December 5, 2023

Today’s Economist: Uwe E. Reinhardt: Health Care as an Economic Stabilizer


Uwe E. Reinhardt is an economics professor at Princeton. He has some financial interests in the health care field.

It has become customary to see our health care sector as a burden on society. In some ways it is. We have developed a complicated system of financing the sector – one guaranteed to put stress on the budgets of many households and governments at all levels.

Today’s Economist

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Furthermore, we have structured the system so that prices for virtually any kind of health care in the United States are at least twice as high as prices for the same things in other countries. It is the main reason that health spending per capita in the United States is about double what most other nations spend. (Earlier this week, the Congressional Budget Office reported a sharp slowdown in the growth of health care costs, leaving budget experts trying to figure out whether the trend will last and how much the slower growth could help alleviate the country’s long-term fiscal problems.)

From a macroeconomic perspective, the health care sector has functioned for some time as the main economic locomotive pulling the economy along. In the last two decades, it has created more jobs on a net basis than any other sector.

Oddly, not much is made of the job-creating ability of the health care sector in political debate over health policy, in contrast to discussions of military spending, where employment always ranks high among the arguments against cuts. In October 2011, for example, Representative Buck McKeon of California, the chairman of the House Armed Services Committee, made that point, among others, in a commentary in The Wall Street Journal, “Why Defense Cuts Don’t Make Sense”:

And on the economic front, if the super committee fails to reach an agreement, its automatic cuts would kill upwards of 800,000 active-duty, civilian and industrial American jobs. This would inflate our unemployment rate by a full percentage point, close shipyards and assembly lines, and damage the industrial base that our war fighters need to stay fully supplied and equipped.

Not surprisingly, in its “Defense Spending Cuts: The Impact on Economic Activity and Jobs,” the National Association of Manufacturers makes the same point.

For what it is worth, economists do not view “job creation” as an industry’s valuable output. Instead, when Industry A creates jobs and with them additional output, economists ask where the workers filling these jobs would have worked instead and whether the value of their output there would be smaller or larger than the output they produce in Industry A.

But health care has one additional feature I stumbled upon while writing a recent paper: from a macroeconomic perspective, it serves as an automatic stabilizer that offsets fluctuations in the growth of gross domestic product. Corporate and personal taxes and transfer payments such as unemployment benefits or additional enrollment in Medicaid are classic forms. They actually change countercyclically with changes in G.D.P., but health spending levels remain fairly stable as G.D.P. fluctuates.

The chart below presents the year-to-year changes in total national health spending, in total private fixed investments and in the rest of the G.D.P. from 2000 to 2010. The second chart depicts the fraction of year-to-year changes in G.D.P. accounted for by year-to-year changes in national health spending, a component of G.D.P. In that chart, no column is shown for 2009, because from 2008 to 2009 private investment plummeted by $421 billion and total G.D.P. fell by $353 billion, while health spending rose by $107 billion.

The health spending data in these charts comes from Table 1 of the Centers for Medicare and Medicaid Services publication “National Health Expenditures,” which provides national health spending data for the years plotted in the graph. The data on G.D.P. and fixed private investments come from the President’s Economic Report 2012, Tables B-1 and B-18.

It can be seen that total private investment fluctuates considerably over booms and busts. By contrast, health care spending remains fairly stable over time. It does tend to growth less rapidly in times of deep recessions, but it has not declined in the United States.

The next chart depicts the fraction of year-to-year changes in G.D.P. that is accounted for by year-to-year changes in national health spending, a component of G.D.P. In that chart, no column is shown for 2009, because from 2008 to 2009 private investment plummeted by $421 billion and total G.D.P. fell by $353 billion while health spending rose by $107 billion.

One must wonder what would have happened in the presidential elections of 2004 and 2012 if health care had not buoyed G.D.P. in the recession of 2000-1 and the recession that began in 2008.

One does not have to be a blind devotee of the Yale economist Ray Fair’s economic model of presidential elections, which relies on only a few variables to predict vote shares, to believe that one or both elections might have had different outcomes, even though both Presidents Bush and Obama inherited the recessions over which they presided.

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Fed’s 2012 Transferred $88.9 Billion to Treasury

WASHINGTON – The Federal Reserve said on Thursday that it sent $88.9 billion in profits to the Treasury Department in 2012, a record that reflected the vast expansion of the central bank’s investment portfolio.

The Fed is required by law to hand over a large majority of its profits, a long-standing provision that has become a lot more lucrative in recent years. Because the money is transferred at regular intervals throughout the year, Thursday’s report does not affect the imminent arrival of the debt ceiling.

As part of its campaign to stimulate the economy, the Fed over the last five years has amassed $2.7 trillion in Treasury securities and mortgage-backed securities. And the central bank is still expanding its holdings by $85 billion a month.

The interest payments on those securities are the primary source of the Fed’s profits. The Fed has transferred $335 billion to Treasury since 2009, compared with $147 billion in the previous five years, adjusted for inflation. The Fed has transferred at least some profit to Treasury every year since 1934.

Because the Fed mostly holds debt issued by the federal government, its profits — which totaled $91 billion in 2012 — are largely payments from the government. By returning that money to the government, the central bank in effect is letting the government borrow at no cost.

Some conservative politicians say this back-and-forth – and the Fed’s broader efforts to reduce interest rates – are worsening the government’s fiscal problems by making debt seem less onerous and spending cuts seem less necessary.

The Fed’s chairman, Ben S. Bernanke, has acknowledged the benefit, jokingly describing the savings as “interest that the Treasury doesn’t have to pay to the Chinese.” But Mr. Bernanke and other Fed officials note that the purchases have their own purpose, to stimulate the economy, and will not continue indefinitely. They also note that Congress is responsible for its own behavior.

The Fed buys Treasuries and mortgage bonds to make them less profitable, which makes borrowing cheaper and encourages investors to take larger risks on potentially more lucrative, alternative investments. Returns on Treasuries are so low that many investors are losing money after adjusting for inflation. The Fed’s ability to profit nonetheless is a result of its unique business model: it pays for securities by creating money.

But there are risks. Higher interest rates would reduce the value of the Fed’s securities. And the central bank has incurred a new cost in recent years, paying interest on the reserves that private banks keep with the central bank. That has allowed the Fed to buy assets without increasing the amount of money in circulation, but keeping the money in its vaults could require it to pay higher rates as the economy improves.

The Fed spent about $4.9 billion on its own operations last year. It provided another $387 million to finance the Consumer Financial Protection Bureau, the agency created by the Dodd-Frank Act in 2010 to take over the work of protecting consumers after lawmakers decided that the Fed and other federal banking regulators had failed to do so.

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Economic View: Antitax Ideas Could Have Unintended Results

Curiously, though, if this approach actually were to become government policy, it would have a surprising effect: it would surely lead to higher rather than lower taxes.

Consider the example more closely. Cutting $10 in spending for every $1 in tax increases would result in $9 in net tax reduction. That’s because lower spending today means lower taxes tomorrow, and limiting the future path of government spending does limit future taxes, as Milton Friedman, the late Nobel laureate and conservative icon, so clearly explained. Promising never to raise taxes, without reaching a deal on spending, really means a high and rising commitment to future taxes.

Furthermore, this refusal to contemplate a tax increase — which I’d characterize as an extreme Republican stance — has brought what seems to be an extreme Democratic response: President Obama’s latest budget plan is moving away from entitlement reform and embracing multiple tax increases on the wealthy. We may be left with no good fiscal options.

The problems with a no-new-taxes stance run deeper. Because it’s unlikely that spending cuts alone can balance the budget, politicians who espouse extreme antitax views often end up denying the scope of our long-run fiscal problems.

The reality is that a mix of our aging population and rising health care costs will create acute budgetary pressures in about 10 years. If Medicare costs rise, say, 5 percent a year, such costs will roughly double in 14 years. Imagine that Congress freezes spending generally. Doing that for Medicare would, in essence, cut the size of the program in half over that period. Since the number of older Americans is rising, the per capita Medicare benefit would fall even more, with increasingly drastic results as the years pass.

That’s politically unlikely, and insisting upon it, or refusing to acknowledge that this is what a spending freeze means, ends up as another way of running away from fiscal reform. Focusing on cutting discretionary spending, a common political tactic, isn’t enough to balance the books.

Another conservative economist and Nobel laureate, James M. Buchanan, emeritus professor of economics at George Mason University, argues that deficit spending leads to yet more spending, and higher future taxes, compared with a pay-as-you-go approach. A move toward balancing the budget may mean some tax increases up front, he says, but future taxes as well as government spending will be lower than they would be otherwise.

In other words, the current antitax strategies advocated by the Republican candidates are unlikely to lead to fiscally conservative ends.

Conservatives may distrust the idea of making a grand fiscal bargain with President Obama. Some may believe that the balance of political influence is shifting in their favor anyhow. Yet from a 10-to-1 starting point, or even from 6-to-1 (one of the deals rumored to be on the table a few months ago) the bargain cannot improve all that much more in favor of spending cuts over taxes. Refusing such a bargain also requires an extreme estimate of how much American public opinion will swing in the conservatives’ direction. Keep in mind, too, that once Republican politicians are in power, they are often less keen to cut spending.

Of course, it may be rational to worry that a grand fiscal bargain isn’t much of a bargain at all. A prudent deal may postpone much of the spending reductions until the economy picks up. Perhaps we’ll end up getting the tax increases up front, and the promised spending reductions will never materialize. Congress may break its word and not make those cuts in future years, or maybe a national emergency — real or fabricated — will bring a completely new fiscal plan. Even so, it’s hard to see the harm in having tried to reach a deal, and taxes will eventually go up in any case, because they must.

What’s more, a vote for a grand fiscal bargain, in which both Republicans and Democrats have at least once endorsed a common vision of reducing entitlement spending, would increase the chance that reform would stick.

The more cynical interpretation of the Republican candidates’ stance on taxes is that they are signaling loyalty to a cause, or simply marketing themselves to voters, rather than acting in good faith. It could be that candidates are more worried about having to publicly endorse tax increases than they are about the tax increases themselves. If that’s true, it is all the more reason to watch out for our pocketbooks; it means that the candidates are protecting themselves rather than the taxpayers.

The final lesson is this: Many professed fiscal conservatives still find it necessary to pander to voter illusions that only a modicum of fiscal adjustment is needed. That’s an indication of how far we are from true fiscal conservatism, but also a sign of how much it is needed.

Tyler Cowen is a professor of economics at George Mason University.

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Economix Blog: Weekend Business Podcast: European Debt, a Tax Plan and General Motors

It’s been a difficult three months for the financial markets, and the global economy is weak. Unfortunately, more problems are probably on the way.

A resolution of the Greek financial crisis is not in sight. Approval of new powers for a stopgap bailout fund depends on the approval of all 17 members of the euro zone, and Finland, Germany and Austria all gave a thumbs-up in the last several days, as I write in the Strategies column in Sunday Business. But in a conversation in the new Weekend Business podcast, Floyd Norris says that many other countries still need to vote, and that even if they approve the strengthening of the fund, further remedies for Greece — requiring many further votes — will undoubtedly be required. The global economy, meanwhile, appears to be losing steam.

The United States has not come up with a solution for its fiscal problems yet, and many Republicans in Congress are opposed to raising taxes. In a separate conversation, and in the Economic View column in Sunday Business, Tyler Cowen, the George Mason University economist, says that a tax increase is inevitable sooner or later. If it doesn’t come as part of a “grand bargain” to reduce the deficit, he says, it will be forced on the United States later on — so it’s best to try to come up with a reasonable solution now.

And in his new book, “Once Upon a Car,” Bill Vlasic says G.M.’s plight in 2008 was so serious that it contemplated a merger with its cross-town rival, Ford. That merger didn’t take place, of course, but in a conversation with David Gillen, he says that it was actually proposed in a meeting between the leaders of the two companies. An article adapted from Mr. Vlasic’s book appears on the cover of Sunday Business.

You can find specific segments of the podcast at these junctures: Floyd Norris (30:27); news headlines (18:47); Bill Vlasic on G.M. (14:45); Tyler Cowen (6:50); the week ahead (1:30).

You can download the program by subscribing from The New York Times’s podcast page or directly from iTunes.

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Dow Retreats for Fifth Straight Day

It was a disappointing, but perhaps not surprising, turnaround to the day’s trading, in which the three main stock indexes posted slight gains through most of the day before losing steam.

Stocks in the Dow have now retreated for a fifth consecutive trading day. The Dow closed down 62.44 points, or 0.51 percent, to 12,240.11. The Standard Poor’s 500-stock index lost 4.22 points, or 0.32 percent, to 1,300.67. But the Nasdaq composite index was up 1.46 points, or 0.05 percent, to 2,766.25.

Still, the declines on Thursday were not as steep as in previous days.

“The anxiety level is clearly rising but I think there is a reluctance in the markets for investors to sell in to that anxiety,” said Russell Price, a senior economist with Ameriprise Financial

But he added: “The closer we get to that 11th hour, the more questionable that becomes.”

The yield on the benchmark 10-year Treasury note fell to 2.95 percent, compared with 2.98 percent late Wednesday.

The Dow has declined more than 3 percent since last Thursday as Congress failed to agree on plans to cut the government deficit and raise the debt ceiling; it is down about 1 percent for the month.

Other factors have compounded the markets’ unease. In Europe, despite a recent deal aimed at addressing fiscal problems in Greece, fresh nervousness bubbled up over other euro zone countries.

Kevin H. Giddis, the executive managing director and president for fixed-income capital markets at Morgan Keegan Company, said investors saw a disappointing auction of Italy’s 10-year bonds.

“Investors appear to have, temporarily at least, shifted their gaze away from the backs-and-forths in the debt ceiling debate and towards the economic challenges in the euro zone,” said Mr. Giddis in a research note.

In the United States, investors had plenty of fresh economic and corporate material to pick through for clues to a recovery.

On Thursday, the Labor Department reported that initial claims for jobless benefits last week dipped below the 400,000 level, a threshold that some economists say indicates an improving the jobs market. Total initial jobless claims fell to 398,000, below analysts’ forecasts of 415,000, in the week ended July 23, a level that Goldman Sachs economists called a “tentative positive.”

Such data is subject to seasonal adjustments and revisions, but the four-week moving average, considered a more reliable indicator of the job market, also declined.

“Unfortunately, we will need to see next week’s claims figures to get more clarity on the true cause,” Goldman Sachs said in a research note.

Pending home sales also rose in June, showing a small 2.4 percent gain that could lead to a gain in completed sales in the coming months, another survey showed.

The debt-ceiling stalemate is affecting at least some economic activity, with some businesses delaying decisions, according to analysts and a recent Federal Reserve report. Estimates for growth of the nation’s gross domestic product in the second quarter are scheduled to be released on Friday, and analysts predicted it would be slightly below the first quarter’s 1.9 percent annualized rate.

Technology shares were the best performing sector in the broader market. Shares of the LSI Corporation were up more than 14 percent at $7.35 after its results on Wednesday beat expectations for revenue, which was up 6 percent to $501 million, and issued a strong outlook.

Exxon Mobil reported strong second-quarter earnings, but they were a bit lower than forecast. Its stock was down more than 2 percent at $81.46.

And on the Nasdaq, Green Mountain Coffee Roasters rose more than 16 percent to $102.57. It reported on Wednesday that fiscal third quarter net income more than doubled to $56.3 million and that it was expecting strong growth in the fourth quarter.

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News Analysis: Is Greek Debt Risk-Free? European Banking Officials Think So

Despite the threat to the banking system caused by Greece and huge markdowns on Greek bonds in the market, European banking regulations maintain the fiction that Greek debt is risk-free. The same holds true for bonds from Ireland, Portugal or any other European Union country.

The regulations, left intact by new European Commission bank rules issued Wednesday, provide a strong financial incentive for banks to buy government debt. Because the risk of losses is officially zero, banks do not need to set aside additional reserves when they buy government debt. That effectively lowers the price.

“The assumption was that states don’t go bankrupt, which is obviously not true,” said Bert van Roosebeke, a banking expert at the Center for European Policy in Freiburg, Germany. “It’s totally crazy.”

Governments have benefited from the regulations, which helped to create a market for their bonds and keep interest rates low.

But now that Greece’s problems are shaking the euro area, the policy is being questioned.

Banks’ extensive holdings of sovereign debt are a central issue in the crisis, creating a dangerous link between government fiscal problems and bank stability. The exposure of financial institutions to government bonds adds another layer of complexity as European leaders struggle to find a way to reduce Greece’s debt load without bringing down the euro.

“The fact that private banks own considerable shares in European government bonds and risk a major share of their equity in this market makes a restructuring more difficult than otherwise,” Kai A. Konrad, an expert in tax law at the Max Planck Institute, wrote in a paper co-written with Holger Zschäpitz, a reporter for the newspaper Die Welt.

Regulators’ favorable treatment of sovereign debt “is like a subsidy by which the governments distort banking decisions, making banks more inclined to finance government debt than engage in their core business,” Mr. Konrad and Mr. Zschäpitz wrote in the article, published by the Ifo Institute for Economic Research in Munich.

Bank stress tests last week provided detailed information on European bank holdings of government debt and allowed analysts to estimate the potential carnage from a Greek default, as well as from price declines for other bonds.

The damage would be substantial.

The data indicated that most banks outside of Greece would survive if forced to recognize market losses on their sovereign holdings. But a large number would have to raise billions in additional capital to return to health.

For example, analysts at Credit Suisse looked at 49 major banks and posited what would happen if they absorbed markdowns on their Greek, Portuguese, Irish, Italian and Spanish debt in line with the losses those bonds have already suffered in the markets. That included a 50 percent markdown on Greek debt.

While only a handful of banks would fail, almost all of them in Greece, more than half the banks would need to raise new capital to bring their reserves back to levels considered healthy, Credit Suisse concluded. The total amount of money they would have to raise would be 82 billion euros ($116 billion).

While it would be easy to blame the banks for making themselves so vulnerable, they were responding to government incentives that are not likely to change anytime soon.

The new banking rules issued by the European Commission will sharply increase the amount of reserve capital that banks must keep on hand, in line with guidelines agreed to by the Group of 20 nations. But European government bonds will continue to be considered risk-free and immune to capital requirements, at least until 2015.

In explanatory documents released Wednesday, the commission acknowledged the issue, asking, “Isn’t the risk of such debt amply illustrated by current events in the euro area?” The commission went on to say that it was simply complying with an agreement among European leaders.

International banking guidelines also put a zero-risk label on government bonds bought by banks in that country. As a result, most banks have huge holdings of their own government’s debt. The five largest Italian banks, for example, own 164 billion euros in Italian government debt, making them acutely sensitive to the fiscal fortunes of their homeland.

New rules taking effect in the course of the decade will force banks to set aside at least minimal sums to cover the risk of government bonds. The so-called Basel III banking rules approved by the G-20 last year would require banks to hold capital reserves equal to at least 3 percent of all their holdings, regardless of the perceived risk. That rule, intended to prevent banks from taking on too much leverage or gaming banking regulations, would also apply to government bonds.

But the rule, known as a leverage ratio, would not take effect until 2018 and could still change. The European Commission said it would impose a similar rule by 2018, but it is waiting until after an evaluation period to determine whether the leverage ratio should be 3 percent or some other number.

The new European rule also gives the commission the power to impose additional capital requirements on banks, including their government bond holdings, if officials see a risk to the financial system.

“It’s not an option to continue like we are today,” said Mr. van Roosebeke of the Center for European Policy.

“The question is if politicians have enough courage to look at the risk.”

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Top Down: The 3 Biggest Tax Breaks — and What They Cost Us

Why else is getting rid of tax breaks a good idea? For one, economists say many of them slow growth by forcing individuals and businesses to waste time complying with the tax code. A tax code with lower rates and fewer loopholes would almost surely be more efficient. Meanwhile, from a political perspective, some Republicans who oppose just about any tax increase think cutting tax breaks is an acceptable way for the government to refill its coffers.

And yet these loopholes have become bigger in the last 20 years, mostly because tax breaks for individuals have grown. Business tax breaks, as a share of the economy, have not changed much but, at roughly $150 billion a year, remain significant.

To the left are details on the three largest permanent tax breaks — each of which has serious flaws. If Washington is finally going to get serious about the country’s long-term fiscal problems, there is no better place to start.

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