A Framework for Medicare Reform

Studies | Health

No. 315
Friday, September 12, 2008
by John C. Goodman

Long-Term Reform: Health Insurance Retirement Accounts (HIRAs)

The purpose of HIRA accounts is to allow people to prefund some of their post-retirement health care benefits, so that they do not have to rely as heavily as currently projected on future taxpayers. Eventually each generation will pay its own way. By saving enough during their working years and paying additional amounts from their retirement income, they will be able to completely cover the cost of care during the years of retirement.

Contribution Levels. We envision an initial mandatory contribution level of 4 percent of payroll — 2 percent each from the employer and employee. These amounts may rise in future years if they prove inadequate to achieve sufficient pre-funding.

Investment of HIRA Funds. Unlike some proposals for Social Security reform, we propose that all HIRA funds be invested in diversified, conservative, international portfolios, consisting of stocks, bonds, real estate and other assets. Some argue that private account funds should be invested in risk-free government bonds. That is an acceptable approach for a small program with a modest amount of money to invest. However, for the size of the forced saving considered here, there are not enough bonds to be purchased. Nor should the federal government borrow enough to meet the demand. That would be irresponsible. As a practical matter, there is no alternative to investing in the nation’s capital stock.27

Management. The investment of HIRA funds will be managed by private security agencies. As is the case in Chile’s social security system, these companies will compete not so much on portfolio selection (about which they will have little choice) but on reporting, accounting and other services.

Contingent Ownership. Individuals are the nominal owners of their HIRAs, but their rights to these funds are contingent on several factors. First, they must survive to the age of eligibility for Medicare. In case of an early death, a worker’s HIRA funds are distributed to the accounts of all remaining workers. In this sense, an individual’s property rights in a HIRA are like contractual rights under an annuity insurance contract. Second, the SCPs will receive risk-rated premiums for all their enrollees. In the early years, the risk rating can be entirely accomplished by adjusting the government’s contribution. Several simulation models are described in a later section. The Core and Intermediate Models would allow for the HIRA balances in the large or “overfunded” accounts to be taxed to make risk-rated premium payments on behalf of individuals with “underfunded” accounts. At this point, HIRA owners are entitled to a “risk-rated annual withdrawal,” in a manner described more fully below.

Relation to Disability. Although not a formal part of this proposal, a natural extension of these ideas is to consider integrating Medicare post-retirement reform with reform of Social Security disability insurance and Medicare for the disabled. Chile has shown that the costs for disability can be cut in half with private accounts and better economic incentives.28

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