Gotcha!

Greg Mankiw (among others) points to new NBER working papers by Casey Mulligan that point out that marginal tax rates go up under Obamacare. I have not read the papers, but I assume that he counts as an increase in the marginal tax rate the fact that you lose out on subsidies as your incomes goes up. That is legitimate economic analysis, but try to do satisfy the following:

1. Use “means testing” in order to provide a significant benefit that is aimed at the poor.

2. Keep the marginal tax rate low.

3. Keep the budget cost low.

Those of us on the right tend to argue separately for all three. But collectively, they are not so easy to satisfy. (My undergraduate economics professor, Bernie Saffran, pointed this out, and I have not forgotten it.)

If you want to offer a means-tested benefit at low cost, then you have to scale-back the benefit rapidly as income rises, meaning a high marginal tax rate.

If you want to keep the marginal tax rate low and and the budget cost low, then you cannot offer a sizable benefit to the poor. So you can’t do much in terms of means-testing.

If you want to provide a significant benefit to the poor with a low marginal tax rate, then you have to phase the benefit out very slowly as incomes rise. So the budget cost is high.

If we want to, we can play “gotcha!” with any proposal that is aimed at helping people who are poor. It is bound to fail (1), (2), or (3). But how can we be constructive?

My solution was offered in the essay Bleeding-Heart Libertarianism. The idea was to offer a significant benefit with a low marginal tax rate. To hold down the budget cost, I shift away from in-kind benefits (such as food stamps or Medicaid) toward a cash benefit.

That essay is worth re-reading.

8 thoughts on “Gotcha!

  1. I love how you point out these fundamental tradeoffs, Arnold, that any policy wonk ought to be familiar with. Keep ‘em coming!

    Among the three options you list, the one I find intriguing is to drop explicit means testing. This can of course greatly increase the cost of a program. However, it greatly simplifies the rules and administration, thus reducing administrative cost and staffing. As well, it removes a way to horse-trade in D.C.; an example of that right now is all the lobbying to dodge various components of Obamacare.

    The cost increase of dropping means testing is not necessarily as high as it looks. In many cases, people will voluntarily opt out of the service once they are wealthy enough to afford better. A simple example is public defenders. Nobody uses a public defender unless they are really strapped for cash; as such, it wouldn’t save much money if public defenders were means-tested.

  2. The solution is a universal, refundable tax credit of $2,500 per adult and $8,000 for a family of four. That’s about what the CBO estimates new enrollees in Medicaid will cost. Let anyone who wants to enroll in Medicaid.

    Pay for this by eliminating the tax exclusion for employer coverage and making certain tax credits conditional. The $1,000 child tax credit and some or all of the EITC should be conditional on insuring your children. Some or all of the standard deduction can be made conditional on proof of insurance for adults.

    There. l think I met all three of you criteria.

  3. I think I have a suggested approach that would satisfy all 3 of Arnold’s criteria, as well as re-introduces market forces to contain health care cost growth by eliminating third-party payer constructs …

    A.) Eliminate tax deductibility for companies for health insurance costs – and replace with 100% percent deductibility for individuals, for all actual health care costs. (Note: If an individual chooses to purchase a “health insurance”, rather than pay out-of-pocket for delivered health care, the “insurance” premiums – as well as out-of-pocket costs are 100% tax deduction as well.)
    B.) Allow the 100% individual tax deduction for realized health care costs to be transferable – to other individuals or organizations of individuals. Obviously, a 100% individual tax deduction is of little or no value to low or no income individuals. The 100% transferability of a deduction provides the mechanism for the health care industry to be compensated for treating low/no income people, or those unfortunate individuals whose health care costs vastly exceed their incomes.

    With regard to Arnold’s 3 criteria …
    1.) “Means Testing” is automatic. Those with the greatest incomes are the one’s most incentivised to “contribute” to low/no income people’s health care costs, in order to gain the transferred tax deduction.
    2.) Marginal Tax Rate is automatically lowered, by virtue of 100% tax deductibility of actual realized health care costs – either realized by the individual taxpayer, or induced by someone else, with their tax deduction transferred.
    3.) Keep the (Federal) Budget Cost low. There is no direct Federal Budget outlay required for this methodology. There will be Federal revenue impacts, due to the 100% deductibility. But there is already that revenue impact, due to the current 100% business tax deductibility, AND the individual tax deduction for health care costs exceeding 7.5% of income. As such, the Federal revenue impacts will be small or even non-existent. Additionally, Federal enforcement costs would probably be reduced – at least relative to the current state of affairs. Government “subsidizes” optimal, universally available health care, via incentivizing private individuals to provide it.

  4. Why is it always proposed that these “marvels” be provided through the coercive instrumentalities of government mechanisms?

    In the best of all of these ideas (particularly BHL types) the net result is the imposition of non-voluntary obligations on some to provide benefits for others; furthermore, (per BHL) by using the coercive powers of governments. The result is an impairment of individual freedom to determine each individual’s obligations.

    The necessary (for true social cooperation) relationship between those benefited and those incurring obligations for those benefits requires the absence of coercion, other than that of individual emotions and the ideologies related to them.

    The constant struggle seems to be finding the best way to apply coercion and to replace the cooperative relationships.

  5. I think that we may eventual get change in the BHL direction because:

    1. It is works reasonably well to have 3rd parties pay for healthcare when it is less that 5% of GDP.
    2. It is works reasonably well to have Government provide pensions for those over 65 when life expectancy is less that 70.
    3. It is works reasonably well to have Government provide schooling while costs of schooling is below about $5,000/pupal/year.

    IMO so much is spent on these things now that local knowledge is need in the buying decision for all these.