Control Health Subsidies, Control Health Spending

By 2020, the United States will devote roughly 20 percent of its total annual economic to health care, up from 17.6 percent in 2009. Why is health care spending chewing up ever-bigger portions of the economy?

One reason, as economist Arnold Kling has noted, is the dramatic increase in expensive medical technology and services. We're not just using more medicine. And it's not merely that the price of the same basic procedures and services has increased. It's that health innovation has given us access to a wide array of fancy new drugs and devices and time-intensive medical specialties.

But expensive advances in care technology aren't the only culprit. The more fundamental problem is the system of tax-funded subsidies in form of both tax breaks and entitlements—and in particular, the essentially unlimited health-spending commitment offered by Medicare. As Cato's Jagadeesh Gokhale writes in Politico, those subsidies have insulated patients from the price of care—and, by masking its true cost, funneled a growing share of our nation's economy into health spending:

The introduction of comprehensive health subsidies — Medicare for the elderly, Medicaid for low-income households and tax exclusions for employer health insurance provisions for the rest — has expanded the intensity of health care services use and has sucked resources from the private payer health sector.This has also stratified health care providers — with the more qualified, skilled and successful providers remaining in the lucrative private-payer sector.

So it is not surprising that, as public subsidies ballooned, the use-intensity and resource-siphoning effects led to bigger cost increases in the private-payer sector. It is a classic cart-before-the-horse argument to use the faster spending increase in the private-payer health sector as justification for expanding the government-payer sector — all the way to adopting the public option.

The payment structure of our public health care subsidies introduces a vicious cycle: Given supply-limiting health care regulations, those subsidies initially increase health care demand and prices and also spur innovations in costly medical technologies. Our open-ended health subsidy system then responds to higher prices of health care goods and services by diverting more resources from the rest of the economy toward the health sector.

The truth is that the only way to control health costs is to stop collaring funds from the rest of the economy and channeling them to this sector — as we have for the past 45 years.

The raft of public subsidies, in other words, distort the market by pushing economic decision makers —individuals and employers and providers—to spend far more than they likely would have. In the wake of this week's debt deal, policymakers seem to be leaning toward cuts to various yet-unnamed health provider reimbursements. Paying providers less might save some money in the short run. But simply tweaking the web of price controls doesn't address the underlying problem, and may squeeze the system in other ways. America's health care system doesn't need "better" price controls—it needs subsidy control.