Bank Of America Asks "Do Obamacare Costs Exceed The Benefits?"

Tyler Durden's picture

Authored by Ethan Harris of Bank of America Merrill Lynch,

Healthcare and the economy

Few laws cause as much high blood pressure as the Affordable Care Act (ACA). Supporters of the law consider it the signature legislation of the Obama administration. Yet, in 2011 the House of Representatives passed the “Repealing the Job-Killing Health Care Law,” one of more than 40 attempts to scuttle the legislation. Public opinion polls are ambiguous: most Americans are against the law as a whole and yet most support many of its provisions. Here we try to slice through the partisan debate and show what serious research says about how the ACA will impact the labor market.

Plugging holes

The US has a very expensive, incredibly complicated healthcare system. On a positive note, we have the most advanced technology and innovation in the world. If you have a complicated medical condition, there is no better place to be. On a negative note, the US is the only developed market economy that does not have universal healthcare. This is one reason the US ranks so poorly on health among industrialized countries for metrics such as life expectancy and infant mortality. If you can’t afford health insurance and are above the income threshold for Medicaid, emergency rooms are your primary caregiver.

ACA takes the existing system and tries to patch up a variety of holes, while avoiding a variety of perverse incentives. The end result is quite complicated.

Here are the key provisions:

Employer mandate: Companies with 50 or more full-time employees will have to offer affordable health insurance or face a penalty. This mandate has already been delayed twice. In the latest ruling, mid-sized businesses (50 to 99 full-time workers) will have until 2016 to offer insurance while larger businesses will have to phase in coverage in 2015.

 

Individual mandate: Workers meeting certain income thresholds will have to purchase insurance on exchanges or face a penalty. Insurers must cover workers regardless of pre-existing conditions and rates are set in a way that subsidizes older workers relative to younger workers.

 

More subsidies: Lower-income workers will get subsidies for insurance and Medicare is expanded to cover more workers.

Short-term impact

For the last couple of years, critics of the ACA have been arguing that it is already hurting the economy. In particular, they point to the high share of part-time workers in total employment as well as anecdotal evidence of companies converting employees to part-time. We think the law has had little impact so far.

Companies that switch workers to part-time now hurt themselves in competition with other employers; better to change employment status later when many other companies are doing the same. In a San Francisco Fed paper, Valletta and Bengali argue that the persistently high number of part-timers is what we would expect given a major recession and slow recovery. Chart 3 shows that the share of part-timers today is not very different than in the last major recession in 1982. (Note the data are adjusted for a change in survey methodology). Looking at the breakdown of part-time workers, in the past year voluntary part-time employment is up 3.3%, while involuntary part-time is down 9.1% — this also contradicts the idea that companies are already forcing workers to take part-time jobs.

A more credible argument is that uncertainty about the law is hurting business confidence. Even here we see a limited impact. 96% of companies have fewer than 50 workers and are therefore only impacted by the law if they plan to expand beyond 50 full-time workers. The law also has little impact on big companies that already offer health insurance. Finally, smaller companies that already offer insurance will now get a subsidy. The law is creating uncertainty, but we doubt the impacts are close to what we have seen with repeated budget battles in Washington.

CBO takes a mulligan

Over the longer term, however, the law is almost certain to have a negative impact on the supply of hours worked for low-income workers. Under the ACA some workers risk losing some or all of their government subsidy if they take a job or earn too much income. This has always been the case for Medicare, but the new law adds additional disincentives to work.

In our view, three studies offer a good estimate of the likely range of impact from the law. On the low end, a 2011 study from the Congressional Budget Office estimated just an 800,000 reduction in full-time equivalent jobs once the economy has fully adapted to the law. At the high end, Casey Mulligan argues for about a 5 million reduction in labor supply.2 Note that Professor Mulligan is a well-respected economist, but his research on the impact from taxes and subsidies is at the very high end of the literature. Finally, partly in response to Mulligan’s work, the CBO has developed a new estimate of full-time equivalent job loss: 2.0 million by 2017 and 2.5 million by 2024.3 The CBO paper cites a wide range of literature, and they strive to represent nonpartisan, mainstream economic thinking. We think these are the most realistic estimates to date.

The CBO does not break down the composition of the drop in hours, but we can take a rough guess. Suppose a quarter of the reduction in hours worked comes from people shifting to part-time work. After all, firms that employ low-wage workers will have a strong incentive to keep their full-time staff below 50. Thus by 2017 we would expect the labor supply to fall by 1.5 million and for about 1.5 million full-time workers to cut their hours by a third. This lowers the participation rate by 0.9% and increases the share of workers that are part-time by about 3%. It is important to look at these moves in the context of the broader economy. The labor force participation rate has already fallen about 3% from its 2007 peak. If there is a cyclical bounce back in participation in the next couple years, the -0.6% impact from the ACA may be hard to see in the data. It is also worth noting that law mainly impacts low-wage earners. Hence, according to the CBO, labor income falls by only one percent as a result of the drop in labor supply. Finally, these changes in work incentives impact the supply side of the labor market, not the demand side. From a social welfare point of view, there is a big difference between a person voluntarily reducing hours due to government incentives and someone involuntarily losing a job and seeking work.

No free lunch

Stepping back, the controversy over the new healthcare law is just the latest in a long simmering debate. Government subsidies and taxes change economic behavior. There is a trade-off between hurting economic incentives and growth on the one hand and providing a social safety net on the other hand.

At one extreme, we could go to a pure free-market system, eliminating Medicaid (and Medicare) and denying emergency room service to anyone without health insurance. This would have a dramatic impact on labor supply. It would eliminate the very high “tax” on people whose income is just above the threshold for Medicare eligibility. (Eliminating Medicare would have a similar impact on the incentive to retire at 65, raising the participation rate significantly among the elderly.) Second, it would eliminate the “free-rider” problem, where people don’t purchase health insurance because they know that emergency rooms cannot deny service. The pure free-market approach would likely cause a big increase in labor force participation rates among low-skill workers, stimulating economic growth. This stimulus would be offset by an increased incidence of serious health problems. Clearly, as a society, we have decided not to go down this route.

At the other extreme the US could go to a “single-payer” system where the government offers a minimum standard of healthcare to everyone regardless of income. Virtually every developed market economy in the world has adopted this approach. Shifting to a single-payer system would require a tax to fund the additional cost to the government. Judging from the experience in other countries, however, the increase in taxes would be moderate. For example, consider what it would cost for the US to adopt Canada’s healthcare system. According to the World Health Organization, in 2011 healthcare spending was 11.2% of Canadian GDP compared to 17.6% for the US. Indeed, Canada’s spending share is typical; the US is in a class of its own in healthcare spending. The US government already spends more than 10% of GDP on healthcare so, as a rough calculation, switching to a Canadian system would require increasing that funding by about one percent of GDP.

Of course, there are pros and cons in shifting to such a system: Canada has much better health outcomes according to many metrics such as life expectancy. On the other hand, there would presumably be less innovation, more rationing of expensive procedures and longer waiting times. Moreover, the government, rather than big insurance companies, would dictate what expenses are covered.

The CBO estimates that the ACA will cut in half the share of the nonelderly population without insurance. There are currently 55 million uninsured people, about 20% of the nonelderly population. By 2017 they expect the uninsured to drop to 30 million. If CBO estimates are correct, a 25 million increase in the number of insured workers is being purchased at the expense of a one-percent hit to national income.

Of course the reduction in hours worked is not the only side effect.

Among its other effects, the law tends to shift resources into the healthcare sector and out of the rest of the economy.

The law is supposed to be deficit neutral, but some of the funding assumptions are unrealistic and we expect the law to bump up the annual budget deficit by about 0.2% of GDP.  

It also involves a transfer of resources from the younger, healthier people to older, lesshealthy people.

It reduces the free-rider problem of people using emergency rooms even though they don’t have insurance. And it adds to paper work and government data collection.

Do the costs exceed the benefits? We will let the reader decide.