will be only a matter of time before people migrate to the exchanges.
This will be a positive development, since it will move us away from a system where people’s insurance depended on their employment. But it also means that the cost of the subsidies will grow much larger through time. It is essential to have measures in place that will contain costs so that health care does not become an unaffordable burden for the country. The routes for containing costs are well-known, but the affected industry groups are very powerful. This will be a difficult battle.
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