Tuesday, October 13, 2009

Why Health Care Reform is Doomed


In 1971, Henry Manne wrote The Parable of the Parking Lots. The lasting value of this article, along with Radford's Economic Organization of a POW Camp, probably outweighs all that discussion of supply and demand curves that makes up so much undergraduate micro.

The story describes what happens to a college town when parking lot owners decide to get together and squelch competition. Specifically, this was targeted towards those Saturdays when football games generated an abnormal number of cars, and many people and businesses sold space on their private driveways. The parking lot owners noted horror stories about 15-year olds parking cars, or the inability to fully insure the cars! They had a meeting where they said parking cars 'wasn't a business, it was a profession', and set up a slush fund for political action. The 'unfair and dangerous competition' was made illegal, by basically mandating fixed costs that made it uneconomic for small providers of parking spaces to operate. The new law allowed the parking lot owners to increases prices under the pretext of quality, yet the result was more congestion because the parking lot owners were not equipped, or incented, to deal with the new volume efficiently. Quality was merely redefined to mean fully licensed and bonded parking lots. Creative people got around the prohibitions by offering people $5 'car washes' on their driveways that lasted several hours, which then provoked new regulation. Each new regulation created a new problem, which then motivated more regulation.

The parable supports the principle that 'quality oriented' guild monopolies conspire with legislators under the banner of 'the public interest'. They then can raise their prices by outlawing all sorts of competition. The unanticipated inefficiencies created simply raise the cry for more regulation. The net result is worse for everyone except a few parking lot owners and the legislators they support. The analogy to our current health care system is pretty straightforward, such as when only doctors are allowed to perform certain functions that a physicians assistant or nurse could easily do. But for health care it is actually much worse, because at least with parking lots customers paid directly for their services; in health care we have people spending other people's money on other people, often indirectly via mandates that people would never pay for themselves.

The market is a complex system. It is not merely a means to an end, but often an end in itself, the name we give to how we go about much of our lives providing and procuring services. When we restrict the market, it invariably makes us worse off because prohibiting two people from a subjectively mutually beneficial transaction makes them better off only under extremely rare situations (the problem of asymmetric information and non-aligned incentives is only amplified in a bureaucratic government alternative).

The US health care system involves a myriad of regulations, rights, and tort liabilities, that conspire to make this market highly perverse. Any current health care provider is already playing the game, thus, doctors in the US average a salary of $150k/year, almost double that in other developed countries. Unions are growing in health care, with the common result of inflexible rules, high salaries, and an inability to fire workers. As with our education monopoly, expect the health care professionals to make out best in any solution (Michelle Obama, after all, was a $317k/year 'diversity outreach coordinator' for the University of Chicago Hospitals once her husband became a senator--we need more of those!).

The current modifications are just like the parking lot parable: more patches for problems created by prior patches. One law government obeys is the The Second Law of Thermodynamics, so the new system will certainly be more complex. Spending more money will not make it better, just create new inalienable rights and patronage jobs paid for via the magic of deficit spending. Some day the spigot will turn off (eg, Chinese investors), the Laffer curve will constrain tax increases, the demographics will no longer have several wage earners for each person on the dole, and all these off-balance sheet liabilities will be too expensive. Then things will really get interesting.

I hope to live in a gated community by then. With a moat.

25 comments:

Noah said...

Wow, the end of this post was sort of like a Glenn Beck evening special, only for people with IQs above 75.

According to Eric's dire pronouncements, institutions can never be improved, only destroyed and rebuilt. That is far from proven.

The fact, is, we can get by without Chinese overinvestment in U.S. Treasuries, we're nowhere near the Laffer Curve peak for personal income tax, and the demographics stabilize pretty quickly after the Boomers finish retiring. Though Medicare is in trouble with the rest of the health care system, Social Security is in fine shape, contrary to popular belief.

Eric, if you go ahead and move to your gated community with your moat, I hope you have internet access, so you can read about the rest of us reforming and fixing America's institutions...

tesla said...

I wish I shared your optimism, Noah, particularly about Social Security. You do realize that every single cent of the "Trust fund" has been spent and when the system starts running in the red (starting next year) the shortfall will take the form of additional debt? The baby boomers are just getting started with retiring. The only certainty is that I will pay more and get less when I cash my chips in.

randian said...

The sad fact that the US spends about 50% more per capita as Europe with little to show in aggregate mortality data

Even if Americans don't live longer, which I don't believe, Americans sure live a lot better. Look at 5-year mortality data for breast or prostate cancer. It's a lot better here than in the UK or Europe. Then there's the matter of speed and convience of care, which the US has no rivals.

This is an econ blog, right? We're a lot wealthier than Europe, so it's no big deal if we spend a lot more than they do on health care. The idea that mere spending is a problem is a liberal lie. Since we can only spend so much on fancy cars and electronic gizmos, spending this excess wealth on improving the length and quality of our lives becomes quite rational.

Anonymous said...

Do people in Europe live in gated communities with moats? Or do they just starve to death? Or do they live in some kind of free-market health-care paradise like the pre-Obama American system?

Just wondering.

Noah said...

I wish I shared your optimism, Noah, particularly about Social Security.

All we need to do to make the system solvent is to A) raise the retirement age to 67, OR B) curb the growth of benefits to just over the rate of inflation for a couple decade. Neither of those prospects makes me want to move to a gated community with a moat.

You do realize that every single cent of the "Trust fund" has been spent

Really? Their website says they have more then $2.3 trillion in assets.

The only certainty is that I will pay more and get less when I cash my chips in.

That is true, but it is only relative to some generations that got a really really good deal.

Hey, if people want to think the sky is falling, our nation is in permanent decline, and our institutions are headed for the garbage heap, go ahead. Buy gold. Dig that moat. Stock up on canned food and guns. But at least look at the data before you do...

Eric Falkenstein said...

The trust fund's "assets" are ... IOUs from the Treasury! That would be illegal for a private insurer, and the company would have a net worth=-liabilities. Canada, in contrast, has its version of social security invested in assets from other parties.

The US government will either have to reneg on explicit commitments, or inflate its way out of this, either way, my moat will come in handy.

Anonymous said...

Do people in Europe live in gated communities with moats? Or do they just starve to death?

Some of them do die:

A grandfather who beat cancer was wrongly told the disease had returned and left to die at a hospice which pioneered a controversial 'death pathway'.
Doctors said there was nothing more they could do for 76-year- old Jack Jones, and his family claim he was denied food, water and medication except painkillers.
He died within two weeks. But tests after his death found that his cancer had not come back and he was in fact suffering from pneumonia brought on by a chest infection.

To his family's horror, they were told he could have recovered if he'd been given the correct treatment.


And, Noah, the retirement age has already been raised to 67, and those assets in the SS Trust Fund are exactly offset by a liability; they net to zero

Anonymous said...

Well I agree, it would be a damn shame if an American person ever died as the result of a medical error.

Michael Meyers said...

Eric,

First let me say how much I enjoy your blog! Thank you for taking the time to make it available.

Regarding this post, I too am generally pessimistic about the evolution of our democracy. In addition, to the problems with government programs that you state, I think we face the additional problem that these government programs will drive wealth out of the city/state/country – not just money, but also people. Detroit and California are examples of what can happen to large parts of the country.

Regards,
Michael

PS-I learned a lot from the several hours of your "Finding Alpha" videos...and found them very illuminating, changing the way I think about the market and invest.

Anonymous said...

i.e., the US in 15 years will be like Japan is now, except with more crime.

Noah said...

The US government will either have to reneg on explicit commitments, or inflate its way out of this, either way, my moat will come in handy.

So, basically, what we're getting here is another long-term inflation scare, together with ominous rumblings about the possibility of U.S. sovereign default?

Because if long-term inflation is all one is scared of, it's easy to hedge against that without moving behind a moat - just buy TIPS, or foreign currency, or whatever.

A sovereign default would obviously be much more of a cause for worry, as it's hard to hedge against it without moving to another country.

Anonymous said...

From a UK perspective, this is one issue where the free marketeers get it wrong.

patients in need of heath care are not like drivers looking for a parking lot. Patients are at the mercy of the medical profession, and in a pure free market they get fleeced.

Take prostate cancer. It's a complex condition in which many men show symptoms but they do not progress, and the tests also generate false negatives. In the UK, your Doctor acts in the patients best interests to source the appropriate treatment. In the US, there is a strong temptation to diagnose prostate cancer and prescribe expensive treatment even if its not needed. So those impressive stats are nothing to be proud of.

To see the true cost of your health industry, look not at the health stats but at your car industry. The crippling cost of health car makes it uncompetitive and an international joke.

I'm a Brit so am deeply attached to the NHS, but it probably isn't the solution for the USA. Have a good look at countries such as Germany or Netherlands. These countries are full of smart people who make sensible choices.

Anonymous said...

Noah, hedging requires leaving the US. TIPS will not help; look what happened in Argy (they replaced the head of the stats dept to someone who would print lower CPI numbers so as to save on the interest bill). I don't see how holding foreign currency helps; gold was confiscated in the Depression. There is no reason the govt will not do the same again. But it's likely your pension will be confiscated first; I suspect that will be how the US buys some time on the Social Security issue. We already know the admistration considers the law to be no impediment to political goals (cf. Chrysler and GM) and the judiciary is clearly not interested in standing up to the executive.

I am with Marc Faber all the way: to predict govt, think of the worst thing that can happen, then double it.

Anonymous said...

"The trust fund's "assets" are ... IOUs from the Treasury! That would be illegal for a private insurer"

Yes but the government is not a private entity. These "IOU's from the treasuries" are claims on the future output of the nation, and the government has, by definition, the means to enforce them.

These IOU's are just inter-generational, african village style solidarity contractualized and enforced at the national level. With added economy of scale and reduction in idiosyncratic risk.

Anonymous said...

"Canada, in contrast, has its version of social security invested in assets from other parties. "

I don't see how this makes sense: I presumme some of these "other parties" are the US gov. I don't see then how a US IOU detained by another creditor can be safer an asset than a US IOU held by the US gov.

Anonymous said...

'Patients are at the mercy of the medical profession, and in a pure free market they get fleeced.'

The USA doesn't have a free market system. Which we've known since at least the 1930s, thanks to Milton Friedman's Phd dissertation, later published as 'Income From Private Practice', exposed the conspiracy in restraint of trade that is the AMA.

Jim Glass said...

I don't see how this makes sense: I presume some of these "other parties" are the US gov. I don't see then how a US IOU detained by another creditor can be safer an asset than a US IOU held by the US gov.

Here's how:

It's the year 2030 and Congress has to increase income taxes by 50% to pay for entitlements -- one-third of which is going to pay off the SS Trust Fund Bonds.

Voters -- including seniors who are having this tax hike land on the their pensions, 401(k)s, investment income and Social Security benefits -- are furious! "You never told us this was going to happen!!"

A political deal results -- in exhange for taxes large enough to fund part of these benefits, other benefits are cut. (Just like the 1983 bailout of Social Security: 50% tax increase, 50% benefit cut).

The benefits cut: Social Security benefits, so the bonds in the "trust fund" are never needed, never cashed in. No default results because by their unique terms they aren't payable until presented, and the govt just never presents them to itself.

Alternative Universe: The govt instead of spending the Social Security surplus saved it by buying gilts, German bonds, Japanese bonds etc.

In 2030 it receives payment on these from the bond issuers. Thus there is no tax cost to operating the SS trust fund, and thus no pressure to cut benefits. SS benefits are fully safe.

Also, the general income tax increase needed in 2030 is merely 35% across-the-board, not 50%.

Jim Glass said...

"The trust fund's "assets" are ... IOUs from the Treasury! That would be illegal for a private insurer"

Yes but the government is not a private entity. These "IOU's from the treasuries" are claims on the future output of the nation, and the government has, by definition, the means to enforce them.

"By definition" a government has the means to pay its debts, eh? Tell that to the Russians 1997, the Argentines how many times....

By 2030 to keep even with promised entitlements income taxes will have to increase 50% across the board (i.e. as a pct of GDP) -- and that will be only the start.

Let's imagine the voters vote not to pay such tax increases. What then? What happens to the "definitional" ability of the govt to meet its obligations?

It's interesting to consider the self-interest of voting groups in the late 2020s -- when these tax bills have to come due.

E.g., will there be any voting group (including senior citizens) that will vote to support the big income tax hike needed to service the trust fund bonds, as a matter of self interest? Instead of supporing SS benefit cuts? It's not so easy to find one when you actually look.

Anonymous said...

MGB was a POS. Was that cuz of british health care?

LetUsHavePeace said...

As others have pointed out to Noah, the Social Security Trust Fund's$2.3 trillion in assets are IOUs to itself. If our banking system were to adopt the same method of accounting, a bank teller could legitimately argue that removing Federal Reserve notes and putting them in his/her pocket is not stealing because the teller has put a note in the cash drawer saying he/she promises to pay the money back some day. (Oh, wait, out banking system, with the consent of the Federal Reserve, HAS adopted this method of accounting.) Arguing, as Anonymous does, that this is really OK because it is inter-generational is classic Keynesian sophistry: everything will be OK because the present bank teller's note will be replaced some day by another bank teller's personal IOU. As Eric, tesla and others have pointed out, the Social Security Trust Fund has no assets that have current value. Its Treasury Bonds are not, in fact, able to be sold in the public market; they are a "special" issue. If the Trustees were genuine fiduciaries, they would insist that the $2.3 Trillion be available for sale; and they would diversify the assets of the trust by selling some of those bonds. Of course, the existing Federal bondholders might object to this prudent diversification; and the primary dealers would have more than a few choice words for their friend Timmy. Randian confuses the primary virtue of American medicine - that people can bargain for treatments by selecting their doctors and shopping for medicines - with its very real liabilities. As Eric suggests, American medicine needs more competition; and regulation in the name of public health is the greatest obstacle to increasing that competition. Nevertheless, there is an historical precedent for optimism. By refusing to save the state banks, insisting that the U.S. government make its own obligations exchangeable at will into specie and guaranteeing the value of Union veterans pensions, Ulysses Grant and the Stalwart Republicans created the longest lasting political majority in American history. The present crisis is likely to have a similar resolution: (1) A partial or complete default on the government's other pension obligations - those to its present and former civil service employees - and a discarding of all implicit or explicit backing for IOUs issued not by the Treasury but by the TVA, FNM, FRE, FHA, etc.; (2) Sale of the government's physical assets (the electromagnetic spectrum is one obvious example); and (3) shrinking the present civil service workforce. The first political party to embrace the obligations to the general elder population and veterans at the expense of the other Federal civil servants will likely have the same success that the "hard" money Republicans (and occasional Democrats like Grover Cleveland) enjoyed between 1872 and 1932. P.S. Eric remains the sharpest knife in the drawer.

Anonymous said...

Jim Glass;> Ok, thanks for the clarifications.

Anonymous said...

The Sovereign does not default on obligations denominated in its own currency. Never has happened. Never will happen.

Jim Glass said...

The Sovereign does not default on obligations denominated in its own currency. Never has happened. Never will happen.

Russia 1997, most recently, among other cases.

Better luck with your next proclamation.

Tip: If a government can't afford to pay debt it owes that is denominated in its own currency it has two choices as to how to get out of paying it:

1) Overtly default on the debt.

2) Destroy the value of its own currency through inflation to pay off the debt in nominal terms while reneging in real terms.

Nothing in the world prevents such a government from choosing #1.

If the politicians running it see less of a threat to themselves from angry creditors post-default than from mobs of angry citizens coming at them with pitchforks and torches after their wealth is wiped out by inflation, they will of course choose #1.

See Russia 1997, most recently.

Anonymous said...

Please consider: "Denominated in its own currency"

And please consider your own comment:

"2) Destroy the value of its own currency through inflation to pay off the debt in nominal terms while reneging in real terms."

This is not default.

Jim Glass said...

Please consider: "Denominated in its own currency"

Please consider: Russia, 1997, defaulted on its debt "denominated in its own currency".

Get it?

Of course #2 is not default, that's why it includes the words "pay off the debt in nominal terms".

But Russia chose instead to default on debt denominated in its own currency. (And BTW, Russia is not the only one)

Read what I wrote for comprehension, and you may come to understand why.

Then you may have better luck in your future proclamations.