I was awakened during my slumber through the State of the Union by a mention from President George Bush of a health care proposal that I almost agreed with.
No, I haven’t come around on health savings accounts, and association health plans. Nor did I join the Republicans in their standing ovation for malpractice reform. The Bush proposal that woke me up was the creating a tax deduction for health insurance that would apply to everyone. Potentially this really matters, and inside it is the germ of the right idea. But I guarantee you that most Americans won’t have a clue where this came from, and why it made it into the president’s speech.
Let me explain a little. Health insurance for the vast majority of Americans (60%+) comes from their employers. 99.9% of Americans think that this is a natural relationship that costs them nothing and they, in general, have no idea what it costs their employer. This is though a historical accident, with its roots in a wage freeze policy during WWII when employers added benefits to attract workers because they couldn’t raise pay rates. The idea became fixed after the Supreme Court ruled that health benefits didn’t count as taxable income.
So, today, you’re better off getting insurance paid for by your employer than taking the cash, getting taxed and buying the same insurance yourself. Lately self-employed people have also been able to deduct their health insurance costs so the only saps left paying for health insurance with post-tax dollars are those who are not self-employed, don’t get it from their insurers and actually buy it themselves.
You may think that’s not very fair, and you’d be right. Which is why Bush’s proposal is interesting.
There aren’t many people buying their own insurance – not yet – so their influence is minimal. On the other hand this tax-free status of health benefits means two things. First, if you make any sector of the economy tax free, you’ll get more spending there. America does the same thing with mortgages which is partly why we lead the world in McMansions, second homes and personal debt. To a lesser extent, the story is the same with health insurance – at a cost of some $200 billion in taxes not collected.
As with any wrinkle of the tax code, this transforms into institutional politics. Unions (and upper income employees who get a bigger tax break because they pay higher income tax rates) have spent more time than is useful protecting every last health benefit gained from their employers. One of the results has been that while overall employee compensation has gone up a fair bit in the last two decades, real incomes have not. That’s because the whole increase has been swallowed up by the increased cost of health benefits.
Sensible economists like Alain Enthoven and Vic Fuchs have spent thirty years shouting that we should start treating health benefits like taxable income. But that’s fallen on deaf ears because the consequence of abolishing the law will essentially be a tax increase on employees, and less money available for the health care sector. You can imagine some political opposition to that last part at least!
Bush has proposed a cap on the “amount” of health benefits that can be given tax free at $15,000 for a family plan, $7,500 for an individual. That’s a pretty high limit given that average family premiums for a generous plan run about $11,500 a year and it essentially means that no one other than Manhattan lawyers and corporate CEOs would have to pay tax on their health benefits – so far! Of course eventually, as health care costs increase, more and more people would have to pay tax, which theoretically would encourage them to make more rational choices about how to receive their compensation. Presumably this would eventually make them more price aggressive shoppers for health care. That’s the good news, and by the way it’s similar to how the British government in the 1990s got rid of the tax deductibility of mortgages; not that that slowed house price inflation over there once the initial shock wore off!
The bad news is that in isolation this change would have a bunch of consequences – plenty of which are unsavory, although probably desired by Bush and his fellow Republicans who have more faith in the market than me or many others. That’s because employers are natural pools of insurance risk. Young workers are essentially cross-subsidizing their older and sicker colleagues. Of course somewhere in this mix, if the Bush proposal goes forward, employers would have to start telling their employees what their health benefits really cost (not just that they have a $10 co-pay), and anyone who’s quit their job and started making payments for health insurance knows that it’s a shockingly large amount of money.
For example, in California, a $7,500 deduction for a young individual exceeds their cost for a bare-bones insurance plan by a factor of five. In that case, you can expect young employees to go their employees and demand a few thousand dollars more in cash and then opt out of the health insurance benefit, and take the full tax deduction. What happens next? Well the employer’s risk pool fractures, leaving only those employees whose insurance costs much more than the average looking to the employer for coverage. The likely result is that those employers offering insurance on the margin will give all their employees cash, and then tell them to go fend for themselves in the individual market. This won’t affect members of Congress, high-priced lawyers and investment bankers, but it will be a big deal for those employees who were getting decent benefits at work but now forced to go cap in hand to the underwritten individual market – a market place where pooling risk is a dirty word.
Now, I’m not suggesting that insurance should come from employment. That’s emphatically a bad idea as everyone from the libertarians at Cato to the single payer crowd agree. In fact Democrat Sen. Ron Wyden has his own proposal, more radical but in some ways similar to the president’s, to break the link between employment and health insurance. He, too, would limit the amount an employer pays for and individuals can deduct for health benefits (and eventually abolish the employer contribution altogether on the assumption that wages will rise to reflect that change).
Both proposals are, in essence, tax increases, by the way. But it’s a question of getting there from here. And Wyden’s plan fixes the part of the equation that Bush ignores. His idea is to create a regional pooling system with insurers forced to charge community rating with fees not based on age or health status, where insurers forced to accept all comers, and with everyone forced to buy into the pool. Without those radical types of insurance reform or regulation, the Bush proposal will simply lead to more and more Americans being thrown to the vagaries of the currently catastrophic (pun intended) individual insurance market.
Meanwhile someone who knows something about the trials and tribulations of health care reform efforts – and who in the moderately recent past was the most famous ever proponent of regional pools very similar to Wyden – is apparently not going to ignore the subject either.
Former President Clinton has signaled privately that his wife, Sen. Hillary Rodham Clinton (D-N.Y.), will include aggressive healthcare proposals in her campaign for the White House, despite the debacle of what critics labeled “Hillary Care” 14 years ago. In remarks to Democratic operatives last month, the ex-president caused a buzz by strongly defending the substance of his wife’s 1990s plan, claiming it was a moderate, private-sector approach grossly mischaracterized by its critics.