Update on Federal Spending

Back in December of 2012, I wrote this post on Federal outlays, expressing my fear that the stimulus spending of 2008-09 had become permanent.

Below is a chart with the data updated to 2013 (projected); data from the White House site (outlays are in nominal dollars). Without getting too fancy with statistics, I would propose that it is now looking as if a good part of the stimulus was temporary.  There have been two years when nominal spending has now declined -- in Dec. 2012, it was not yet clear that actual spending for fiscal 2012 would decline.  It did.  Particularly as a percent of GDP, outlays have declined and while they are not back to pre-2009 levels, it appears to me that they are not far off now from what they would be following a trend line beginning in 2000.

The CAGR for nominal outlays from 1996-2007 is 5.48% and from 2008-2013 is 4.32%.  So there too, there has been a slowing of the growth rate even including the stimulus spending (which really hit in 2009).

Not sure who can take credit (update:  or blame, if you believe more spending is good) for this.

Poetic Justice

Ah, you have to love this.  So the only health plans the Federal Government can make available to members of Congress and its staff are plans offered through an Exchange.

But for Members, their income will place them outside the range where subsidies are available.  Even for lower paid staff, the subsidy is unlikely to be as generous as the subsidy currently implicit in their health care coverage.

Even more ironic are the attempts to say that this is a "drafting error"  -- as Ezra Klein says:

This isn’t, in other words, an effort to flee Obamacare. It’s an effort to fix a drafting error that prevents the federal government from paying into insurance exchanges on behalf of congressional staffers who got caught up in a political controversy.

Well, there are a lot of businesses and individuals in the individual insurance market who when they see the cost of their coverage under Obamacare are going to hope that they are only suffering from a drafting error too.

My guess is that the Office of Personnel Management will make a ruling that lets the members and their staffs avoid any pain.  How nice.

Confusion in Europe over Failed Banks

Yesterday, there was much consternation over the comments of Jeroen Dijsselbloem, Dutch finance minister and the chairman of the Eurogroup.  What did Mr. Dijsselbloem say?

"If there is a risk in a bank, our first question should be 'Okay, what are you in the bank going to do about that? What can you do to recapitalise yourself?'," he said.

"If the bank can't do it, then we'll talk to the shareholders and the bondholders, we'll ask them to contribute in recapitalising the bank, and if necessary the uninsured deposit holders."

See this Telegraph article for more details.

Here is the Federal Deposit Insurance Corporation's (FDIC) statement of how it resolves an insolvent bank in the US:

VIII.  Priority of Claims

In accordance with Federal law, allowed claims will be paid, after administrative expenses, in the following order of priority: Depositors General Unsecured Creditors Subordinated Debt Stockholders

Mr. Dijsselbloem's comments seem to be a pretty straightforward statement of the FDIC policy.  How can anyone object to that?  Well, I guess if the understanding had been that general creditors and stockholders had a higher priority in the capital structure than the general taxpayer then Mr. Dijsselbloem's statement is a change of policy.  Why anyone with economic efficiency in mind would want bondholders and stockholders of banks, or even uninsured depositors, to have a higher priority than the general taxpayer is beyond me.  Seems like a recipe for moral hazard.

The Senate Budget Does Not Cut Spending

I heard on the radio this morning about how the (Democratic) Senate budget (first one passed in 4 years, and by a 50-49 margin) "cuts spending."

Let's be very careful here -- see this from The Hill:

The Murray budget contains $975 billion in spending cuts, including $275 billion in new cuts to Medicare and Medicaid spending. But it also turns off $1.2 trillion in automatic cuts scheduled over nine years. Factoring that in, the budget does not constitute a net spending cut.

The Arkansas Compromise: New life for Medicaid Expansion

No, that is not a mistake in the title, although if you google Arkansas Compromise many of the results have to do with the Missouri Compromise.

The Arkansas compromise on the Medicaid expansion under Obamacare (happy 3rd birthday by the way) is discussed here.  What a neat idea -- my hat off to Gov. Mike Beebe of Arkansas.  Most state Medicaid programs are run by the state, and you can imagine how efficient and consumer-friendly that is.  Even more important, most state Medicaid programs pay suppliers much lower than private insurers and Medicare.  The Arkansas compromise will allow the state to expand its Medicaid program by simply pushing low income people onto the Arkansas health exchanges and subsidizing their purchase of insurance.  This is precisely how non-Medicaid individuals will buy health insurance once the exchanges get going in all states.  What could be easier?

The winners from this compromise are several --if it were to expand to other states.  The insurance companies gain, as they have more customers for their exchange-based products.  This might be offset a bit by the loss of business from states who were subcontracting their Medicaid business directly to one insurer.  Hospitals and other health care suppliers are huge beneficiaries, as the insurers' reimbursement for exchange-based insurance will generally be much higher than states' Medicaid reimbursement rates. For hospitals this is very important.  Medicaid beneficiaries most likely gain, as exchange-based insurance is almost certain to be better than Medicaid, with perhaps the exception that there could be some copays and deductibles with exchange insurance (unless Federal rules will prohibit that).  And more providers will be willing to accept Medicaid patients under this compromise.

So who loses?

The general taxpayer, of course.  The higher reimbursements to providers will definitely increase the cost of expanding Medicaid.  If this takes off, the Congressional Budget Office will have to redo its budget forecasts...

A Tale of Two Trends

I find it interesting to see how scientists and pundits are playing two different trends, one of global temperature and the other of US health spending.

The trend in each of these is important.  For global temperature, there are of course models that would indicate global temperature should be increasing with atmospheric CO2 concentrations; with health spending, the underlying theory is less developed, but the implications of changes in health care costs for US government spending and deficits are immense.

For each issue -- global temperature and health spending -- the most recent data observations give rise to speculation on changes in the underlying trend.  For instance, here is a headline on health spending, from this Bloomberg story:

And here is a chart from the Altarum Institute showing the data:

Meanwhile on the global temperature issue, we have all kinds of headlines on whether global warming has "stopped" in the last 15 or so years.  Here is one example of a headline, from the Guardian in the UK:

And here is just one diagram with some relevant global temperature data.  The source for this is the Real Climate blog:  Note the colored lines are different measures of actual temperature, while the black line is a forecast from a certain set of models.

Of course, the key point in all of this is that we have to consider the background variation in the time series in question before we can conclude anything meaningful about a statistically significant change.  The Real Climate chart makes some headway on that front, with confidence intervals around their model forecast.  I won't agree immediately that that method clears up the issue completely, but at least it recognizes the important fact of variability.  As to health care spending, there is also a lot of background variation, and I have seen very little on any statistical inference about changes.

However, I will go out on some ice and make an observation:  The liberal media has been all over the "marked slowdown" in health care costs as if it is for-sure a real change, while they are all over the "slowdown in global climate change" as either an artifact of starting point or as statistically insignificant.

I think the truth on both is closer to "it's too early to tell."

Why are Cyprus Banks in Trouble?

In all the talk about the Cyprus situation, very little is mentioned about why the banks are in such trouble.  Sure, they have a huge amount of deposits relative to GDP...but where were those deposits invested?  There must have been (recent) losses to cause the insolvency of the country's banking system.

What is the source of the losses?

Hmmm....who wants to bet the losses are based on the haircuts that non-government owners of Greek bonds had to take back in 2012 as part of the second Greek rescue package.

So we are still seeing the follow-on effects of the Greek crisis.  Question is if the knock-on effects are weakening or strengthening.

How to Create Runs on Banks

Saturday morning, the EU finance ministers decided that the island country of Cyprus would have to appropriate a significant portion of savers' deposits in return for 10 billion euro of bailout money.  The appropriation will occur via a 9.9% tax on deposits in excess of 100,000 euro and 6.7% on smaller accounts.  The levy will have to be affirmed by Cyprus' parliament, which will begin debate Monday.  This has all happened over the weekend; see here for more.

Naturally ATM machines were hit hard over the weekend, although it seems that this behavior is too late -- the tax will already be withheld from withdrawals.  Many people of course ran to the banks a bit earlier and got all their funds out.  It will be interesting to see how far back the government will reach -- will there be a deadline of, say, March 1 so that anyone who took funds out before then is left whole?

You can see how arbitrary this is going to become.  That is the nature of a bank run -- those who get their money out first stay whole; those who delay lose.

The incentives will be clear, no matter how much the EU says this will not create a precedent.  The sanctity of bank deposits will clearly be in question if this policy is ratified.

I wonder what the capital structure of Cyprus banks looks like?  There must be public debt and there certainly is (or was) equity.  As a matter of good principle, I would want to wipe out equity and public bondholders before I touch deposits.  The whole idea of deposits is that they are among the least risky financial assets (and usually pay rates of interest in accordance with their low risk!).

Climate Change Education in Business Schools

I was at a workshop at the National Academy of Science this week, with the topic being how business schools address climate change in their curricula.

Website is here; there should be video of the sessions up at some point.

It's an interesting question and there were many good people on the panels and in the audience.

I tried to make two points during my remarks:  One, must keep in mind all the other issues that we want to educate our students about, i.e., there is an opportunity cost to spending time on climate change; and two, in order to broach climate change in an appropriately rigorous fashion, we need to first cover many basics of economics and public policy.

The issue of opportunity cost is very real, and in my position I see those costs all the time.  First consider the core (required) curriculum.  Should climate change occupy a (more) significant role there? (Note that at Tuck, there is one full session on externality in the Managerial Economics course, with climate change serving as the application; and the ManEc profs then join in the Global Economics course later in the year for a session on the global trade implications of cap and trade or a carbon tax.  But right now, many schools are debating having a yet stronger role for global topics in the core.  This will take up time, faculty, and financial resources, especially if an in-country experiential route is chosen.  Other topics also are prime candidates for core positioning:  ethics, entrepreneurship, leadership.  Meanwhile many subjects that have typically been in the core have either been cut back or taken out entirely -- statistics, managerial accounting, decision analysis...

Opportunity cost also arises in the elective (typically second-year) curriculum.  I just got done teaching a new energy economics course, at the request of students.  What is more important, an energy econ course or a course in climate change?  There is also demand/need for elective courses in health care, education, entrepreneurship, technology...

My second point was the need to have fundamentals covered well if we are going to talk seriously about climate change in courses.  The basic economics of externality, optimal amount of emissions, and alternative control policies is not easy; one session on this means "drinking from the fire hose" treatment.  Then layer on top of this the fact that climate change costs and benefits accrue over time, so that discounting and intergenerational equity issues have to play a role.

Meanwhile, if topics such as climate change enter the core, some fundamentals get squeezed out.  What we could be left with is superficial coverage of everything.

One other point about the NAS workshop, very much related to the above comments:  Most of the people there believed very strongly that climate change is not only serious from an environmental impact standpoint, but they also believed that it is quite obvious that we need to do a lot about it -- in the  public and private sectors.  But when you get a bunch of folks with the same mindset, there isn't much consideration of other issues and opportunity costs -- all the attention is on climate change.  There isn't much clearer example of a "silo," something which most people are eager to criticize.  I think the goal of business schools should be to turn out leaders who are adept at leading the organizations of the future, keeping in mind all the possible problems and issues that those organizations might face.  Climate change is but one.

Kind of funny

This has been hanging on a bulletin board for some time now.

The Coming New "Doc Fix" in Medicaid

As we know, the Affordable Care Act standardizes Medicaid across the states, with a great expansion of coverage for most states.  The Federal government has promised to cover all the additional cost of this expansion for the first three years (2014-2016) and then phase down to 90% by 2020.

Many questions exist around this expansion.  My current one involves the payments that individual states will make under their Medicaid plans to doctors and hospitals ("providers").

Currently, each state sets its own Medicaid reimbursement schedule.  This is generally pretty complicated, but is similar in form to Federal Medicare practices -- but not similar in level of reimbursement.  For NH, if you want to read about the system, go here.  I believe it is safe to say that most states Medicaid systems reimburse providers at less than Medicare rates on average...and definitely less than most private insurers would pay for the same services.  But there has been significant variation in provider reimbursements across states.

So here is the specific question.  If ACA mandates expansion of Medicaid coverage, does it continue the practice of states setting their own provider reimbursement rates?

Generally the answer is yes, but with one pretty large exception -- reimbursement for primary care services.  ACA requires states accepting the Medicaid expansion to reimburse primary care services at Medicare rates, with any additional cost being picked up by the Federal governement.  For a brief description of this part of ACA, see this.  Much more detail can be found.  I have seen one estimate of the cost at the Federal level to be around $6 billion annually.

Ah, but here is the kicker and relation to the title of my post:  this requirement and in particular that the Federal government will pay for the higher rates only applies for two years!

The phrase "doc fix" refers to a law about ten years ago that was supposed to cut Medicare reimbursement rates to providers by a certain amount each year that the rate of increase in total Medicare expenses was too high.  Starting immediately, Congress overrode the mandated increase.  By now, there is around a 30% cumulative cut that is due, and each year Congress has to pass a law (the "doc fix") that keeps that cut from going into force.

Anyone besides me worry that we are going to get into a "Medicaid doc fix" situation?

Look forward:  For two years, any Medicaid service that can be legally lumped into the "primary care" category is going to be paid at the relatively lucrative Medicare rates.  But in two years, states like NH are going to go back to the old rate schedule.  Really?

Number of laws passed as a measure of Congress' productivity?

From the WSJ today:

Following the tea-party wave in the 2010 election, the 112th Congress looks set to be the least productive in recent history. By the end of November, the House had passed 146 bills over the previous two years, by far the smallest number for any Congress since 1948. The Senate passed fewer bills in 2012 than in any year since at least 1992.

 Damn, only 146 bills.

And the fat lady hasn't begun to sing quite yet.  We might yet get a tax increase without any spending cuts.  Imagine, the automatic spending cuts set to kick in are $110 billion...on a GDP of $15 trillion.  I will save you the math...that is less than 1%.

Note added:  The cuts of $110 billion are only 1% of GDP, which is relevant when thinking about the (possible!) impact on spending and hence GDP.  The cuts are a bit more than 4% of the total Federal budget, and of course more than 4% of discretionary spending.  Still, to refer to the cuts as "draconian" as is customary, seems a bit of an exaggeration...especially when the Federal government is clearly living beyond its mean.

The optimal safety net depends on the heterogeneity of the population?

Comparisons between heterogeneous countries like the US versus Sweden or Finland have always bothered me.  It seems intuitive that all kinds of public policy should optimally depend on the degree of heterogeneity in the underlying population.  A more homogeneous population should be able to provide a better safety net, for example, because there will be less of an incentive problem in providing a minimum level of welfare.   Here is an attempt to formalize that intuition.  I suppose this has been done before.  I don't have the math worked out entirely but it seems right...

Let individuals in the population be defined by a parameter a, which we will think of the individual's ability to create wealth in the market economy. (I do not presume a negative connotation here. This is a very narrow definition of ability -- the ability to create wealth in the market economy.  Great artists might not have much ability by this definition!)  More precisely, each individual has a function

     W = W(E | a)

where W is wealth, a is an individual-specific parameter, and E is effort.

We will assume that dW/dE = a

and let a be normally distributed.

Every individual will have an increasing disutility of effort, but this is the same for everyone.

Each individual will in the market economy choose her optimal level of effort and therefore her optimal level of wealth.  The optimum occurs where the marginal disutility of effort equals the marginal effect of effort on wealth, which is given by a.  With marginal disutility of effort increasing, it will be the case that individuals with higher a choose higher levels of wealth.  This makes sense.  If an individual has the capability to create more wealth, they will choose to do so.  This is the essential heterogeneity I am dealing with.

Now bring in public policy in the sense of a minimum safety net level of wealth, S, or a subsidy that would be available to anyone who has less wealth than S.

If there is no disutility associated with receiving the safety net subsidy, then a rational individual should compare the wealth less disutility they would achieve in the market economy to S and choose whatever is greater.  Since individuals with higher a choose higher wealth, there will be some critical level of the ability parameter, let's denote it a*, below which it will be optimal to elect the subsidy and above which it will be optimal to engage in the market economy.

The final step is to think about how public policy sets S.  There must be some value associated with equity, letting the less able achieve a minimum level of net wealth.  The cost of achieving equity, however, is the loss of effort from individuals who choose the subsidy.  As the base subsidy S increases, several marginal effects occur:  One, the marginal value of increased equity falls, because individuals getting the subsidy are increasingly well off.  Two, the marginal wealth loss increases as more-able individuals drop out of the market economy.  Wealth loss has to be a negative.  And third, as S increases, we move along the normal curve and experience an increasing slope of that density.  This last point is critical, as it addresses the issue of heterogeneity.  I assume that S is further than one standard deviation less than the mean of a.  Since the inflection point of the normal is at one SD away from the mean, that means we are in the range of increasing slope.  So as S increases in that range, more individuals are caught up, and more wealth is lost even if marginal ability were not increasing.

The optimal S, S*, has to balance the marginal benefits of greater equity against the marginal cost of wealth loss.  Remember that with S* there is also an implied a*.  Individuals with ability below a* take the subsidy; individuals above  a* participate in the market economy.

Here is a picture of two normals.  The tighter one represents a more homogeneous society to begin with (Finland, Sweden).  The less tight one we can think of the US.

Now remember we are far to the left on these densities, where the slope is increasing in a (which is on the horizontal axis).

Here is where it starts getting a little tricky, and I will have to check the math by getting the derivative of the normal density as a function of the standard deviation.

But suppose that S* for the tighter distribution, the more homogeneous population, implies an  a* right about where the density curve in the picture above ends.  Then go up to the density for the less homogeneous population, the wider normal curve.  Note that the slope of that curve will be greater than for the other curve -- essentially we are closer to the inflection point, where the slope reaches a maximum.

If the slope of the density for the more heterogeneous population is greater, that means that the marginal cost of increasing S is also greater, for we are picking up more of the population.

All the other marginal effects are the same, for we are at the same level of a.

A higher marginal cost of S means that the more heterogeneous population would optimally choose an S*, and an  a*, less than that of the more homogeneous population.

The optimal safety net depends on the heterogeneity of the population?

Medicare Advantage auctions: Asking too much?

When I teach about auctions, I like to ask students:  What does an auction accomplish, or put differently, what social roles does an auction play?

I point to two major roles:  An auction determines an allocation -- who gets the good being sold, or who is chosen to produce -- and it also determines a price.  Two very important things:  allocation and price.

In Medicare -- a confused and confusing policy area if there ever was one!-- auctions are used in both Medicare Part D (prescription drug coverage) and Medicare Advantage (private Medicare plans).

I am concerned that some policy proposals for Medicare Advantage (MA) are asking too much from an auction, for they add a third role:  determining the subsidy level for subscibers.  This is a complicated issue, requiring auction theory that is at the frontier.  But I think the intuition is pretty clear.  Also, while I will focus on MA here, similar issues arise with Part D plans, albeit somewhat less so because of the way those rules are set.

In a nutshell, here is the way MA plans work now.  Private insurers submit bids to provide health coverage for those over 65, with bids submitted on a county basis.  Folks who qualify for Medicare can either take the standard government-issue Medicare or opt into one of the private MA plans. The private plans are paid by the government a subsidy amount equal to the average per person cost of that county's standard Medicare plan.  If the plan bids more than that, the enrollees in that plan pay the difference between the subsidy and the bid.  If a plan bids less than the subsidy, then enrollees don't pay anything but the plan has to rebate the difference to enrollees as either cash or extra benefits (I do need to verify the specifics of this, but for now I don't think it is crucial).  Importantly, enrollees select which MA plan they want, so choice is a key part of the process.

So this is fine.  The auctions do two things, as above.  They determine which of the private plans provide service (allocation) and they determine a price (the price paid by enrollees).

Note that the subsidy is determined exogenously from the auction -- the average per person cost of standard Medicare.  Granted, there might be some endogeneity here, as the cost of the local Medicare plan depends on who opts into MA plans...but that seems of second order importance.

However, some policy proposals (see Alice Rivlin, for example) will add a third role to MA auctions, that of determining the subsidy.  The typical idea is to set the subsidy at the second-lowest bid of the private insurers.

The first order logic of this is great.  Set the subsidy at that level, and you can be sure that at least two plans will be willing to offer coverage at that subsidy amount.  Even more important, instead of having the MA subsidy set through a political process, it is set in a market mechanism.  What could sound better than that?

Here is my concern, arising from the effect that setting the subsidy in the auction will have on strategic bidding behavior. (Let's be clear that strategic bidding behavior should be expected, that is, insurers will not just put bids in that equal their expected cost, even if that is what the government asks for.  Insurers will put in bids that maximize their expected profit.)

The issue is that by putting in a higher bid, an insurer has a reasonable expectation that it will increase the subsidy (if the bidder happens to be the second lowest bid).  This will increase the subsidy to enrollees and make it less likely that the insurer's bid will result in a net payment by the enrollees.  Also, as the subsidy increases, more people will opt into the MA plan arena.  Seems pretty clear to me that this will result in higher bids.

Amplification of this problem arises because is in MA plans, there is not a standard package of benefits.  By adding benefits, and putting in a higher bid reflecting the higher cost of that expanded package, an insurer minimizes any competitive effect of being a high bidder in the auction while still having a reasonable expectation that the subsidy will be increased.

As all bidders do this, the entire distribution of bids shifts higher.  Studies that have been done on the cost savings from basing the subsidy on the second lowest bid are obviously wrong, as that second lowest bid is going to be higher.

The idea is not that different from shifting from a second-price sealed bid auction to a first-price selaed bid auction (standard auction where something is being SOLD to bidders).  It would seem that taking the highest bid as the price in an auction would clearly be better than taking the second highest.  But as the rules change from second-highest to highest, we have to expect that bidders will lower their bids.  I always ask students:  What do you think is greater -- the second highest out of a distribution, or the first highest out of a lower distribution?

Just for the record: Federal spending

Sorry for the small font on this -- the table is from here if you want to see original.  I added the last line, percent growth year on year.

Three main points to note:  First, the 18% increase in total federal outlays from 2008 to 2009, on top of a 9% increase 2007 to 2008, both of which were stimulus to a great extent.  Second, since then, there is only one year when nominal spending went down, by 2% from 2009 to 2010.  And third, overall between 2007 and 2012, nominal Federal outlays are up 39%.

In previous posts, I noted my fear that stimulus spending would become permanent.  Here is a quick graph of the outlays from 2007-12.

House Republicans Deal a Bad Hand to Democrats?

Speaker Boehner pulled his "Plan B" bill from the House Thursday evening, saying there were not enough votes to pass it.  This bill would have preserved the current tax rates for those under $1 million in income, allowing tax rates to rise on those above.

Pundits are crying the end of the world, which coincidentally coincides with the predictions of the ancient Mayans.

The end of the world as we know it is not nigh.  I actually give the advantage now to the forces in favor of smaller government, as in less spending and lower taxes.

Look at it this way.  Any deal has to win approval of a majority in the House.  My working assumption  is that the Republicans will hold together (but see the * endnote below).  Thus, any deal needs approval of almost all Republicans.  Think of the Republicans as being lined up on a continuum, from very conservative (lower taxes, lower spending) to more moderate (willing to accept higher taxes, higher spending).  Boehner's failure defines the conservative side of the spectrum in regard to the minimum deal it is willing to accept and the risks it is willing to endure.  With this clarity, the center of gravity in the Republican continuum has shifted to the conservative side.

Suppose I was negotiating with two people, one very demanding and one less so. The more demanding person just committed himself to blowing his head off if he doesn't get his way.  I would say that the center of gravity shifted to the very demanding side of the spectrum.

The conservative Republicans are willing to risk going over the cliff, and I think they are correct in accepting that risk.  My belief is that "the cliff" is not anything like truly going over a cliff.  There will be some unfortunate consequences, especially in regard to the Alternative Minimum Tax and Medicare rates for doctors (the media are not focusing on the Medicare implications, but the so-called Doc Fix needs to be voted this year or Medicare payments to docs will fall).  Taxes will go up, which to be honest I don't see as a disaster either.

If I am right in that the cliff is not a disaster, the Democrats lose much of their negotiating power in the new year.  That power right now is fueled by media-supported claims of economic apocalypse.  If Jan. 1 comes with no deal, and life goes on, how does the Democrat position look?  There will be some cries of pain, yes, but blame will be equally spread -- and if there is any justice, most folks will blame the leader, ie., President Obama, for failing to negotiate a deal.  Thus, in the new year, the balance of power shifts to the conservative side, with a better prospect of getting more spending cuts and a better mix on the revenue side.



*Endnote.  It is possible that the Republicans will not hold together in the House.  If Obama and Reid craft a deal in the Senate, could that attract all the Democrats in the House and just enough Republicans to pass?  Possible, but unlikely...unless the deal is attractive enough on the "less spending and taxes" dimension.

More Competition for Hospitals

Here is a great development that shines a bright light on the issue of competition in health care:  The Surgery Center of Oklahoma.  An article by Jim Epstein in Reason alerted me to this.

In a nutshell, the (for-profit) Surgery Center was started by a group of surgeons to provide an alternative to surgery within hospitals.  They have a focus on transparent, all-inclusive prices for various surgeries, from knee repair to hernias and even bunion removal.  You can see their prices right on the website -- an adenoidectomy for instance costs $2695, all-in.

The Center appeals to a variety of patients, in particular those with high deductible plans and to self-insuring employers, who can direct their employees to the Center and thereby save money.

Oklahoma, it turns out, did away with their Certificate of Need law, making it easy for such a business to enter the market (funny that the common abbreviation for Certificate of Need is CON).

So, here are a few questions to ponder:

Are businesses like the Surgery Center cost-increasing or decreasing?  Is this just more surgeons looking for business, so that by the phenomenon of supplier-induced demand we will just end up with even more surgeries (that don't really need to be done)?

Isn't this just adding more costs to our health care system --look at the nice building they have, and think of all the equipment inside?

Aren't centers like this just cherry picking the paying patients, leaving the uninsured to be treated at hospitals?

Won't this mean that existing hospitals in Oklahoma will have to raise their prices, since they have to continue to exist and they still have to cover the uninsured?

How far can the "unbundling" of hospitals go?  How strong are the economies of scope for hospitals?

Do CON laws prevent competition from raising costs of health care or do they stifle cost-reducing innovations?

Competition in Health Care: Medicare Part D

As part of my ongoing project to chronicle the working of competition in health care, I note this latest article in the American Economic Review.

Medicare Part D is the prescription drug coverage program for senior citizens in the US.  Those eligible choose a plan from competing (yes, competing!) insurers.

Here is the abstract of the article and a paragraph from the conclusion.  I will emphasize this one sentence in particular:  "Our results add to the accumulating evidence that Part D represents a successful implementation of a market-based approach to deliver a large-scale entitlement program..."

Selection in GM's Pension Buyout?

General Motors has offered about 42,000 of its white collar employees a lump sum buyout from their pension plans.  The employees were offered either to keep the monthly pension payment they were entitled to or a lump sum, with the lump sum being set at an actuarially fair level:  present value of the stream of benefits, using a unisex life expectancy.  The latter is required by law.

Just this week, GM reported that about 1/3 of the eligible folks opted for the lump sum.  See this Chicago Tribune article for details.

Now, wouldn't it be neat to see the gender breakdown of those taking the lumpsum as compared to the gender mix in the eligible pool?  Since women live longer than men on average, and the lumpsum had to be set using average life expectancy across men and women, women should take the pension stream and men should take the lump sum (ceteris paribus, of course).

Interesting Experiments in Health Plans

One of my colleagues proposed some time ago that health insurance should be more like true indemnity insurance, wherein you just get a lump sum of cash if you have a health care need.  The idea is that the patient would then shop around for the best care -- best defined by the patient's weighting of cost and quality.  Broken leg -- that might yield $5,000.  Of course, there are myriad issues here: a new kind of moral hazard; monitoring the quality of care providers chosen by patients;  the difficulty in determining a reasonable payment for complex cases; contingency payments for unexpected complications, etc.

Now it turns out that such experiments are going on.  The most recent issue of Health Affairs includes this article, "Payers Test Reference Pricing and Centers of Excellence to Steer Patients to Low-Price and High-Quality Providers," by Robinson and Macpherson.  Calpers, the California public employees system, pays $30,000 to insureds for a knee or hip replacement, with any excess over that the responsibility of the patient.  Safeway, the grocery company, pays $1500 for a colonoscopy, after they observed almost 10-fold variation in colonoscopy prices.

Many pharmaceutical plans already use this reference pricing concept for drugs, giving a patient only the amount that a "reference"drug would cost.

The potential for savings here is quite large.  As I pointed out in a class the other day, there are static and dynamic effects.  The static effect is the one-time cost savings by having patients choose a lower cost provider.  The dynamic effect arises when the entity losing business realizes that and lowers price, or when a supplier sees that their demand is now more elastic, and by offering lower prices they can attract business from new patients.

But note the free-rider problem inherent in this:  Safeway's innovation will create lower prices for all buyers, to the extent that the dynamic effect of competition kicks in.  Safeway pays all the cost of the innovation but accrues only part of the benefit.