Productivity Rewards and Pay Illusions Caused by Health and Retirement Benefit Cost Increases

Abstract:     
In summer 2009, health care reform seems almost within reach. President Barack Obama is urging the Congress to pass bills, and both the House and Senate are trying to deliver. Everyone agrees on the necessity of reform, but that’s where the agreement ends. Most of the ongoing discussions about who should pay for health care legislation have proposed employer coverage mandates, limitations on health benefit tax preferences, taxation of health insurers and 'play-or-pay' provisions, all of which would distribute the costs of expanded coverage among employers and, through them, to their workers in the form of slower wage growth. An important - but often overlooked - point in these discussions is that health costs paid by employers are part of the compensation paid to workers. Compensation includes wages, employer contributions to Social Security and Medicare, the cost of any health insurance coverage for workers and their dependents, and contributions to any pension plans, 401(k) plans and other capital accumulation programs. While many of the proposals for health reform are looking to employers to fund much of the cost, there has been little focus on the links among wages, compensation and the cost of employer-sponsored health and retirement benefits. No one has talked much about how higher health benefit costs to employers would affect the paychecks workers bring home. The analysis in this report projects five scenarios that illustrate the importance of controlling health costs. In our baseline scenario, we manage to cut health benefit cost inflation rates roughly in half and do not expand health insurance coverage. In that scenario, wage growth rates are projected to be roughly equivalent to those of the 1990s for the next couple of decades. Under an assumption that we control health cost inflation but expand coverage by means of an employer play-or-pay mandate, the effect on wage growth patterns would be negative at the bottom of the earnings distribution and mildly negative in the middle of the earnings distribution for a while. But after 2015, wage growth rates would return to the healthier levels of the 1990s. Bringing health costs under control allows more resources for expanded coverage. If we expanded health insurance coverage but our current health cost inflation rate continued unabated, the higher overall costs would result in falling wages at the bottom of the earnings spectrum and very slow wage growth on up the earnings distribution. These dismal wage outcomes would persist over at least the next couple of decades, possibly longer. The next scenario considers the real possibility that health inflation increases as a result of expanded insurance coverage offered under reform. Looking back at the implementation of Medicare, this is exactly what happened. This scenario combines expanded health care coverage with accelerated health inflation rates. In this case, the higher costs would drive disposable wages downward across most of the earnings spectrum, although the declines would be steepest for lower-earning workers. These depressed conditions would persist over the entire projection period. Fixing what is broken in our health care system is about more than expanding health insurance coverage or deciding whether taxing employer-sponsored health benefits is good or bad policy. No matter how health care reform is financed - whether by employers, who pass the costs on to workers, or taxpayers - the bill will be unaffordable unless costs are brought under control. Our current health care system is embedded with incentives that encourage providers to dispense an ever-expanding menu of treatments and medications, even where there is little evidence of their efficacy. Our health care system already costs 40 percent to 100 percent more than its counterparts in other developed countries and is growing twice as fast.

Working Paper Series