Ethics of "Mandate+Penalty" vs. "Tax+Credit"

In regard to the debate on the individual mandate, some people have mentioned that the mandate+penalty scheme is equivalent to a scheme of levying a "health care responsibility tax" on everyone, and giving a tax credit for those who buy an acceptable insurance plan. See, for eg., Ezra Klein, Ed Kilgore and Justice Sotomayor:

"JUSTICE SOTOMAYOR: Could we have an exemption? Could the government say, everybody pays a shared health care responsibility payment to offset all the money that we are forced to spend on health care, we the government; but, anybody who has an insurance policy is exempt from that tax? Could the government do that?"

So here is my question. Is there an ethical difference between these two economically equivalent options:

Scheme A: A legal requirement for everyone to buy an insurance policy, with a penalty of $1000 for failure to do so.
Scheme B: A health care responsibility tax on everyone of $1000, with a tax credit of $1000 for anyone buying an insurance policy.

A Taxing Question on HSAs

Health Savings Accounts, or HSAs, are tax-advantaged savings accounts that are paired with a high deductible health plan (HDHP).

The idea is to take on a HDHP and put enough money into a MSA, so as to have money to pay for both expected and unexpected health care expenses.

Contributions to HSAs can be done via pretax earnings, thereby saving or at worst delaying the tax that otherwise would be paid (if withdrawn for nonmedical use after age 65, the non-earnings part of the distribution would be taxable). Earnings on contributions accumulate taxfree, even if withdrawn for nonmedical use after age 65.

So here is the question. Suppose someone is in an HDHP and puts the maximum amount, $3100, into their account. At the end of the year, they see that they have incurred $1000 of health care expenses, and begin to prepare a withdrawal from the HSA to repay themselves.

But...those funds in the HSA are earning taxfree returns. Suppose the individual has maxed out on all other tax-advantaged investment opportunities, such as their IRA.

Then why take any funds out of the HSA? The person should really just eat the health care expenses out of regular savings or income. Leave that HSA alone and let it accumulate taxfree!

The question then is: One might have thought ex ante that, with the HSA, the marginal cost of health care expenses would be lower by the marginal tax rate, that is, if the marginal tax rate is 30%, then the real cost of health care expenses will only be 70 cents per dollar incurred. But if one is behaving optimally, it seems that one should just put the maximum contribution into the HSA and leave it there for retirement...or for general living expenses, health care included, if any kind of cash flow situation develops.

So the cost of health care seems to be dollar for dollar, at the margin, just like for any other consumption. The fact that the HSA is funded with pretax dollars is just a gift from the government in general; it is not a means for lowering the marginal cost of health care.

This is different from Medical Reimbursement Accounts, which are funded with pretax dollars but cannot roll from year to year and do not earn returns. With MRAs, the money has to be spent on health care, and they do lower the marginal cost to the consumer of health care only.

Is this right? Will consumers see this pricing difference and behave differently with HSAs than MRAs -- purchasing less health care? My bet is yes: Come the end of the year, and people start thinking about withdrawing from their HSA to pay for health care, some of them will realize they are better just leaving the money there. Others will have used their HSA on a pay-as-you-go basis, since they come with a debit card sometimes. These people will be foregoing a very nice way to save tax free for retirement. Of course, many people are not currently maximizing their opportunities to save taxfree for a variety of reasons.

Is this the market working?

Here is a very interesting WSJ article involving customer claims to their money from the failure of MFGlobal.

Recall the basic situation: customers who held funds in accounts at MFGlobal have not been fully paid, and the money as of yet has not been located. It appears that in the flurry of MFGlobal's plunge into bankruptcy, those sacrosanct customer funds were mis-appropriated...but nothing has been proved yet.

Now comes a couple banks, Barclay's and Royal Bank of Scotland, offering to pay US customers of MFGlobal 91 cents on the dollar in return for the customer's claim against MF. Not too bad...those customers as of now have received 72 cents on the dollar from the bankruptcy process.

Why would the banks do this? Well, they or the investors on the other side think that 91 cents is a good price for the claim.

I wonder if there is a chance that the owner of the claim could get more than 100% -- maybe due to penalties.

My colleague Randall Thomas and I once wrote a paper where we discussed the sale of claims arising from class action lawsuits to the highest bidder. The advantage here, as with the MFGlobal situation, is that you will get a concentration of economic incentives to litigate the case efficiently.

Fascinating how markets work.

Is this insider trading?

A while back, my colleague John R. Lott Jr. and I wrote two papers around the same general topic, on the effect that one firm has on another firm through competitive actions and the implications for stock market prices.

For instance, we discussed what might happen if Firm A were to announce a decision to entry into Firm B's market. Without perfectly competitive markets, it should be expected that Firm A's decision would cause Firm B's market value to fall.

Knowing this, would it be profitable/feasible/legal for Firm A to trade in the securities of Firm B before making their announcement?

We looked into the legal aspects of this and concluded that it did not appear illegal, so long as the announcement were not fraudulent. Legality at least on insider trading grounds hinges on the managers of Firm A not having a fiduciary responsibility to Firm B. Of course, Firm A might restrict its employees from such trading (not sure why they would, but they could). But Firm A could instruct its pension fund, for instance, to short Firm B before the entry announcement.

We had trouble finding current examples of such behavior. Too bad, or the article would have gotten into an even better journal.

But now we have this Reuters article about Starbucks and Green Mountain Coffee. Quoting from the article:

A heavy burst of bearish option action in Green Mountain Coffee Roasters Inc in the hours before Starbucks announced plans to launch a single-cup coffee and espresso brewer has raised eyebrows among some option market participants.

"The level of aggressiveness that traders early on Thursday came for Green Mountain March downside puts was very suspicious," said Alan Thompson, options market maker at Timber Hill, a division of Interactive Brokers Group. "It raised our eyebrows."

"We expect that the regulators will take a deeper look at both Starbucks and Green Mountain ahead of (Thursday) night's announcement," Najarian said.

The U.S. Securities and Exchange Commission, which looks into unusual stock and options activity, declined to comment.

Post on Certificates of Need in Hospital Industry

I wrote a post last week for US News & World Report on the issue of certificates of need for new hospitals. It is available here.

In New Hampshire, a new specialty hospital, Cancer Treatment Centers of America, wants to bypass the usual Certificate of Need process. That has raised interesting questions on the role of competition in health care.

If anyone wants to read an academic paper on the topic, a very recent one is

Cutler, David M., Robert S. Huckman, and Jonathan T. Kolstad. 2010. "Input Constraints and the Efficiency of Entry: Lessons from Cardiac Surgery." American Economic Journal: Economic Policy, 2(1): 51–76.

The Cost of Contraception: Make the Insurers Pay!

Faced with some serious outcry from the proposed regulation to make all employers offer free contraceptive services to employees, the Obama administration has come up with a clever answer: Actually, the employers don't have to provide the services, we will just make the employers' insurers cover the services, and of course with no cost to the employee.

Voila!

Wait, it gets even better. According to the Administration, this won't cost anyone anything! See this from the LA Times:

Under the new plan, administration officials believe insurers will comply at no charge because the coverage may not actually cost them anything. Evidence suggests that providing birth control coverage reduces overall costs for health plans because birth control is much cheaper than pregnancy, according to administration officials and some health industry analysts.

So I guess the insurers (and employers) must just be stupid for not already giving contraceptive services for free, since they reduce health costs by more than their price. This certainly starts warning bells buzzing in my head.

There are lots of subtleties here, but let me try this angle. Suppose we have an employer who is not self-insured and pays an insurance company to cover its employees. Suppose that like most plans, contraceptive services like the pill are covered, but employees must pay a copay. Suppose also that the administration is correct in that reduced health costs from using contraception (no births) offset exactly the cost of the contraception itself.

Beginning now, this insurer must cover contraceptive services for all employees, for FREE. But probably a huge number of the potential employees who might use contraceptives are already using them and paying for them. For these employees, what we call the inframarginal ones, the insurance company simply loses revenue. Any benefit in the form of reduced health cost is already being captured. For the truly marginal employees, the ones who were not using contraceptives before but will if they are free, the administration's logic is right and the insurance company would break even.

I suspect that the first group, the inframarginal employees who already use and pay for contraceptives, is much larger than the second group, so the insurance company will on net lose a lot of revenue. This will have to be made up somehow, through larger premiums.

The insurance companies have been largely silent through all this, which does not surprise me too much given how much political pressure they are already under. But see this Reuters story:

"We are concerned about the precedent this proposed rule would set," said Robert Zirkelbach, spokesman for America's Health Insurance Plans, the industry's trade group. "As we learn more about how this rule would be operationalized, we will provide comments through the regulatory process."

Zirkelbach said insurers "have long offered contraceptive coverage to employers as part of comprehensive, preventive benefits that aim to improve patient health and reduce health care cost growth."

Employers who have signed on for such health plans in the past paid part of the cost of birth control prescriptions, while their employees also bore some of the expense through co-payments.

That Reuters article ends with this mention of the free lunch theory:

When asked about the insurer concerns, the White House cited a report from the U.S. Health and Human Services Department that estimates the costs of providing free birth control can be offset by reducing expenses associated with unintended pregnancies.

There are probably many medications that reduce health costs in excess of their own price. I would imagine that insulin, blood pressure medications and blood thinners are three great examples. Does this mean that they should all be offered in any insurance plan for free? Are employers and insurers just stupid for making us pay for these free lunches? No, of course not, for many reasons. An employer or insurer needs to somehow cover the overall cost of the plan by charging employees. Typically an efficient plan is going to recover costs through a variety of charges on different services, balancing things like elasticity of demand for those services against costs. There is also the important effect that if something is offered for free to consumers, producers face a very inelastic demand and are more likely to raise prices.

Tuition Increases and Expansion of Top Universities

Following on an argument I have been making for years, I wrote a post for US News and World Report arguing for expansion of class sizes at top universities. Top universities are the gates to much of the upper economic class in our society and I think they should be open wider.

The USNWR piece can be read here.

Adverse Selection at the Supreme Court

The brief for the private respondents in the individual mandate case can be read here.

It's a good day for the concept of adverse selection on one hand-- I count twenty mentions, and they are not incidental.

On the other hand, the brief discounts the difficulty in countering adverse selection via relatively simple restrictions, such as limited enrollment periods and coverage-waiting periods.

I tend to agree that it should be possible, if one is willing to use penalties of meaningful impact, to have both must-issue clauses for insurance (so sick people cannot be refused coverage) and prices that are not "overly" based on risk. But there would have to be a cost to waiting until sick to get coverage -- worse coverage, higher prices.

Various European Central Bank Topics

Interesting things in Europe, where threats of various economic crises seem to have abated but not disappeared.

While Mario Draghi, the relatively new head of the European Central Bank, has been strident in saying that the ECB cannot be the lender of last resort to European governments, it seems that his actions are different from his words. Last week, the ECB opened up low interest (1%) three year loans to European banks in a "liquidity-providing operation" and banks promptly borrowed €489 billion. And this week, it was reported that the ECB's balance sheet had grown to €2.73 trillion, €553 billion higher than three months ago.

And as background, we have French President Sarkozy encouraging banks to run a "Sarkozy carry trade," that is, borrow from the ECB at 1% and invest it in sovereign government bonds that yield close to 7% (Italy). In fact, the ECB will even take those bonds as collateral on the loans! Not a bad deal if you can get it!

The expansion of the ECB balance sheet is of course from its lending program, among other things, and it represents an injection of high powered reserves into the European banking system. It seems to me to be quantitative easing, the new terminology for what we used to just call expansion of the money supply through open market operations.

By itself, this is not a bad thing, and in times of a liquidity crunch, such expansion is called for. However, there are some worries in the European situation. Are the loans to the European banks to help them with liquidity problems, or are the loans to the banks just a back-door way for the ECB to buy European government bonds? There certainly seems to have been an impact, as yields on Italian and Spanish bonds have fallen.

John Cochrane has a great editorial on many of these matters. Cochrane emphasizes how European banks have huge risks, as they have loaded up on sovereign bonds, and now they have even more incentive and ability to do so. And all this sovereign debt gets a zero weighting in the regulatory bank capital schema, meaning that it is considered risk-free!

To the extent that European banks run the Sarkozy carry trade, there is an interesting divergence between the US central bank policy and what the ECB is effectively doing. During the US credit crisis (post-Lehman) the Fed pumped up its balance sheet, partly through a policy of buying mortgage bonds issued by FannieMae and FreddieMac. This sounds similar to the ECB buying up bonds of Italy, Portugal and Spain. However, with the Fed and in the US, the bad practices that got us into the mess had ended -- the subprime market was shut, and even Freddie and Fannie tightened significantly their lending practices (so much so that it is too hard now for people to get a mortgage). In Europe, it is not yet clear that the government policies that got them into trouble have really been fixed. And the bonds sold by those governments are now on the balance sheet of the ECB.

Of Competition in Health Care, and Law Schools Too

Yesterday I wrote that not much had been said about the new Wyden/Ryan “defined contribution” plan for Medicare. I guess I had not searched enough, for later I came across this piece by Krugman, Ron Wyden, Useful Idiot and in it he references a posting by Ezra Klein, Competition Hasn't Worked in Health Care.

Krugman's title is certainly choice, but besides that, we have these additional tidbits:

... Sen. Ron Wyden did indeed do a bad, bad thing in his joint proposal with Paul Ryan...So why would anyone who isn’t a right-wing ideologue propose that kind of degradation?

Also, Krugman states that

Looking both within the United States and across countries, if you ask which systems are best at cost control, the ranking looks like this:

Government provision as well as financing (socialized medicine) > single payer > market competition

The problem here is that Krugman is very careful to do his ranking only in regard to cost. The problem of Medicare is not just one of cost, although the public debate is focused on that. Everyone knows that there are consequences of holding down costs in the wrong way, for example, if the "doc fix" did not go into effect and doctors' reimbursements were to fall by 30%, there would be quality/access consequences. Even I have said that in the UK, with health care providers being employees of the government and all prices set by the government, you should be able to keep prices low. The problem of Medicare is one of providing high quality care at a cost that is politically acceptable. By framing the debate only around cost, Krugman simplifies things too much.

Krugman also states as his first reason for why competition can't work in health care: "Patients by and large don’t have the information to evaluate medical treatments... and he attributes this, rightly, to Kenneth Arrow some time ago. I will return to this "lack of information" idea below.

Ezra Klein is a little less vitriolic, but his thesis is that competition has never worked in health care and he asks for examples. Klein suffers from the same limitation of Krugman, which is that he focuses on the role of competition in helping to hold costs down, rather than the more relevant question of whether competition helps produce a (cost, quality) package that is more preferred. Klein crosses the border sometimes, however, and is less careful than Krugman to say that he is only talking about the ability of competition to hold cost down.

But let me take a shot at some that have worked even just on the cost side: Any self-insured employer with any sense puts its third party administrator contract up for bid occasionally, and lets health plans compete on price and quality. Health plans actually worry a lot about trying to control cost and improve care. Take a look at some of the cost control plans by BC/BS in Massachusetts. Or look at the number of instances in the past several years where a health plan has cut a hospital out of its network because that hospital's costs were too high. In my neighborhood, a company spun out of work from researchers at The Dartmouth Institute, Health Dialog, was sold to Bupa, a private for-profit British company with health insurance interests, for $775 million. One of the goals of Health Dialog is to help patients make more-informed decisions, which will result in better quality of care and often in lower cost. Folks might not look at something like Health Dialog as part of competition, but it is: It was a for-profit startup, funded by venture capital, and sold in a competitive marketplace to a larger company. The number of for-profit health care startups in our economy is large, and many of them are focused on cost control as well as better quality. In Hanover, we just had Iora Health, a for-profit startup, announce that it will be opening a new kind of primary care facility. I know that the intent here is to not only improve the coordination of care, but also to reduce cost. This is competition! In a government-financed and government-provided system, would we get such innovation?

Klein tries to negate the idea that the competitive bidding process for Medicare Part D is not responsible for its good performance, but there is no way he is going to succeed at that...just as I cannot succeed at saying the bidding process is mostly responsible for the good performance. However, there is a competitive bidding process, it works in establishing prices and giving choice, and I do know that companies think very seriously about how to bid in these auctions (this from talking to people who have advised companies in the bidding process). Note that I am NOT saying there are not issues with Medicare Part D, especially in regard to its complexity and some specific faults of its bidding process.

Consumer choice and competition "works" not just in Medicare Part D but also in the Federal employees health plan (competing plans with consumer choice) and in many countries, particularly Switzerland, where citizens (under an individual mandate) choose privately offered health insurance plans. Does "works" necessarily mean lower costs? No, of course not -- in what marketplace or for what product or service do we care only about cost (some, sure, but none with the complexity and importance of health).

Other areas where competition has worked in health care, to produce lower costs and/or higher quality? Production and marketing of generic drugs? Drug competition generally...is it really from the good will of the pharma companies that we get less costly ways to produce drugs? How about even much of the competition between hospitals? Yes, there are stories about how competition between hospitals results in an arms race for advanced medical equipment, but even in my local area there is some competition (smaller hospitals) for certain services in the hospital market, and it gives local consumers a cheaper and different alternative to the big medical complex known as Dartmouth Hitchcock. Local private practice doctors also provide a competitive -- yes, competitive -- alternative to doctors employed by DH. In the Boston market, it is at least legitimate to raise the question of whether the merger of major hospitals into the Partners group caused a significant decline in competition and increased medical prices -- see here, for reference to the MA Attorney General report on prices in Boston.

I could actually go on for some time showing where competition works in health care. Even given the unfair tilt towards focusing only on cost reductions, it is easier to answer than I thought it might be.

The better question is what things would look like if we did not have competition at all, say with a single government financed, government provided health care system.

At the heart of Krugman's dislke for a defined contribution Medicare plan (and Klein's too, I think) is this idea that consumers are just not informed and rational enough to make good decisions.

Instead of arguing about that one directly, let me note this other story from the NYT this morning, on how the American Bar Association puts all kinds of accreditation standards onto law schools. The thrust of the article's thesis is that the ABA makes all law schools meet very high quality standards (such as the number of full time vs. parttime faculty) so that there are no cheap law school alternatives.

Ah, but what would happen if we loosed different kinds of lawyers onto the ill-informed, irrational citizens that inhabit Krugman's and Klein's world? Obviously, the public needs to be protected from competition:

Members of the A.B.A. Section say the point of the standards is not to raise the cost of law school, or to limit competition. The point is to ensure that lawyers are well trained and that the public gets quality legal services.

”It’s pretty basic, and more or less the accreditation function that you’ll see for any profession,” says John O’Brien, chairman of the Section and dean of the New England School of Law. “You want to make certain that a school that is nationally approved is providing students with what they have a right to receive in terms of education. And at the other end you want to protect the public and make certain that graduates who offer themselves as qualified lawyers know what they’re doing.”

The Wyden/Ryan Medicare Plan

Sen. Ron Wyden and Rep. Paul Ryan have a new plan for Medicare. It has gotten a surprisingly low amount of attention -- maybe the Republican primary is taking media precedence.

The proposal can be read here.

The main components of the plan are, in my order of interest/importance:

1. Seniors would choose their health coverage from competing plans on an exchange (the Medicare Exchange), similar to the way Medicare Part D works now. (Medicare Part D is prescription drug coverage. Companies wanting to offer drug coverage under the plan bid in regional markets and enrollees select their coverage from the offers made.) Plans would have to be approved, meaning that they would have to meet certain minimum standards of coverage.

2. The amount to be given to each enrollee as a subsidy for buying insurance would be determined by the auction. This subsidy would be either the second-lowest bid in the auction or the standard Medicare fee for service plan. See point 3 next.

3. One of the options would remain the standard Medicare fee for service option. This is not clear to me, but I guess the meaning is that the Federal government would have to put in a bid just like a private company. I am not sure what would prevent the government from always winning the auction, since they play with OPM (other people's money).

4. Exchanges would be on a regional basis, as for Medicare Part D.

5. If costs rose faster than 1% above nominal GDP growth, unspecified cost controls would kick in.

The idea deserves serious consideration. Moving Medicare toward a voucher/defined contribution plan makes a lot of sense to me. Such a change would get the government out of specifying how much providers are paid, leaving that to private insurers as is currently done (private insurers negotiate with hospitals and doctors to determine contract prices). Using a competitive bidding process to both select plans and to determine the subsidy amount seems to work well for Medicare Part D, so let's extend the model.

One of the interesting things will be if the subsidy is determined regionally or nationally. If done nationally, there will be some pain as enrollees in the high cost regions (see the Dartmouth Atlas) discover that their subsidy is not enough to buy any plan in that region. That would probably put more effective pressure on the high cost regions than anything the Center for Medicare and Medicaid seems able to do.

Al Gore's Manifesto for Sustainable Capitalism

Al Gore and David Blood wrote an editorial in the WSJ titled a "Manifesto for Sustainable Capitalism."

A fair amount of this is actually fine -- essentially an argument for including what are now externalities into the economic calculus of firms and consumers. That is sound economics and policy. Of course, what the level of the externality is, in dollar terms, for any specific environmental problem is always a key question. I like to ask what I view as a telling question: What do you think the carbon tax should be, on the basis of a barrel of oil or gallon of gas?

But of course I could not read an article by Al Gore without having some arguments. This quote:

Before the crisis and since, we and others have called for a more responsible form of capitalism, what we call sustainable capitalism: a framework that seeks to maximize long-term economic value by reforming markets to address real needs while integrating environmental, social and governance (ESG) metrics throughout the decision-making process.

does worry me. Two things: first, what exactly is a "real" need? Who determines that? Is my desire for a fast car a real need? How about my desire for imported Scottish salmon?

The other thing that is a bit odd is the focus on long term value (I do like the metric of economic value, though). Yes, I do agree that there is at times too much focus on the short term. Examples abound. But to have one of the major actions proposed being an end to quarterly earnings reporting? That seems a stretch. Have they really thought out the unintended consequences of letting managers report only once or twice a year? I suppose my students might want grades to be issued only at the end of each year, yet I continue to push for grading at the end of each course.

So Laws do Work!

Amazing. The new health care act requires employers who offer health insurance to employees to cover children up to the age of 26...no matter whether those "children" live at home, work elsewhere, are in college or not...

And with this mandate in place for almost a year, the Administration reports that almost 2.5 million additional young adults have received coverage.

We should not be surprised that this part of the health care law works.

I am a little ambivalent about it. Hopefully nobody thinks it comes for free, as any employer who falls under this mandate will experience additional costs. Those costs are generally going to be borne by employees, through higher health care premia, lower wages, and fewer jobs. Any self-insured employer could have offered such coverage on their own in the past; the fact that they did not might reveal that employees were not willing to bear the cost.

I also don't really like the principle and economics of making an employer responsible for the health care of a 25 year old who has nothing to do with that employer other than being the child of an employee. There is really nothing the employer is going to be able to do to influence the health of that individual (for actual employees, the employer might be able to do some things in the workplace to improve health). The law also really makes parents continue supporting their children well past the usual age where the youngsters are pushed out of the nest. Heck, why don't we mandate college tuition to be covered too?

The nice aspect of the law is that it does get young adults into the health insurance market during a time when they might choose to go without coverage. It seems to me that this law coupled with a "continuous coverage" provision would go a long way to making an individual mandate less necessary. So kids get covered through 26 with employer coverage; if they want health insurance at any other point in their life, let insurers put in a continuous coverage clause: an insurer must issue coverage so long as the individual has had continuous coverage. If someone has not had continuous coverage, have a high risk pool available, but make there be a cost to not maintaining continuous coverage.

Leverage Limits vs. the Euro Discipline Rules

Much blame has been put on the 2004 regulatory change in the US that let investment banks increase their leverage and also changed the general regulatory regime to one of more self-regulation. See my post here and the related posts.

It is interesting to compare the attention that rule change received to the amount of recent coverage I have seen (almost none) on the rule changes in the Eurozone that let member countries run higher deficits and higher debt levels than the original pact allowed.

IN 2002, France and Germany ran deficits in excess of 3% of GDP, which the original Stability and Growth Pact allowed. By 2004, Greece, the Netherlands, Portugal and Italy were also beyond the limit. See Feldstein, "The Euro and the Stability Pact.

Nothing was done to the violators.

In March of 2005, the Pact was changed to make the limits even less meaningful: see the summary summary available here.

Also see the comment at the time by the European Central Bank:

PRESS RELEASE

21 March 2005 - Statement of the Governing Council on the ECOFIN Council’s report on Improving the implementation of the Stability and Growth Pact

The Governing Council of the ECB is seriously concerned about the proposed changes to the Stability and Growth Pact. It must be avoided that changes in the corrective arm undermine confidence in the fiscal framework of the European Union and the sustainability of public finances in the euro area Member States. As regards the preventive arm of the Pact, the Governing Council also takes note of some proposed changes which are in line with its possible strengthening.

Sound fiscal policies and a monetary policy geared to price stability are fundamental for the success of Economic and Monetary Union. They are prerequisites for macroeconomic stability, growth and cohesion in the euro area. It is imperative that Member States, the European Commission and the Council of the European Union implement the revised framework in a rigorous and consistent manner conducive to prudent fiscal policies.

More than ever, in the present circumstances, it is essential that all parties concerned fulfil their respective responsibilities. The public and the markets can trust that the Governing Council remains firmly committed to deliver on its mandate of maintaining price stability.

The Health Care/Jobs Bill

It appears that the Patient Protection and Affordable Care Act has morphed into the jobs bill -- see this Reuters story.


The essence of the new initiative is that up to $1 billion (of the $10 billion set aside for "innovation" at the Center for Medicare and Medicaid Services (CMS)) will be used as grants for people who come up with good ideas to save money and improve care.

Ah, but the wrinkle is this:

"To get a grant, projects must start within six months and the program will concentrate on those ideas that spur the most hiring and workforce training, the Department of Health and Human Services said."

Here we have a perfect example of economic engineering. Give grants/subsidies/impose taxes, with a variety of specific constraints, all meant to achieve what some policymakers think is the current objective.

But what if the projects that save the most money are the ones that lay off a bunch of health care workers? Funny, but at our local hospital, layoffs are proceeding at a rapid rate. So we will have one set of incentives to lay people off and another set of incentives to hire new ones...but only in certain areas..."shovel ready health care projects."

The health care bill is starting to look like our tax code, and it hasn't even kicked in yet.

Interesting Issues on Greek Debt: Non-Participation in Exchange, and Non-Trigger of CDS

It is interesting that the 50% writedown on Greek debt applies only to privately held debt (held by banks and I guess any other private individuals or institutions) NOT to the bonds held by the European Central Bank. (I believe that any bonds held by the European Financial Stability Facility will be excluded as well). The Economist notes the matter; also see this Bloomberg story.

How this discrimination actually works is interesting. The writedown is voluntary, and will be effected by an exchange of old bonds for new ones at some time in December. It seems that anyone is free to forego the exchange, and that will include the ECB. Holding on to your old bonds, however, will put you at some risk that the terms of those bonds will be changed down the road, along the lines of squeezing minority shareholders.

Why is the deal is struck this way, to allow the ECB and other public entities to avoid a loss? There is a cost: if the public sector holders also took part in the exchange, then the Greek solvency problem could be solved with a smaller writedown. That is, if the private sector only holds 60% of outstanding Greek debt, then a 50% writedown on that is equivalent to a 30% writedown on 100% of the outstanding debt.

What would happen if the ECB had to write down the value of its Greek debt? Would that be a problem for its balance sheet? Maybe.

Another possible explanation for the discriminatory treatment is that the purchases of Greek debt by the ECB were to help the banks in the first place, and those purchases might have been at close to face value. So letting the ECB avoid the writedown and putting more of it on the banks is just ex post recognition that the banks owned all this debt in the first place.

This situation also creates the potential for some private holders to not do the exchange, essentially casting their lot in with the ECB. How that strategy will play out is anyone's guess.

The second interesting thing is that the voluntary exchange will not, it appears, qualify as a credit event that would trigger credit default swap payments. CDS would normally be triggered if timely interest and/or principal payments are not received, and I guess an exchange does not meet that test. I have often had students question the idea of "voluntary" exchange in situations where one party is under duress. In this case of a voluntary bond exchange, I must admit to thinking that the definition of "voluntary" is sounding pretty Clinton-esque. I imagine there are some European banks who bought CDs to hedge the default risk of their Greek bonds and are pretty unhappy now to see that the insurance will not pay out.

Of course, none of this is written in stone yet...the last installment of bailout money to Greece has been held up by the political turmoil in Greece after Papandreou said he would put the deal to a vote.

Long Term Care Insurance, RIP

The Obama Administration made a late Friday announcement to finally pull the plug on the long term care part of the health care bill. This long term care plan was known as CLASS, for Community Living Assistance Services and Support. It was designed as a supplemental insurance plan, with people paying premiums during their younger years in return for support when disabled later.

The plan had fundamental economic flaws, deriving from adverse selection effects: the program to be financially sustainable had to have a lot of healthy premium payers and relatively few payees. Analysis suggested that would not happen, with the program instead attracting initially unhealthy patients who would receive benefits for too short a period to cover their costs. If premiums were increased, the adverse selection would only grow worse.

A good description of CLASS is given by the Kaiser Family Foundation here.

Most interesting is that the Congressional Budget Office (CBO) credited CLASS with reducing the Federal deficit by $70 billion over the 10 year period that was used to measure the financial effect of the health plan. How does that fit with a plan that is now recognized as financially unsustainable? Well, there is a 5 year vesting requirement, so over the first 10 years of the plan, more money comes in than goes out...but it all falls apart in the later years. The savings projected from CLASS helped the bill to gain votes and be passed. (Interesting that adverse selection would work so strongly even with the 5 year vesting. I would like to see some of the models that have been used to analyze the program.)

How many other parts of the health care bill were designed as poorly as CLASS? And how much were "savings" from such ideas relied on to get the bill passed? What would happen if CBO were to re-score the bill now?

Health Confusion -- or Consistency?

Two contrasting and interesting issues in health care arose in the last week.

First, we have the US Preventive Services Task Force recommending that men not get routine PSA tests to screen for prostate cancer. See here for one of the thousands of articles reporting the recommendation. Without going into too much detail, I would summarize the recommendation as being based on the test being relatively uninformative, especially in regard to distinguishing between cancers that will progress dangerously versus those that will remain contained. Further tests beyond the PSA -- biopsy -- run risks themselves, and are also unable to finely distinguish cancer types.

The recommendation runs afoul of a core principle in information economics, which is that more information is at worst valueless (and the recommendation is not based on cost of the test).

There are subsidiary assumptions that can make a test be of negative value, but I would like to see them laid out (for example, reliance on an expert for further actions, with that expert biased by an agency problem).

I continue to be bothered by this idea of not having a test. As one of my colleagues put it: Suppose a doctor did a PSA test on you and emailed you the results. You are saying that you would pay for a spam filter to keep from knowing the result? I think it is possible to set up an optimal decision rule based on test results, which given a noisy test, will often lead to no action. But in some extreme cases, it will lead to a biopsy, identification of a severe grade tumor, and surgery that is valuable. The key is to not taking action for many outcomes.

Second, we have a bill in California, passed by the CA legislature, that would REQUIRE doctors to inform women that their mammogram revealed they have "dense" breast tissue. Now I am really venturing outside of my area of even limited expertise, but the idea here seems to be that dense breast tissue can prevent a mammogram from revealing small tumors. So if women have dense breast tissue, their mammogram might not be as accurate, and they might want to have a different screening test.

Governor Jerry Brown vetoed this bill by the way.

So on the one hand, we have a recommendation that men NOT be given a test for cancer, partly on the grounds that it would lead to more testing, while on the other hand we have a law saying that women MUST be given information that will cause those women to have more tests.

While there might be some inconsistency here, the consistent theme is that consumer/patients are not good at making health care decisions.

Medical Marijuana Confusion and Irony

Another story that hit while I was in San Francisco concerns a new crackdown by the US Department of Justice over medical marijuana dispensaries -- see, for instance, "Feds' confusing crackdown on medical marijuana."

Based on my anecdotal evidence, the medical marijuana road is indeed a slippery one. Getting a prescription seems relatively easy, with prescribing doctors and dispensaries sometimes vertically integrated. And allowing medical card holders to grow their own probably allows a reasonable amount of pot to get into the general marketplace.

Irony abounds in the politics around marijuana. The Republicans, who generally favor individual liberty in the economic sphere, want to restrict our ability to do what we want with our bodies and brains. The Democrats, and the liberals, while favoring liberty in the social sphere (to their credit, I would editorialize) generally like to restrict our economic freedom. I trust the Libertarians are the only philosophically consistent ones.

And now we have the Obama administration, that up to now was averting its eye from medical marijuana, getting quite aggressive about policing the dispensaries.

One of the more interesting policing actions is that the Feds have sent letters to LANDLORDS of medical dispensaries, threatening them with alleged violations and pointing out that the penalty could be confiscation of the property.

Maybe this is why there are actually delivery services for medical marijuana in California -- the cost of renting physical property has been pushed up by the threat of confiscation??

Fleet Week in San Francisco!

I have been in San Francisco for the last two days,with one of the true highlights being a very impressive demonstration of US military might -- right over the City! I guess it is Fleet Week, and the Navy's Blue Angels have been flying over the city, showing off really nicely. The jets scream -- literally -- right over the tops of the buildings. Amazing and pretty frightening at times.

The irony of this display going on over liberal San Francisco makes it all the better. I understand that Senator Diane Feinstein actually came up with the idea for Fleet Week.