The facts presented above have established that rising health care expenditures are limiting income gains and thereby hurting family budgets, raising tax costs, raising individuals' dollar costs at a rate that is not sustainable, and damaging the U.S. economy. The economic costs from these inefficiencies are large. One study estimates that the inefficiencies of the current system alone could account for 30 percent of the total health care spending in 2007:

Examining Medicare records, researchers have found that per-beneficiary spending varies widely from one area of the country to the next. In some areas, Medicare spends twice as much per senior as it does in other areas. Researchers have also found that beneficiaries in high-spending areas do not start out sicker, do not end up healthier, and are no happier with the care they receive, than beneficiaries in low-spending areas. That suggests that a significant amount of Medicare spending provides no discernible benefit to the program's intended beneficiaries. Those researchers estimate that as much as 30 percent of total U.S. medical spending provides no discernible value. If so, then Americans spend more than $700 billion each year, or 5 percent of gross domestic product, on medical services of no discernible value.³⁸

Waste, fraud, and abuse created a large health care bill of $700 billion in 2007. On a per capita basis, $700 billion in waste, fraud, and abuse imposes a bill of over $2,300 per legal resident in the U.S.  The possibility that 30 percent of total health care spending is waste underscores the President's contention that reform is needed. However, successful reforms will directly address the root causes of the problems outlined above. The root cause is the adverse government policies that have diminished the incentives and ability for either doctors or patients to control costs and experiment with alternative, more effective ways to deliver health care.

The Obama Administration reverses this cause-and-effect relationship, positing that large numbers of the uninsured are driving health care costs higher. In reality, rising costs and a distorted health insurance market are limiting the insurance opportunities for millions of Americans. Implementing reforms true to President Obama's health care reform principles will create negative economic impacts that will exceed those negative impacts created by the current system. 

As of this writing, neither the President nor the Democratic majority in Congress has settled on a specific detailed health reform plan. There are general concepts that guide their approaches. These concepts include:

•          A public health insurance option to compete with the private sector;
•          An individual or employer mandate requiring coverage;
•          The establishment of health care exchanges where individuals can purchase health insurance, at discounted rates for certain individuals;
•          Prohibition on rate differentiation based on health status, although differentiation by age is allowed (guaranteed issue); and
•          Best practices mandates (such as an administrative body that disseminates comparative effectiveness information or electronic medical records) and the elimination of waste, fraud, and abuse.

None of these approaches address the problem at hand. The centerpiece of the Obama plan is the creation of a public health insurance option that supposedly would ensure that private insurance companies provide a fair product at a reasonable price. Such a solution is predicated on the problems being ineffective pricing and services from health insurance companies. As shown above, this is not the problem.

The government rarely competes on a level playing field with private industry; instead, it tilts the field in its favor. A public health insurance option, with guaranteed taxpayer subsidies, would pressure the industry to price at uneconomical levels in order to meet political goals, regardless of their economic merit or viability. Private insurers would have no choice but to follow the government's lead—until forced to close up shop.

Florida's experience with storm (e.g., hurricane) insurance exemplifies the fate of health care insurance under the Obama plan. As everyone knows, hurricanes frequently batter Florida. Sometimes a given hurricane is particularly severe. Storm insurance provides protection for residents against significant or catastrophic wind damage caused by the occasional strong hurricane. 

Originally, storm insurance plans were offered by both private insurers and the state government. Under Governor Charlie Crist, the state lowered its storm insurance rates to an actuarially unsound level. Under any reasonable scenario, the costs from storm insurance claims from the next large storm would overwhelm the insurance premiums collected and bankrupt any insurance fund that extended these rates. When combined with other market restrictions, the state all but ensured that insurance companies operating in Florida would lose money. In order to avoid bankruptcy, these companies have been leaving Florida. As a result, the state government has become the primary storm insurer. The state of Florida is now insuring millions of people and faces a financial crisis when the next major hurricane comes ashore.

The end result of the Obama plan on the health insurance market would be the same as in Florida's storm insurance market. The federal insurance program would drive out the private sector and become the primary health insurer in the United States. The U.S. health system would effectively become a single-payer, government-run health care system.

Fannie Mae (the Federal National Mortgage Association) and Freddie Mac (the Federal Home Loan Mortgage Corp.)   provide an example of how federal influence over public companies distorts the market and decreases its efficiency. While academics and researchers are still struggling to allocate blame over the housing bubble, it is already clear that too many homes were sold to too many individuals who could not afford them. In response, Fannie Mae and Freddie Mac tightened standards on the types of mortgages it would guarantee and/or purchase. The latest initiative, announced in March 2009, has the effect of tightening credit standards for condominium purchasers, especially for purchases in developments likely soon to experience financial difficulties. After years of too-lax credit standards, tightening lending standards is the correct economic response, although it comes a bit late. It is the incorrect political response, however.

Representatives Barney Frank and Anthony Weiner complained to the CEOs of Fannie Mae and Freddie Mac that these new restrictions may be too onerous.³⁹ Whatever the congressmen's motive, their actions illustrate that when public companies make hard economic decisions, the political overseers inevitably intervene and second-guess the company's decisions. The interference-or threat of interference-in the daily operations of public companies forces these companies to consider the political ramifications of their actions in addition to their economic viability. Having to incorporate the latest political considerations decreases the effectiveness of Fannie Mae and Freddie Mac, and is another real-world example of  how public corporations, subject to the whims of politicians, distort the markets in which they operate.

Similarly, congressmen and senators will have an incentive to pressure the CEO of some future public health insurance company whenever premium price increases are viewed by their political constituents as too onerous. Greater economic inefficiencies will be the result.

Additionally, creating another government insurance plan would not address the problem of rising health care costs, even while it exacerbated other problems by further diminishing consumer incentives to monitor health care costs. Brown and Finkelstein's research (2008) suggests that the likely impact from a public insurance option is a significant reduction in people's incentives to monitor costs and a significant increase in the costs of administering the public program.

In addition to the public insurance option, the President's health care reform priorities would create public health insurance exchanges. In theory, health insurance exchanges provide people with the resources and information to make efficient insurance purchases. When combined with guaranteed issue*¹ or some form of individual mandate, such policies are designed to ensure that all Americans have insurance coverage. Sometimes health insurance exchanges are sold as a free lunch that will simultaneously increase efficiency, expand coverage, and lower costs-at least over the next decade.

Senator Edward Kennedy asked the Congressional Budget Office (CBO) to evaluate a plan that contains these policies-the Affordable Health Choices Act. The CBO's reply dispels the myths that health insurance exchanges, combined with an individual mandate, constitute effective health care reform. Specifically, the CBO stated:

According to that assessment, enacting the proposal would result in a net increase in federal budget deficits of about $1.0 trillion over the 2010-2019 period. Once the proposal was fully implemented, about 39 million individuals would obtain coverage through the new insurance exchanges. At the same time, the number of people who had coverage through an employer would decline by about 15 million (or roughly 10 percent), and coverage from other sources would fall by about 8 million, so the net decrease in the number of people uninsured would be about 16 million.⁴⁰

Since the U.S. Census currently estimates that 45.7 million people did not have insurance in 2007, the net $1 trillion in additional spending ($1.6 trillion gross spending) would reduce the number of insured by only 35 percent. The initiative would leave 30 million people uninsured despite the government's expenditure of an additional $1 trillion on net.⁴¹ The cost to reduce the number of uninsured by 16 million people is $62,500 per each additional person insured.

That assessment is consistent with experience in Massachusetts following the state's recent health care reforms. The Massachusetts reform embodied the same main principles promoted by the Obama Administration-the health exchange, individual mandate, and generous subsidies. The state's legislature provided:

•          Cost control by increasing the number of insured through both an individual and employer mandate;
•          Generous middle class subsidies to cover insurance costs; and
•          The creation of Massachusetts Health Connector, which is an exchange designed to connect individuals with the right insurance policy.

The individual mandates of Massachusetts did reduce the number of uninsured. A recent summary of the reforms put it this way:

In mid-2008, just 2.6 percent of state residents lacked insurance coverage, down from 9.8 percent in 2006, according to a state report:

Overall, 439,000 were newly insured. These included 72,000 added to MassHealth, the state's Medicaid program, which raised eligibility from 100 percent to 150 percent of the federal poverty level; and 176,000 in CommCare, a new subsidized program for those between 150 percent and 300 percent of poverty. Another 18,000 obtained insurance through CommChoice, the new state insurance connector offering standardized plans to individuals and small businesses, while 14,000 more bought individual polices on the open market. Many more obtained employer-sponsored coverage, particularly among lower-income workers.⁴²

But the same report also documents that these same reforms are bankrupting the state and creating many unintended and unwanted consequences including:

...escalating costs, growing concerns about underinsurance for some low- and middle-income groups, and an unintended but severe impact on some safety-net providers. If anything, many of these issues will be even more pronounced in states with higher uninsured rates and fewer available Medicaid dollars...

Original budget projections for the Massachusetts program were $160 million in fiscal year 2007, $400 million in FY2008 and $725 million in FY2009. At $133 million, actual costs came in lower for 2007, but shot up to $625 million in 2008. The state funding request for 2009 was $869 million, with some estimating that actual costs could reach $1.1 billion. Much of the increase results from higher than expected enrollment in MassHealth and the subsidized CommCare programs, possibly because of underestimates of how many people would qualify. With the state about $4 billion short of a balanced budget this year, sustaining these numbers is a huge challenge.⁴³

The benefits from expanding insurance coverage are also questionable. A recent Cato Institute report found that uncompensated care provided by hospitals and other medical facilities has not declined in proportion to the increase in the number of insured.⁴⁴ In fact, one of the original selling points behind the Massachusetts reform was that it would shift subsidies for uncompensated care from hospitals to individuals. Uncompensated care subsidies were supposed to fade away, with the state using the savings to help low- and middle-income residents buy insurance instead. But hospitals now say that the rate of uncompensated care continues to be so high that they cannot dispense with their subsidies. The taxpayers end up paying twice.⁴⁵

The resultant pressure isn't on taxpayers and state budget architects alone. Although supporters claimed:

... reforms would reduce the price of individual insurance policies by 25-40 percent ... [i]n reality, insurance premiums rose by 7.4 percent in 2007, 8-12 percent in 2008, and are expected to rise 9 percent this year. By comparison, nationwide insurance costs rose by 6.1 percent in 2007, just 4.7 percent in 2008, and are projected to increase 6.4 percent this year. On average, health insurance costs $16,897 for a family of four in Massachusetts, compared to $12,700 nationally.⁴⁶

The Massachusetts reform is a case study that demonstrates the negative economic impact of health reform based on the President's principles of expanding coverage. Such an approach not only fails to address the adverse incentives driving up costs, it makes these incentives worse. The impact from the worsened economic incentives creates the additional adverse economic outcomes that will result from the President's reform concepts.

The last concept supported by President Obama addresses the outcomes of the adverse incentives (the symptoms) and not the actual adverse incentives themselves (the disease). The President discusses the need for best practices (such as an administrative body that disseminates comparative effectiveness information or electronic medical records) to be better shared across the medical profession. He also pledges the elimination of waste, fraud, and abuse. As an indication of his commitment to this cause, the American Recovery and Reinvestment Act (the stimulus package) invested $19 billion in health information technology, which included $17 billion in incentives to encourage health care providers to use electronic medical records and $1.1 billion for comparative effectiveness research.

As Cannon (2009) illustrated, the medical profession lacks adequate comparative effective research and other best practice sharing initiatives because government programs and price insensitive consumers have eliminated the incentive to do so. Throwing money at this problem will not appreciably change this incentive. What it will do is create new problems such as the possibility that the best practices will come to mean politically, rather than medically, best. The more effective policy, which should be apparent by now, is to address the problem directly by correcting the adverse incentives that are causing the inefficient result.

*1 Guaranteed issue means that applicants cannot be turned down for coverage based on their health status.

³⁸ Cannon, Michael F. (2009) A Better Way to Generate and Use Comparative-Effectiveness Research Cato Institute: Policy Analysis, February 6, 2009.

³⁹ Adusumilli, Chakradhar (2009) Fannie, Freddie asked to relax condo loan rules: report Reuters (June 22, 2009) http://www.reuters.com/article/GCA-Housing/idUSTRE55L39120090622.

⁴⁰ Elmendorf, Douglas (2009) Letter to Honorable Edward M. Kennedy Congressional Budget Office, June 15, 2009.

⁴¹ DeNavas-Walt, Carmen, Bernadette D. Proctor, and Jessica C. Smith (2008) Income, Poverty, and Health Insurance Coverage in the United States: 2007 U.S. Census Bureau (August 2008) Current Population Reports, 60-235.

⁴² Larkin, Howard D. (2009) Mass. Appeal? Hospitals and Health Networks, May 27, 2009.

⁴³ Ibid.

⁴⁴ Tanner, Michael (2009) Massachusetts Miracle or Massachusetts Miserable What the Failure of the ëMassachusetts Model'  Tells Us about Health Care Reform Cato Briefing Papers, June 9, 2009.

⁴⁵ Ibid.

⁴⁶ Ibid.