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No Free Lunches: The Hard Arithmetic of Economics

By ·September 28, 2018
Wellesley College

The Issue:

Key policy initiatives often are presented to the public as providing benefits with no real costs. While sugarcoating may be a useful political strategy, such narratives mask the difficult tradeoffs implicit in many economic policy decisions and the invariable presence of budget constraints. Such promises defy the hard arithmetic of economics.

The Facts:

  • Two recent examples that downplay the role of budget constraints have been particularly prominent. The first is the promise that the $1.5 trillion tax cut passed at the end of last year will “pay for itself” and not boost the federal budget deficit. Second, the promise that implementation of “Medicare for All” (M4A) would lower overall health care costs, while providing near universal coverage.
  • The Trump administration made the case that extra growth generated by the Tax Cuts and Jobs Act of 2017 would be so great that it would generate an additional $1.8 trillion of revenue over the next 10 years, more than enough to offset the direct cost of the tax cuts. While tax cuts can temporarily juice the economy, the ability of the economy to sustain faster growth over a longer period is limited by the numbers of workers available and the rate of productivity growth. Looking to history, the large tax cuts passed in 1981 were predicated on the basis that economic growth would be sufficient to cover the losses in federal revenue but this did not bear out.
  • Advocates of "Medicare for All" have suggested that nearly universal health care coverage could be achieved while actually lowering overall health care costs. To the extent that households were willing to pay higher taxes that matched their drop in premiums, federal budget deficits would be little affected by adopting M4A according to this argument. Estimates that support this argument are based on several assumptions including that payments to health care providers would be reduced by more than 40 percent relative to those currently paid by private insurers. If the large reductions in payments to providers did not come to pass, overall health care costs actually would rise as coverage expanded. Unless taxes went up by even more than premiums went down, the federal government would pick up the tab and federal budget deficits and future debt would be even higher.
  • Canada — which has a single-payer, mostly publicly funded system — provides universal access to health care and has lower per capita medical expenditures than the United States. However, there are broader differences between the systems. While there are lower administrative costs associated with factors such as billing and documentation in Canada, costs are lower also because Canadian doctors have lower incomes on average and patients in Canada tend to have fewer interventions and fewer complicated procedures. In some cases, these differences could reflect waste in the U.S. system that could plausibly be eliminated by reforms. In other cases, these differences may reflect differences in the quality and style of care.

What this Means:

The goals of tax reform and expanded health care coverage have much to recommend them. But, the policy process would be far better served if more likely tradeoffs and costs were acknowledged. Not doing so could lead to poor choices now, with a reckoning later in the form of higher federal budget deficits and debt and their attendant risks. In particular, higher federal debt levels would boost interest payments on the debt — which already are on track to be more than 7½ percent of total federal spending this year — and further squeeze other government programs. In addition, the resulting higher debt could limit the government’s ability to respond aggressively to a national emergency such as a natural disaster or security crisis. And, the associated government borrowing will, in time, put the squeeze on private borrowing that could be financing economy-growing capital.

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Can Conditional Cash Transfers Break the Cycle of Poverty?

By ·September 24, 2018
Georgetown University

The Issue:

Programs that give cash to the poor in exchange for a commitment to keep children in school or provide them with basic medical care have become among the most important anti-poverty programs in some countries around the world. These conditional cash transfer programs aim to provide income-support to the poor, while at the same time incentivizing households to build human capital and, eventually, become self-sufficient.

The Facts:

  • The first conditional cash transfer programs were introduced in Mexico and Brazil in the mid-1990s. Today the programs in these two countries have grown from covering a few hundred thousand households to covering 5 million and 11 million, respectively. About 60 programs of this type now exist around the world and have also been introduced in the U.S. in the last decade.
  • Studies of these programs find that conditional cash transfers do reduce poverty and increase consumption — at least in the short term.
  • But whether they lead to investments in human capital that help the younger generations escape the cycle of poverty has come into question. There is evidence that conditional cash transfer programs increase years of schooling even in the very long-term. But, there is less evidence that this contributes to the quality of learning by students in developing countries. Findings of health benefits from programs that include nutrition conditions are mixed. The programs improve visits to health providers but not necessarily health.
  • Conditional cash transfer programs could improve the chances of employment for participants due to their effect on increased educational attainment. In my research I find that 17 years after participating in a Mexican program beneficiaries were 36.6 percent more likely to be employed than similar people who did not participate in the program (see chart). Importantly, the quality of employment also improved. Beneficiaries were more likely to be employed in the formal sector, receive non-wage benefits and earn higher wages.

What this Means:

Conditional cash transfer programs are effective in achieving the dual goals of alleviating poverty and helping individuals from poor households improve their chances of escaping poverty. While the programs are not perfect and do not achieve all their goals, they are a useful tool for poverty reduction and could be combined with other policies to make them work better. For instance, interventions to improve the schools or health facilities may be important in terms of achieving better quality of education and health.

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How Large a Burden are Administrative Costs in Health Care?

By Joshua D. Gottlieb and Mark Shepard·September 6, 2018
University of British Columbia and Harvard University

The Issue:

The U.S. health care system spends hundreds of billions of dollars each year on administrative costs. Would it be possible to reduce health care spending without affecting quality of care by focusing on administrative costs? Given the share of health care resources that these costs command, a concerted effort to reduce them could yield significant savings. Yet little is known about what influences these costs, and to what extent administrative spending deters fraud or improves the quality of health care.

The Facts:

  • Between 15-30 percent of overall health care spending, and one-quarter of the medical labor force, are involved in “administrative costs” or “back-end” functions including medical billing, scheduling patient appointments, hiring and managing staff, and investing in quality improvement efforts.
  • International comparisons suggest that administrative spending levels are uniquely high in the United States. Many explanations for high administrative costs focus on the complex, multi-payer structure of the U.S. healthcare system.
  • However, many administrative requirements have arisen for reasonable purposes. Documentation requirements respond to concerns about health care fraud and improper payments. Efforts to ensure appropriate use of care, and to measure quality of care, also require significant documentation of patients’ conditions and treatments.
  • Within the United States, billing complexity varies dramatically across insurers, with Medicaid exhibiting much higher levels than other insurers. The difficulty of billing Medicaid plans is two to three times higher than Medicare and commercial insurers.
  • It is not clear how a significant overhaul of the health insurance system would affect administrative costs. In particular, would switching to a single-payer system or a more centralized multi-payer system, as in some European countries, reduce administrative costs? The evidence suggests caution: while Medicare and Medicare Advantage have low administrative costs, fee-for-service Medicaid has some of the highest costs. In other words, government systems can perform differently in terms of administrative costs.

What this Means:

It is clear that health care has a significant administrative burden, especially in the context of billing and payments, and that this is higher in the United States than elsewhere. But we do not yet know whether this burden is justified, and whether it is worthwhile. The key question for health care policy is whether the burdens are commensurate with the benefits. Which insurers best manage the tradeoff between billing simplicity and spending resources effectively? More research is needed to determine how administrative costs relate to quality of care, rates of fraud, and health care costs.

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Why are Coal and Nuclear Power in Trouble?

By ·August 27, 2018
Tufts University

The Issue:

The Trump administration is considering several policies that would provide economic relief to coal and nuclear electric power plants.

The Facts:

  • Coal was the main source for electricity generation in the United States for many decades, but its market share has been declining. It was recently displaced by natural gas as the main source of electricity (see chart).
  • A significant number of power plants have been retired in recent years — primarily coal but also nuclear plants. National peak coal plant capacity has shrunk from 310GW in 2011 to about 260 GW in 2017, with an additional 25 GW of capacity to be retired between 2018 and 2020.
  • Environmental regulations have played a role in coal plant retirements, but, as a Columbia University report highlights, other factors account for a much greater portion of the decline. For instance, increased competition from cheap natural gas was responsible for 49 percent of the decline in domestic coal consumption.
  • While the Department of Energy has not released cost estimates, the proposed bailouts for coal and nuclear plants are likely to cost billions of dollars a year, increasing the cost of electricity for most consumers. The measures would also do little to stop the falling costs of natural gas, wind, and solar.

What this Means:

Coal and nuclear power plants have been suffering financially for the last decade due to the emergence of cheap and abundant natural gas, power market reforms, the decreasing cost of renewables, and, for coal plants, environmental regulations on emissions. Clearly, the U.S. electric sector is shifting into something that is more low-carbon, distributed, cheaper, more resilient, and reliable than a centralized grid, and only drastic federal intervention will be able to slow that shift.

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The Financial and Economic Crisis in Turkey

By ·August 22, 2018
University of Maryland

The Issue:

The Turkish lira has lost more than 40 percent of its value against the dollar since the start of 2018, the country's debt has been downgraded, and experts are predicting a recession in 2019. President Recep Tayyip Erdogan has blamed the crisis on western countries, and the United States in particular. But, the combustible conditions are the result of an unsustainable credit boom and overborrowing.

The Facts:

  • Turkey had a large credit boom over the last decade financed with capital inflows from abroad. The Turkish government has kept monetary policy loose, allowing the economy to grow steadily but also failing to keep inflation in check. With annual inflation at 16 percent, the Turkish lira has been losing value with respect to foreign currencies and raising investor concerns. Indeed, the lira began 2018 at about 3.8 per dollar, by April it had depreciated to 4 lira to the dollar, and it began to plummet in value in August (see chart).
  • A key macroeconomic vulnerability in Turkey is private-sector short-term borrowing in U.S. dollars. About 60 percent of the corporate sector debt in Turkey was in foreign currency in 2013, which is particularly risky for sectors such as construction whose earnings are in Turkish liras. (About 70 percent of the construction sector's debt is in foreign currency and for manufacturing it is 50 percent). The vulnerability of Turkish companies makes lenders less willing to roll over their debt. Also, the rise in interest rates in the United States and Europe with improving growth in these economies, as well as the prospect for even higher interest rates, have made emerging market debt relatively less attractive than it had been when interest rates were rock bottom in richer countries.
  • A standard first response to this type of crisis is that the central bank raises interest rates, but this has not happened in Turkey. Central banks can attempt to stem the outflow of money and keep the currency from plummeting by raising interest rates and making domestic debt more attractive. This also has the advantage of demonstrating the independence of the central bank, which gives investors confidence that the currency will not continue to fall.

What this Means:

The Turkish crisis did not come about because of the United States, but it has been made worse by the political fight between the Presidents Erdogan and Trump. Political pressure in Turkey might mean that the central bank finds it difficult to take measures to stem the collapse of the lira, a precondition to the resolution of the crisis. But, at this point, raising interest rates might not be enough if confidence in the Turkish economy cannot be regained. The crisis could spread to other potentially vulnerable emerging markets, those that are borrowing heavily from abroad, especially if the borrowing is in foreign currency and inflation is high (which is an indicator that the domestic currency will likely weaken). There is the possibility that the Turkish economic crisis has an impact on Europe as well, since many European banks have lent to Turkish banks and companies. The pivotal role that Turkey has played in the refugee crisis introduces another set of concerns, since Europe cannot afford to have an unstable Turkey in its backyard. The United States, while more insulated from the economic fallout of a Turkish crisis, will face political pressures if the crisis brings Turkey closer to Russia and introduces a new source of economic and political tension in a volatile region.

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