Philadelphia Reflections

The musings of a physician who has served the community for over six decades

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Parts of the HSA System, Phasing-In and Phasing Out Medicare

When a full transition to a new system of personal finance takes ninety years, you might as well say the system is the transition. However, it explains better if you know where you are going, original intent, as it were. Therefore we first present Lifecycle Health Savings Accounts as if everyone is born on the same day, and then explain we understand perfectly well that a lot of people were born on every single other day for the past ninety years. There's going to be a lot of transition, and therefore a lot of calculation. Somebody will have to prepare a big book of tables for computer terminals. In the meantime, the effort seems better spent on describing the theory, which is fairly simple. If you are going to have your ninety-ninth birthday tomorrow, Lifecycle HSAs aren't going to do you much good. We, therefore, pick someone half-way through the transition, which might appear to result in a saving of $175,000 dollars per person per lifetime remaining, if we aren't careful about it. Moreover, we propose phasing in one section of the program at a time, so if the person in the example is financially unable to afford the whole deal, he will "only" save $85,000. The explanation for this "disappointment" lies in the quirks of how Medicare has been financed in the past, but if someone has already lived half his life, he will naturally only cost roughly half as much for the remainder.

Medicare Financing for Dummies.Aside from deductibles and co-insurance, Medicare is financed by three sources. Roughly a quarter comes from payroll deductions for working people in anticipation of later Medicare costs. No interest is currently paid, so one of the sources of financing for this proposal is to earn interest, crediting it to a (voluntary) buy-out escrow fund for the program, within each HSA. By itself, this generates much of the savings we anticipate.

Another quarter of Medicare cost is contributed by premiums paid by the elderly subscribers to the program, generally starting when they reach 66. We propose eliminating such payments, as a way of rewarding those who voluntarily join the transition. Some people will inevitably reach age 66 without generating the necessary buy-out funds, so they alone will have to pay the premium until it replaces their deficiency. They should still save some money by recognition of whatever they did pay in, but it will be less. The design anticipates this particular feature of the program to be a no-lose offer.

And the final 50% of Medicare is currently a subsidy out of general tax receipts. Since we already run a deficit, we borrow the money from foreigners, mostly the Chinese. And if we start paying the full cost, it won't generate actual revenue, it will only stop making the deficit worse. It will also stop paying extra interest to borrow it, which we presume is about 5%, the interest on 10-year Treasury bonds. We presume the government would be willing to pay this interest to the Medicare fund, in return for not borrowing the principal from foreigners. The consequence of such an agreement would be to generate an extra 5% for the transition fund, in addition to the payroll deductions.

This part of the proposal will stop further borrowing on behalf of those who agree to it, but it will not pay off existing debt. Congress will have to decide how rapidly it wishes to rid itself of the principal of this debt. If the two revenue sources already mentioned are deemed insufficient, it can reduce the benefits to those who accept the buy-out, although it will probably slow the transition to do so.

If Congress should feel the incentives need further adjusting, my own suggestion is that it should be effected by adjusting the payroll withholding, either up or down. With an average lifetime calculated healthcare cost of $350,000 per person, there is ample room to do it. To do so would have only minor overhead cost, and it would maintain the system of having working people pay for non-working ones. Or rather, of all persons paying for healthcare while they are earning, including the beginning and end of life, when they cannot work. To do so would preserve the natural way families pay for non-working family members without insurance except catastrophic insurance. We have worked ourselves into the corner of the health insurance industry itself consuming nearly 2% of gross domestic product, mainly because of expanding abusive benefits in response to an unwarranted tax deduction. It is not necessary to criticize the health insurance industry for responding to this incentive.

As a side comment, those people who are given a subsidy are asked to take no risk. Everybody would naturally prefer to avoid risks, so we must create incentives to avoid the implicit adverse incentive. That will usually take the form of avoiding unearned benefits for those who are given risk-free subsidies. The rest of the system is already a balance between risk and cost, offered in the form of less risk, more cost. Stocks are riskier than bonds, long-term bonds are riskier than short-term ones, but the income rewards are reversed. Unfortunately, bonds, money market funds, and Treasury bills pay so little interest, there is little point in exploring HSAs which purely consist of them. In fact, equity financing has only become feasible in the last few decades, as longevity increases. Since the serious risks are infrequently encountered, a young person can afford to take the risks of the stock market, banking on later gains to rescue early mistakes.

So, the time to buy stocks is early, adding bonds later when there might not be time left to recover from a stock crash. Since the full potential of high-quality American stocks is 12%, most young people would start with that, adding a growing proportion of bonds as they approach the end of their longevity. Health risks rise appreciably after age 50, so the balance of stocks and bonds should approach 60/40 at that age, lowering the lifetime income return from 12% toward 6%. Some people will get lucky and be making substantially more than that, and therefore can take the risk of making still more if they delay the dilution of the portfolio with bonds. There will be some who fall short of the benchmark, and who will then have to gamble on the stock market even longer to make the goal of $80,000 lump-sum payment at age 66 to Medicare. That's what it takes to cover half of $175,000 average expenses from age 66 to the end of life -- a half which the government currently subsidizes. By the way, there's another risk, that Congress will not approve of buy-outs, and your Medicare costs will be double, which summarizes the incentive to do it if you are permitted. It's even worse: to spend $175,000 you will have to pay income tax on what you earn before you can spend it on Medicare premiums after age 66, and on Medicare withholdings before that age. That's a pretty strong incentive.

Originally published: Monday, April 27, 2015; most-recently modified: Friday, May 31, 2019