Transcript | |
| March 13, 1997 | |
The Future of MedicareTestimony of John C. Goodman President, National Center for Policy Analysis Presented to the Senate Finance Committee Subcommittee on Health Care |
The federal government's own forecasts show that the Medicare program is
on a collision course with reality. The taxes that will be needed to pay
benefits in the future are far in excess of what taxpayers realistically
will be willing to pay. Moreover, we cannot avert disaster by relying on
quick fixes and minor changes. The only real solution is to move soon to
a fully funded retirement system under which each generation pays its own
way.
The key to understanding elderly retirement programs is to recognize that they are all based on pay-as-you-go finance. Social Security and Medicare benefits for today's retirees are paid with taxes collected from today's workers. When today's workers retire, their Social Security and Medicare benefits will have to be paid with taxes collected from future workers. The Medicare and Social Security Trustees make three forecasts, based on different economic and demographic assumptions - "high cost," "intermediate" and "low cost" forecasts. For ease of discussion, I will term these "pessimistic," "intermediate" and "optimistic." People are encouraged to believe that the intermediate forecast is the most likely. But many students of Medicare and Social Security believe that the pessimistic projection more closely reflects our recent experience. (See Table I.) The analysis that follows is based on the assumptions and forecasts published in the trustees' 1996 reports. For reasons discussed below, these reports are focused on actuarial balance, rather than on future tax burdens. Nonetheless, a presentation of some of the projected tax burdens can be found in the reports and is reproduced as an appendix to this testimony. Medicare Part A. In 1995, Medicare Part A (the Hospital Insurance Trust Fund which pays primarily for inpatient hospital services) spent $2.6 billion more than it took in. The deficit is projected to grow each year for as far into the future as we care to look. Under the intermediate assumptions, Medicare Part A is forecast to require 9.74 percent - almost one out of every ten dollars - of the taxable payroll by 2040, when today's 22-year-olds retire. (See Table II.) Based on the pessimistic forecast, Medicare Part A will cost 18.4 percent of taxable payroll by 2040. (See Table III.) These results are highly sensitive to increases in health care costs. In recent years, health care costs have been increasing at twice the rate of real wages. Were this trend to continue, health care spending would consume the entire gross domestic product by the middle of the next century. The Trustees understand that this is impossible, so they have arbitrarily assumed that health care costs will rise at the same rate as hourly wages in their intermediate forecast. The optimistic forecast assumes an annual increase 2 percentage points less and the pessimistic forecast assumes an annual increase 2 percentage points more. But even the optimistic and pessimistic forecasts assume convergence with the intermediate assumptions in the year 2045. Medicare Part B. Medicare Part B (which primarily pays doctor bills and other outpatient expenses) is financed in part by monthly premiums that currently equal about 25 percent of the cost. General revenue pays the remainder. The Trustees project the government's share as a percentage of GDP. To give a clearer picture of the impact on workers, we have converted the projection to a percentage of Part A's taxable payroll. Under intermediate assumptions, the government's share of Medicare Part B will climb to 5.99 percent of taxable payroll in 2040, assuming that the elderly continue to pay one-fourth of the cost. (This is a conservative assumption; since premiums are restricted to grow no faster than Social Security payments, the elderly's share of Part B costs will fall to about 6 percent by the year 2070 under current law.) According to the pessimistic forecast, Part B cost will reach 11.32 percent in 2040. The government's combined spending on Parts A and B ranges from one out of every seven dollars (intermediate) to almost one out of three dollars (pessimistic). As with Medicare Part A, the Trustees have arbitrarily restricted the growth rate of medical costs for Part B. In this case, health care costs are assumed for the intermediate forecast to grow at the same rate as GDP per capita. The optimistic and pessimistic forecasts assume growth rates 2 percentage points lower and 2 percentage points higher, respectively. Other Government Health Care. Medicare is not the only way we pay for the medical bills of the elderly. We also pay through Medicaid for the poor, the Veterans Administration system and other programs. These expenditures are funded by general revenues. Health economists at the National Center for Policy Analysis have calculated this spending at 40.4 percent of Medicare spending, based on findings reported in the Health Care Financing Review. Based on the intermediate assumption, this burden will rise to 9.16 percent of taxable payroll in 2040. Based on the pessimistic assumption the burden will reach 17.3 percent in 2040. When all health care costs paid by government are combined, the burden ranges from almost one of every three payroll tax dollars (intermediate) to more than one out of every two (pessimistic). In other words, to pay the medical bills of the elderly about the time today's college students retire, government may need to claim more than half the income of workers at that time. (See Tables IV and V *note *.) All Elderly Entitlements. Spending on Social Security benefits currently takes about 11.5 percent of taxable payroll. When total Medicare benefits are added in, the figure rises to more than 16 percent of taxable payroll. With other government health care, about 19 percent of the nation's taxable payroll is being spent on elderly entitlements today. By the year 2040, we have effectively pledged between 41 percent (intermediate) and two-thirds (pessimistic) of the income of future workers. Figures I and II show elderly entitlement spending as a percent of taxable payroll under both the intermediate and pessimistic assumptions. Bear in mind that these forecasts assume that taxable payroll in the future will be the same, whether the tax rate is 15 percent or 80 percent. Experience shows otherwise. In the face of higher tax rates, people work less and avoid or evade taxes more. A good rule of thumb is: you will lose about one-third of the revenue you plan to receive from a significant tax hike. We have had little experience with tax rates in excess of 35 percent to 45 percent for middle-income taxpayers. But we have had a lot of experience with tax rates above the range for the highest income earners. In general, whenever we have increased the rate for the highest income earners, their total tax payments have gone down, not up. In other words, beyond a certain point, higher tax rates do not collect additional revenue. Although the highest income earners have greatest discretion over how they receive income and the greatest skill at avoiding taxes in the face of high marginal rates, this is a skill that other taxpayers can learn.
Most countries with pay-as-you-go retirement systems don't even have trust funds. We would probably be wise to follow their example. The funds not only mislead people - who think their taxes are actually being invested in something - they distract attention from the real funding problem. Every payroll tax check sent to Washington is written to the U.S. Treasury. Every Social Security benefit check and medical reimbursement check is written on the U.S. Treasury. The trust funds are merely an accounting system - totally unessential to any real activity. Technically, the trust funds hold interest-bearing U.S. government bonds, representing the accounting surplus of payroll taxes collected minus benefits paid. But these are very special bonds. The trustees cannot sell them on Wall Street, or to any foreign investor. They can only hand them back to the Treasury. In this sense, these bonds are IOUs the government has written to itself. On paper, the Social Security trust funds have enough IOUs to "pay" Social Security benefits for about 17 months on any given day; the Medicare trust fund can "pay" benefits for about one year. In reality, they cannot pay anything. Handing IOUs back to the Treasury does not increase the size of Uncle Sam's bank account one iota. In order for the Treasury to write a check, it must first tax or borrow. The existence of the trust funds has merely served to mask the unsustainability of our Social Security and Medicare systems in their current form. For example, the annual report of the Trustees of the Social Security trust funds tends to focus almost exclusively on the concept of actuarial balance. This treats bonds in the trust funds as assets (the way accountants would do if they were auditing a private pension fund) and ignores the fact that every asset of the trust funds is a liability of the Treasury. For the government as a whole these assets and liabilities net out to zero. If the trust funds were simply abolished, there would be no effect on real economic activity. No private bondholders would be affected. The government would not be relieved of any of its existing obligations or commitments. Economist Robert Eisner has suggested that we abolish the trust funds or, with the stroke of a pen, double or triple the number of IOUs they hold. Either option would allow us to dispense with artificial crises and get on to the real problem: how is the Treasury going to pay the government's bills?
The alternative to funding retirement benefits by income transfer is to fund benefits by saving. The alternative to creating escalating burdens for each successive generation of workers is for each generation to save for its own retirement benefits and pay its own way. While these ideas may appear radical, they are not without international precedent. Although the vast majority of countries have pay-as-you-go retirement benefits, a number of countries have avoided, or at least limited, the chain-letter approach to retirement income that characterizes our elderly entitlements programs. If the United States is to move from pay-as-you-go systems to fully funded private systems, we must find a way to make the transition. All serious proposals made to date have involved giving individuals tax deductions or tax credits for deposits to private investment accounts. In return for the right to make such deposits, individuals (roughly speaking) would give up the right to draw a dollar in benefits for each dollar deposited in their private accounts. After a number of years, the private account balances would grow to a point at which the account holders' claims against government programs would be zero. Through such a mechanism, individuals could opt out of Medicare, Social Security and the survivors and disability system as well. In this way, the U.S. could move quickly toward a private savings alternative to pay-as-you-go social insurance and avoid the financial crisis that looms in our future. The experience of other countries demonstrates that this is an option well worth considering. |
