Health care reform costs don’t add up

With the recent Supreme Court hearings, the rhetoric has ramped up significantly regarding the Patient Protection and Affordable Health Care Act.

I cannot speak knowledgeably about the constitutionality of this act. I will leave that to law faculty and political scientists. There are, however, some major misunderstandings regarding how the market for health care operates. I can try to add something along those lines.

I am going to assume that the objective is to offer health care services to all Americans. In addition, we are adopting the premise that every person has an option to access catastrophic health care. This may not be everyone’s objective, but I will start here for the purposes of this column.

My first question is whether making everyone have health care insurance addresses these objectives. Sure, you can go receive health care, and the third-party insurer will reimburse the providers. What causes alarm is the cost of providing this type of insurance.

Economists study the moral hazard that accompanies such a generous plan. In other words, once I know I am insured, there is no incentive to monitor the costs associated with a “bad” health outcome. I am not saying that anyone wants to be sick. I am saying that the cost of seeking treatment is no longer borne by the patient, so that cost could increase dramatically.

There is evidence that such third-party payors as the government insurance plan induce people to behave as if health care costs do not matter. Insofar as the government enters into the insurance market — as a kind of payor of last resort — then everyone else is on the hook for paying for the treatments. When we are talking about potentially millions of people insured under the government plan, you can imagine the nervousness of budget people who wonder where the funds will come from. The mathematics of expected cost projections is frightening.

Identifying risks

So, how do we efficiently address the provision of health care services to people? The first question is to identify the risks that we collectively are willing to insure against. The stories that touch our hearts are the ones involving catastrophic health care outcomes; that is those with long-term hospital stays, requiring expensive treatments. We all know people who have suffered these outcomes. However, the likelihood that anyone of us will experience such a tragic outcome is fairly low.

A possible solution to this risk is to devise a sharing agreement; that is, let the patient bear some out-of-pockets costs — a deductible — combined with the insurance company paying the rest of the bill. Because the actuarial tables tell us that the health catastrophes are low-probability events, the insurance policy is not expensive. Moreover, by focusing on the catastrophic outcome, it is feasible to address one of the major health-care service areas that troubles Americans.

The moral hazard problem essentially vanishes because no one puts themselves at such high risk to suffer such extreme injuries. And if need be, people engaged in race-car driving or other high-risk activities could pay a higher premium.

Accessing basic health services

The other important dimension of this problem involves the cost of accessing basic health care services. For acute health care problems, the emergency room visit is a viable, but expensive, option. How do we improve access to affordable health care for these acute issues? For one thing, the supply of health care options is limited. When supply is limited, the direct price facing patients increases.

In what sense is the supply of health care constrained? The American Medical Association limits the number of students admitted into U.S. medical schools. In addition, there are different levels of health care providers — physician assistants and nurse practitioners, for example — who, if allowed to set their own price, would be able to treat “everyday” aches and pains at a lower cost to the patient. More serious cases require greater expertise.

The Patient Protection and Affordable Health Care Act was an ambitious plan to provide health care services to every American. Unfortunately, the plan lacked a basic economic wisdom that makes it infeasible.

We tend to forget that there is no such thing as a free lunch. Someone will have to pay for a plan that effectively redistributes resources within a society. In this case, the redistribution is so expensive that it may not be affordable at all. Instead, there are clear, less expensive, means that would achieve improved health care outcomes.