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Archive for the ‘Economics’ Category

When I give speeches about the economic case for small government, one of my main points is that people in the private sector (workers, investors, managers, entrepreneurs, etc) are motivated by self interest to allocate labor and capital efficiently. To be more specific, the pursuit of higher pay and greater profit will lead people to allocate resources productively.

I freely admit that people in the private sector make mistakes (most new business ventures ultimately fail, for instance), but I explain that’s part of a dynamic process in a market economy. Every success and every mistake leads to feedback, both via the price system and also via profits and losses. All of which leads to continuous changes as people – especially entrepreneurs – seek to better serve the needs and wants of consumers, since that’s how they can increase their income and wealth.

In other words, Adam Smith was right when he said that self interest encourages people to focus on making others better off.

By contrast, when politicians and bureaucrats allocate resources (either directly via spending programs, or indirectly via regulation or tax distortions), feedback mechanisms are very weak. Once politicians intervene, they never seem to care if they are generating positive results. There are plenty of examples, however, of government imposing high costs while producing no benefits. Or even producing harm.

And let’s not forget that “Public Choice” teaches us that interest groups will manipulate government to obtain unearned benefits.

The main lesson from all this information is that it’s good to have small government rather than large government.

But there’s a secondary lesson about how the economic harm of government can be reduced if market forces somehow can be part of the process. And that’s why a new study from two Italian economists at the Centre for Economic and International Studies is worth sharing.

The abstract of the study is a good summary.

We empirically investigate the effect of oversight on contract outcomes in public procurement. In particular, we stress a distinction between public and private oversight: the former is a set of bureaucratic checks enacted by contracting offices, while the latter is carried out by private insurance companies whose money is at stake through so-called surety bonding. We analyze the universe of U.S. federal contracts in the period 2005-2015 and exploit an exogenous variation in the threshold for both sources of oversight, estimating their causal effects on costs and execution time. We find that: (i) public oversight negatively affects outcomes, in particular for less competent buyers; (ii) private oversight has a positive effect on outcomes by affecting both the ex-ante screening of bidders – altering the pool of winning firms – and the ex-post behavior of contractors.

In other words, normal bureaucratic waste, featherbedding, and cost overruns are less likely when the private sector does the oversight.

And here’s an excerpt from the text for those who want more details.

…we propose a distinction between public and private oversight, depending on its source. Public oversight includes all formal checks – cost certifications, pricing data transmission, production surveillance – which the contracting authorities enact during the contract awarding phase and execution. It typically involves considerable paperwork for both the buyer and the sellers. At the cost of some red tape, it is aimed at alleviating the moral hazard problem… On the other hand, private oversight involves third parties – surety companies – issuing bonds (surety bonds) to secure the buyer against unpredictable events. If the seller fails to fulfill contractual tasks, contracting authorities make claims to recover losses. A surety is then called on either to complete the public work by themselves (i.e. with their own resources or by subcontracting) or to refund the authority of the bond value. Being liable in case of unsatisfactory contract outcomes, the sureties have strong incentives both to screen bidders (ex ante) and to monitor contractors (ex post). They help mitigate the asymmetry of information between the buyer and the sellers thanks to their experience of the market – i.e. access to private information – and the screening enacted through price discrimination on premia, which directly affects offers placed by potential contractors. Hence, private oversight enhances the selection of the best contractors and provides a second tier of monitoring of contractors’ progresses.

This is encouraging. It would be nice to have smaller government, but it also would be nice to get the most bang for the buck when the government does spend money.

To be sure, there are probably many parts of government that are impervious to market forces.

But surely there are many ways to protect taxpayers by creating incentives to save money.

  • For instance, on the programmatic level, we can enlist the private sector to fight rampant Medicare and Medicaid fraud by allowing private investigators to keep a slice of any recovered funds.
  • And on the sectoral level, we can achieve big educational gains with school choice, thus giving schools a bottom-line incentive to attract students with better outcomes.
  • Last but not least, we can rely on the competitive impact of federalism to encourage better macroeconomic policy by state and local governments.

The moral of the story, needless to say, is that the private sector does a better job than government. So let’s do what we can to unleash market forces. Be more like Hong Kong and less like Venezuela.

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In addition to his exemplary work as a Senior Fellow for the Cato Institute, Johan Norberg narrates some great videos for Free to Choose Media. Here are some that caught my eye.

But my favorite video, which I shared back in January, is his concise explanation of why policy makers should focus on fighting poverty rather than reducing inequality.

I’m posting it again to set the stage for a discussion on inequality and fairness.

Now let’s dig into the main topic for today.

A study by three academics from Yale’s Department of Psychology concludes that people want fairness rather than equality.

…there is no evidence that people are bothered by economic inequality itself. Rather, they are bothered by something that is often confounded with inequality: economic unfairness. Drawing upon laboratory studies, cross-cultural research, and experiments with babies and young children, we argue that humans naturally favour fair distributions, not equal ones, and that when fairness and equality clash, people prefer fair inequality over unfair equality.

My former grad school classmate Steve Horwitz wrote about the aforementioned study

…what we really care about is something other than inequality per se. We care about upward mobility, or average income overall, or how well the least well off do. …A recent study in Nature argued, with evidence, that what bothers people more than inequality per se is “unfairness.” People will accept inequality if they feel the process that produced it is fair. …when I give talks about inequality. I point out the number of Apple products visible in the room and ask them if they think the wealth Steve Jobs and other Apple founders accumulated over their lifetimes was objectionable. Is that the kind of inequality they object to? Students are usually hard-pressed to articulate why Jobs’ wealth is wrong… I also remind them that economic studies show that only about 4% of the total benefits of innovation accrue to the innovator. The rest goes to consumers.

Steve cites Nozick and Hayek to bolster his argument before then making the key point that markets produce material abundance based on genuine fairness.

As Robert Nozick argued in Anarchy, State, and Utopia: if each step in the evolution of the market is fair by itself, how can the pattern of income that emerges be unfair? …Hayek…observed in The Constitution of Liberty that if we want equality of outcomes, we will have to treat people unequally. If, however, we treat people equally, we will get unequal outcomes. Hayek’s argument was premised on the fact that human beings are not equal in our native intelligence, strength, skills, and abilities. …If people really care about fairness, then supporters of the market should be insisting on the importance of equality before the law. …Equality of outcomes requires that we treat people differently, and this will likely be perceived as unfair by many. Equality before the law corresponds better with notions of fairness even if the outcomes it produces are unequal. …If what appear to be concerns about inequality are, in fact, concerns about unfairness, we have ways of addressing them that demonstrate the power of exchange and competitive markets. Markets are more fair because they require that governments treat us all equally and that none of us have the ability to use political power to protect ourselves from the competition of the marketplace and the choices of consumers. In addition, market-based societies have been the best cure for poverty humans have ever known.

Writing for CapX, Oliver Wiseman analyzes other scholarly research on equality and fairness.

A 2012 study by behavioural economists Dan Ariely and Mike Norton generated some attention for demonstrating that Americans wanted to live in a more equal country. But more equal is not the same thing as fully equal. …if you let people choose between equal and unequal societies – and then tell them that they themselves will be assigned a level of wealth within it completely at random – most people choose inequality. And that preference is observable across the political spectrum, in different countries and at a range of ages.

But people don’t want undeserved inequality since that is the result of unfair interventions (i.e., cronyism).

This paper’s conclusions help explain much of the outcry over economic inequality in recent years. Occupy Wall Street and the very idea of the “one per cent” emerged just after the financial crisis plunged much of the world into recession, and US and British banks were handed billion-dollar bailouts to steady the ship. The anger didn’t come from the fact that bankers were so well paid. It came from the perception that they’d made that money by piling up risk rather than being particularly clever or hard-working – risk that was now being underwritten by the taxpayer. The wealth wasn’t just distributed unequally, but unfairly. The market mechanisms that most people accepted as the rules of the economic game suddenly seemed rigged. …Voters, in other words, don’t want equality – they want fairness. …As the Soviets found, true economic equality cannot be accommodated within a system that allows people tolerable levels of economic and political freedom. But fairness, by contrast, is something capitalism can – and should – deliver.

Professor Tyler Cowen of George Mason University cites some additional academic research buttressing the conclusion people don’t object to fair types of inequality.

…most Americans don’t mind inequality nearly as much as pundits and academics suggest. A recent research paper, by Graham Wright of Brandeis University, found that polled attitudes about economic inequality don’t correlate very well with the desire for government to address it. There is even partial evidence, once controls are introduced into the statistics, that talk of inequality reduces the support for doing something about it. …It’s not obvious why such counterintuitive results might be the case. One possibility is that…talk about economic inequality increases political polarization, which lowers the chance of effective action. Or that criticizing American society may cause us to feel less virtuous, which in turn may cause us to act with less virtue. …A variety of other research papers have been showing that inequality is not a major concern per se. One recent study by Matthew Weinzierl of Harvard Business School shows that most Americans are quite willing to accept economic inequality that stems from brute luck, and that they are inclined to assume that inequality is justified unless proved otherwise.

Last but not least, Anne Bradley of the Institute for Humane Studies augments this analysis by explaining the difference between ethical market-driven inequality versus unfair cronyist-caused inequality.

The question of whether income inequality is bad hinges on the institutions within that society and whether they support entrepreneurship and creativity or thuggery and exploitation. Income inequality is good when people earn their money by discovering new and better ways of doing things and, through the profit mechanism, are encouraged to bring those discoveries to ordinary people. …Rising incomes across all income groups (even if at different rates) is most often the sign of a vibrant economy where strangers are encouraged to serve each other and solve problems. Stagnant incomes suggest something else: either a rigged economy where only insiders can play, or an economy where the government controls a large portion of social resources, stalling incomes, wealth, and wellbeing.

She includes a very powerful example of why it can be much better to live in a society with high levels of (fair) inequality.

Consider the following thought experiment: knowing nothing other than the Gini index scores, would you rather live in a world with a Gini of .296 (closer to equality) or .537 (farther from equality)? Many people when asked this question choose the world of .296. These are the real Gini scores of Pakistan (.296) and Hong Kong (.537). If given the choice, I would live in Hong Kong without thinking twice. Hong Kong has a thriving economy and high incomes, and it is the world leader in economic freedom. The difference between these two countries could not be more striking. In Pakistan, there might be more income equality, but everyone is poorer. It is difficult to emerge out of poverty in Pakistan. Hong Kong provides a much richer environment where people are encouraged to start businesses, and this is the best hope for rising incomes, or income mobility.

Her example of Hong Kong and Pakistan is probably the most important takeaway from today’s column.

Simply stated, it’s better to be poor in a jurisdiction such as Hong Kong where there is strong growth and high levels of upward mobility. Indeed, I often use a similar example when giving speeches, asking audiences whether poor people are better off in Hong Kong, which has only a tiny welfare state, or better off in nations such as France and Greece, which have bloated welfare states but very little economic dynamism.

The answer is obvious. Or should be obvious, at least to everyone who wants to help the poor more than they want to punish the rich (and there are plenty in the latter camp, as Margaret Thatcher explained).

And I’m now going to add my China example to my speeches since inequality dramatically increased at the same time that there was a stupendous reduction in poverty.

Once again, the moral of the story should be obvious. Focus on growth. Yes, some rich people will get richer, but the really great news is that the poor will get richer as well. And so long as everyone is earning money through voluntary exchange rather than government coercion, that also happens to be how a fair economy operates.

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Canada is now one of the world’s most economically free nations thanks to relatively sensible policies involving spending restraint, corporate tax reform, bank bailoutsregulatory budgeting, the tax treatment of saving, and privatization of air traffic control. Heck, Canada even has one of the lowest levels of welfare spending among developed nations.

So when I saw a column in the Atlantic, suggesting that America can learn from Canada, I was instantly intrigued.

But it turns out that the author, Jonathan Kay, was more interested in extolling the virtues of big government rather than boasting about his nation’s economic reforms.

He starts by grousing about sub-par infrastructure in America.

There hasn’t been a new major airport constructed in the United States since 1995. And the existing stock of terminals is badly in need of upgrades. Much of the surrounding road and rail infrastructure is in even worse shape (the trip from LaGuardia Airport to midtown Manhattan being particularly appalling). Washington, D.C.’s semi-functional subway system feels like a World’s Fair exhibit that someone forgot to close down. Detroit’s 90-year-old Ambassador Bridge—which carries close to $200 billion worth of goods across the Canada-U.S. border annually—has been operating beyond its engineering capacity for years.

I have little doubt that America has serious infrastructure problems, particularly in big cities (such as New York, Washington, and Detroit) where spending decisions are driven by a desire to line the pockets of unionized bureaucrats rather than to provide services to taxpayers.

But is the United States really some sort of third-world backwater compared to our northern cousins? A few years ago, I looked at data from the World Economic Forum’s Global Competitiveness Report to see how the United States was ranked for infrastructure and discovered America was in 12th place. Which was higher than Canada’s 15th-place ranking.

But maybe things have changed since 2014. So I perused the most recent rankings. Lo and behold, the United States actually jumped one spot, to #11, while Canada remained in 15th place.

I don’t want to imply that the United States has good infrastructure policy. As far as I’m concerned, increased federal involvement has caused our system to become somewhat dysfunctional.

But since Canada ranks even lower, perhaps Mr. Kay shouldn’t be throwing rocks in a glass house.

What makes his error noteworthy is that he then tries to argue that America’s supposedly inferior infrastructure is the result of inadequate taxation.

The United States is falling apart because—unlike Canada and other wealthy countries—the American public sector simply doesn’t have the funds required to keep the nation stitched together. …The Organization for Economic Co-Operation and Development (OECD), a group of 35 wealthy countries, ranks its members by overall tax burden—that is, total tax revenues at every level of government, added together and then expressed as a percentage of GDP—and in latest year for which data is available, 2014, the United States came in fourth to last. Its tax burden was 25.9 percent—substantially less than the OECD average, 34.2 percent. If the United States followed that mean OECD rate, there would be about an extra $1.5 trillion annually for governments to spend.

The obvious implication of Mr. Kay’s column is that a much bigger tax burden would lead to much better infrastructure.

Yet if that was the case, then why does the United States rank above Canada?

Heck, I also want to ask why Mr. Kay to explain why the l0w-tax outposts of Hong Kong and Singapore ranked #1 and #2 for infrastructure?

His entire column is a case study of sloppiness. He starts out with an easily falsifiable assertion about infrastructure and he then makes another easily falsifiable claim about taxes. Does the Atlantic not have any editors?

By the way, none of this is an attack on Canada. Indeed, if you look at Economic Freedom of the World, you will see that Canada has passed the United States and now has more economic liberty. Or perhaps it would be more accurate to say that America’s score dropped faster and farther than Canada’s score. In any event, Canada is now ranked #5 and the United States is #16.

In other words, there is much to admire in Canada. And much to copy.

But Mr. Kay apparently doesn’t want America to mimic pro-market reforms. Instead, he thinks the lesson to be learned is that there should be higher taxes in the United States.

Let’s look at two final excerpts from his column, starting with his observation about the joy of taxation.

It’s really quite simple: When Canadian governments need more money, they raise taxes. Canadians are not thrilled when this happens. But as Justice Oliver Wendell Holmes Jr. put it, taxes are the price paid “for civilized society.”

I can’t resist pointing out that Justice Holmes made his point about taxes and civilization back when the federal government only consumed about 5 percent of economic output. As I wrote in 2013, “I’ll gladly pay for that amount of civilization.”

And the final excerpt implies that the business community in Canada doesn’t mind taxes.

…when I recently interviewed Canadian business leaders about the challenges they perceive, the word taxes didn’t get mentioned much.

Since the federal corporate tax rate in Canada is 15 percent, far lower than the 35 percent federal corporate rate in the United States, I’m not surprised that Canada’s business leaders no longer think taxes are their biggest problem. So why doesn’t Mr. Kay argue we should copy that feature of the Canadian system?

Sigh. I joked back in 2012 that supporters of small government in the United States might want to escape to Canada because of all the market-oriented reform. These are the changes that Mr. Kay should be extolling.

P.S. I’m surprised Mr. Kay didn’t advocate that we copy Canada’s government-run health system. You know, the one that is so wonderful that a Canadian politician escaped to the U.S. for surgery while leaving ordinary Canadians stuck in long waiting lines.

P.P.S. To close on a light note, here’s a satirical article about American leftists trying to escape to Canada after the 2010 elections.

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Supply-side economics is simply the common-sense notion that people respond to incentives, though some folks think this elementary observation is “voodoo economics” or “trickle-down economics.”

If you want a wonkish definition of supply-side economics, it is the application of micro-economic principles. In other words, what does “price  theory” tell us about how people will respond when a tax goes up or down.

All of which can be illustrated using supply and demand curves, for those who prefer something visual.

None of this is controversial. Indeed, left-wing economists presumably will agree with everything I just wrote.

There is disagreement, however, about magnitude of supply-side responses. Do people respond a lot or a little when tax policy changes (using economic jargon, what are the “elasticities” of behavioral response)?

And even if there was a consensus on those magnitudes, that still wouldn’t imply agreement on the proper policy since people have different views on whether the goal should be more growth or more redistribution (what economist Arthur Okun referred to as the equality-efficiency tradeoff).

For what it’s worth, this is why there is a lot of fighting about the Laffer Curve. Every left-wing economist agrees with the underlying principle of the Laffer Curve (in other words, because people can change their behavior, nobody actually thinks there is a linear relationship between tax rates and tax revenue).

But economists don’t agree on the shape of the curve. Is the revenue-maximizing rate for the personal income tax 25 percent or 75 percent? And even if people somehow agreed on the shape of the curve, that doesn’t lead to agreement on the ideal tax rate because some statists want very high rates even if the result is less revenue. And people like me only care about the growth-maximizing tax rate.

I’m giving this background for the simple reason that the policy world is lagging the economics profession. And I’m not just referring to the Joint Economic Committee’s resistance to “dynamic scoring.” My bigger complaint is that a lot of politicians still act as if there is zero insight from supply-side economics and the Laffer Curve.

In hopes of rectifying this situation, I’ve been sharing examples of supply-side-motivated tax changes that have been adopted by leftists. In other words, tax changes that were adopted specifically to alter behavior.

Here’s the list of “successful” leftist tax hikes that have crossed my desk.

Now we have another example to add to my collection, this time from a tax on plastic bags in Chicago.

Just as predicted, there is revenue feedback because people change their behavior in response to changes in tax policy.

Chicago’s effort to keep plastic and paper bags out of area landfills by imposing a 7 cents-per-bag tax is succeeding beyond officials’ wildest dreams. The bad news is that the success of the fee in dissuading shoppers from taking single-use bags means the city’s coffers are taking a steep hit. Chicago officials balanced the city’s 2017 spending plan based on an assumption that the city would earn $9.2 million this year from the tax.

But receipts will fall far short of that goal.

The city has earned just $2.4 million in the five months the tax has been in effect, said Molly Poppe, a spokeswoman for the city’s Finance Department. If bag use continues at the current pace, that means the city would net just $7.7 million from the tax for the year. …the number of plastic and paper bags Chicagoans used to haul home their groceries dropped 42 percent in the first month after the tax was imposed.

Incidentally, the Mayor claims that the tax is a success because the real goal was discouraging plastic bags rather than raising revenue.

That’s certainly a very legitimate position, but note that his policy is based on supply-side economics: The more you tax of something, the less you get of it.

My frustration is that the politicians who say we need higher taxes to discourage bad things (smoking, sugar, plastic bags, etc) oftentimes are the same ones who say that higher taxes won’t discourage good things (work, saving, investment, entrepreneurship, etc).

Needless to say, this doesn’t make sense. They are either clueless or hypocritical. But maybe if I accumulate enough example of “successful” supply-side tax hikes, they’ll finally realize it’s not a good idea to punish productive behavior.

P.S. Check out the IRS data from the 1980s on what happened to tax revenue from the rich when Reagan dropped the top tax rate from 70 percent to 28 percent. I’ve used this information in plenty of debates and I’ve never run across a statist who has a good response.

P.P.S. Here’s my video with more evidence in favor of the Laffer Curve.

P.P.P.S. I also think this polling data from certified public accountants is very persuasive. I don’t know about you, but I suspect CPAs have a much better real-world understanding of the impact of tax policy than the bureaucrats at the Joint Committee on Taxation.

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Keynesian economics is fundamentally misguided because it focuses on how to encourage more spending when the real goal should be to figure out policies that result in more income.

This is one of the reasons I wish people focused more on “gross domestic income,” which is a measure of how we earn our national income (i.e., wages, small business income, corporate profits, etc) rather than on “gross domestic product,” which is a measure of how our national income gets allocated (consumption, investment, government, etc).

Simply stated, Keynesians put the cart before the horse. Consumption doesn’t drive growth, it’s a consequence of growth.

But let’s set all that aside because we have new evidence that Keynesian stimulus schemes aren’t even very good at artificially goosing consumption.

Three economists (from MIT and Tex A&M) have crunched the numbers and discovered that Obama’s Cash-for-Clunkers scheme back in 2009 was a failure even by Keynesian standards.

The abstract of the study tells you everything you need to know.

The 2009 Cash for Clunkers program aimed to stimulate consumer spending in the new automobile industry, which was experiencing disproportionate reductions in demand and employment during the Great Recession. Exploiting program eligibility criteria in a regression discontinuity design, we show nearly 60 percent of the subsidies went to households who would have purchased during the two-month program anyway; the rest accelerated sales by no more than eight months. Moreover, the program’s fuel efficiency restrictions shifted purchases toward vehicles that cost on average $5,000 less. On net, Cash for Clunkers significantly reduced total new vehicle spending over the ten month period.

This is remarkable. At the time, the most obvious criticism of the scheme was that it would simply alter the timing of purchases.

And scholars the following year confirmed that the program didn’t have any long-run impact.

But now we find out that there was impact, but it was negative. Here’s the most relevant graph from the study.

It shows actual vehicle spending and estimated spending in the absence of the program.

For readers who like wonky details, here’s the explanatory text for Figure 7 from the study.

The effect of the program on cumulative new vehicle spending by CfC-eligible households is shown in Figure 7. The figure shows actual spending and estimates of counterfactual spending if there had been no CfC program. Cumulative spending under the CfC program was larger than counterfactual spending for the months immediately after the program. However, by February 1 the counterfactual expenditures becomes larger and by April has grown to be $4.0 billion more than actual expenditures under the program. It is difficult to make the case that the brief acceleration in spending justifies the loss of $4.0 billion in revenues to the auto industry, for two reasons. First, we calculate that in order to justify the estimated longer-term reduction in cumulative spending to boost spending for a few months, one would need a discount rate of 208 percent. Given the expected (and realized) duration of the recession, it seems difficult to argue in favor of such a discount rate. Second, we note that Cash for Clunkers seems especially unattractive compared to a counterfactual stimulus policy that left out the environmental component, which also would have accelerated purchases for some households without reducing longer-term spending.

By the way, the authors point out that Cash-for-Clunkers wasn’t even good environmental policy.

One could also argue that this decline in industry revenue over less than a year could be justified to the extent the program offered a cost-effective environmental benefit. Unfortunately, the existing evidence overwhelmingly indicates that this program was a costly way of reducing environmental damage. For example, Knittel [2009] estimates that the most optimistic implied cost of carbon reduced by the program is $237 per ton, while Li et al. [2013] estimate the cost per ton as between $92 and $288. These implied cost of carbon figures are much larger than the social costs of carbon of $33 per ton (in 2007 dollars) estimated by the IWG on the Social Cost of Carbon [Interagency Working Group, 2013].

So let’s see where we stand. The program was bad fiscal policy, bad economic policy, and bad environmental policy.

The trifecta of Obamanomics. No wonder the United States suffered the weakest recovery of the post-WWII era.

P.S. David Letterman had a rather amusing cash-for-clunkers joke back in 2010.

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When discussing government involvement in the health sector, I usually focus on the budgetary implications. Which makes sense since I’m a fiscal wonk and programs such as Medicare, Medicaid, and Obamacare are diverting ever-larger amounts of money from the economy’s productive sector.

I also look at the tax side of the fiscal equation and complain about how the healthcare exclusion mucks up the tax code.

Though it’s important to understand that government involvement doesn’t just cause fiscal damage. All these programs and policies contribute to the “third-party payer” problem, which exists when people make purchases with other people’s money. Such a system is a recipe for inefficiency and rising prices since consumers generally don’t care about cost and providers have no incentive to be efficient. And since government figures show that nearly 90 percent of health care expenditures are financed by someone other than the consumer, this is a major problem. One that I’ve written about many, many times.

But there’s another economic problem caused by government – price controls on insurance – that is very important. Indeed, the fights over “community rating” and “pre-existing conditions” are actually fights about whether politicians or competition should determine prices.

Simply stated, politicians want insurance companies to ignore risk when selling insurance. They want artificially low premiums for old people, so they restrict differences in premiums based on age (i.e., a community rating, enforced by a guaranteed-issue mandate), even though older people are statistically far more likely to incur health-related expenses. They also want artificially low premiums for sick people, so the crowd in Washington requires that they pay the same or similar premiums as healthy people (i.e., a pre-existing conditions mandate), even though they are statistically far more likely to incur health-related expenses.

Set aside that the entire purpose of insurance is to guard against risk. Instead, let’s focus on what happens when these types of price controls are imposed. For all intents and purposes, insurance companies are in a position where they have to over-charge young and healthy people in order to subsidize the premiums of old and sick people. That’s sounds great if you’re old and sick, but young and healthy people respond by choosing not to purchase insurance. And as fewer and fewer young and healthy people are in the system, that forces premiums ever higher. This is what is meant by a “death spiral.”

The pro-intervention crowd has a supposed solution to this problem. Just impose a mandate that requires the young and healthy people to buy insurance. Which is part of Obamacare, so there is a method to that bit of madness. But since the penalties are not sufficiently punitive (and also because the government simply isn’t very competent), the system hasn’t worked. And to make matters worse, Obamacare exacerbated the third-party payer problem, thus leading to higher costs, which ultimately leads to higher premiums, which further discourages people from buying health insurance.

So how do we solve this problem?

One of my colleagues at the Cato Institute, Michael Cannon, is a leading expert on these issues. And he’s also a leading pessimist. Here’s some of what he wrote a week ago as part of a column on the Senate bill to modify Obamacare.

ObamaCare’s “community rating” price controls are causing premiums to rise, coverage to get worse for the sick and insurance markets to collapse across the country. The Senate bill would modify those government price controls somewhat, allowing insurers to charge 64-year-olds five times what they charge 18-year-olds (as opposed to three times, under current law). But these price controls would continue to make a mess of markets and cause insurers to flee.

But he wasn’t enamored with the House proposal, either. Here are some excerpts from his analysis earlier this year of that proposal.

The House leadership bill retains the very ObamaCare regulations that are threatening to destroy health insurance markets and leave millions with no coverage at all. ObamaCare’s community-rating price controls literally penalize insurers who offer quality coverage to patients with expensive conditions, creating a race to the bottom in insurance quality. Even worse, they have sparked a death spiral that has caused insurers to flee ObamaCare’s Exchanges nationwide… The leadership bill would modify ObamaCare’s community-rating price controls by expanding the age-rating bands (from 3:1 to 5:1) and allowing insurers to charge enrollees who wait until they are sick to purchase coverage an extra 30 percent (but only for one year). It is because the House leadership would retain the community-rating price controls that they also end up retaining many other features of the law.

Though existing law also is terrible, largely because of Obamacare. Here are passages from Michael’s column in the Hill.

ObamaCare’s core provisions are the “community rating” price controls and other regulations that (supposedly) end discrimination against patients with preexisting conditions. How badly do these government price controls fail at that task? Community rating is the reason former president Bill Clinton called ObamaCare “the craziest thing in the world” where Americans “wind up with their premiums doubled and their coverage cut in half.” Community rating is why women age 55 to 64 have seen the highest premium increases under ObamaCare. It is the principal reason ObamaCare has caused overall premiums to double in just four years. …Why? Because community rating forces insurance companies to cover the sick below cost, which simply isn’t sustainable. The only solution ObamaCare supporters offer is to keep throwing more money at the problem — which also isn’t sustainable.

Anyone who wants to really understand this issue should read all of Michael’s work on health care issues.

But if you don’t have the time or energy for that, here’s an image that I found on Reddit‘s libertarian page. Using not-so-subtle sarcasm, it tells you everything you need to know about why price controls ultimately will kill health insurance.

P.S. None of this suggests we should feel sorry for health insurance companies. They got in bed with the previous administration and endorsed Obamacare, presumably because they figured a mandate (especially with all the subsidies) would create captive customers. Now that it’s clear that the mandate isn’t working very well and that increased Medicaid dependency accounts for almost all of the additional “insurance coverage,” they’re left with an increasingly dysfunctional system. As far as I’m concerned, they deserve to lose money. And I definitely don’t want them to get bailout money.

P.P.S. Republicans aren’t doing a very good job of unwinding the Obamacare price controls, but they deserve a bit of credit for being bolder about trying to undo the fiscal damage.

Addendum: A comment from Seb reminds me that I was so fixated on criticizing price controls that I never bothered to explain how to deal with people who have pre-existing conditions and therefore cannot get health insurance. I’m guessing the answer is “high-risk pools” where the focus of policy is directly subsidizing the relatively small slice of the population that has a problem (as opposed to price controls and other interventions that distort the market for everyone). But the main goal, from my perspective, is to have states handle the issue rather than Washington. A federalist approach, after all, is more likely to give us the innovation, diversity, and competition that produces the best approaches. States may discover, after all, that insurance doesn’t make sense and choose to directly subsidize the provision of health care for affected people. In the long run, part of the solution is to get rid of the health care exclusion in the internal revenue code as part of fundamental tax reform. If that happened, it’s less likely that health insurance would be tied to employment (and losing a job is one of the main ways people wind up without insurance).

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Singapore is one of my favorite nations for the simple reason that it consistently gets very high scores from Economic Freedom of the World and the Index of Economic Freedom (as well as from Doing Business, Global Competitiveness Report, and World Competitiveness Yearbook).

I also greatly admire Singapore’s strict adherence to my Golden Rule for a 10-year period beginning in the late 1990s. Government spending actually shrank by a bit more than 1 percent per year, on average, over that decade.

This reduced the burden of government spending to just 12 percent of economic output, almost as low as it was in North America and Western Europe in the 1800s.

Unfortunately, the public sector has since crept back up to 20 percent of GDP, but that’s still very low compared to the rest of the developed world.

What’s especially attractive is that the welfare state is very small in Singapore. According to the IMF (see page 44), expenditures on “social development” are only about 8 percent of GDP, and that category includes education and health care. If you peruse Singapore budget documents, spending on “transfers” is well under 5 percent of economic output.

Either figure is far below levels of redistribution in other developed nations.

One of the reasons the welfare state is so small is that individuals are required to set aside their own money for health and retirement.

And since the burden of spending is modest, that enables Singapore to have a non-oppressive tax regime.

That’s the good news. The bad news is that a value-added tax was imposed back in the 1990s. Though the rate has stayed low (so far) and hasn’t (yet) become a money machine for big government.

Singapore is also very good in areas other than fiscal policy. It is a shining example of the benefits of open trade. It ranks very highly for rule of law. And there’s very little regulation.

Indeed, Singapore has consistently ranked #2 for economic freedom in recent decades, trailing only Hong Kong (the U.S. briefly edged out Singapore for second place after all the market-friendly reforms of the Reagan and Clinton years, but now we trail by a wide margin thanks to the statism of the Bush-Obama years).

Here’s a graph from Economic Freedom of the World showing how Singapore started at a decent point in 1970 and then had a 20-year period of improvement (most because of deregulation and better monetary policy).

As I repeatedly argue, if you want good economic results, you need good policy.

And that’s exactly the story of Singapore.

I’m currently in the country because I spoke earlier today at a conference on global investment (the audience got quite excited when I explained the effort to defund the OECD).

Walking the streets, it’s hard not to be impressed by the widespread prosperity of the jurisdiction. Sleek buildings. Fancy shops. Lots of professionals.

And ordinary people are the biggest winners. Here’s a remarkable chart from Human Progress showing per capita GDP (in $2015 inflation-adjusted dollars) in Singapore and the United States, along with the world average.

As you can see, Singapore used to be far below the United States and somewhat below the world average. Now it is one of the wealthiest places on the planet.

Singapore’s jump from poverty to prosperity is astounding.

What’s really remarkable is that the country was as poor as Jamaica back in the 1960s. But thanks to rapid economic growth, the people of Singapore enjoy very high living standards today.

The moral of the story is that ordinary people in Singapore enjoy prosperity because the government was smart enough to focus on growth and didn’t worry about inequality.

Here’s what Marian Tupy, one of my colleagues at the Cato Institute, wrote about the country’s incredible growth.

The incredible transformation of Singapore from a sleepy outpost of the British Empire to a global commercial and technological hub was partly facilitated by a very high degree of economic freedom. …As late as 1970, per person income in Singapore was 54 percent of the global average. Today it is 321 percent of the global average.

Now for the bad news.

Singapore is very pro-market, but it’s not very pro-liberty. In an article for the Foundation for Economic Education, Donovan Choy highlights some of the nation’s shortcomings.

Within libertarian circles, Singapore generally enjoys a good reputation for its economic freedom.

But it’s not Nirvana.

The Housing Development Board (HDB), the public housing arm of the state, houses more than 80% of the population in high-rise apartment homes. …Education is largely monopolized by the state from the primary school level up until the university level… Singapore suffers from a severe lack of press freedom, ranking at an alarming 151 in the World Press Freedom Index… The state also controls public broadcasting from television to radio. …Singapore is perhaps most well-known for its non-tolerance of drugs. Drug users can be jailed or housed in rehabilitation centers for up to three years and drug traffickers face the death penalty. …Singaporean males are also subject to mandatory conscription of up to two years by the age of 18, a law that has been in effect since 1967. Civil ownership of guns are outlawed in Singapore.

These are reasons why Singapore does not earn a high score in the Human Freedom Index.

But I’m an economist, so I’m still as positively impressed as I was back in 2009.

P.S. I went to the iconic Raffles Hotel to visit the iconic Long Bar and drink an iconic Singapore Sling. But my attempt to be a stereotypical tourist was derailed because that part of the hotel is being renovated. Which is probably a good outcome since I learned that the Singapore Sling is a gin-based drink, which presumably would not agree with my sensitive palate. Though I did learn that the last wild tiger in Singapore was killed at the hotel back in 1902.

P.P.S. One final policy comment: The bureaucrats at the OECD produced a report on Asian economies and argued that taxes should consume at least 25 percent of GDP to achieve prosperity, which was a remarkable assertion since the report showed that Singapore was the richest nation in the region and has a tax burden barely half that level. That’s an example of what soccer fans call an “own goal.” The OECD wasn’t just being statist, it was being incompetently statist.

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