Gephardt's Health Plan: Throwing Good Money After Bad

Commentary by Pete du Pont

As the centerpiece of his presidential campaign, Rep. Dick Gephardt recently unveiled a plan to expand federal subsidies to provide near-universal health coverage for Americans. Gephardt proposes to fund his plan by repealing virtually every tax reduction enacted by President Bush.

In reality, the plan is simplistic and lacks meaningful reforms. As some of Gephardt's Democratic competitors have pointed out, his plan adds new spending but does nothing to reform the beleaguered health care system. Absent from this plan are Medicare reform, or even a Medicare prescription drug benefit. The plan is little more than a subsidy to employers, equal to more than 60 percent of their cost for all employee health insurance. Additionally, he would expand Medicaid and Medicare eligibility to include more people and subsidize health insurance for state and local government.

The first problem is that it's too expensive. Even without a Medicare benefit, Gephardt's proposal would nearly double the federal government's subsidy for health insurance - currently worth about $125 billion per year. By the end of the decade the plan's annual cost would exceed $300 billion. Moreover, the plan would only extend coverage to an additional 12 percent of the population at a cost of about $3,710 per person, or almost $15,000 per newly insured family of four. Indeed, these estimates most likely are too low.

Additionally, Gephardt's plan provides the wrong incentives for consumers - encouraging them to over-insure and over-consumer health care. The plan creates an influx of new money that is not accompanied by any method to contain costs. Consequently, it would likely drive up prices for medical services. The essential problem with health care today stems from too much third-party payment. That is, consumers are less sensitive to medical prices when someone else (e.g. government, insurance or employers) pays the bill. And, consumers are prone to over insure - obtaining first dollar coverage for trivial medical conditions - when they perceive that someone else (e.g. employers or government) pays the premiums. These two factors combine to distort the health care market and drive up medical prices.

Gephardt's plan exacerbates this trend because, when consumers only pay a little more than one-third of the cost (the government would pay nearly two-thirds) consumers are willing to pay far more for health insurance to cover goods and services than they would absent a subsidy. Yet, the added spending will buy little in the way of new services - most of it will be absorbed through higher prices.

There are plenty of great health care reform ideas from which Gephardt or his Democratic contenders might choose, however, such as Medical Savings Accounts (MSAs), and Flexible Spending Accounts (FSAs). MSAs are currently limited only to small employers and the self-employed. More workers might take up insurance if these were available to all. Likewise, FSAs would be more popular were it not for their "use-in-or-lose-it" rule, where all unused funds are forfeit to one's employers at the end of the year.

And while Gephardt's plan does include tax credits, there is a better way to structure them so that they won't distort the health care market. Rather than a defined benefit (for example, as a 60 percent tax credit), why not create a defined contribution with the appropriate incentives for patients to become wise consumers of health care? The cost per year could be about the same in terms of federal spending. Yet, such a plan would not result in nearly as much medical inflation. This is because people would be prudent consumers if, for example, a $1000 tax credit was deposited into an MSA to pay the first $1000 in their yearly medical spending. Why? Because any remaining balance left over at the end of the year could be rolled over or used for other goods. Nothing motivates consumers to shop wisely more than the promise of a cash reward.

A program that merely commits the government to paying more of our health insurance premiums only ensures that medical prices will rise. As prices rise, so will the program's cost and, ultimately, our own taxes. On the other hand, should Mr. Gephardt embrace reforms that promote consumer-driven health plans, Americans would benefit from stables prices as well as higher quality health care.