Will Health Care's Long Boom Go Bust?

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Can our slow-growing and debt-ridden economy "afford" to limit future spending on health care? Health-sector boosters point to the industry's long record of creating more jobs and growing faster than the rest of the economy. But a number of recent warning signs indicate what cannot go on forever will not, and a rebalancing of our future spending patterns might be good economic medicine.

The latest national health spending projections released last month by actuaries at the Centers for Medicare and Medicaid Services (CMS) suggest different stories about recent trends and future forecasts. Actual U.S. health spending in 2010 was lower than previously predicted (growing only 3.9 percent after a previous historic low rate of 4.0 percent in 2009), which continued a pattern of such spending growing at a slower rate every year since 2002. Yet CMS also projects that, after the lingering effects of the recent recession wear off and the new health law is fully implemented, health spending will pick up. It is supposed to grow at an average annual rate of 5.8 percent between 2010 and 2020, or about 1.1 percent per year higher than the overall economy. Hence, the health sector's share of GDP will rise from 17.6 percent to 19.8 percent.

Even this relative rate of growth might not be fast enough for more enthusiastic supporters of health spending. In a 2007 study, Hall and Jones concluded that spending 30 percent or more of GDP on health by 2050 would maximize Americans' social welfare. Their core premise was that as we grow richer, the most valuable thing we have left to purchase becomes more time on the clock to live. They observe that age-driven demand for more health care implies that "a 65 year-old would give up 82 percent of her consumption, and an 85 year-old would give up 87 percent of her consumption to have the health status of a 20 year-old."

Actually, it might be more accurate way to suggest that the 65 year-old would be willing to give up 82 percent of the consumption (and future income) of some other 20 year-old, and the 85 year-old may not only want the body of a 20 year-old, but hopes he visits her more often.

Whether willingness to pay for health care is personal or mostly outsourced to third parties, more health spending appears to produce more jobs (almost 25 percent of total job growth in the past two decades). However, a recent analysis of the evolving structure of the American economy by Spence and Hlatshwayo indicates that almost all incremental employment from 1990 to 2008 has occurred in the "nontradable" sector, which experienced much slower growth in "value added per employee" that is highly correlated with income.

Health care is the second largest employer in that sector, just behind its closely aligned financial "partner" - government. But they conclude that without expanded employment in the tradable sector, the United States will face a longer-term structural employment problem. Their research did not yet address how the U.S. will be able to make necessary investments in human and physical capital, fundamental research, and tradable sector technology if rising shares of public and private dollars are devoted instead to health care consumption.

Another recent study by Nyce and Schieber finds that the rising costs of health benefits may have added two percentage points to the unemployment rate during 2000-2009, contributed to the noticeable slowdown in worker pay and income growth, and will particularly harm the future living standards of less-skilled lower earners.

A 2009 analysis by Chernew, Hirth, and Cutler of the implications of continued health spending growth for the consumption of nonhealth goods and services concluded that 119 percent of the real increase in per capita income would be devoted to health spending over the 2007-2083 projection period. In their alternative "slower health spending growth" scenario, only 53.6 percent of future real income growth goes to health care.

Is the Affordable Care Act more likely to make this situation better or worse? Most Americans would place their bets on it driving up the future cost of health care despite past promises to lower it.

The new health law's plans to put Medicaid enrollment on steroids, stimulate demand for highly subsidized coverage in state-based exchanges, and imagine that formulaic cuts in future Medicare reimbursement will be sustainable all suggest that much greater pressure to raise taxes to finance more public insurance coverage is very likely. But Baicker and Chernew observe that "raising taxes to pay for public insurance exerts a structural drag on the economy even if the revenue is spent on care" (unlike unsubsidized, privately purchased care or insurance), and that "spending on low-value health care diverts resources from other uses that could do more to boost the GDP and create jobs."

In another study with Skinner, Baicker estimated that, with health reform unlikely to slow substantially future growth in U.S. health care costs, the sharp increase in tax rates required to finance public health program spending will generate efficiency costs that could reduce GDP in 2060 by 12 percent. The mixed good news is that "the rising efficiency cost of tax distortions (and political opposition to tax hikes) may ultimately temper health care spending growth in the next several decades."

Other economic analyses of the marginal "deadweight" burden caused by incremental increases in government taxes, borrowing, and/or spending find that it substantially reduces economic output by decreasing labor supply, plus distorting is substantial and can exceed the value of whatever public spending they finance.

In light of research by McGinnis suggesting that a relatively small proportion of preventable mortality in the United States -- perhaps 10-15 percent -- could be avoided by better availability or quality of medical care, and other findings that the most effective way in recent history for countries like the United States to reduce large deficits and debt is by cutting spending rather than increasing taxes, it may well be that our ever-booming health sector (particularly the publicly financed portion) has an overdue rendezvous ahead with the limits to growth. Current assumptions about steadily-rising years of health spending relative to the rest of the economy may not last much longer than past assumptions about ever-rising housing prices.

Mr. Miller is a resident fellow at the American Enterprise Institute, and the co-author of Why ObamaCare Is Wrong for America.

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