Health Care 101: The truth about health spending in America

  • Title:

    American Health Economy Illustrated
  • Hardcover Dimensions:

    7" x 10"
  • 332 Hardcover pages
  • Buy the Book

A leading driver of President Obama's health reform was the conviction that America's health economy was badly broken. Even critics of Obamacare largely agreed that Americans spend too much on, and get too little from, their health care. The talking points told one story, but the statistics tell another. In this "Health Care 101" guide, Christopher J. Conover, author of the just-released "American Health Economy Illustrated," distinguishes fact from fiction and answers some of the most fundamental questions about health care and health spending in America.


U.S. Health Spending

The Government's Role in Health Costs

Health Outcomes


The Massachusetts Model

U.S. Health Spending

Doesn't the U.S. spend too much on health care?
Critics argue that the U.S. spends too much and gets too little especially compared to single-payer systems such as Great Britain's or Canada's. But the U.S. also has the largest gross domestic product (GDP) on the planet. The issue is whether the U.S. spends too much given its much higher GDP per capita relative to other countries. The conventional wisdom says the U.S. spends 60 percent more than it should given its income. But a more accurate analysis of the same data shows that the U.S. spends only 1.5 percent too much. In contrast, France spends 19 percent too much, while single-payer countries spend at least 20 percent too little. This suggests a degree of rationing most Americans would find unacceptable.

Why does the U.S. spend so much more on health care?
U.S. health care prices are about 25 percent higher than they are in other major industrialized countries. This is an across-the-board phenomenon, with American nurses, primary care doctors and specialists all being paid a higher amount (relative to U.S. GDP per capita) than the Organisation for Economic Co-operation and Development (OECD) average.

Americans also pay more for brand name pharmaceuticals but less for generic versions compared to other countries. Given that generics now constitute about one quarter of the U.S. pharmaceutical market, Americans pay somewhat more on average for their market basket of medications than any other Group of Seven (G7) country except Japan. But once America's  higher income is taken into account, the affordability of drugs in America is nearly identical to that of all other G7 countries excluding Japan (where medications are less affordable).

Does this mean that U.S. doctors are overpaid?
Not so fast. Compared to the average citizen, American doctors do appear to be paid more than doctors elsewhere. That is, relative to GDP per capita in their respective countries, U.S. medical specialists and primary care doctors earn about 50 percent more than their foreign counterparts. But U.S. specialists earn only 37 percent more than high earners (95-99th percentile of the earnings distribution), whereas in the rest of the OECD, specialists earn 45 percent more than high earners in their own countries.  

But don't other countries better control health spending?
It turns out that they do not. In terms of growth of inflation-adjusted health spending per person, the U.S. is actually  right in the middle of the pack among its G7 competitors, and this has been true for nearly five decades.  Moreover, the real growth in health spending per capita in Great Britain and Canada has exceeded that of the U.S. since 2000, and these are the same single-payer countries that critics of the U.S. point to as having a vaunted advantage in cost control.

Does this mean the U.S. does not have a health spending problem?
Not at all. The foregoing figures merely suggest that other countries do not necessarily have a magic bullet when it comes to limiting health expenditures. Families are understandably worried about health care costs. In 2010, more than 20 percent of household consumption was devoted to health spending compared to less than 5 percent in 1929. Within five years, health spending will overtake shelter as the largest single category of household consumption. But nearly 75 percent of health spending is hidden from families - that is, the amounts paid out-of-pocket for (1) the worker share of group health premiums and Medicare Part A payroll taxes, (2) voluntary premiums paid for non-group health insurance (Medicare Parts B and D) and (3) out-of-pocket medical expenses not covered by insurance amount to only six cents of every dollar of family income. The rest is hidden in the form of employer payments for health insurance and taxes used to pay more than half of all health spending.

Insulating Americans from the consequences of health spending has been a major contributor to spiraling health costs. Even before the U.S. enacted the Patient Protection and Affordable Care Act of 2010 (PPACA), out-of-pocket costs as a percentage of total health spending were lower in the U.S. than in all but three other countries in the world. Yet rather than fix this problem, PPACA makes things worse by further reducing cost-sharing, making Americans even less likely to find good value for their money in the same way they do for computers, electronic gadgets and cars.

This insulation also means that Americans have less incentive to take responsibility for their health. Half or more of U.S. health spending can be attributed to behavior, lifestyle and other avoidable causes. Obesity and smoking alone account for more than 10 percent of health spending. About half of adult health spending is for medical services related to chronic conditions. Regardless of age, spending for patients with chronic conditions is about three times as high as for patients with no chronic conditions. Patients with chronic conditions offer an excellent opportunity to rely on incentives and market forces to shape spending behavior.

Does this mean we should get rid of health insurance?
Not at all. The 1 percent of the population that has the highest annual health expenses accounts for 20 percent of health spending. This group's 2011 annual spending likely exceeded $115,000. Those in the top 5 percent of the population with the highest annual health expenses account for just under half of all spending, with average annual expenditures that exceed $50,000. Few families could absorb such large expenditures without some sort of insurance. That said, despite the large increase in health spending over the past 70 years, the average American is far better protected against health spending today than in 1940, when 90 percent of Americans lacked health insurance coverage.

Health care is particularly burdensome to low-income families. Under a new approach that the U.S. Census Bureau uses to measure poverty, out-of-pocket health spending alone added 10 million people to the ranks of the poor in 2010. Yet in 2009, the federal government spent more to subsidize health coverage for workers than for those below the poverty line.

The Government's Role in Health Costs

What role does the government play in rising health costs?
If we count all federal, state and local health spending, the government finances almost 60 percent of national health expenditures. Between 1966 and 2007, the entire increase in government spending relative to the economy resulted from growth in tax-financed health spending. In fact, tax-financed health expenditures over the past 50 years have grown faster than any other major functional area of government spending, including defense, income support and education. Since 1960, the increase in government health spending as a percentage of GDP more than exceeded the decline in defense spending's share of the economy through 2010. This is not to say that health spending caused national defense outlays to fall, but it serves as a reminder that every dollar spent on health care is a dollar that cannot be spent in another sector.

Ironically, many of the problems in our current health care system that lead to demands for public policy fixes - the underpayment of primary care providers, overpayment for certain specialty procedures and excessive payments for medical supplies - have origins .

Why is it so hard to control health spending?
One important reason is that every dollar of health spending represents income. In every decade since the 1930s, total health services employment has increased two to three times as quickly as the number of workers in the general economy or private business. Of course, this is good news for workers in the health sector. For almost 50 years, unemployment rates among males working in hospitals or other parts of the health services industry have been lower than those of their counterparts elsewhere in the economy. However, for nearly a half century, women working in health services outside of hospitals have routinely experienced higher unemployment than their counterparts in the rest of the civilian workforce - typically by two to three percentage points.

The dependence of the economy on health sector jobs highlights one of the risks of the Affordable Care Act. The Medicare actuary has estimated that if the massive cuts contemplated for Medicare are put into effect as scheduled under this new law, Medicare and Medicaid payment rates for inpatient hospital services will, by 2020, be 40 percent below the rates paid by private health insurers. Consequently, roughly 15 percent of hospitals, skilled nursing facilities and home health agencies paid by Medicare would (according to the actuary's projections) become unprofitable within the next 10 years. These potential adverse effects are so severe that even the Medicare actuary questions whether Congress would have the political will to enforce such deep cuts. After all, for nearly a decade, Congress has spared physicians deep payment cuts required by the Balanced Budget Act of 1997. But without such cuts, the projected costs of the Affordable Care Act will be substantially higher and increase the federal budget deficit.

Are health spending trends sustainable?
While the nation should not hesitate to spend on health care that provides good value for money spent, avoidable health expenditures carry a real opportunity cost. For example, our national wealth would have more than doubled if the U.S. had limited its increase in health spending to the increase in national wealth between 1950 and 1980, instead channeling all extra health spending into savings.

According to the Congressional Budget Office's latest long-term spending projections, the federal government is slated to increase in size by more than 40 percent (relative to the economy) over the next 75 years. Fully 100 percent of that increase can be attributed to growth in federally-financed healthcare entitlements. Absent fundamental Medicare reform -the mismatch between what Medicare takes in from Part A payroll taxes and what it spends on Part A, B and D services - will, by 2085, exceed 25 percent of taxable payroll.

Federal spending on health care is growing so rapidly that to pay for the increases in federal health spending promised 75 years from now, federal income taxes that year (as a percentage of GDP) would have to be 175 percent higher than they are today. But even if policymakers found a way to cover the tax bill for increased health spending, Medicare recipients will struggle. Within 75 years, the average monthly premiums required for Medicare and out-of-pocket spending for Medicare-covered services (for example, deductibles and coinsurance) will equal the average monthly Social Security check.

But given the very large and growing share of health spending financed by the government, there are two reasons to be very concerned with each increment of GDP allocated to health spending. The first is that political decisions over the allocation of resources in the "new commanding heights" are almost certainly going  to be less efficient than those made in a purely private market. The second reason is that every extra dollar of health spending that is federally tax-financed will generate hidden losses in the economy of roughly 44 cents. Subjecting the economy to these  two setbacks will drag down  U.S. competitiveness, which is directly proportional to the health share of GDP. Until we substantially reduce the role of government in the health sector, the health share of GDP growth will be viewed as an early warning speedometer. By 2020, we will have nearly doubled our "speed" compared to that of the 1980s and 1990s. One study estimated that, even after taking into account "health reform," the sharp increase in tax rates required to finance public health program spending will generate efficiency losses that could reduce the 2060 GDP by 12 percent. 

State Medicaid spending is growing so rapidly that between 2011 and 2019 alone, state dollars spent on Medicaid per resident will on average double.

Health Outcomes

Doesn't the U.S. have a much higher infant mortality rate than other countries?
Many of the international comparisons of health outcomes are deeply flawed. The U.S. currently ranks 43rd internationally in infant mortality. Unfortunately, no consistent standard exists for reporting infant deaths across countries. Preterm birth (that is, births at less than 37 completed weeks of gestation) is a key risk factor for infant death, yet the United States is one of only eight countries that categorize extremely premature infant births as "live births," despite these babies' very low odds of survival. Specifically, "many nations do not report any live births at less than 23 weeks' gestation, or less than 500 g, despite the presence of vital signs." This may sound like a minor reporting difference, but a Philadelphia study found that when all deaths of infants delivered at 22 weeks' gestation were excluded from its birth statistics, that city's measured infant mortality rate declined by 40 percent.

The aggregate statistics also mask this important reality: if we categorize births by length of gestation, the U.S. ranks second, third or fourth as compared to major European countries, in that it achievesthe lowest infant mortality rates for every birth category examined prior to full-term (22-23 weeks, 24-27 weeks, 28-31 weeks and 32-36 weeks). Only Norway and Sweden (whose populations are much more homogenous and physically fit than America's) achieve consistently better results.

Don't Americans have a much lower life expectancy than those elsewhere?
The U.S. ranking of 39th in life expectancy is likewise thoroughly misleading. When life expectancy figures are appropriately adjusted to account for violence-related deaths, the U.S. ranks number one among OECD nations in life expectancy at birth (without this adjustment, the nation ranks 15th). The disproportionate number of U.S. deaths due to violence is the principal reason our nation ranks so low overall. These fatalities include all gunshot-related deaths, all homicides and suicides, and deaths due to automobile accidents or other injuries. Such deaths arise from social causes, lifestyle choices or imperfections in public efforts to reduce such deaths, such as highway safety. These fatality rates nothing about the quality of U.S. medical care.

But doesn't the U.S. have worse health outcomes than its major competitors?
The U.S. does perform worse on so-called avoidable deaths amenable to medical treatment. However, this measure also has many flaws, not the least of which is that such deaths constitute only a fraction of overall deaths. As a general proposition, the U.S. has superior medical outcomes for conditions in which medicine makes a difference.

Cancer, for example, is the second leading cause of death in the U.S. But cancer patients.


How can we fix Medicare?
Over a lifetime, Medicare beneficiaries typically receive $2 to $6 in benefits for every dollar they paid in Medicare payroll taxes. Part of the reason for this is that Americans are living longer whileworking less. Since 1900, male life expectancy at age 20 has risen by 14 years, yet working-life expectancy is currently lower than it was when Theodore Roosevelt was first elected president. Working-life expectancy for women rose during this period, but not nearly as much as life expectancy at age 20. However, even today, men have a life expectancy that is nearly five years less than women, yet they devote five years more than women to paid employment. Since Social Security actuaries expect life expectancy to increase by about 5 years over the next 75 years, most comprehensive reform proposals such as the Wyden-Ryan plan increase the age of Medicare eligibility. This both increases the amount of payroll tax revenue available to support the program while reducing the lifetime costs per beneficiary by one year.

Another problem with Medicare is that because it is less generous than the typical health plan provided by employers, nearly 9 in 10 noninstitutionalized elderly people purchase some form of private supplemental coverage to fill in Medicare's gaps. Because these private plans typically cover all the deductibles and cost-sharing features of Medicare, many of these beneficiaries have essentially 100 percent coverage for their medical bills. This results in their overusing of medical care. A proposal to charge seniors with first-dollar coverage about $500 would save more than $50 billion over 10 years.

While the Wyden-Ryan plan is not perfect, it is a great improvement over traditional Medicare insofar as it would move the program away from a "defined benefit" towards a "defined contribution," and would rationalize taxpayer subsidies so they are better targeted at those who need the most help (for example, those with lower incomes and greater health needs).

The Massachusetts Model

What can the Romneycare experience tells us about the impact of Obamacare?
The Obama administration says that Obamacare was modeled after Romneycare. In the first three years following the enactment of Romneycare, state health spending per resident grew more rapidly in Massachusetts than in the rest of the nation. However, GDP per capita was also growing faster in Massachusetts than elsewhere; consequently, health care became relatively more affordable in Massachusetts than nationally. But note that this did not reflect a reduction in health spending, but instead an increase in the rate of GDP growth. Hospital and nursing home spending per capita are far above the U.S. average, but growth in both areas was less rapid than the national average following the start of Romneycare. In contrast, growth in physician spending per capita continued to outpace the rest of the nation.

Two things complicate these comparisons. First, the recession began in December 2007, which would have disrupted historical trends in health spending. All other things being equal, the recession increased health spending relative to the rest of the economy since health spending continued to grow even as the economy was shrinking. Second, in Massachusetts, trends in health spending and the relative affordability of health care largely mirrored what was happening in neighboring states such as Maine, Connecticut and New Hampshire. Thus, it is difficult to attribute what happened to health spending in Massachusetts solely to Romneycare.

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