Insufficient Credits

As air leaks out of the economic balloon, the number of Americans without
health insurance will rise. For two decades, the number--now more than 45
million--has been steadily growing, as it has during all but the last of our
eight years of unprecedented prosperity. There are only two large payers for
health insurance: government and private employers. Both have large gaps in whom
they cover. The federal government, through Medicare, does insure nearly everyone
over age 65; but the state-run Medicaid system, along with the four-year-old
State Children's Health Insurance Program (SCHIP), covers only a fraction of the
poor--children and some parents--using very stringent criteria.

Employer-sponsored insurance is spotty in the best of times. Companies may or
may not offer it, and workers may or may not accept it. During full employment,
employers must compete for workers, so they have an incentive to offer health
benefits, at least to skilled employees. In the year 2000, which will probably
turn out to be the high watermark of our current employer-based system, nearly
all large companies and those with highly paid workers offered health insurance.
But about a third of small companies (those with fewer than 200 employees) did
not; nor did many companies--large as well as small--with temporary or
hourly-wage earners.

In firms that did offer insurance, one in five workers (mainly new employees and
part-time and temporary workers) were considered "ineligible." And of those
considered eligible, another one in five turned down insurance because they could
not afford to pay their share of the premiums (usually about 10 percent to 30
percent of the total cost). Thus, only about half of American workers received
employer-sponsored health coverage.

Still, until this year most employers offered health benefits and even
absorbed the rapid increases in premiums that began in 1998 after a few years of
slowed inflation. But premiums charged by insurers are now rising at double-digit
rates. So far, most employers have not passed these increases directly to their
workers. Instead, they have avoided higher premiums by increasing the workers'
out-of-pocket costs through higher deductibles and co-payments.

But with the slowdown in the economy and rising unemployment, the balance of
power between employers and workers will shift. Since the employer-sponsored
system is voluntary, some employers will drop health benefits altogether. A tough
patients' rights bill would add to this erosion, because it would drive up

Employers who continue to offer benefits will take steps to reduce their
outlays. One way is to pass along higher health-insurance costs to employees by
raising out-of-pocket charges. Another is to reduce the services covered. Another
is to shift to stringently "managed" plans. Still another is to contribute only
a fixed amount toward the premium--known as a "defined contribution"--and require
workers to pay the rest. Often billed as a method to increase workers' options,
this is really inflation protection for employers. Obviously, the more workers
have to pay, the more likely they will be to refuse coverage when it is offered.
Employers are resorting to all of these devices. Thus, the combination of rising
unemployment and rising premiums will swell the ranks of both the underinsured
and the uninsured, as employers drop coverage or more workers find they can't
afford it.

Faced with the likelihood of a large increase in the number of Americans
without health insurance, many policy makers and interest groups are coalescing
around the same solution: refundable tax credits to enable the uninsured to
purchase private insurance. (A refundable tax credit is like a cash subsidy.) In
insurance terms, this is essentially a defined contribution, and there are a
number of variations on the theme. In his election campaign, Bush called for tax
credits of up to $1,000 for individuals earning below $45,000 a year and $2,000
for families earning below $60,000 a year. Others have called for larger credits
that would phase out at higher incomes. Most proposals would require recipients
to purchase insurance in the private market, without any regulation of premiums
or benefits. Most also contain no provision to adjust the tax credit for inflation
in health care premiums. Some would limit the program to those not eligible for
other government programs or employer-subsidized coverage, but others would offer
credits to all low-income workers who turn down employer coverage or need help to
pay their share of the premiums.

Tax credits for the uninsured are a bad idea for several reasons. First, even
the most generous of the proposed tax credits would not buy an adequate policy.
According to the General Accounting Office, the average cost of a nongroup
health-insurance plan for a family of four is $7,352 per year. Even with a $3,600
tax credit (the most generous proposed), $3,752 would be left for the family to
pay out of pocket--or 12.5 percent of a $30,000 income. With Bush's $2,000
credit, the out-of-pocket expense would be $5,352, or nearly 18 percent of a
$30,000 income. Such outlays would be impossible for the very people who most
need coverage. So right from the start, the idea is empty. And without
adjustments for inflation in health costs, the shortfall would grow larger over

Second, the influx of federal money would probably cause premiums to rise even
faster than current projections. Unless premiums are regulated (which nobody
proposes), tax credits for the uninsured would be a windfall for the insurance

Third, tax credits would tend to drive out other types of coverage. Employers
could use them as an excuse to drop health benefits altogether or shrink them
further. That would be particularly likely if premiums rose steeply as a result
of the tax credits. Similarly, parents of children eligible for Medicaid or SCHIP
might opt instead for tax credits to cover the entire family. Prohibitions on
such shifting would be difficult to enforce.

Fourth, most of the tax-credit proposals require individuals to fend for
themselves in the notoriously treacherous market for individual coverage. Some
companies would likely offer cut-rate plans for the amount of the tax credits,
but those plans would have very large out-of-pocket payments and very narrow
benefits. Even with regulation, policing this market would be a nightmare.

Finally, complex administrative requirements, including the need to monitor
the insurance market and ensure that criteria for eligibility are met, would
probably generate a huge and expensive new government bureaucracy. That would
siphon off still more of the U.S. health dollar for overhead, which is already an
exorbitantly high fraction of the total.

Yet despite its fatal flaws, the tax-credit idea enjoys surprising support from
the political right, the center, and even the near left. For example, Senator Jim
Jeffords (while he was still a Republican) introduced a bill along the lines of
the Bush plan that was co-sponsored by Democrats John Breaux of Louisiana and
Blanche Lincoln of Arkansas, together with Republicans Lincoln Chafee of Rhode
Island, Bill Frist of Tennessee, and Olympia Snowe of Maine. In the House,
versions of tax-credit bills have been sponsored by liberal Democrats Pete Stark
of California (whose plan did provide for regulation of benefits) and Jim
McDermott of Washington (the only plan to peg credits to premiums), as well as by
conservative Republicans Dick Armey of Texas (the House version of the Jeffords
bill) and Charlie Norwood of Georgia (a plan permitting reduced credits for
individuals eligible for employment-based coverage). And outside the halls of
Congress, the idea has created even stranger bedfellows. Organizations more often
at odds than in accord, like the American Medical Association, the Health
Insurance Association of America (HIAA), Families USA, and the American Hospital
Association, have signed on to tax credits as at least a partial solution to the
problem of the uninsured.

It's easy to see why conservatives would like the tax-credit solution. It's a
part of their creed that nearly any problem can be solved by an adjustment in
taxes. And they are committed to market solutions, however unworkable they might
be. As for the political center, providing tax credits sounds like a good
"centrist" thing to do: set up a "partnership" in which government policy creates
incentives for market solutions. But why does the idea appeal to people who
should know better--good liberals like Ron Pollack, executive director of
Families USA, and Congressman Jim McDermott, a longtime champion of a
single-payer health care system?

One answer is that they see it as a harmless bargaining chip to be offered in
return for an expansion of government programs such as Medicaid and SCHIP.
Another is that after the defeat of the Clinton health care plan in 1994 and the
general ascendance of market ideology, they no longer believe that it is
realistic to push for comprehensive reform. The only way to expand coverage, they
now believe, is by incrementalism--nibbling at the edges--which necessarily
requires a lot of political horse-trading. Pollack joined with Chip Kahn, then
president of the HIAA, to publish an article in the January/February issue of
Health Affairs arguing for such incremental quid pro quos. In welcoming the
federal budget resolution's inclusion of $28 billion to extend health coverage
for the uninsured, Pollack later said: "Expanding Medicaid and [S]CHIP programs
in conjunction with tax credits to assist working families will significantly
reduce the number of uninsured Americans."

McDermott joined with conservative Republican Congressman Jim McCrery of
Louisiana to stage a conversation on the subject at the request of journalist
Matthew Miller, who reported on it in the October 2000 issue of The
Atlantic Monthly
. Both McDermott and McCrery are members of the House Ways
and Means Subcommittee on Health. A passionate crusader for middle-ground
solutions, Miller got the unlikely pair to agree that the tax-credit idea is a
feasible second choice (to a single-payer system, for McDermott; to the market,
for McCrery) and a good compromise. McCrery candidly stated that his purpose was
to stave off a move toward a single-payer system, a move he thought would be
inevitable as the current system deteriorates. As for McDermott, he recently told
me that he just wanted to show "that the emperor has no clothes"--in other words,
that nothing short of a single-payer system would cover anywhere near the entire

But tax credits are not harmless, and it's not just a matter of watching them
fail and then starting over from the same point. Paradoxically, tax credits would
actually increase the number of uninsured. That is because they would drive up
prices and undermine the employment-based system without putting anything
workable in its place. In short, the damage done in demonstrating that the
"emperor has no clothes" would be great, and small expansions in public programs
would not compensate for the harms.

Tax credits are just an extreme example of the problem with incremental
improvements to our fragmented, market-driven system. There is simply no way to fix
a piece of the system without creating unintended ripple effects. Push in here
and it pops out there. We should have learned that lesson from our disastrous
experiment with market-driven managed care. Both employers and the managed-care
companies competing for employers' business have every incentive to keep premiums
as low as possible. But the surest way to do that is by limiting services.

Managed-care companies, for example, often refuse insurance to employers with
workers at unusually high risk of getting sick--say, because they are older than
average or many of them have chronic conditions of one sort or another. Instead,
they direct their marketing efforts toward young, well-educated workforces,
because they are healthier. And when they do agree to provide insurance, they may
refuse to cover certain expensive conditions or services. These practices--known
as "cherry-picking"--have become the hallmarks of managed care. Employers and
managed-care companies also discourage the use of medical care through high
deductibles and co-payments and by erecting so many bureaucratic roadblocks to
obtaining care that workers often prefer to pay out of pocket or do without. For
health plans to avoid actually delivering medical care requires a degree of
ingenuity and a lot of overhead expense. But the expense is apparently worth it.
Managed-care companies boast to investors about their low "medical loss
ratios"--the amount they spend on medical care. The lower the ratio--and it may
be as low as 70 percent--the more the companies keep in profits and administrative

Incremental attempts to deal with these abuses have failed or backfired for
the simple reason that employer-sponsored coverage is purely voluntary and there
is no regulation of premiums and benefits. Thus, recent legislative initiatives to
provide remedies--such as requiring at least 48 hours' hospitalization for
childbirth and enacting other patient-protection measures--can lead to the
unintended consequences of managed-care companies raising premiums and employers
shrinking benefits or dropping them altogether. The same will be true for tax
credits. Premiums will rise, the benefit package will shrink, and more employers
will drop coverage.

The fact is, our private-employer-based health care system is a failure. It
pits the economic interests of managed-care companies and employers against the
health needs of patients, and it is woefully inefficient because of its huge
overhead expenses, many of which are aimed toward limiting services. Dealing
with the effects rather than the underlying causes of the system's failures is
not only futile, it is harmful.

Compare the tax-credit idea with Medicare (which is a public, single-payer
system embedded in the private, market-based system). Medicare offers defined
benefits, not defined contributions; that is, all beneficiaries are entitled to
certain services. The program provides a uniform set of benefits to nearly
everyone who qualifies, and it does so far more efficiently than the private
sector's employment-based system. Furthermore, by regulating prices as well as
benefits, Medicare limits what providers charge. Certainly, Medicare has plenty of
room to improve. It could make the benefit package more appropriate for seniors
and it could control inflation better (although it does better on this score than
the private sector). But the essential mechanisms for doing both are in place.

No system can work if it doesn't cover virtually everyone automatically and
regulate prices as well as benefits. No matter how many ways we try to shift costs
and plug holes, we will sooner or later have to face that fact. Otherwise, we
continue to chase a rapidly receding quarry: health care that is both adequate
and affordable. Precisely what makes the tax-credit idea attractive to
conservatives-- the preservation of the private market--is what will doom it in
practice. We had better come up with another solution, because the problem is
about to get a lot bigger. Universal Medicare, anyone?

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