An Old Econ Essay

This was an essay I wrote for my Macro-Economics class regarding healthcare. This essay cites a lot of Adam Smith, whom my teacher loved and with whom I disagree. But I thought it makes for some interesting reading. (I got an A on the paper so my logic is pretty solid.) Contrary to popular opinion, my paper does not advocate government run healthcare, but rather, government action through taxation that would allow businesses to offer healthcare benefits and to provide incentive for individuals to obtain and/or keep their health insurance benefits. Enjoy!

When Adam Smith describes the Invisible Hand as “the mysterious power, each working for his own gain, to promote ends that benefit many,” it seems that healthcare is the exception to the rule. There is a general consensus that the United States healthcare system is inefficient, inflated, poorly managed, besieged by unnecessary litigation (i.e. malpractice lawsuits), and insurance fraud on both sides of the operating table. Everyone, from the insurance carrier to the hospital, the employer and the employee, are working for their own gain in regards to healthcare, and all of them are losing. Having worked in medical billing, I can attest to health insurance companies conveniently “misplacing” claims until the timely filing deadline passes, and then denying the claim due to missed timely filing. I can also testify to the practices of lawyers, who use the insurance payments to maximize their own fees instead of paying off their client’s medical expenses. “Out of the seeming chaos of millions of uncoordinated private transactions emerges the spontaneous order of the market,” and yet, we see no clear coordination in U.S. healthcare. We see the exact opposite.

Healthcare is literally bankrupting the American citizen. According to a Harvard study, out-of-pocket expenses for those who filed for bankruptcy either partially or solely because of medical debt averaged to $12,000. That same study found that 50 percent of all bankruptcy filings in the United States were partly due to medical debt. 68 percent of those filers had health insurance coverage[i]. On the surface, it doesn’t make sense considering that insurance is supposed to shield the consumer from the majority of costs they could otherwise not afford. But from 1996 to 2003, out-of-pocket expenses rose from 37.3 percent to 43.1 percent[ii], and it shows no signs of leveling off or decreasing.

As a consequence, many people have decided that the cost of health insurance coverage is too high and choose to go without it. Their opportunity cost is emergency and preventative healthcare. This opportunity loss is doing more harm than good. Economists found that the increase in medical expenses correlates with the decrease in health insurance coverage[iii]. So while many people believe they are saving money by foregoing health insurance, they are actually contributing to the overall rising cost and, inevitably, to their own future medical debt. When health insurance companies lose paying customers, they have to decrease overall health coverage for their insured and simultaneously raise their rates to cover the loss. This leads to more lost customers, (which includes employers who offer healthcare coverage to their employees), who either cannot afford the rate increase or received medical care that is no longer covered or only partially covered. It’s a continuing cycle of lessening coverage and increasing premiums.

The effect on the economy is staggering. 25 percent of housing problems, including foreclosures, are caused by medical debt[iv]. Items normally considered to be inelastic are becoming more elastic. An Iowa survey saw that 44 percent cut back on their food purchases and heating expenses in response to medical charges[v]. It is now estimated that the retiring elderly will need at least $250,000 in savings just for basic medical care[vi]. Some experts even stated that the original number should be closer to $300,000. If dire medical attention is needed, those figures will obviously be inadequate. By the year 2017, the United States expects to spend $4.3 trillion on medical expenses. Healthcare spending would make up 20 percent of the Gross Domestic Product (GDP).[vii]

Reform is needed. The debate is centered on who will accept the majority of the responsibility for healthcare coverage: individuals, employers, or government? Typically, the healthcare burden was on businesses to provide coverage for their employees. According to the Henry J. Kaiser Family Foundation, “Since 1999, employment-based health insurance premiums have increased 120 percent, compared to cumulative inflation of 44 percent and cumulative wage growth of 29 percent.” It is apparent that businesses can no longer afford to offer comprehensive coverage to the American worker. It is also apparent that the American worker cannot afford comprehensive coverage on his/her own.

Which leaves the United States government.

“…society through government first establishes a system of justice, to protect the poor and the rich”[viii] Adam Smith argues that the role of government is the preserver and protector of its citizens. Right now, many American citizens are facing a lifetime of debt due to medical charges. This is money that cannot be invested or spent in the U.S. economy. Our government obviously has an interest in maintaining our economy, and it would be to their advantage to alleviate this toxic situation. As Smith says in his own Wealth of Nations: “We appeal not to their humanity but to their self-interest, and never talk to them of our own necessities, but of their advantages.”[ix]

The government can use a Tax Change to increase the Short Run Aggregate Supply of Health Insurance by increasing disposable household income and higher post-tax profits for businesses who offer health insurance coverage to their employees. These combined should create a higher level of Aggregate Demand for health insurance coverage. The government must remain careful not to reduce the overall tax burden, as this would create an excess of demand, leading to inflation. This would be counter-productive.

But if the government can shift public perception regarding health insurance coverage, making “uninsured” the opportunity cost by simply increasing the short run supply of health coverage, then health insurance companies would be able to keep the needed number of customers to obtain the needed capital to cover their insured. Overall rates would decrease and coverage would increase, thereby reversing the current opposite trend. This would free up money otherwise tied up by medical debt, influencing savings, investments, and growth in the Long Run.

Adam Smith believed in placing morality in the marketplace. When business or government ignores morality, they could face a repercussion. All American citizens should have the ability to obtain and maintain some sort of healthcare coverage that will not devastate them financially. It is part of the government’s promise to keep them safe and secure. Right now, too many people are choosing medical insurance as an opportunity loss, which compounds the healthcare crisis. Government action can reverse this trend, giving an economic incentive to change the opportunity cost. Not only is it the correct economic decision, it’s also the just and moral one. As Adam Smith says, “What can be added to the happiness of the man who is in health, who is out of debt, and has a clear conscience?”[x]

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[i] Himmelstein, D, E. Warren, D. Thorne, and S. Woolhandler, “Illness and Injury as Contributors to Bankruptcy,” Health Affairs Web Exclusive W5-63, February, 2005.

[ii] Agency for Healthcare Research and Quality. Out-of-Pocket Expenditures on Health Care and Insurance Premiums Among the Non-elderly Population, 2003, March 2006.

[iii] The Henry J. Kaiser Foundation,. The Uninsured: A Primer, Key Facts About Americans Without Health Insurance. 2004. 10 November 2004 http://www.kff.org/uninsured/7451.cfm

[iv] The Access Project. Home Sick: How Medical Debt Undermines Housing Security. Boston, MA, November 2005.

[v] Selzer and Company Inc. Department of Public Health 2005 Survey of Iowa Consumers, September 2005.

[vi] Fidelity Investments, Press Release, March 06, 2006.

[vii] Keehan, S. “Health Spending Projections Through 2017”, Health Affairs Web Exclusive W146: 21 February 2008.

[viii] Wright, Jonathan B., Saving Adam Smith, Financial Times/Prentice Hall, November 2001.

[ix] Jenkins, Arthur Hugh, Adam Smith Today: An Inquiry into the Nature and Causes of The Wealth of Nations, New York, 1948.

[x] Smith, Adam, Theory of Moral Sentiments