Tag Archives: Health Care

The Business of Health Insurance and “Obamacare”: What Can We Expect?

By Robert E. Prasch

Over the past couple of years there has been considerable back-and-forth over what has been accomplished by the Patient Protection and Affordable Care Act of 2010 (PPACA).  While a short post cannot survey the entirety of this multifaceted law, several elementary confusions have been repeated in public discussions and should be addressed in the interest of clarification.  The most urgent of these is to point out that, despite the Act’s (deliberately misleading?) title, it addresses neither the practice of medicine nor its cost.  At most a government-sponsored institute has been authorized to find and make suggestions.  The Act, then, is not about making health care affordable, but an effort to make health-care insurance affordable – a related but separate topic.  To understand the implications of this, we must consider the business of health insurance.

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Bye, Bye Pensions, Goodbye

I recently attended a financial markets conference at which some pension funds managers as well as a former head of the Pension Benefit Guarantee Corporation (PBGC, the FDIC of the pension world) spoke. Private pensions are just over 80% funded, meaning that the value of accumulated assets falls short of meeting promised pay-outs of defined benefit pension plans by about a fifth, amounting to a $400 billion shortfall. Not surprisingly, they are down considerably due to losses incurred during the financial crisis. Public pensions provided by state and local governments have a shortfall estimated to run as high as $2 trillion. On any reasonable accounting standard, the PBGC is bankrupt because its reserves will be wiped out by the failure of just a couple of large firms on “legacy” pensions. Most pensions have already been converted to defined contribution plans—which means that workers and retirees take all the risks. That will be the outcome of “legacy” plans that require bail-outs. In spite of some attempts to improve management and transparency of pension funds, it is almost certain that the PBGC , itself, will need a government bail-out, and that retirees face a more difficult future.

It is important to understand how we got into this predicament. During WWII government wanted to hold down wages to prevent inflation given that much of the nation’s productive activity was oriented toward the war. Unions and employers negotiated postponed payment in the form of pensions—which pleased all three parties: big firms, big government, and big unions. Government promoted this with tax advantages for contributions to pensions. Firms loved pushing costs to an indefinite future—rather than paying wages, they would promise to pay pensions 30 or 40 years down the road. Much of the promise was unfunded, or met by stock in the firm. This meant that pensions could be paid only if the firm was successful for a very long time into the future.

(As an aside, it is worth noting the similarities between the US healthcare system and its pension system. Firms also offered healthcare as a tax-advantaged benefit in lieu of wage increases. Over time, this became our current “managed care” highly financialized system. Like pension funds that are controlled by money managers, our healthcare is managed by highly oligopolized financial firms run by well-compensated executives. Workers have little control over their healthcare or their pensions. They are not “sovereign consumers” because they have neither the knowledge nor the ability to shop around for healthcare or pensions—in both cases, employers negotiate with providers and pass fees along to workers. With others in control, there is little to hold down costs—even as wages were sacrificed on the argument that workers were receiving valuable nonwage compensation. Now both healthcare and pensions are endangered by the same Washington forces promoting even greater financialization. (Go here.)

As time went on and it became apparent that “legacy” firms might not survive for the necessary half century (or more), unions and government felt that a mere promise to pay pensions would not suffice. Either firms would have to kick in a huge amount of cash to fully fund the pensions, or government would have to guarantee the pensions. Corporations did not like the costs attached to full funding. The grand compromise was that firms would increase funding a bit, and government would provide insurance through the PBGC. Funding did increase, although the more frequent and more severe crises in the post 1970 period always wiped out enough assets in each crisis to cause pension funding to dip below prudent levels. Only a financial bubble could get them back to full funding. To make matters worse, firms were allowed to reduce contributions during speculative bubbles (since asset values would be rising)—ensuring that the funds would face a crisis whenever the economy was not bubbling.

Just before the current global crisis hit, pension funding was, on average, doing well—thanks to the speculative bubble as well as to some deregulation that took place at the end of the Clinton administration that allowed pensions to gamble in more exotic instruments, and in riskier markets such as commodities. Previous to 2000, pensions could not buy commodities because these are purely speculative bets. There is no return to holding commodities unless their prices rise—indeed, holding them is costly. However, Goldman Sachs promoted investment in commodities as a hedge, on the basis that commodities prices are uncorrelated with equities. In the aftermath of the dot com collapse, that was appealing. (In truth, when managed money flows into an asset class that had previously been uncorrelated with other assets, that asset will become correlated. Hence, by marketing commodities Wall Street ensured a commodities bubble that would collapse along with everything else.)

You know the rest of that story: pension funds poured into commodities and commodity futures, driving up prices of energy, metals, and food. As energy prices rose, Congress mandated biofuels—which added to pressures on food prices that contributed to starvation around the globe. The bubble popped in what is known as the great Mike Masters inventory liquidation, as pension funds pulled out of commodities on the fear that Congress was coming after them. They didn’t want all the bad publicity that would be caused if workers knew that it was their own pension funds that were driving up gas prices at the pump.
However, pensions have quietly moved back into commodities—and oil prices have doubled. (go here) Indeed, pensions are also looking into placing bets on death through the so-called life settlements market (securitized life insurance policies that pay-off when people die early). (Go here) Ironically, this would be a sort of doubling down on death of retirees—since early death reduces the amount of time that pensions have to be paid, even as it increases pension fund assets. To conclude, pension funds are so large that they will bubble-up any financial market they are allowed to enter—and what goes up must come down.

But that is not what I want to write about here. I always had my suspicions about the strategy followed by pension fund managers, so the conference gave me the opportunity to talk to experts.
Here’s the deal. Each pension fund manager must come from the land of Lake Wobegone, because she/he must beat the average return or get fired. There are two fundamental principles widely believed to operate in financial markets that make such an outcome unlikely: the risk-return relation and the efficient markets hypothesis. Higher risk is rewarded with higher returns, hence, fund managers must take on more risk to get the reward of above-average returns. But since the higher return only rewards higher risk, with efficient markets the average fund manager will only receive the risk-free return. The higher returns of the brighter or luckier managers will be offset by the lower returns of the dumber and luckless money runners.

In other words, if your fund manager does not come from Lake Wobegone, you’d be better off investing in riskless Treasury bonds. Indeed, it is even worse than that because hiring an above average fund manager will require above average compensation—so even those funds with B-rated managers would probably provide lower net returns than Treasuries. To be sure, there is some shuffling of the deck so that one manager with a run of good luck can beat the average for a while, but she will probably fail catastrophically and wipe out several years of winnings in one swoop as some other lucky fool takes her place in the Wall Street lottery. Only the fortunate few can permanently live in Lake Wobegone and thereby beat Treasuries over the long run.

To be clear, these two principles may not be entirely correct—or, there could be other forces at play to allow for a positive return to risk even after subtracting losses. If so, that would go against the conventional wisdom that drives Wall Street. I think it is likely that over long periods of time, markets do tend to push risk-adjusted net returns toward zero so that on average safe Treasuries will beat net returns on risky assets. There is, however, a positive return to taking illiquid positions. And all things equal, it is probable that longer term maturities (long duration) receive a premium. Still, when all is said and done, pension managers that follow similar strategies, including taking positions in traded, liquid assets, will push risk spreads toward to the point that they just compensate for losses due to risk.

Each time there is a financial crisis, the funds tank and managers look for strategies to reduce risk. Enter Wall Street marketeers with an array of instruments to hedge and diversify risks. That was one of the big topics of the conference I attended. There is one sure bet when it comes to gambling: the house always wins. In financial markets, the big boys on Wall Street are the house, and they always win. Even if we leave to the side their ability to dupe and defraud country bumpkin pension fund managers, they charge fees for all the stuff they are selling. This ensures that on average pension funds will net less than a risk-free return. But wherever Wall Street intrudes, sucker bets and fraud exist. So the average return should be way below that of Treasuries, and even the managers from Lake Wobegone will probably net less than the risk-free return.
To recap: pension fund managers take on risk on the assumption that with higher risk comes higher return. Wall Street manufactures risky assets such as securitized subprime mortgages. It then convinces pension funds that they ought to diversify to reduce risk, for example by gambling on commodities. By coincidence, Wall Street just happens to be marketing commodities futures indexes to satisfy the demand it has created. It also provides a wide array of complex hedging strategies to shift risk onto better fools, as well as credit default “insurance” and buy-back assurances in case anything goes wrong. If all of these “risk management” strategies were completely successful, the pension fund would achieve a risk-free portfolio. Of course, it could have achieved this if it had bypassed Wall Street entirely and gone straight to the Treasury. However, Wall Street’s masters of the universe then would have had no market for the junk they were pushing, and pension fund managers would not have received their generous compensation. So workers are left with fees that drain their pension funds, and with massive counter-party risk as the hedges, insurance, and assurance go bad.

As mentioned above, we reward pensions with tax advantages and government guarantees. Before this crisis, private pension fund assets reached about 50% of GDP and state and local government pension fund assets reached almost 25%. That is a huge industry that has created a lot of well-compensated jobs for managers as well as Wall Street snake oil sales staff. The entire industry can be justified only if through skill or luck pension fund management can beat the average risk-free return by enough to pay all of those industry compensations. Yet, the expectation should be that fund managers are significantly less skilled and less “lucky” than, say, Goldman Sachs and J.P. Morgan banksters. Hence, workers would be far better off if their employers were required to fully fund pensions with investments restricted to Treasury debt. At most, each pension plan would require one lowly paid employee who would log-in to www.treasurydirect.gov to transfer funds out of the firm’s bank deposit and into Treasuries, in an amount determined by actuarial tables plus nominal benefits promised. Goodbye fund managers and Wall Street sales staff.

Indeed, this raises the question: should the federal government promote and protect pensions at all? Surely individuals should be free to place savings with fund managers of their choice, and each saver can try to find that manager from Lake Wobegone. But it makes no sense to promote a scheme that cannot succeed at the aggregate level—the average fund manager cannot beat the average, and on average there is no reason to believe that managed funds will provide a net return that is above the return on Treasuries. It would be far better to remove the tax advantages and government guarantees provided to pension plans, and instead allow individuals to put their savings directly into US Treasuries that are automatically government-backed and provide a risk-free return.

The US retirement system is supposed to rest on a three-legged stool: pensions, individual savings, and Social Security. Pensions are mostly employer-related and are chronically and seriously underfunded. There are also huge and growing administrative problems posed by the transformation of the US workplace—with the typical worker switching jobs many times over the course of her career, and with the lifespan of the typical firm measured in years rather than decades. And, finally, as discussed here the most plausible long-term return on managed money would be somewhat below the risk-free return on Treasuries.
The problem with private savings is that Americans do not save enough for their retirement. They never have. And even if they tried to do so, they would be duped out of their savings by Wall Street.
Thus, the best solution would be to eliminate government support for pension plans and instead to boost Social Security to ensure that anyone who works long enough to qualify will receive a comfortable retirement. They can supplement this with private savings, according to ability and desires.

I ran these arguments by several of the pension experts at the conference. All of them agreed that this would be the best public policy. But they pleaded with me to keep it a secret because such a change would be devastating for fund managers and Wall Street. Can you keep a secret?

Healthcare Diversions Part 3: The Financialization of Health and Everything Else in the Universe

By L. Randall Wray

In the previous two blogs I have argued that extending healthcare insurance is neither desirable nor will it reduce healthcare costs. Indeed, healthcare insurance is a particularly bad way to provide funding of the provision of healthcare services. In this blog I argue that extension of healthcare insurance represents yet another unwelcome intrusion of finance into every part of our economy and our lives. In other words, the “reforms” envisioned would simply complete the financialization of healthcare that is already sucking money and resources into the same black hole that swallowed residential real estate. It is no coincidence that Senator Baucus, the Chair of the Senate Finance Committee, has been chosen to head the push on healthcare—not, say, someone who actually knows something about healthcare. The choice was obvious, similar to the choice of Goldman Sach’s flunky, Timmy Geithner to head the Treasury. (In truth, many of President Obama’s appointees have no more expertise in their assigned missions than did President Bush’s “heckuvajob” Brown chosen to oversee the response to Hurricane Katrina. The difference here is not really incompetence but rather inappropriate competence—as in foxes and henhouses.) When it comes to Washington, “Wall Street R Us”.

I have previously written about the financialization of houses and commodities (go to www.levy.org) and the plan to financialize death (earlier on this blog). In all of these cases, Wall Street packages assets (home mortgages, commodities futures, and life insurance policies) so that gamblers can speculate on outcomes. If you lose your home through a mortgage delinquency, if food prices rise high enough to cause starvation, or if you die an untimely death, Wall Streeters make out like bandits. Health insurance works out a bit differently: they sell you insurance and then the insurer denies your claim due to pre-existing conditions or simply because denial is more profitable and you probably don’t have sufficient funding to fight your way through the courts. You then go bankrupt (according to Steffie Woolhandler, two-thirds of US bankruptcies are due to healthcare bills) and Wall Street takes your assets and garnishes your wages.

Here’s the opportunity, Wall Street’s newest and bestest gamble: there is a huge untapped market of some 50 million people who are not paying insurance premiums—and the number grows every year because employers drop coverage and people can’t afford premiums. Solution? Health insurance “reform” that requires everyone to turn over their pay to Wall Street. Can’t afford the premiums? That is OK—Uncle Sam will kick in a few hundred billion to help out the insurers. Of course, do not expect more health care or better health outcomes because that has nothing to do with “reform”. “Heckuvajob” Baucus is more concerned about Wall Street’s insurers, who see a missed opportunity. They’ll collect the extra premiums and deny the claims. This is just another bailout of the financial system, because the tens of trillions of dollars already committed are not nearly enough.

You might wonder about the connection between insurance and Wall Street finance. They are two peas in a pod. Indeed, we threw out the Glass-Steagall Act that separated commercial banking from investment banking and insurance with the Gramm-Leach-Bliley Act of 1999 (note how easily that rolls off the tongue—sort of like a mixture of wool and superglue) that let Wall Street form Bank Holding Companies that integrate the full range of “financial services” such as loans and deposits, that sell toxic waste mortgage securities to your pension funds, that create commodity futures indexes for university endowments to drive up the price of your petrol, and that take bets on the deaths of firms, countries, and your loved ones.

Student loans, credit card debt, and auto leases? Financialized—packaged and sold to gamblers making bets on default. Even the weather can be financialized. You think I jest? The World Food Programme proposed to issue “catastrophe bonds” linked to low rainfall. The WFP would pay principal and interest when rainfall was sufficient; if there was no rainfall, the WFP would cease making payments on the bonds and would instead fund relief efforts. (Satyajit Das, Traders, Guns & Money, p. 32). As are earthquakes—Tokyo Disneyland issued bonds that did not have to be repaid in the event of an earthquake. (ibid) It is rumored that Wall Street will even take bets on assassination of world leaders (perhaps explaining the presence of armed protestors at President Obama’s speeches). Why not? Someone even set up a charitable trust called the “Sisters of Perpetual Ecstasy” as a special purpose vehicle to move risky assets off the books of its mother superior bank, to escape what passed for regulation in recent years. (Das, again) I once facetiously recommended the creation of a market in Martian ocean front condo futures to satisfy the cravings of Wall Street for new frontiers in risk. Obviously, I set my sights too low. The next bubble will probably be in carbon trading—financialization of pollution!—this time truly toxic waste will be packaged and sold off to global savers. According to Das (p. 320), traders talk about new frontiers “trading in rights to clean air, water and access to fishing grounds; basics of human life that I had always taken for granted”.

Is there an alternative? Frankly, I do not know. Leaving aside the political problems—once Wall Street has got its greedy hands on some aspect of our lives it is very difficult to wrest control from its grasp—health care is a very complex issue. It is clear (to me) that provision of routine care should not be left to insurance companies. Marshall Auerback believes that unforeseen and major expenses due to accidents might be insurable costs. I am sympathetic. Perhaps “single payer” (that is, the federal government) should provide basic coverage for all of life’s normal healthcare needs, with individuals purchasing additional coverage for accidents. Basic coverage can be de-insured—births, routine exams and screening, inoculations, hospice and elder care. On the other hand, a significant portion of healthcare expenses is due to chronic problems, some of which can be traced to birth. I have already argued that these are not really insurable—they are the existing conditions that insurers must exclude. Others can be traced to lifestyle “choices”. Some employers are already charging higher premiums to employees whose body mass index exceeds a chosen limit—with rebates provided to those who manage to lose weight. While I am skeptical that a monetary incentive will be effective in changing behavior that is certainly quite complex, this approach is probably better than excluding individuals from insurance simply because of their BMI.

Some have called for extending a Medicare-like program to all. Although sometimes called insurance, Medicare is not really an insurance program. Rather it pays for qualifying health care of qualified individuals. It is essentially a universal payer, paygo system. Its revenues come from taxes and “premiums” paid by covered individuals for a portion of the program. I will not go into the details, but “paygo” means it is not really advance funded. While many believe that its Trust Fund could be strengthened through higher taxes now so that more benefits could be paid later as America ages, actually, Medicare spending today is covered by today’s government spending—and tomorrow’s Medicare spending will be covered by tomorrow’s government spending. At the national level, it is not possible to transport today’s tax revenue to tomorrow to “pay for” future Medicare spending.

I realize this is a difficult concept. In real terms, however, it is simpler to understand: Medicare is paygo because the health care services are provided today, to today’s seniors; there is no way to stockpile medical services for future use (ok, yes, some medical machinery and hospitals can be built now to be used later). And the true purpose of taxes and premiums paid today is to reduce net personal income so that resources can be diverted to the health care sector. Many believe we already have too many resources directed to that sector. Hence, the solution cannot be to raise taxes or premiums today in order to build a bigger trust fund to reduce burdens tomorrow. If we find that 25 years from now we need more resources in the health care sector, the best way to do that will be to spend more on health care at that time, and to tax incomes at that time to reduce consumption in other areas so that resources can be shifted to health care at that time.

Our problem today is that we need to allocate more health care services to the currently underserved, which is comprised of two different sets of people: folks with no health insurance, and those with health insurance that is too limited in coverage to provide the care they need. A general proposed solution is to provide a subsidy to get private insurers to expand coverage. (According to Taibi, the current House Bill subsidies are projected to reach $773 billion by 2019.) If we take my example pursued in an earlier blog of a person with diabetes who is excluded because of the existing condition, the marginal subsidy required would have to equal the expected cost of care, plus a risk premium in case that estimate turns out to be too low, plus the costs of running the insurance business, plus normal profits. If on the other hand diabetes care were directly covered by a federal government payment to health care providers, the risk premium, insurance business costs, and profits on the insurance business would not be necessary. In other words, using the insurance system to pay for added costs of providing care to people with diabetes adds several layers of costs. That just makes no sense.

It will be clear by now that I really do not have any magic bullet. We face three serious and complex issues that can be separately analyzed. First, we need a system that provides health care services. Our current healthcare system does a tolerably good job for most people, although a large portion of the population does not receive adequate preventative and routine care, thus, is forced to rely on expensive emergency treatment. The solution to that is fairly obvious and easy to implement—if we leave payment to the side. As discussed in my first blog we must also recognize that a big part of America’s health expenses are due to chronic and avoidable conditions that result from the corporatization of food—a more difficult problem to resolve.

Second, our system might, on the other hand, provide in the aggregate too many resources toward the provision of healthcare (leaving other needs of our population unmet). Rational discussion and then rational allocation can deal with that. We don’t need “death panels” (which we already have—run by the insurance companies), but we do need rational allocation. I expect that healthcare professionals can do a far better job than Wall Street will ever do in deciding how much care and what type of care should be provided. Individuals who would like more care than professionals decide to be in the public interest can always pay out of pocket, or can purchase private insurance. Maybe the cost of botox treatments is an insurable expense? Obviously, what is deemed to be necessary healthcare will evolve over time—it, like human rights is “aspirational”—and some day might include nose jobs and tummy tucks for everyone.

Third, we need a way to pay for healthcare services. For routine healthcare and for pre-existing conditions it seems to me that the only logical conclusion is that the best risk pool is the population as a whole. It is in the public interest to see that the entire population receives routine care. It is also in the public interest to see that our little bundles of pre-existing conditions (otherwise known as infants) get the care they need. I cannot see any obvious advantage to involving private insurance in the payment system for this kind of care. If we decided to have more than one insurer, we would have to be sure that each had the same risks, hence, the same sort of insured pool. It is conceivable that competition among private insurers could drive down premiums, but it is more likely that competition would instead take the form of excluding as many claims as possible. We’d thus get high premiums and lots of exclusions—exactly what we’ve got now.

We could instead have a single national private insurer pursuing the normal monopoly pricing and poor service strategy (remember those good old days when you could choose from among one single telephone service provider?), but in that case we would have to regulate the premiums as well as the rejection of claims. Regulation of premiums cannot be undertaken without regulating the health care costs that the insurer(s) would have to cover. If we are going to go to all the trouble of regulating premiums, claim rejections, and healthcare prices we might as well go whole-hog and have the federal government pay the costs. Difficult and contentious, yes. Impossible? No—we can look to our fellow developed nations for examples, and to our own Medicare system.

Finally, there may still be a role for private insurers, albeit a substantially downsized one. Private insurance can be reserved for accidents, with individuals grouped according to similar risks: hang-gliders, smokers, and texting drivers can all be sorted into risk classes for insurance purposes. If it is any consolation to the downsized insurers, we also need to downsize the role played by the whole financial sector. Finance won’t like that because it has become accustomed to its outsized role. In recent years it has been taking 40% of corporate profits. It takes most of its share off the top—fees and premiums that it receives before anyone else gets paid. Rather than playing an auxiliary role, helping to ensure that goods and services get produced and distributed to those who need them, Wall Street has come to see its role as primary, with all aspects of our economy run by the Masters of the Universe. As John Kenneth Galbraith’s The Great Crash shows, that was exactly the situation our country faced in the late 1920s. It took the Great Depression to put Wall Street back into its proper place. The question is whether we can get it into the backseat without another great depression.

Health Insurance Diversions, Part 2: We Need Less Health Insurance, Not More

by L. Randall Wray

In my last blog, I argued that the benefits of extending health insurance coverage are probably overstated and are not likely to reduce health care costs or improve health outcomes. In this blog I will argue that we do not need more health insurance, rather, we need less.

Here is the point. Healthcare is not a service that should be funded by insurance companies. An individual should ensure against expensive and undesirable calamities: tornadoes, fires, auto accidents. These need to be insurable risks, or insurance will not be made available. This means the events need to be reasonably random and relatively rare, with calculable probabilities that do not change much over time. As discussed in a previous blog, we need to make sure that the existence of insurance does not increase the probability of insured losses: (http://neweconomicperspectives.blogspot.com/2009/09/selling-death-wall-streets-newest.html) This is why we do not let you insure your neighbor’s house. Insurance works by using the premiums paid in by all of the insured to cover the losses that infrequently visit a small subset of them. Of course, insurance always turns out to be a bad deal for almost all of the insured—the return is hugely negative because most of the insured never collect benefits, and the insurance company has to cover all costs and earn profits on its business. Its operating costs and profits are more or less equal to the net losses suffered by its policy holders.


Ideally, insurance premiums ought to be linked to individual risks; if this actually changes behavior so that risk falls, so much the better. That reduces the costs to the other policy holders who do not experience insured events, and it also increases profitability of the insurance companies. Competition among insurers will then reduce the premiums for those whose behavior modifications have reduced risks.

In practice, people are put into classes—say, over age 55 with no accidents or moving violations in the case of auto insurance. Some people are uninsurable—risks are too high. For example, one who repeatedly wrecks cars while driving drunk will not be able to purchase insurance. The government might help out by taking away the driver’s license, in which case the insurer could not sell insurance even if it were willing to take on the risks. Further, one cannot insure a burning house against fire because it is, well, already afire. And even if insurance had already been purchased, the insurer can deny a claim if it determines that the policyholder was at fault.
The insured try to get into the low risk, low premium classes; the insurers try to sort people by risk and try to narrow risk classes. To be sure, insurers do not want to avoid all risks—given a risk/return trade-off, higher risk individuals will be charged higher premiums. Problems for the insurer arise if high risk individuals are placed in low risk classes, thus, enjoy inappropriately low premiums. The problem for many individuals is that appropriately priced premiums will be unaffordable. At the extreme, if the probability of an insurable event approaches certainty, the premium that must be charged equals the expected loss plus insurance company operating costs and profits. However, it is likely that high risk individuals would refuse insurance long before premiums reached that level.

Of course insured risks change over time—which means premiums charged might not cover the new risks. Cars become safer. More people wear seat belts. Fire resistant materials become standard and fire fighting technologies improve. Global warming produces more frequent and perhaps more severe hurricanes and tornadoes. But these changes are generally sufficiently slow that premiums and underwriting standards can be adjusted. Obviously, big and abrupt changes to risks would make it difficult to properly price premiums.

In any event, once insurance is written, the insurer does its best to deny claims. It will look at the fine print, try to find exclusions, and uncover pre-existing conditions (say, faulty wiring) that invalidate the claim. All of that is good business practice. Regulators are needed to protect the insured from overly aggressive denials of claims, a responsibility mostly of state government.
Let us examine the goal of universal health insurance from this perspective. It should now be obvious that using health “insurance” as the primary payment mechanism for health care is terribly inappropriate.

From the day of our births, each of us is a little bundle of pre-existing conditions—congenital abnormalities and genetic predispositions to disease or perhaps to risky behavior. Many of these conditions will only be discovered much later, probably in a doctor’s office. The health insurer will likely remain in the dark until a bill is submitted for payment. It then must seek a way to deny the claim. The insurer will check the fine print and patient records for exclusions and pre-existing conditions. Often, insurers automatically issue a denial, forcing patients to file an appeal. This burdens the insured and their care-givers with mountains of paperwork. Again, that is just good business practice—exactly what one would expect from an insurer.

And, again, it would be best to match individual premiums to risk, but usually people are placed into groups, often (for historical reasons) into employee groups. Insurers prefer youngish, urban, well educated, professionals—those jogging yuppies with good habits and enough income to join expensive gyms with personal trainers. Naturally, the insurer wants to charge premiums higher than what the risks would justify, and to exclude from coverage the most expensive procedures.
Many individuals are not really insurable, due to pre-existing conditions or risky behavior. However, many of these will be covered by negotiated group insurance due to their employment status. The idea is that the risks are spread and the healthier members of the group will subsidize the least healthy. This allows the insurer to escape the abnormally high risks of insuring high risk individuals. It is, of course, a bum deal for the healthy employees and their employers.

This is not the place for a detailed examination of the wisdom of tying health insurance to one’s employer. It is very difficult to believe that any justification can be made for it, so no one tries to justify it as far as I can tell. It is simply accepted as a horrible historical accident. It adds to the marginal cost of producing output since employers usually pick up a share of the premiums. It depresses the number of employees while forcing more overtime work (since health care costs are fixed per employee, not based on hours worked) as well as more part-time work (since insurance coverage usually requires a minimum number of hours worked). And it burdens “legacy firms” that offer life-time work as well as healthcare for retirees. Finally, and fairly obviously, it leaves huge segments of the population uncovered because they are not employed, because they are self-employed, or because they work in small firms. In short, one probably could not design a worse way of grouping individuals for the purposes of insurance provision. Would anyone reasonably propose that the primary means of delivering drivers to auto insurers would be through their employers? Or that auto insurance premiums ought to be set by the insurable loss experience of one’s co-workers? That is too ridiculous to contemplate—and so we do not–but it is what we do with health insurance.

Extending coverage to a diabetic against the risk of coming down with diabetes is like insuring a burning house. An individual with diabetes does not need insurance—he needs quality health care and good advice that is followed in order to increase the quality of life while reducing health care costs. Accompanying this health care with an insurance premium is not likely to have much effect on the health care outcome because it won’t change behavior beyond what could be accomplished through effective counseling. Indeed, charging higher premiums to those with diabetes is only likely to postpone diagnosis among those whose condition has not yet been identified. Getting people with diabetes into an insured pool increases costs for the other members of the pool. Both the insurer as well as the other insured members have an interest in keeping high risk individuals out of the pool. Experience shows that health care costs follow an 80/20 pattern: 80% of health care costs are incurred due to treatment of 20% of patients. (Steffie Woolhandler http://www.prospect.org/cs/articles?article=more_than_a_prayer_for_single_payer) If only a fraction of those high costs individuals can be excluded, costs to the insurer can be cut dramatically.

We have nearly 50 million individuals without health insurance, and the number grows every day. Most health “reform” proposals would somehow insure many or most of these people—mostly by forcing them to buy insurance. All of them have pre-existing conditions, many of which are precisely the type that if known would make them uninsurable if insurance companies could exclude them. While it is likely that only a fraction of the currently uninsured have been explicitly excluded from insurance because of existing conditions (many more are excluded because they cannot afford premiums)—but every one of them has numerous existing conditions and one of the main goals of “reform” is to make it more difficult for insurers to exclude people with existing conditions. In other words, “reform” will require people who do not want to buy insurance to buy it, and will require insurers who do not want to extend insurance to them to provide it. That is not a happy situation even in the best of circumstances.

So here is what the outcome will look like. Individuals will be forced to buy insurance against their will, often with premiums set unaffordably high. Government will provide a subsidy so that insurance can be provided. Insurance companies will impose high co-payments as well as deductibles that the insured cannot possibly afford. In this way, they will minimize claims and routine use of health care services by the nominally insured. When disaster strikes—putting a poorly covered individual into that 20/80 high cost class of patients–the insurer will find a way to dismiss claims. The “insured” individual will then be faced with bankrupting uncovered costs.
That is not far fetched. Currently, two-thirds of household bankruptcies are due to health care costs. Surprisingly, most of those who are forced into bankruptcy had health insurance—but lost it after treatment began, or simply could not afford the out-of-pocket expenses that the insurer refused to cover. As Woolhandler says, in 2007 an individual in her 50s would pay an insurance premium of $4200 per year, with a $2000 deductible. Many of those currently without insurance would not be able to pay the deductible, meaning that the health insurance would not provide any coverage for routine care. Only an emergency or development of a chronic condition would drive such a patient into the health care system; with exclusions and limitations on coverage, the patient could find that even after meetinging the $2000 deductible plus extra spending on co-payments, bankruptcy would be the only way to deal with all of the uncovered expenses. Of course, that leaves care providers with the bill—which is more-or-less what happens now without the universal insurance mandate.

In truth, insurance is a particularly bad way to provide payments for health care. Insurance is best suited to covering unexpected losses that result from acts of god, accidents, and other unavoidable calamities. But except in the case of teenagers and young adult males, accidents are not a major source of health care costs. In other words the costs to the insurer are not the equivalent of a tornado that randomly sets its sights on a trailer park. Rather, chronic illnesses, sometimes severe, and often those that lead to death, are more important. Selling insurance to a patient with a chronic and ultimately fatal illness would be like selling home insurance on a house that is slowly but certainly sliding down a cliff into the sea. Neither of these is really an insurable risk—rather each represents a certain cost with an actuarially sound premium that must exceed the loss (to cover operating costs and profits for the insurer). So if the policy were properly priced, no one would have an economic incentive to purchase it.

Another significant health care cost results from provision of what could be seen as public health services—vaccinations, mother and infant care, and so on. And a large part of that has nothing to do with calamity but rather with normal life processes: pregnancy, birth, well child care, school physicals, and certification of death at the other end of life. Treating a pregnancy as an insurable loss seems silly—even if it is unplanned. It does not make much sense to finance the health care costs associated with pregnancy and birth in the same way that we finance the costs of repairing an auto after a wreck—that is, through an insurance claim. Many of these expenditures have public goods aspects; while there are private benefits, if the health care cannot be covered through private insurance or out-of-pocket the consequences can lead to huge public sector costs. For this reason, it does not make sense to try to fund all private benefits of such care by charges to the individuals who may—or may not—be able and willing to pay for them. Nor does it make sense to raise premiums on one’s co-workers to cover expected pregnancies as young women join a firm.

Health care is not similar to protecting a homeowner against losses due to natural disasters. The risks to the health insurer are greatly affected by the behavior of the covered individuals, as well as by social policy. Discovering cures and new treatments can greatly increase, or reduce, costs. To a large extent that is outside the control of the insurer or the insured—if a new treatment becomes standard care, there will be pressures on insurers to cover it. Death might be the most cost effective way to deal with heart attacks, but standard practice does not present that as a standard treatment—nor would public policy want it to do so. In other words, social policy dictates to a large degree the losses that insurers must cover; acts of congress are not equivalent in their origins to acts of god—although their impacts on insurers are similar.

We currently pay most health care expenses through health insurance. But people need health care services on a routine basis—and not simply for unexpected calamities. We have become so accustomed to health insurance that we cannot understand how absurd it is to finance health care services in this manner. Our automobiles need routine maintenance, including oil changes. Imagine if we expected our auto insurer to cover such expected costs. We are, of course, all familiar with various “extended warranty” plans sold on practically all consumer items—from toasters to flat screen TVs. But we recognize that these are little more than scams—a way to increase the purchase price so that the retailer gets more revenue. We tolerate the scams because we can “just say no”—caveat emptor and all that. But health care “reform” proposes to force us to turn over a larger portion of our income to insurance companies—who will then do their best to ensure that any health care services we need will not be covered by the plan we are forced to buy. Unlike a broken toaster that can just be thrown out when the warranty fails to cover repairs, we do not, and do not want to, throw out people whose insurance coverage proves to be inadequate.

It is worthwhile to step back to look at the costs of providing health care payments through insurers. According to Woolhandler, 20 cents of every health care dollar goes to insurance companies. Another 11 cents goes to administrative overhead and profit of the health care providers. Much of that is due to all the paperwork required to try to get the insurance companies to pay claims (there are 1300 private insurers, with nearly as many different forms that health care providers must fill out to file claims); it is estimated that $350 billion a year could be saved on paperwork if the US adopted a single payer system. (Matt Taibi, “Sick and Wrong”, Rolling Stone, September 3, 2009). Hence, it is plausible that a full quarter of all health care spending in the US results from the peculiar way that we finance our health care system—relying on insurance companies for a fundamentally uninsurable service. Getting insurance companies out of the loop would almost certainly “pay for” provision of health care services to all of those who currently have inadequate access—including the under-insured.

In sum, using insurers to provide funding is a complex, costly, and distorting method of financing health care. Imagine sending your weekly grocery bill to an insurance clerk for review, and having the grocer reimbursed by the insurer to whom you have been paying “food insurance” premiums—with some of your purchases excluded from coverage at the whim of the insurer. Is there any plausible reason for putting an insurance agent between you and your grocer? Why do we put an insurer between you and your health care provider?
Next time: How to build a better mousetrap.

Healthcare Diversions, Part 1: The Elephant in the Room

By L. Randall Wray

I have tried to stay clear of the current healthcare debate because all sides appear to be so far from any sensible policy that I remain indifferent to the outcome. However a recent three-hour layover in a major airport in the “new South” brought into sharp focus—at least for me—the elephant in the room that no one wants to discuss.

I won’t belabor the obvious point that Americans are, to put it delicately, a bit on the hefty side. But what really struck me is that many have evolved to the point that they are barely bipedal. As passengers attempted to perambulate their way from one gate to the next, it appeared that most had forgotten how to walk. I saw the most ungainly gaits—peregrination with great effort but little forward progress, the zigzag, the toe-heel-toe, the Quasimodo, the sideways roll, the zombie, the stop-start-stop again, all whilst occasionally careening off walls and other passengers. Of course, in some cases the attire dictated the method. A few of the boys had their pants waist bands down around their knees, forcing a duck-like waddle, made even more difficult by the need to use one hand to hold onto the belt lest gravity complete its work and bring the pants down to the ankles. A lot of the girls wore PJs and flip-flops, making it impossible to do much more than shuffle along. Some forty-somethings had eight inch stilettos in which only flamingos could parade about with grace. Still, the vast majority of passengers wore shoes marketed as sporting equipment, designed presumably for activities involving two legs and an upright posture rather than for those of the aquatic or slithering or knuckle-dragging variety.

And here is an interesting factoid: the average American walks just the length of three football fields daily. (Sierra Magazine, Jan/Feb 2007, p. 25) It shows. Since that is the average, it is no doubt boosted by the still considerable number of aging yuppies who manage 3k runs before breakfast, as well as by children the soccer moms idolized by Sarah Palin drive to practice. I presume that most of the airport patrons typically manage little more than a few schlepps from couch to fridge each day, taking a momentary break from their average 1600 hours in front of the TV each year. (Uncle John’s Bathroom Reader, 2006 p. 115)

Like many other airlines, ours had provided a welcoming speech as the plane pulled up to the gate, helpfully reminding passengers that the most dangerous part of their journey would soon begin. I had always thought that they were alluding to the fact that we would shortly be behind the wheel of our autos, taking our lives into our own unprofessional hands as we attempted to pilot 2 tons of steel on a 65 mph freeway through an obstacle course of text-messaging drivers (which studies show are twice as impaired as a drunk driver). Actually, they were referring to our more immediate mission—to walk without major mishap to the baggage claim area before returning to the relative safety of a seated or prone position in a vehicle, like the humans in the Wall-E movie. A few centuries ago, our ancestors here in America were able to run down buffalo, or even mastodons, and kill them with spears. Today, most Americans can, with some effort, spear a French fry—providing it is not moving too quickly and that they are seated to steady the aim.

Don’t get me wrong. I am not one of the contrarians who reject the argument that lack of access to healthcare by the uninsured contributes to the US’s relatively poor ranking in terms of health outcome. Surely that explains some of our problem. But too little exercise, too much smoking, too much food, and especially too much bad food have got to be a huge factor. As Michael Pollan argues (In Defense of Food, 2008), unless we address the problem with American Food, Inc., we will not significantly improve our health no matter what we do with health care. According to Pollan, the cost to society of the American addiction to “fast food” (which is neither all that fast nor is it food) is already $250 billion per year in diet-related health care costs. One-third of Americans born in 2000 will develop diabetes in her lifetime; on average, diabetes subtracts 12 years from life expectancy, and raises annual medical costs from $2500 for a person without diabetes to $13,000. While it is true that life expectancy today is higher than it was in 1900, almost all of this is due to reduction of death rates of infants and young children—mostly not due to the high tech healthcare that we celebrate as the contribution of our innovative, profit seeking system, but rather to lower tech inoculations, sewage treatment, mosquito abatement, and cleaner water. The life expectancy of a 65 year old in 1900 was only about 6 years less than it is for a 65 year old today—and rates of chronic diseases like cancer and type 2 diabetes are much higher. (Pollan, p. 93)

Smoking causes 400,000 deaths yearly. Simply banning smoking from public places throughout our country could reduce deaths by 156,000 annually. (NPR 22 Sept) We incarcerate a far higher percentage of our population than any developed society on earth—and health care costs in prisons are exploding for the obvious reason that prisons are not healthy environments. Our relatively high poverty rates, and high percentage of the population left outside the labor market (especially young adult males without a high school degree) all contribute to very poor health outcomes. In a very important sense that I will explore thoroughly in the next blog, more health insurance coverage would no more resolve our health care problems than would provision of car insurance to chronic drunk drivers solve our DUI problem.

So, before ramping up health care insurance, how about an education program to teach people the mechanics of walking. It is not as simple as it sounds. I speak from experience because some years ago I tore a calf muscle and after a long and painful healing process, I developed a gait that was all kinds of ugly. A physical therapist helped me to redevelop a human stride. While we are at it, we can reintroduce Americans to food. I don’t mean the corporate offal that Pollan calls “food-like substances”—products derived from plants and animals, but generated by breaking the original foods into their most basic molecules and then reconstituting them in a manner that can be more profitably marketed. What I mean is real food, produced by farmers and consumed after as little processing as possible. Preferably it will be local, cooked at home, eaten at a table, and will consist mostly of vegetables, grains, and fruits. And let us provide decent jobs to anyone ready to work, as an alternative to locking them up in prison. Ban smoking from all public places and regulate tobacco like the highly addictive and dangerous drug that it is. Together these policies will do far more to improve American health and to reduce health care costs than anything that “reformers” are proposing.

To conclude this part of the analysis: the benefits of extending health insurance coverage are almost certainly overstated and are not likely to make a major dent in our two comparative gaps: we spend far more than any other nation but do not obtain better outcomes and in important areas actually get worse results. Nations that adopt diets closer to ours begin to suffer similar afflictions: obesity, diabetes, heart disease, hypertension, diverticulitis, malformed dental arches and tooth decay, varicose veins, ulcers, hemorrhoids, and cancer. (Pollan p. 91) Even universal health insurance is not going to lower the costs of such chronic afflictions that are largely due to the fact that we eat too much of the wrong kinds of food and get too little exercise. It makes more sense to attack the problem directly by increasing exercise, reducing caloric intake, and minimizing consumption of corporate food-like substances that make us sick, than to provide insurance so that those who suffer the consequences of our lifestyle can afford costly care.

Let me be as clear as possible: it is neither rational nor humane to deny health care to any US resident. Further, I accept the arguments contending that early treatment through primary care is far more cost effective than waiting for emergency care—and it is obviously more humane. However in the next blog I will explain why I believe that extending health insurance is the wrong way to go if the goal is to extend health care coverage.