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Having constructed a typical health care budget for working families of various income levels, we found that even with growing income, the rapid growth of health care spending is already eroding standards of living for the middle class. Because Americans in the upper half of the income distribution devote a smaller share of their income to health care, their standards of living have yet to decline, but they, too, will do so in the coming decades if current trends continue. If health care reform based on private health insurance is to be sustainable, it has to be affordable for Americans across the entire income distribution. Achieving this goal will require both substantial cost containment and shifts in the distribution of health care costs within the population.
Health care spending represents a growing share of our national income and is projected to increase from 16% of the gross domestic product today to 20% by 2018.2 The Medicare Technical Advisory Panel has defined growth as affordable as long as the rising percentage of income devoted to health care does not reduce standards of living (i.e., spending on all other goods and services).3 When absolute increases in income cannot keep up with absolute increases in health care spending, health care growth can be paid for only by sacrificing consumption of goods and services not related to health care. A projection of this societal perspective, based on historical trends, is shown in the graph. Income available for spending not related to health care continues to rise, which suggests that current trends in health care spending could be sustained for at least the next five decades.
Yet even though health care spending meets this affordability standard for the country as a whole, it is unaffordable for an increasing number of families. Growth in health care spending is disproportionately felt by middle-income working families. We expose this pattern by considering the impact of the budget on working Americans. We include not only the most transparent categories of spending — out-of-pocket spending and premium contributions deducted from workers' paychecks — but also forgone wages that employers instead contribute to premiums and the share of income taxes that are devoted to public insurance programs (see table). In including employers' premium contributions as both workers' health care spending and income, we are taking the view, common among health economists,4 that the burden of employer contributions falls on the worker rather than the employer. A few vignettes will clarify the effect of health care costs on the household finances and standards of living of families of varying income level.
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Health care accounts for 25% of the compensation for this median-income family. Only 8.6% is visible as employee contributions to premiums ($3,100) and out-of-pocket expenses ($1,952). The rest (16.5%) is paid by his employer with wages that Thomas otherwise would have received ($6,482) and by the government from a share of the taxes paid by the Jones family ($3,175). After health care expenses are accounted for, the Joneses' compensation is already showing signs of decline (see graph). Their income has been growing at a rate of 0.6%, whereas per capita health care expenditures have grown at a rate of 3%. Within the next decade, the Joneses will face a precipitous decline in their standard of living, as health care costs consume a growing fraction of the Jones family's total compensation.
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Health care accounts for 16.7% of the compensation for this family in the 80th percentile for income. The Smith family spends 12.2% of its compensation on the less visible form of health care spending (i.e., employer contributions and taxes), whereas employee premium contributions are 2.8% of compensation and out-of-pocket expenses are 1.8%. Although their income has been growing at a rate of just 1.0% while health care expenditures have grown at 3.0%, they have been able to absorb the disproportionate rate of growth because health care represents a smaller share of their income — so they continue to see increases in the portion of their compensation available for goods and services not related to health care. However, within 20 years, households like the Smiths' will no longer have a rising standard of living; within 30 years, their standard of living will actually start to fall (see graph).
Jim Davis is a senior account manager at a large investment firm. He has a salary of $175,000 and receives generous benefits, including employer-sponsored health insurance for his family.
Health care accounts for 13.9% of the Davis family's compensation — with 11.3% in the less visible form of employer contributions and taxes. Although their compensation has also been growing at a slower rate than health care expenditures (1.5%, as compared with 3.0%), households like the Davises' will be able to absorb increases in health care costs and maintain growth in the compensation they have available for goods and services not related to health care for at least another five decades — and probably well beyond (see graph).
Although an economy-wide perspective suggests that rising health care spending can be sustained, for many working families it is already eroding standards of living. Yet this fact is not apparent to families making decisions about their budgets, because they are not the ones writing the check for the majority of their contributions. Growth in employers' contributions toward health insurance premiums translates into slower growth in wages than would otherwise have occurred. As Medicare and Medicaid account for increasing proportions of total government expenditures, the cost takes the form of tax increases, deficit spending, or lost opportunities for other government programs.
Middle-class workers face two immediate challenges. They are less able than higher-income workers to solve the problem by earning more money, because their wages are growing more slowly. And the growth in the rate of spending on health care hits their household finances harder, because health care makes up a larger proportion of their budget. For many families, one inevitable solution will be dropping private health insurance coverage altogether.
Health care reform that is based on private insurance will not be sustainable unless the growth of health care costs abates or the burden is shifted up the income distribution. And the sustainable solution faces political challenges: those deriving their incomes from the health care sector will resist policies aiming to curb cost growth, and those who may face a higher tax burden will resist redistributive tax policies. This conflict makes the status quo sound attractive, particularly when the consequences of avoiding health care reform would be hidden from those hit hardest by steep cost growth. Our analysis underscores the need to take decisive action to slow this growth if we are to realize the goal of affordable health care for all Americans.
Dr. Polsky reports receiving consulting fees from SDI Health and GlaxoSmithKline and serving as a senior economist at the Council of Economic Advisers from 2007 to 2008. Dr. Grande reports serving as an expert witness on behalf of the state of Vermont in a case concerning regulation of pharmaceutical marketing and serving on the board of directors of the National Physicians Alliance. No other potential conflict of interest relevant to this article was reported.
Source Information
From the University of Pennsylvania, Philadelphia.
References
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