The Affordable Care Act and the Kaldor-Hicks Criterion

On Tuesday, I gave a lecture in class about different theories and models for examining the design of public policy, the policy process, and the effects of policy on society. I spent a lot of time on economic models of public policy, as this tends to be the dominant paradigm that policy scholars use to study all three aspects of policy. I discussed welfare economics in-depth including the two major justifications that we use for government action to maximize social utility: Pareto optimality and the Kaldor-Hicks criterion. As a reminder, the standard of Pareto optimality posits that government should intervene in the market if it can make at least one person better off without making anyone worse off. In the global, systemic world in which we live, this is basically an impossible task for public policy to achieve. As I will discuss here on Friday, we can think of some examples of Pareto optimal policies when we constrain our models of society in certain ways, but I have yet to come up with a public policy that does not harm a single person once opportunity costs and relative harms are taken into account. I invite you to help me brainstorm to come up with such a policy. In contrast, the Kaldor-Hicks criterion is easier to meet and is usually what we rely on as our standard for policy-making. The Kaldor-Hicks criterion states that if we can make at least one-person better off through government policy and the benefit to that person or group of people exceeds the harm imposed on others, thus creating an overall net-gain of utility for society, then government should act. Further, the person who is made better-off can, in theory, reimburse the person or people who are harmed, creating a theoretically Pareto optimal solution. Of course, this criterion may lead to extreme inequality even while it creates an overall net gain for society if the same people are always made better off and there is no requirement to compensate those made worse-off.

There was a request from one of my students to apply the Kaldor-Hicks criterion to healthcare reform, specifically the Patient Protection and Affordable Care Act, often referred to as the Affordable Care Act (ACA). In order to do that, we need to take a step back to talk about the concept of insurance in general. Why do we have insurance for some things (car insurance, unemployment insurance, home-owners insurance, social security insurance etc.) and not others? For the basic answer to that question, turn back to my blog post on why we have health insurance, here. In general, insurance is a solution to the problem of imperfect information about our future health that allows us to pool risk across many different people. At a single point in time, we essentially have a classic Kaldor-Hicks situation. The healthy in our (hopefully large) risk pool pay a little more in premiums than they would on medical care for themselves, while the sick pay much less and are not left bankrupt after the sudden on-set of a serious illness. However, rarely is anyone healthy over the entire course of their lifetime. Given enough time in an insurance pool, those who paid in extra when they were healthy will be compensated or reimbursed by paying less than they otherwise would when they are sick. 

So how do people decide whether or not to purchase insurance? Those who are unhealthy, who believe that they will spend less in premiums than they will for their own care will of course purchase insurance, if they can. What about the healthy? They are choosing between spending their money on insurance premiums and other goods and services. Remember, we are talking about rationally self-interested utility-maximizers here so they will each have their own individual utility curves that map this trade-off. This curve is a function of their disposable income, their knowledge about their current and past health, their knowledge about family health history, their degree of risk aversion, and the price of health insurance. Those people who are healthy, young, and risk-neutral or risk-seeking likely will choose to spend their money on other goods and services. Those people with very little disposable income may be forced to spend their money on other goods and services. Those people with an extremely high amount of disposable income who are risk-neutral may decide that they have enough money to cover their individual health costs regardless of what happens to them and avoid purchasing insurance. 

Like any good public policy from the economics perspective, the ACA adjusts this utility curve. The provision that young people under 26 can be added to their parent's health insurance plan reduces the cost of insurance for that young person (who is more likely to be healthy and less risk-averse then the general population). This should incentivize young people (or their parents) to pay for health insurance. By creating state health insurance exchanges, there is greater risk pooling which should lower the costs of health insurance relative to the individual market, incentivizing more healthy uninsured people to purchase insurance. By providing tax-credits for the purchase of health insurance to low- and moderate- income individuals the act increases the income available to spend on health insurance and increases the opportunity cost of purchasing other goods and services, incentivizing more people who would not have otherwise been able to afford insurance to purchase it. Similarly, by imposing a tax penalty on those who do not purchase insurance, the individual mandate changes the opportunity costs of not buying insurance (for those making enough to afford insurance, see more about this here). All of these changes should increase the pool of healthy people who purchase insurance, making those already in the pool better off, but possibly penalizing those who decide not to purchase insurance. 

Once again, this is not the end of the story. We also have provisions that will increase the short-term burden on the healthy individuals in the pool. Health insurers can no longer exclude the sick from health care in the same way that they previously could. They also cannot rescind coverage from individuals when they become sick. The influx of expensive to treat patients into insurance coverage may mean that premiums increase and the Kaldor-Hicks criterion is violated in the short-run. However, in the long-run when these healthy people themselves become sick, these regulations ensure that they will then benefit and be compensated for their previous over-payments. In some ways we can think of an insurance system with a large risk pool as Pareto optimal for those inside the pool. As I will mention on Friday, those  outside the pool will likely still be harmed, making the solution technically non-pareto optimal. Now, when we attach insurance to employment and the labor-market shifts from long-term employment in a single firm to high turn-over positions, how does that affect the ability to remain in an insurance pool long-term? How does that affect our Kaldor-Hicks criterion? Of course there's a lot more depth we can go into here, but I will save that for another time.

Obama's Deal and Ok, He Signed it Now What?

Last week our documentary was Cheney's Law and this week we saw Obama's Deal. I mentioned two of the other possible Frontline Documentaries I could have assigned for this week Sick Around America and Sick Around the World, policy-wise they may have been more interesting, but I think that Obama's Deal complements what we saw last week and the theoretical readings very well. I am not going to say much about the documentary because I think this is one of the weeks where it was clear why I chose to assign it. Did anything about the "story of healthcare reform" surprise you? Did you see any of the theories of policy choice Peters discusses in the readings come to fruition in the process of healthcare reform? What do you think of the final bill? Were there any policy alternatives passed over in the process of writing the bill that you would have liked to see included in the final law? Finally, what do you think of the relationship between policy and politics in the passage of healthcare reform?

The podcast "Ok, He Signed it Now What?" reiterates much of what both the documentary and the chapter from CQ researcher said about healthcare reform. I think the podcast makes clear that the bill we ended up with is very different from what the Obama Administration initially set out to do. Of course, that does not mean that there is nothing "good" in the bill. I think the biggest concern among health care policy experts is that the bill does very little to stem the rise in health care costs. There is some funding for pilot studies (policy experiments carried out on a small scale) that attempt to evaluate some possible cost-cutting measures. hopefully some of them will show promising results.

Of course, there is more to health care policy than the Affordable Care Act. Peters' chapter on health care policy provides a good overview of all of the different ways that public policies affect health care. If you have an interest in Medicaid, Medicare, or drug regulation, Peters' chapter 11 is a good place to start.

The Affordable Care Act and Why we Need Health Insurance

This week we read about the Patient Protection and Affordable Health Care Act (sometimes referred to as the Affordable Care Act). The article from CQ Researcher gave us a good overview of the provisions of the act, a timeline of health care policy history, and a debate over some of the Act's more controversial policy changes. The chapter covers the most important aspects of the bill, but may not go into as much detail on the policy provisions that are of interest to you. If that's the case, here are some resources that you may find helpful. This dynamic timeline shows you when different parts of the healthcare law take effect, and what aspects are already in place. You can click on the policy change that interests you for more information about the specifics. Kaiser Family Foundation is a liberal-leaning think-tank focused on healthcare. They have a whole section on the health care reform law. If you are interested in the conservative perspective on the Affordable Care Act, the American Enterprise Institute will give you a nationwide take on the issue and the Goldwater Institute, located in Arizona, describes their case against the federal health care reform bill here.

Rather than give you even more information about the Affordable Care Act, I'd rather take a step back and talk about why we have health insurance in the first place. One of the comments I sometimes get in class about healthcare reform is that it's not fair to have a system where the healthy pay for the sick and the wealthy pay for the poor. Setting aside the second half of this comment, the healthy paying for the sick is the essential idea behind health insurance. Borrowing from Karen Pollitz, one of my former MPP professors at Georgetown and an expert in the individual health insurance market,  I present the swoop. (Please note that this is a very informal graph and would not be acceptable to include in an academic paper)

When it comes to healthcare, at any point in time most people cost very little, but there is a small group of very sick people who cost a lot. Pretty much everyone will fall into this small group of costly healthcare consumers at some point in their lifetime, and they have almost no control or ability to anticipate when that will be. Heart attack, pregnancy, cancer etc. can all shift someone into the high cost group. Sure, there will be some unlucky people who spend more time in the costly group and some very lucky people who remain relatively low cost throughout their lives, but we have no way of knowing who that will be. This is what we call "an information problem", using applied economic speak. Because we don't know how much we would need to save to pay for our healthcare needs or when we may need it and because we can all anticipate being high cost healthcare consumers at some point, it makes sense to enter an insurance pool.

When you have a large insurance pool where there are lots of people who do select in based on some reason: (employment, residence, citizenship etc.) aside from health status, you create a system where the healthy transfer money to the sick (because remember, most people are relatively healthy most of the time) with the knowledge that when they are sick, the healthy will in turn transfer money to them. The bigger the insurance pool, the more healthy people there will be to transfer money to cover the very sick, and the less costly one major illness will be for everyone. This is why the individual insurance market is so inefficient. It creates a system where more of the sick select into the insurance pool, and the relatively healthy stay out. This is also why the individual mandate is an important component of healthcare reform from the perspective of the insurance companies. They need healthy people in their pool to keep premiums low and ensure a profit.

In terms of the wealthy paying for the poor, the evidence is more mixed on this case. You can argue from a public health perspective the wealthy benefit from the poor having healthcare coverage. When people are able to get treatment for infectious diseases more quickly, it reduces the likelihood that the diseases will spread. Also, immunizations are an important aspect of preventive care. Children with certain diseases are unable to tolerate vaccines and have to rely on herd immunity to keep them well, if access to immunizations is reduced, herd immunity becomes less likely, and these children are more likely to get sick. This becomes especially true with the current cultural movement against immunizations that some more well off families are participating in. Preventive care also reduces the strain on our emergency systems, freeing up medical personnel for true emergencies. Finally, a healthy workforce is a productive workforce so greater healthcare coverage of low-income families is good for business' bottom line.

A recent ground-breaking study from the National Bureau of Economic Research  evaluated the impact of Medicaid coverage on low-income Americans and found that despite the issues with lower acceptance of Medicaid by doctors and healthcare providers, individuals on Medicaid had better outcomes than those without insurance. They got better health coverage, had better mental and physical health status, and were financially more stable. The study used a randomized design to avoid selection bias, and is a very strong study methodologically. This paper illustrates the importance of health insurance, especially for individuals and families who are already struggling.

If you want to learn more about healthcare access in the individual market prior to health care reform, the Frontline documentary Sick Around America  features Americans telling their stories of denial for pre-existing conditions and insurance recissions for incomplete medical histories. It's a moving documentary that is eye opening for those of us who have never had to purchase health insurance using the individual market. It does a great job of illustrating the problems with health care access in America. If you want to learn more about health care systems in comparable developed nations, the Frontline documentary Sick Around the World shows you how other five other countries have decided to address health care access, cost, and quality. This documentary does a great job illustrating health care policy alternatives. While both of these documentaries offer good insights into the healthcare system, we are talking about policy choices this week and the assigned documentary Obama's Deal shows us how we arrived at the health care reform bill that was actually passed.

What do you think about the Affordable Care Act? Have any of the enacted changes benefited or burdened you? Do you think the individual mandate is a "necessary evil" or should it be overturned as unconstitutional? Do you think the other parts of the Affordable Care Act can survive without it?

Theories Explaining Policy Choices

Often when we discuss the study of public policy, we are actually talking about two types of analysis. For the sake of simplicity we usually separate studies where policy is treated as an outcome of political and social causes, and studies where policy is treated as a cause of some social outcome. Of course, the world is not so simple and policy is is caused by and causes politics, society, and culture simultaneously; but for the purposes of discussion and academic research it is much easier to divide the field in this way. In this class, we are primarily focused on policy as an outcome. While the substantive chapters touch on the effects of policy, we will not be doing policy evaluation in this class. We will leave that to PAF 471-Public Policy Analysis.

In this class, we are primarily concerned with studying the policy process. How do policies get passed? Why are some policies passed and not others? Why do policies persist? Chapter three introduces us to some of the major theories for understanding the policy process. We will spend all next few weeks on the policy stages heuristic (I hope you all looked up this word) so I will skip over that for now and discuss some of the other perspectives. Remember, public policy is an interdisciplinary field so you will see theories here that are based in political science, economics, and sociology.

Currently, the study of public policy in the United States is dominated by economic thinking. If you went to the annual APPAM (Association of Public Policy and Management) conference, you would, for the most part, see presentations of papers using market-based theories or institutional models to explain policy choice. The easiest assumption to make about human behavior in public policy analysis is that individuals act on their rational self-interest, but sometimes that interest is constrained by organizational culture, history, or social norms. We may also think of them as making decisions based on "bounded rationality", not only are they constrained by outside factors, they are also constrained by limited cognitive capacity. We tend to assume that they "satisfice" or choose an option that works, or seems the best, out of limited options. This may seem like the obvious way to think about human behavior, but it's not the only alternative. Think about how different our policies would be if we adopted the assumptions of psychoanalysis, that individuals acted largely based on irrational urges and passions.

Peters also offers us theories that explain policy choice based on who advocated for specific policies. The Advocacy Coalition Framework and policy networks perspectives try to explain policy choices using this logic. Both of these perspectives tell us who is working together to pass a policy and who they are working against. They can also help to explain why problems are defined in certain ways or how relevant groups change alliances over time. There's an adage that "politics makes strange bedfellows", and both ACF and policy networks analysis can help us parse out occasionally strange alliances.

Peters talks about other perspectives too. Lowi's idea that policy causes politics has been very influential in explaining why we see strong interest groups in some policy discussions and not in others. Many have used his theory in conjunction with constructivism and economic theories to understand differential power relationships, particularly in the context of redistributive and regulatory policy areas. The constructivist approach is more popular in Europe and really delves into the role that social control and stratification play in the policy process (in other words examining how race, gender, class, able-bodiedness, sexuality etc. influence policy decisions.)

I hope that you will keep these various theories for explaining policy choice in mind when we read the substantive chapters. Often, we look at policies from one single perspective and assume we have the right answer, when other perspectives can shed an interesting light on a particular substantive area. If you think about healthcare policy, constructivism might help explain why there is more support for Medicare than Medicaid even though they serve many of the same people (so-called dual-eligibles) because we perceive the recipients as two different groups; seniors and the disabled who deserve our help and poor people who do not. On the other hand, historical institutional models might explain the evolution of a public healthcare system that covers the elderly, the destitute, and veterans but not others. The optimal design perspective would explain why the market cannot provide sufficient healthcare to these groups, in particular.

What do you think of the theories that Peters discusses in this chapter were there any that sounded particularly interesting? Were there any that you just "didn't get"? Do you think that public policy experts should assume recipients are "rational actors" when designing policies? Are there better ways to explain human behavior that we should consider?