Trump’s Economic Record in Charts

A.  Introduction

Donald Trump has repeatedly asserted that he built “the greatest economy in history”.  A recent example is in his acceptance speech for the Republican nomination to run for a second term.  And it is not a surprise that Trump would want to claim this.  It would be nice, if true.  But what is surprising is that a number of election surveys have found that Trump polls well on economic issues, with voters rating Trump substantially above Biden on who would manage the economy better.

Yet any examination of Trump’s actual record, not just now following the unprecedented economic collapse this year resulting from the Covid-19 crisis, but also before, shows Trump’s repeated assertion to be plainly false.

The best that can be said is that Trump did not derail, in his first three years in office, the economic expansion that began with the turnaround Obama engineered within a half year of his taking office in 2009 (when Obama had inherited an economy that was, indeed, collapsing).  But the expansion that began under Obama has now been fully and spectacularly undone in Trump’s fourth year in office, with real GDP in the second quarter of 2020 plummeting at an annualized rate of 32% – to a level that is now even well below what it was when Trump took office.  The 32% rate of decline is by far the fastest decline recorded for the US since quarterly data on GDP began to be recorded in 1947 (the previous record was 10%, under Eisenhower, and the next worst was an 8.4% rate of decline in the last quarter of 2008 at the very end of the Bush administration.

This post will look at Trump’s record in comparison to that not just of Obama but also of all US presidents of the last almost 48 years (since the Nixon/Ford term).  For his first three years in office, that Trump record is nothing special.  It is certainly and obviously not the best in history.  And now in his fourth year in office, it is spectacularly bad.

The examination will be via a series of charts.  The discussion of each will be kept limited, but the interested reader may wish to study them more closely – there is a lot to the story of how the economy developed during each presidential administration.  But the primary objective of these “spaghetti” charts is to show how Trump’s record in his first three years in office fits squarely in the middle of what the presidents of the last half-century have achieved.  It was not the best nor the worst over those first three years – Trump inherited from Obama an expanding and stable economy.  But then in Trump’s fourth year, it has turned catastrophic.

Also, while there is a lot more that could be covered, the post will be limited to examination of the outcomes for growth in overall output (GDP), for the fiscal accounts (government spending, the fiscal deficit, and the resulting public debt), the labor market (employment, unemployment, productivity, and real wages), and the basic trade accounts (imports, exports, and the trade balance).

The figures for the charts were calculated based on data from a number of official US government sources.  Summarizing them all here for convenience (with their links):

a)  BEA:  Bureau of Economic Analysis of the US Department of Commerce, and in particular the National Income and Product Accounts (NIPA, also commonly referred to as the GDP accounts).

b)  BLS:  Bureau of Labor Statistics of the US Department of Labor.

c)  OMB Historical Tables:  Office of Management and Budget, of the White House.

d)  Census Bureau – Foreign Trade Data:  Of the US Department of Commerce.

It was generally most convenient to access the data via FRED, the Federal Reserve Economic Database of the St. Louis Fed.

B.  Real GDP

Trump likes to assert that he inherited an economy that was in terrible shape.  Larry Kudlow, the director of the National Economic Council and Trump’s principal economic advisor recently asserted, for example in his speech to the Republican National Convention, that the Trump administration inherited from Obama “a stagnant economy that was on the front end of a recession”.  While it is not fully clear what a “front end” of a recession is (it is not an economic term), the economy certainly was not stagnant and there was no indication whatsoever of a recession on the horizon.

The chart at the top of this post shows the path followed by real GDP during the course of Obama’s first and second terms in office, along with that of Trump’s term in office thus far.  Both are indexed to 100 in the first calendar quarter of their presidential terms.  Obama inherited from Bush an economy that was rapidly collapsing (with a banking system in ruin) and succeeded in turning it around within a half year of taking office.  Subsequent growth during the remainder of Obama’s first term was then similar to what it was in his second term (with the curve parallel but shifted down in the first term due to the initial downturn).

Growth in the first three years of Trump’s presidency was then almost exactly the same as during Obama’s second term.  There is a bit of a dip at the start of the second year in Obama’s second term (linked to cuts in government spending in the first year of Obama’s second term – see below), but then a full recovery back to the previous path.  At the three-year mark (the 12th quarter) they are almost exactly the same.  To term this stagnation under Obama and then a boom under Trump, as Kudlow asserted, is nonsensical – they are the same to that point.  But the economy has now clearly collapsed under Trump, while it continued on the same path as before under Obama.

Does Trump look better when examined in a broader context, using the record of presidents going back to the Nixon/Ford term that began almost 48 years ago?  No:

The best that can be said is that the growth of real GDP under Trump in his first three years in office is roughly in the middle of the pack.  Growth was worse in a few administrations – primarily those where the economy went into a recession not long after they took office (such as in the first Reagan term, the first Bush Jr. term, and the Nixon/Ford term).  But growth in most of the presidential terms was either similar or distinctly better than what we had under Trump in his first three years.

And now real GDP has collapsed in Trump’s fourth year to the absolute worst, and by a very significant margin.

One can speculate on what will happen to real GDP in the final two quarters of Trump’s presidency.  Far quicker than in earlier economic downturns, Congress responded in March and April with a series of relief bills to address the costs of the Covid-19 crisis, that in total amount to be spent far surpass anything that has ever been done before.  The Congressional Budget Office (CBO) estimates that the resulting spending increases, tax cuts, and new loan facilities of measures already approved will cost a total of $3.1 trillion.  This total approved would, by itself, come to 15% of GDP (where one should note that not all will be spent or used in tax cuts in the current fiscal year – some will carry over into future years).  Such spending can be compared to the $1.2 trillion, or 8.5% of the then GDP, approved in 2008/09 in response to that downturn (with most of the spending and tax cuts spread over three years).  Of this $1.2 trillion, $444 billion was spent under the TARP program approved under Bush and $787 billion for the Recovery Act under Obama).

And debate is currently underway on additional relief measures, where the Democratic-controlled Congress approved in May a further $3 trillion for relief, while leaders in the Republican-controlled Senate have discussed a possible $1 trillion measure.  What will happen now is not clear.  Some compromise in the middle may be possible, or nothing may be passed.

But the spending already approved will have a major stimulative effect.  With such a massive program supporting demand, plus the peculiar nature of the downturn (where many businesses and other centers of employment had to be temporarily closed as the measures taken by the Trump administration to limit the spread of the coronavirus proved to be far from adequate), the current expectation is that there will be a significant bounceback in GDP in the third quarter.  As I write this, the GDPNow model of the Atlanta Fed forecasts that real GDP in the quarter may grow at an annualized rate of 29.6%.  Keep in mind, however, that to make up for a fall of 32% one needs, by simple arithmetic, an increase of 47% from the now lower base.  (Remember that to make up for a fall of 50%, output would need to double – grow by 100% – to return to where one was before.)

Taking into account where the economy is now (where there was already a 5% annualized rate of decline in real GDP in the first quarter of this year), what would growth need to be to keep Trump’s record from being the worst of any president of at least the last half-century?  Assuming that growth in the third quarter does come to 29.6%, one can calculate that GDP would then need to grow by 5.0% (annualized) in the fourth quarter to match the currently worst record – of Bush Jr. in his second term.  And it would need to grow by 19% to get it back to where GDP was at the end of 2019.

C.  The Fiscal Accounts

Growth depends on many factors, only some of which are controlled by a president together with congress.  One such factor is government spending.  Cuts in government spending, particularly when unemployment is significant and businesses cannot sell all that they could and would produce due to a lack of overall demand, can lead to slower growth.  Do cuts in government spending perhaps explain the middling rate of growth observed in the first three years of Trump’s term in office?  Or did big increases in government spending spur growth under Obama?

Actually, quite the opposite:

Federal government spending on goods and services did rise in the first year and a half of Obama’s first term in office, with this critical in reversing the collapsing economy that Obama inherited.  But the Republican Congress elected in 2010 then forced through cuts in spending, with further cuts continuing until well into Obama’s second term (after which spending remained largely flat).  While the economy continued to expand at a modest pace, the cuts slowed the economy during a period when unemployment was still high.  (There is also government spending on transfers, where the two largest such programs are Social Security and Medicare, but spending on such programs depends on eligibility, not on annual appropriations.)

Under Trump, in contrast, government spending has grown, and consistently so.  And indeed government spending grew under Trump at a faster pace than it had almost any other president of the last half-century (with even faster growth only under Reagan and Bush, Jr., two presidents that spoke of themselves, as Trump has, as “small government conservatives”):

The acceleration in government spending growth under Trump did succeed, in his first three years in office, in applying additional pressure on the economy in a standard Keynesian fashion, which brought down unemployment (see below).  But this extra government spending did not lead to an acceleration in growth – it just kept it growing (in the first three years of Trump’s term) at the same pace as it had before, as was seen above.  That is, the economy required additional demand pressure to offset measures the Trump administration was taking which themselves would have reduced growth (such as his trade wars, or favoritism for industries such as steel and aluminum, which harmed the purchasers of steel and aluminum such as car companies and appliance makers).

Trump has also claimed credit for a major tax cut bill (as have Reagan and Bush, Jr.).  They all claimed this would spur growth (none did – see above and a more detailed analysis in this blog post), and indeed such sufficiently faster growth, they predicted, that tax revenue would increase despite the reductions in the tax rates.  Hence fiscal deficits would be reduced.  They weren’t:

Fiscal deficits were large and sustained throughout the Reagan/Bush Sr. years.  They then moved to a fiscal surplus under Clinton, following the major tax increase passed in 1993 and the subsequent years of steady and strong growth.  The surplus was then turned back again into a deficit under Bush Jr., with his major tax cuts of 2001 and 2003 coupled with his poor record for economic growth.  Obama then inherited a high fiscal deficit, which grew higher due to the economic downturn he faced on taking office and the measures that were necessary to address it.  But with the economic recovery, the deficit under Obama was then reduced (although at too fast a pace –  this held back the economy, especially in the early years of the recovery when unemployment was still high).

Under Trump, in contrast, the fiscal deficit rose in his first three years in office, at a time when unemployment was low.  This was the time when the US should have been strengthening rather than weakening the fiscal accounts.  As President Kennedy said in his 1962 State of the Union Address: “The time to repair the roof is when the sun is shining.”  Under Trump, in contrast, the fiscal deficit was reaching 5% of GDP even before the Covid-19 crisis.  The US has never before had such a high fiscal deficit when unemployment was low, with the sole exception of during World War II.

This left the fiscal accounts in a weak condition when government spending needed to increase with the onset of the Covid-19 crisis.  The result is that the fiscal deficit is expected to reach an unprecedented 16% of GDP this fiscal year, the highest it has ever been (other than during World War II) since at least 1930, when such records began to be kept.

The consequence is a public debt that is now shooting upwards:

As a share of GDP, federal government debt (held by the public) is expected to reach 100% of GDP by September 30 (the end of the fiscal year), based on a simple extrapolation of fiscal account and debt data currently available through July (see the US Treasury Monthly Statement for July, released August 12, 2020).  And with its momentum (as such fiscal deficits do not turn into surpluses in any short period of time), Trump will have left for coming generations a government debt that is the highest (as a share of GDP) it has ever been in US history, exceeding even what it was at the end of World War II.

When Trump campaigned for the presidency in 2016, he asserted he would balance the federal government fiscal accounts “fairly quickly”.  Instead the US will face this year, in the fourth year of his term in office, a fiscal deficit that is higher as a share of GDP than it ever was other than during World War II.  Trump also claimed that he would have the entire federal debt repaid within eight years.  This was always nonsense and reflected a basic lack of understanding.  But at least the federal debt to GDP ratio might have been put on a downward trajectory during years when unemployment was relatively low.  Instead, federal debt is on a trajectory that will soon bring it to the highest it has ever been.

D.  The Labor Market

Trump also likes to assert that he can be credited with the strongest growth in jobs in history.  That is simply not true:

Employment growth was higher in Obama’s second term than it ever was during Trump’s term in office.  The paths were broadly similar over the first three years of Trump’s term, but Trump was simply – and consistently – slower.  In Obama’s first term, employment was falling rapidly (by 800,000 jobs a month) when Obama took his oath of office, but once this was turned around the path showed a similar steady rise.

Employment then plummeted in Trump’s fourth year, and by a level that was unprecedented (at least since such statistics began to be gathered in 1947).  In part due to the truly gigantic relief bills passed by Congress in March and April (described above), there has now been a substantial bounceback.  But employment is still (as of August 2020) well below what it was when Trump took office in January 2017.

Even setting aside the collapse in employment this year, Trump’s record in his first three years does not compare favorably to that of other presidents:

A few presidents have done worse, primarily those who faced an economy going into a downturn as they took office (Obama) or where the economy was pushed into a downturn soon after they took office (Bush Jr., Reagan) or later in their term (Bush Sr., Nixon/Ford).  But the record of other presidents was significantly better, with the best (which some might find surprising) that of Carter.

Trump also claims credit for pushing unemployment down to record low levels.  The unemployment rate did, indeed, come down (although not to record low rates – the unemployment rate was lower in the early 1950s under Truman and then Eisenhower, and again in the late 1960s).  But one cannot see any significant change in the path on the day Trump was inaugurated compared to what it had been under Obama since 2010:

And of course now in 2020, unemployment has shot upwards to a record level (since at least 1948, when these records began to be kept systematically).  It has now come down with the bounceback of the economy, but remains high (8.4% as of August).

Over the long term, nothing is more important in raising living standards than higher productivity.  And this was the argument Trump and the Republicans in Congress made to rationalize their sharp cuts in corporate tax rates in the December 2017 tax bill.  The argument was that companies would then invest more in the capital assets that raise productivity (basically structures and equipment).  But this did not happen.  Even before the collapse this year, private non-residential investment in structures and equipment was no higher, and indeed a bit lower, as a share of GDP than what it was before the 2017 tax bill passed.

And it certainly has not led to a jump in productivity:

Productivity growth during Trump’s term in office has been substantially lower (by 3%) than what it was during Obama’s first term, although somewhat better than during Obama’s second term (by a cumulative 1% point at the same calendar quarter in their respective terms).

And compared to that of other presidents, Trump’s record on productivity gains is nothing special:

Finally, what happened to real wages?  While higher productivity growth is necessary in the long term for higher wages (workers cannot ultimately be paid more than what is produced), in the short term a number of other factors (such as relative bargaining strength) will dominate.  When unemployment is high, wage gains will typically be low as firms can hire others if a worker demands a higher wage.  And when unemployment is low, workers will typically be in a better bargaining position to demand higher wages.

How, then, does Trump’s record compare to that of Obama?:

During the first three years of Trump’s tenure in office, real wage gains were basically right in the middle of what they were over the similar periods in Obama’s two terms.  But then it looks like real wages shot upwards at precisely the time when the Covid-19 crisis hit.  How could this be?

One needs to look at what lies behind the numbers.  With the onset of the Covid-19 crisis, unemployment shot up to the highest it has been since the Great Depression.  But two issues were then important.  One is that when workers are laid off, it is usually the least senior, least experienced, workers who are laid off first.  And such workers will in general have a lower wage.  If a high share of lower-wage workers become unemployed, then the average wage of the workers who remain employed will go up.  This is a compositional effect.  No individual worker may have seen an increase in his or her wage, but the overall average will go up if fewer lower-wage workers remain employed.

Second, this downturn was different from others in that a high share of the jobs lost were precisely in low-wage jobs – workers in restaurants, cafeterias, and hotels, or in retail shops, or janitors for office buildings, and so on.  As the economy shut down, these particular businesses had to close.  Many, if not most, office workers could work from home, but not these, commonly low-wage, workers.  They were laid off.

The sharp jump in average real wages in the second quarter of 2020 (Trump’s 14th quarter in office) is therefore not something to be pleased about.  As the lower-wage workers who have lost their jobs return to being employed, one should expect this overall average wage to fall back towards where it was before.

But the path of real wages in the first three years of Trump’s presidency, when the economy continued to expand as it had under Obama, does provide a record that can be compared.  How does it look relative to that of other presidents of the last half-century?:

Again, Trump’s record over this period is in the middle of the range found for other presidents.  It was fairly good (unemployment was low, which as noted above would be expected to help), but real wages in the second terms of Clinton and Obama rose by more, and performance was similar in Reagan’s second term.

E.  International Trade Accounts

Finally, how does Trump’s record on international trade compare to that of other presidents?  Trump claimed he would slash the US trade deficit, seeing it in a mercantilistic way as if a trade deficit is a “loss” to the country.  At a 2018 press conference (following a G-7 summit in Canada), he said, for example, “Last year,… [the US] lost  … $817 billion on trade.  That’s ridiculous and it’s unacceptable.”  And “We’re like the piggybank that everybody is robbing.”

This view on the trade balance reflects a fundamental lack of understanding of basic economics.  Equally worrisome is Trump’s view that launching trade wars targeting specific goods (such as steel and aluminum) or specific countries (such as China) will lead to a reduction in the trade deficit.  As was discussed in an earlier post on this blog, the trade balance ultimately depends on the overall balance between domestic savings and domestic investment in an economy.  Trade wars may lead to reductions in imports, but then there will also be a reduction in exports.  If the trade wars do not lead to higher savings or lower investment, such trade interventions (with tariffs or quotas imposed by fiat) will simply shift the trade to other goods or other nations, leaving the overall balance where it would have been based on the savings/investment balance.

But we now have three and a half years of the Trump administration, and can see what his trade wars have led to.  In terms of imports and exports:

Imports did not go down under Trump – they rose until collapsing in the worldwide downturn of 2020.  Exports also at first rose, but more slowly than imports, and then leveled off before imports did.  They then also collapsed in 2020.  Going back a bit, both imports and exports had gone up sharply during the Bush administration.  Then, after the disruption surrounding the economic collapse of 2008/9 (with a fall then a recovery), they roughly stabilized at high levels during the last five years of the Obama administration.

In terms of the overall trade balance:

The trade deficit more than doubled during Bush’s term in office.  While both imports and exports rose (as was seen above), imports rose by more.  The cause of this was the housing credit bubble of the period, which allowed households to borrow against home equity (which in turn drove house prices even higher) and spend that borrowing (leading to higher consumption as a share of current income, which means lower savings).  This ended, and ended abruptly, with the 2008/9 collapse, and the trade deficit was cut in half.  After some fluctuation, it then stabilized in Obama’s second term.

Under Trump, in contrast, the trade deficit grew compared to where it was under Obama.  It did not diminish, as Trump insisted his trade wars would achieve, but the opposite.  And with the growing fiscal deficit (as discussed above) due to the December 2017 tax cuts and the more rapid growth in government spending (where a government deficit is dis-saving that has to be funded by borrowing), this deterioration in the trade balance should not be a surprise.  And I also suspect that Trump does not have a clue as to why this has happened (nor an economic advisor willing to explain it to him).

F.  Conclusion

There is much more to Trump’s economic policies that could have been covered.  It is also not yet clear how much damage has been done to the economic structure from the crisis following the mismanagement of Covid-19 (with the early testing failures, the lack of serious contact tracing and isolation of those who may be sick, and importantly, Trump’s politicizing the wearing of simple masks).  Unemployment rose to record levels, and this can have a negative impact (both immediate and longer-term) on the productivity of those workers and on their subsequent earnings.  There has also been a jump in bankruptcies, which reduces competition.  And bankrupt firms, as well as stressed firms more generally, will not be able to repay their loans in full.  The consequent weakening of bank balance sheets will constrain how much banks will be able to lend to others, which will slow the pace of any recovery.

But these impacts are still uncertain.  The focus of this post has been on what we already know of Trump’s economic record.  It is not a good one. The best that can be said is that during his first three years in office he did not derail the expansion that had begun under Obama.  Growth continued (in GDP, employment, productivity, wages), at rates similar to what they were before.  Compared to paths followed in other presidencies of the last half-century, they were not special.

But this growth during Trump’s tenure in office was only achieved with rapid growth in federal government spending.  Together with the December 2017 tax cuts, this led to a growing, not a diminishing, fiscal deficit.  The deficit grew to close to 5% of GDP, which was indeed special:  Never before in US history has the fiscal deficit been so high in an economy at or close to full employment, with the sole exception of during World War II.

The result was a growing public debt as a share of GDP, when prudent fiscal policy would have been the reverse.  Times of low unemployment are when the country should be reducing its fiscal deficit so that the public debt to GDP ratio will fall.  Reducing public dis-saving would also lead to a reduction in the trade deficit (other things being equal).  But instead the trade deficit has grown.

As a consequence, when a crisis hits (as it did in 2020) and government needs to spend substantial sums for relief (as it had to this year), the public debt to GDP ratio will shoot upwards from already high levels.  Republicans in Congress asserted in 2011 that a public debt of 70% of GDP was excessive and needed to be brought down rapidly.  Thus they forced through spending cuts, which slowed the recovery at a time when unemployment was still high.

But now public debt under Trump will soon be over 100% of GDP.  Part of the legacy of Trump’s term in office, for whoever takes office this coming January 20, will therefore be a public debt that will soon be at a record high level, exceeding even that at the end of World War II.

This has certainly not been “the greatest economy in history”.

The Plans for Medicare-for-All and Medicare-for-All-Who-Want-It: A Comparison and a Path Forward

A.  Introduction

The US health care funding system is a mess.  One consequence is that despite spending far more than any other country in the world for its health care system (about 18% of GDP currently, where the next highest country spends only about 12%), US health care outcomes are mediocre at best.  Among OECD member countries, only a few countries, with incomes well below that of the US (some countries of Central or Eastern Europe or in Latin America), have worse outcomes than the US in such standard measures as life expectancy or infant mortality rates.

Bringing this to the level of individual families, the Kaiser Family Foundation found (based on a survey of firms) that the average cost of an employer-sponsored health plan in the US in 2019 came to $20,576 for family coverage.  Of this, the share covered directly by the employer (as part of its overall worker compensation package) came to $14,561 (71%) while the worker paid via premia an additional $6,015 (29%).  For 2018, the figures were a total cost of $19,616, with $14,069 for the employer share and $5,547 for the employee share.  Median family income in 2018 (the most recent year available) in the US was $80,663 (Census Bureau estimate).  Adding in the employer share of the cost of the health plan to cash family income, the total cost of an employer-sponsored health care plan came to 21% of this expanded family income.

On top of this, a family will have to pay out-of-pocket the costs of deductibles, co-pays, co-insurance, and health care costs not covered under their insurance plan.  Milliman, a health care advisory firm, estimated that in 2018 such out-of-pocket costs were an average of an additional $4,704 for a family of four.  This would bring the total cost of health care for a family of four to $24,320, or 26% of expanded family income.  This is huge.  And the burden is of course proportionally larger for the 50% of the population with an income below the median.

Such a high cost for health care is in and of itself a giant problem.  But beyond this, not having effective access to the health care system, at whatever the cost, is even worse.  It can literally be a matter of life and death.

It should not therefore be a surprise that what to do about health care has become a prominent issue in the race for the Democratic nomination for the presidency in 2020.  While each candidate has his or her own specific proposals, most are grouped around one of two alternatives:  A single-payer Medicare-for-All plan, where Elizabeth Warren has released the most detailed proposal on what she would seek to do; and plans which would add a public option to the Obamacare exchanges, which has been dubbed Medicare-for-All-Who-Want-It by Pete Buttigieg, its most prominent proponent.

This blog post will review these two alternative proposals, focusing on the implications of each.  In addition, Elizabeth Warren has also released a detailed plan for what would be, under her proposals, a transition to a Medicare-for-All system during which she would add a public option to the Obamacare exchanges.  On the surface this would appear similar to the Medicare-for-All-Who-Want-It proposals of Buttigieg and others, but there are in fact important differences in the specifics.  After discussing the Warren Medicare-for-All proposal and then the Buttigieg Medicare-for-All-Who-Want-It proposal, this post will then review the Warren transition proposal and its differences with the Buttigieg plan.

To summarize very briefly, the implications of these different plans include:

a)  The Warren Medicare-for-All plan, while providing comprehensive and generous health care coverage for all in the US, would also imply massive shifts in how health care is funded.  Total costs would not rise (an increase due to the broader coverage would be offset, she argues, by efficiency gains of similar magnitude).  But the shifts in how health care would be funded are staggeringly large, potentially disruptive, and unrealistic in the view of many analysts.

b)  The Medicare-for-All-Who-Want-It plan, in contrast, need not in principle cost much.  A public-managed option added to the Obamacare health insurance exchanges could be priced to cover its costs, just as private insurers on the exchanges do now (along with their profits).  And indeed, a careful analysis by the Congressional Budget Office (which will be discussed further below) concluded that the overall impact of allowing a public option would reduce the fiscal deficit significantly, due to indirect effects that would reduce public expenditures while increasing public revenues.  However, the specific Buttiegieg plan goes further than just adding a public option, by increasing the health care plan subsidies significantly and providing them to a broader range of families and individuals than receive them now.  With this as well as other measures, Buttiegieg estimates his proposals would lead to increased federal spending, but of only $1.5 trillion over ten years.  This would be well below the $26.5 trillion shifted to federal spending in the Warren Medicare-for-All plan.

However, while a Medicare-for-All approach (such as proposed by Warren) would lead to everyone enrolled in a similar (and comprehensive) health insurance plan with funding through federal government sources, the addition of a public option to the Obamacare exchanges would lead to what would still be a highly diverse and variable set of health insurance plans, with very different levels of coverage and very different costs.  Some enrollees would pay relatively little (if they are young and healthy, or of low income) while others would pay much more (if they are older, or of moderate or higher income).  The health care funding system would remain fragmented, extremely complex, and with widely varying costs for different families and individuals.  And from such a starting point it would then be difficult to transition to a Medicare-for-All system, even if the overwhelming majority choose to enroll in the public option.

c)  Finally, while the Warren transition plan would add a public option at the start of the process, her public option would be of a health plan that is very different from the public option of Buttiegieg, Biden, and others.  Her proposed public option would be for an insurance plan that is similarly comprehensive to what she has proposed for her Medicare-for-All plan.  It would also then receive, from the start, a high level of subsidy, benefiting those who choose to enroll in that public option.  These subsidies would be funded centrally by the government.  The overall expense would depend on how many would choose to enroll in the plans, but with the comprehensive coverage proposed by Warren coupled with high subsidies, it would be foolish for most not to enroll.  While this would then provide a path to a compulsory Medicare-for-All system, the funding that would need to be provided would be large.

B.  The Elizabeth Warren Medicare-for-All Plan

Elizabeth Warren has presented the most detailed proposal for how her Medicare-for-All plan would be set up, and importantly also how it would be paid for.  Medical costs covered would be expansive in her plan, and include not only that 100% of the cost of the medical services that Medicare currently provides for would be covered (i.e. no deductibles, no co-pays, no co-insurance), but so would medical expenses such as for dental and visual services, and for prescription drugs.  This would be much broader than what Medicare as it currently exists covers, as Medicare has a deductible, limits on the number of hospital days covered, and generally covers only 80% of doctor services.  Furthermore, Medicare does not cover expenses for dental, visual, and certain other areas of care, and while Medicare Part D now covers certain prescription drug costs, there are limits on how much it pays.

This expansive coverage is similar (indeed probably identical) to what Senator Bernie Sanders has proposed.  But while Elizabeth Warren has presented a detailed plan on how the costs of the expansive health funding program would be covered, Bernie Sanders has not.  Rather (at least as of this writing) Sanders has made available a six-page note titled “Options to Finance Medicare for All”.  But while the alternative funding sources outlined in that note are presented as options from which to choose, if one adds up the estimated amounts that would be raised by summing up all of the options presented the total of $16.2 trillion over ten years would not suffice to cover the costs of his Medicare-for-All program.  As we will see below, the shift in health care spending to the federal government, even after an assumed $7.5 trillion in savings through various measures, would come to $26.5 trillion over ten years.

We will therefore focus on the Warren plan, although on the cost side the figures would be similar to what Sanders has proposed.  And there will be a lot of numbers.  The key issue for the Warren (and Sanders) plans is that the dollar amounts involved are massive.  It is important to stress that this does not mean health care costs will be higher (other than certain costs from the increased access, to be offset by savings from several reforms), but rather that there will be shifts (and massive shifts) from how these costs are covered now to how they would be covered under the Medicare-for-All plan.

To see these shifts, it is best to start from estimates of what national health care expenditures would be should the US keep the current system.  A ten-year period is being covered (as is standard in most budget analyses), and for the purpose of this exercise the Warren team has come up with estimates of how those costs would then change if their plan were fully in place for the years 2020-29.  This is of course notional, as the full Medicare-for-All plan was not in place on January 1, 2020.  But use of the 2020-29 period is reasonable to demonstrate what would happen under such a plan, as reasonable estimates can be made for such a period.

For what health expenditures are expected to be under current law, most US analysts use the detailed forecasts provided each year by the professional staff at the Centers for Medicare and Medicaid Services (CMS).  The most recent National Health Expenditure (NHE) projections, covering the period 2018-27, were released in February 2019, and the figures presented below are based on Table 16 of that set of forecast tables.  The NHE projections stop at 2027 and hence do not include 2028 and 2029, but for those final two years I extrapolated from the 2027 estimates based on the growth rates in the forecast numbers of the last few years before 2027 (specifically, 2025 to 2027).  Other analysts would use similar methods, and for the final two years of a ten-year series the totals will be close.

As we will see below, the Warren figures are mostly, although not entirely, consistent with these NHE forecasts.  The causes of the limited inconsistencies are not fully clear, as the Warren figures are mostly presented in terms of what the shifts would be from some base.  Despite this, it is still useful to review first the NHE numbers, as they will give one a sense of the magnitudes involved in the funding of our health care system as it currently exists.  And they are huge.

The NHE forecasts (extrapolated for the final years, as noted above) for health expenditures between 2020 and 2029 under current law will be:

in $ trillion

GDP share

Total National Health Expenditures under Current Law:  2020-29

$52.5

18.9%

A.  Federal Government

$15.8

5.7%

  Private insurance for government employees

$0.5

0.2%

  Medicare taxes for government employees

$0.1

0.0%

  Medicare from budget

$6.0

2.1%

  Medicaid

$5.5

2.0%

  Other health programs (CHIP, DOD, VA, more)

$3.8

1.4%

B.  State and Local Government

$8.7

3.1%

  Private insurance for government employees

$2.8

1.0%

  Medicare taxes for government employees

$0.2

0.1%

  Medicaid

$3.4

1.2%

  Other health programs

$2.3

0.8%

C.  Private Business

$10.1

3.6%

  Private insurance for employees

$7.7

2.8%

  Other (Medicare, disability, worker comp, more)

$2.4

0.8%

D.  Households

$14.3

5.2%

  Private insurance premia and employee share

$5.1

1.8%

  Medicare taxes

$4.0

1.4%

  Out-of-Pocket

$5.2

1.9%

E.  Other Private Revenue (philanthropy, more)

$3.5

1.3%

Total national health expenditures under current law are forecast to be $52.5 trillion dollars over the period 2020 to 2029.  This is huge.  It comes to an average of 18.9% of GDP over the period as a whole, rising from 17.9% in 2020 to 19.9% in 2029.  By way of comparison, the Congressional Budget Office forecast of total federal government tax and other revenues (including all income taxes, Social Security taxes, and everything else) will be less than this, summing “only” to $45.6 trillion over this period.  Addressing how health care spending is funded will unavoidably deal with huge dollar amounts.

The $52.5 trillion in total health care costs are then funded through a combination of the amounts spent by the federal government ($15.8 trillion), state and local governments ($8.7 trillion), private businesses for their employees ($10.1 trillion), households ($14.3 trillion), and other sources, including philanthropy ($3.5 trillion).  Taking the federal government expenditures as an example, the NHE forecasts are that the federal government will spend $0.5 trillion over the ten years for its payments to private insurers to cover health insurance for federal workers, and $0.1 trillion in Medicare taxes for those federal employees.  These are relatively minor amounts but are included for completeness.  The really major expenditures are then what the federal government will provide directly to Medicare from the budget ($6.0 trillion), will spend on Medicaid ($5.5 trillion), and will spend on other health programs such as for CHIP (the Children’s Health Insurance Program), for the Department of Defense, for the VA, and so on ($3.8 trillion).

The breakdowns in the other components of health care spending are similar, and will not be repeated here.  But it is useful to note that even under current law, the total being spent on health care by government (the federal $15.8 trillion as well as the state and local $8.7 trillion) would be expected to come to $22.5 trillion over the ten years, or 43% of the $52.5 trillion forecast to be spent.  Government is already heavily involved in health care funding in the US, even though the system is often described as “employer-based”.

This mix of health care funding sources would then differ dramatically under any Medicare-for-All proposal, even with total health care expenditures unchanged.  Elizabeth Warren provides specifics on what this would be under her plan (available at both her campaign website and identically also at this commercial website in case her website is eventually closed).  Additional detail is provided in two more technical notes, prepared by advisors to her campaign, first on the overall costs of her Medicare-for-All plan, and second on the taxes and other measures that would be implemented to fund the federal government expenditures in such a program.

The specifics on the costs are presented in the following table:

Warren Medicare-for-All Plan:  2020-29

in $ trillion

GDP share

A.  Base National Health Expenditures

$52.0

18.7%

  Increase in cost from expanded cover

$7.0

2.5%

B.  Total Health Expenditures if nothing else done

$59.0

21.2%

1) National health spending not affected by plan

$8.0

2.9%

2) Base level of Federal Govt Spending before plan

$17.0

6.1%

C.  Increase in Federal Govt Spending Before Savings

$34.0

12.2%

D.  Savings from Reforms

$7.5

2.7%

1) Lower Admin Costs (beyond Urban Inst estimate)

$1.8

0.6%

2) Lower Costs of Prescription Drugs

$1.7

0.6%

3) Lower Costs and Payments to Health Providers

$2.9

1.0%

4) Slower Growth of Medical Costs

$1.1

0.4%

E.  Net Increase in Federal Govt Spending

$26.5

9.5%

As a base from which to start, the Warren team used estimates made by analysts at the Urban Institute of what total national health expenditures would be under current law and then under a Medicare-for-All system (with the expansive cover proposed by Warren as well as by Sanders).  The Urban Institute forecasts that under current law, total national health expenditures would be $52.0 trillion for the period 2020-29.  This is a bit below the $52.5 trillion figure arrived at using the NHE forecasts of the staff at the Centers for Medicare and Medicaid Services (CMS), but close (99%).  The Urban Institute has its own model for forecasting health expenditures, but say that they use the CMS figures for certain components they do not directly model.

The $52 trillion in health expenditures would be under current law.  The more expansive cover under the Warren (and Sanders) plans would then make health care more widely available, and the Urban Institute estimated (in a separate, but linked, publication) that this would lead to a net increase in health care costs of $7 trillion over the 2020-29 period.  This is a net increase as the Urban Institute includes in the $7 trillion certain savings from a Medicare-for-All system, in particular savings from the far lower administrative costs of Medicare compared to the costs at private insurers in the US (savings I discussed in an earlier post on this blog).

Total national health spending would then be $59 trillion over the ten years.  To arrive at what the federal government would be funding out of this, the Urban Institute analysts first subtracted $8 trillion of health care costs that they estimate would not be affected under a switch to a Medicare-for-All funding system.  These include a variety of expenditures, such as medical care for the military and their families when deployed overseas, acute care for people living in institutions (such as prisons as well as nursing homes), certain state and local government direct expenditures, public health programs, and so on.

The Urban Institute then estimates that other federal government health expenditures (under current law) would total $17 trillion over the ten years.  This is higher than the $15.8 trillion forecast in the CMS NHE numbers discussed above, and it is not clear why (particularly as certain of the federal government expenditures, such as for military personnel, are included in the $8 trillion figure of costs that will not be affected).  The Urban Institute reports made publicly available are not technical documents, so many of the details are not explained and documented.  But based on the $17 trillion figure for federal health spending, the increase in federal health expenditures (due to shifts from others under a Medicare-for-All plan), would be $59t – $8t – $17t = $34 trillion.

The Warren advisors started from this $34 trillion figure.  From this, they estimated that savings from several measures that would accompany their plan would lead to $7.5 trillion in lower national health care costs over the period.  One would be further savings from the lower administrative costs of the far more efficient Medicare system.  The Urban Institute estimated that such administrative costs (as a share of total costs of the insurance plan) could, conservatively, be reduced to 6% under Medicare, down from the 12.2% that it costs private insurers to administer their insurance plans (in their high-cost business model, with its negotiated networks and other such costs).  The Warren team argued, reasonably, that this could be reduced further to just 2.3%, which is what it now in fact costs Medicare to administer its system.

The Warren advisors then estimated that other cost savings could be achieved through reforms of the prescription drug system in the US ($1.7 trillion), through lower costs incurred by health care providers when they need only to deal with one insurance provider (Medicare) rather than the complex system of private insurers they must now contend with (and then lower payments to reflect this – an estimated $2.9 trillion in savings), and an overall slower growth of health care costs ($1.1 trillion).

With the estimated $7.5 trillion in savings from such measures, the net increase in federal spending for health care over the ten year period would be $26.5 trillion ( = $34.0t – $7.5t).

This is still a giant number.  Recall that the CBO estimate of all federal government tax and other revenue over this period totals just $45.6 trillion, and $26.5 trillion is 58% of this.  So how would Warren cover this cost?:

Warren Plan:  Paying for the Shift to Federal Govt Spending

in $ trillion

GDP share

Net Increase In Federal Spending

$26.5

9.5%

A.  Taxes / Transfers from Current Health Care Spending:

$14.9

5.4%

1) Transfer from State/Local Govt health insurance savings

$6.1

2.2%

2) Tax Private Businesses amount of insurance savings

$8.8

3.2%

B.  Other New Taxes / Federal Govt Spending Reductions:

$11.7

4.2%

1) Taxes on worker income now spent on health insurance

$1.4

0.5%

2) Financial transactions tax of 0.1%

$0.8

0.3%

3) Systemic risk fee on large financial institutions

$0.1

0.0%

4) End accelerated depreciation for large businesses

$1.25

0.5%

5) Minimum tax on foreign earnings of 35% + tax on foreign firms in US

$1.65

0.6%

6) Additional tax of 3% on wealth over $1 billion

$1.0

0.4%

7) Capital gains (as accrued) taxed at regular rates for richest 1%

$2.0

0.7%

8) Better tax law enforcement

$2.3

0.8%

9) Tax revenues from normalization of immigrants

$0.4

0.1%

10) Reduction in military spending

$0.8

0.3%

C.  Reductions in Health Care Funding

$12.2 4.4%

1) Household savings on health costs (insurance + out-of-pocket)

$12.0

4.3%

2) Net private business savings on health costs

$0.2

0.1%

First, Warren would require that state and local governments transfer to the federal level what those governments are now spending out of their own budgets for private insurance for state employees ($2.8 trillion in the table above of the CMS NHE forecasts) plus what those governments spend out of their budgets for Medicaid ($3.4 trillion in the CMS NHE figures).  The total in the CMS NHE figures of $6.2 trillion is within roundoff of the $6.1 trillion in the Warren estimates.  Whether such a transfer is politically realistic is a separate question.  I can imagine that a number of the state governments (particularly those in Republican hands) would tell the federal authorities that it is great that they are now covering those health care costs directly (under a Medicare-for-All system), but that they will keep the savings in their budgets for themselves.  In any case, it would certainly be litigated in the courts.

Warren would then also set what would in essence (or in actuality) be a tax on private businesses, equal to 98% of what those businesses now spend for the employer share of the health care premia for the private insurance for their workers.  Warren’s team estimates that businesses would spend under current law a total of $9.0 trillion over the ten year period on their share of their employer-based health insurance plans, and 98% of this is $8.8 trillion.  The $9.0 trillion figure appears to be broadly consistent with the CMS NHE figures discussed above, which estimates that private businesses will spend $7.7 trillion over the period on private health insurance for its employees, and also some portion of a further $2.4 trillion in other health expenses the employers will incur.

But the main issue with the new $8.8 trillion tax on private businesses is that it would be set, business by business, to reflect what that business is currently spending for its share (or, more precisely, 98% of its share) of the private health insurance plans for its workers.  Thus firms with health insurance plans that are generous in what they cover and in what share of health care costs they pay (and hence are more expensive), will pay more.  Workers at such firms might be accepting lower wages than they could earn elsewhere, knowing that the generous health insurance plans cover more, including more of what they would otherwise need to pay out-of-pocket.  At the other end, there are firms with stingy plans that are cheap, or even with no health insurance plans at all (which is legal if the firm has fewer than 50 employees, although health insurance plans are still common among such firms).  These firms would pay much less, or even nothing at all, under the Warren proposal, even though their workers, like everyone, would be covered by Medicare-for-All.

Many would view this as inequitable:  Firms with strong health care plans would be penalized, as they would then pay more into the Medicare-for-All funding, while firms with stingy or no health care plans would pay less or even nothing at all.  While there would be some undefined phasing in period in the Warren proposal to more equal shares being charged across firms, this would only be implemented over several years.

Furthermore, knowing that at least for some initial period the firms with the more generous plans would pay more and the firms with the more stingy plans would pay less, would create a perverse set of incentives.  In the mid-November update on her plans (which will be discussed in more detail later in this post), Senator Warren said that she would not introduce legislation for her Medicare-for-All plan until her third year in office.  That would mean that the new Medicare-for-All system would not enter into effect until at least her fourth year in office, and more likely no earlier than two or three years after that (as any such major reform takes time to implement).  If firms expect this to take place at some point in the next several years, they would have a strong incentive to revise the health insurance plans they sponsor for their employees in the direction of making them more stingy, or dropping them altogether if they legally can.

It is therefore likely that at least this aspect of the Warren plan will be revised should it go forward.  An addition to the payroll tax we now pay for Social Security and for Medicare is one likely alternative, and will also give a sense of the magnitudes involved.  Currently workers pay on their wages (half directly and half by their employers on their behalf as part of their overall compensation package) a tax of 12.4% on wages up to $137,700 in 2020 ($132,900 in 2019).  In addition, they pay 2.9% to fund Medicare (with no ceiling), for a total payroll tax of 15.3% on wages up to the ceiling.

The Congressional Budget Office, in their August 2019 forecasts, estimated that the Social Security tax (of 12.4%) will raise $11,269 billion in revenues over 2020-29.  To raise $8.8 trillion on this same wage base, would therefore require a rate of 9.7% (based on the proportions).  The overall payroll tax would then increase from the current 15.3% to a new 25.0%.  Many might view this as too much to pay, but one should recognize that it reflects what is now, on average, being paid on wages once one adds together Social Security, Medicare, and what the average employer pays for its share (or more precisely, 98% of its share) of the private health insurance plans for its employees.  One should also note that while 25% might seem high, it is substantially less than the approximately 40% rate found for payroll taxes (employer and employee combined) in a number of European countries (including Germany, the Netherlands, Belgium, Sweden, and Italy, and with France at over 50%).

Transferring to the federal government what is now being paid out by state and local governments for health insurance ($6.1 trillion, including the state portion for Medicaid), and by 98% of what private businesses are paying ($8.8 trillion), would then leave $11.7 trillion to be raised from other sources (where $11.7t = $26.5t – $6.1t – $8.8t, with rounding).  The Warren plan lists ten specific measures to do this:  six would be new taxes (or increases in existing or proposed taxes); one would be tax revenues from personal incomes that would become taxable with the move to Medicare-for-All; one would be increased revenues from better tax law enforcement; one would be taxes on incomes of immigrants who have had their status normalized; and one would be savings from reduced military spending.  A total of $10.9 trillion would come from higher taxes and $0.8 trillion from military spending reductions.

This is a wide, and diverse, set of funding sources.  I will not comment on each, but note that some analysts consider at least some of the revenue forecasts to be highly optimistic.  And one should always be skeptical when “better tax law enforcement” is assumed to raise a substantial share of the increased revenues needed ($2.3 trillion over ten years in the Warren plan, or 0.8% of GDP, which is huge).

Nevertheless, the Warren plan at least sets out proposals on how revenues might be raised (or expenditures reduced).  She should be commended for this, and it is in sharp contrast to, for example, the Republican / Trump tax cuts approved in December 2017.  Those tax cuts were forecast to lead to a loss in government revenues of $1.5 trillion over ten years (and it now appears that the losses will be even higher).  No effort was made by Trump or by the Republicans in Congress on how those revenue losses would be covered – the revenue losses would instead simply be added to overall government debt.  Warren, in contrast, has laid out specific proposals on how shifting health care expenditures to the federal level would be covered.  While one can be skeptical of certain of the figures, there is at least the recognition that something should be done to cover the shift in health costs.

It is also telling that the measures listed seek to avoid what might be obviously taxes on middle-class incomes.  Presumably this was done for political purposes, but one should recognize that at least some of the measures will impact middle-class incomes.  Specifically, it should be recognized that what employers pay for what is termed “the employer share” of health insurance premia for their employees is, in reality, a portion of the overall compensation package being paid to workers.  Over time, workers’ wages adjust to reflect this.  And while under the Warren plan this employer share (or 98% of it) would be transferred to the government, such a transfer would eventually become a uniform tax on employers (and as discussed above, this should probably be done immediately to avoid the perverse incentives of a gradual shift). The payroll tax would need to increase by 9.7% points to cover this, bringing the total payroll tax (for Social Security, current Medicare, and part of the cost of the new Medicare-for-All program) to 25.0%.  This is a tax on middle-class incomes.  There is nothing necessarily wrong with that, but it should be recognized.

Similarly, the Warren plan recognizes that since what workers now pay as their direct share of the cost of the employer-sponsored health insurance plans will go away under a Medicare-for-All system, the increase in income taxes on such incomes (as they are now largely income tax-exempt) would be substantial ($1.4 trillion over ten years in their estimate).  While fully reasonable, this is still a tax on middle-class incomes.

With total health care spending about the same ($7.0 trillion more for the increased access, offset by $7.5 trillion in cost reductions, for a net reduction of $0.5 trillion), but with $11.7 trillion in funding from new taxes and other measures, which groups will be spending less?  Under this plan, households would no longer pay health insurance premia nor out-of-pocket for most health care expenses.  The Warren campaign put this figure at $11 trillion over the ten-year period, which would then go to zero.  In addition, private businesses would gain the 2% from the requirement that they transfer 98% (not 100%) of what they now pay in health insurance premia, which would be an additional $0.2 trillion.  The total gain then by these two groups would be $11.2 trillion (ignoring, for this calculation, that some portion of the additional taxes would be paid by them).

But this does not add up properly.  After struggling with this for some time, I believe a mistake was made by the Warren advisors (which may have arisen as they were in a rush to get the plan out).  Assuming all the underlying numbers are correct, the $11.7 trillion raised by additional taxes (mainly) plus the $0.5 trillion net reduction in national health care spending under the plan ($7.0 trillion in more comprehensive coverage, minus $7.5 trillion in cost savings), would imply that the total gain by households and private businesses would be $12.2 trillion.  With the private businesses gaining $0.2 trillion (the 2%), this would imply a $12 trillion gain by households, not $11 trillion.  My guess is that instead of adding the net $0.5 trillion reduction in overall health care expenditures to the $11.7 trillion in increased funding (a total of $12.2 trillion), they subtracted it (a total of $11.2 trillion).

This is not fully clear as all the underlying numbers from the Urban Institute used by the Warren advisors have not been made publicly available (at least not from what I have been able to find).  Of relevance here is how they arrived at their figure that health care costs totaling $34 trillion would shift to the federal government under a Medicare-for-All plan such as that of Senator Warren (and Senator Sanders).  Nor did the Warren advisors present all the numbers on what each of the groups (state and local governments, private businesses, and households) would spend under current law and under their Medicare-for-All proposal.  Rather, they only provided how each of these would change.

[Side note:  There is possibly also another issue.  The CMS NHE figures discussed above forecast that total household expenditures over the period for private health insurance premia and for out-of-pocket expenses would total just $10.3 trillion.  On top of this, households would also spend $4.0 trillion in existing Medicare taxes (for old age cover).  While the Warren plan does not address this explicitly, implicit in her numbers is that the taxes gathered for old-age Medicare would remain as they are now (even though Medicare benefits would switch to the more generous cover of the Warren Medicare-for-All plan, such as no deductibles or co-pays).  But if households will be spending $10.3 trillion over the period for health care premia and other expenses, then their savings under the Warren plan cannot be $11 trillion, much less $12 trillion.  What is going on?  It is not fully clear, as the full set of underlying numbers have not been presented, but it is possible that the Warren advisors are working from a forecast that household spending on health care will total $11 trillion, rather than the $10.3 trillion forecast in the CMS NHE figures.  We would need to see the underlying numbers to sort this out.]

With the exception of this possible “glitch”, the Warren plan does, however, provide us with a good sense of the magnitudes of what the shifts in costs would be under a comprehensive Medicare-for-All plan.

In summary, with the US spending so much on health care ($52.0 or $52.5 trillion expected over the ten-year period under current law, or close to 19% of GDP), shifting how those costs are paid from private to public insurance will inevitably imply massive dollar amounts.  This does not mean higher amounts would be spent on health care.  Indeed, with Medicare far more cost-efficient than private insurers, total costs for a given level of coverage will go down.  But the shifts will still be massive.

The Warren plan covers these costs by three steps:  First, while an enhanced level of coverage would be provided (which by itself would increase overall costs by an estimated $7.0 trillion), these would be more than fully offset by measures which would save on costs (by an estimated $7.5 trillion).  Second, what state and local governments are now spending for health care coverage ($6.1 trillion), and 98% of what private businesses are spending as part of the wage packages for their employees ($8.8 trillion), would be transferred to the federal government, as the federal government would now cover these health care costs under the Medicare-for-All plan.  And third, the remaining $11.7 trillion needed to cover the additional federal level expenditures (of $26.5 trillion under the plan) would come from a wide range of measures, mostly of new or increased taxes, but also from a cut in military spending.

The net result would then be that households would no longer pay for health insurance directly, nor for current out-of-pocket costs.  These would be paid for through indirect means, as outlined above.  One can debate the extent to which these new taxes (in particular the transfer from private firms of what they are now paying for their employee health insurance) will impact households, but in the end there will be impacts.  Some households will end up spending less than they are now, and some will spend more.  And given the magnitudes of the underlying health care costs involved, those impacts will be huge.

C.  The Buttigieg Medicare-for-All-Who-Want-It Plan

Pete Buttigieg, as well as several other of the Democratic candidates for president (notably former Vice President Joe Biden and Senator Amy Klobuchar), have proposed instead adding a public option to the Obamacare market exchanges.  Buttigieg calls this Medicare-for-All-Who-Want-It, and has said that if private insurers then do not respond with something dramatically better “this public plan will create a natural glide-path to Medicare for All”.  This option would be a publicly managed (perhaps by Medicare) insurance plan, with similar coverage to what is now offered by private insurers and made available through the Obamacare marketplace exchanges along with the private insurance plans.  Buttigieg’s basic proposal is available at his campaign web site, with more detail provided at this additional post.

To see how this would work, we will first review how prices and other features for the health insurance plans are currently set by private insurers on the Obamacare exchanges, and then how the public option as proposed by Buttigieg would fit into this system.  One can then draw the implications for the system that one would end up with – a system that would be quite different from a Medicare-for-All system such as that proposed by Senator Warren.  And an important question is whether a system with a public option such as that proposed by Buttigieg would in fact create a “natural glide-path” to Medicare-for-All.

The Obamacare marketplace exchanges allow individuals to choose, from among the private plans offered in their particular jurisdiction, a health insurance plan for themselves as an individual or for their family.  The plans offered on the exchanges are not (other than for a few exceptions for small businesses) for the health insurance offered through employers.  Thus they are priced by the insurance companies to reflect what the risk (health expenses) would be, on average, for the individual.  There are some restrictions on how the prices for the individual plans can be set, most notably by not charging different rates for males and females, nor excluding (or charging different rates) those with pre-existing health conditions.  But other than these restrictions, the premia that are charged to individuals vary, and vary widely, based on a number of factors.

Specifically, they can vary by:

a)  The age of the individual (or of the family members in a family plan):  Health care costs are generally higher for older individuals.  While private insurers had lobbied to be able to charge prices for the oldest individuals that would be covered (age 64, as Medicare starts at age 65) of as much as five times the prices for the youngest, the final legislation set the limit at three times.  Still, this is a broad range.

b)  Location:  The price of the insurance plan varies by where the individual lives – not just by state but down to the county level within a state.  Health care costs can differ greatly across the country.  And while this is often attributed to general living costs being higher in some parts of the country than in others, a more important factor is the extent to which effective competition drives down (or not) the costs charged by doctors and hospitals on the one hand, and by the private insurers themselves on the other hand.  As discussed in an earlier post on this blog, much of the health care system in the US is characterized as a bilateral oligopoly in any given locality, where there might be only one or a few hospitals (where those few hospitals may themselves be part of a chain with common ownership), only a few doctors in particular medical specialties, and where there are also may only be a small number (including possibly just one) of health care insurers.

Health care prices charged will be high where such competition is limited, and low relative to elsewhere where such competition is more extensive.  Thus, for example, the premium rate for a 40-year old individual enrolled in the benchmark Obamacare insurance plan in 2020 in Minnesota is an average (across the state) of $309 per month (the lowest in the nation), while the benchmark rate in next-door Iowa is $742 per month (the second-highest in the nation) and $881 in not-so-far-away Wyoming (the highest).  The cost of living does not differ that much across these states.  The extent of competition does.

c)  Tobacco use:  While states can opt out of this (or limit it further), the Affordable Care Act allowed that health insurance plans offered on the marketplace exchanges could charge up to 50% more for those individuals who smoke.  This would partially compensate for the much higher health care costs of smokers.

d)  The extent of health care costs covered:  Finally, the Obamacare exchanges allowed for up to four bands or categories of insurance plans, designated by the labels Bronze, Silver, Gold, and Platinum.  They differed in terms of the share of health care costs that would, on average, be covered under the insurance plan, and the share that would then be covered by the individual (in terms of the premium to be paid for the plan, and through the deductibles, co-pays, co-insurance, and other costs, up to some out-of-pocket maximum).  A Bronze level plan would be expected, on average over all the individuals enrolled in the plan, to cover 60% of medical care costs, a Silver plan would cover 70%, a Gold plan 80%, and a Platinum plan 90%.

But the plans offered within a band (Bronze, Silver, Gold, Platinum) can differ widely in what the mix would be between the deductible, the specific co-pay and co-insurance rates, the out-of-pocket maximum, and then in the premium to be paid.  The plans could also differ in exactly what medical costs they cover (e.g. some cover dental costs, some cover prescription drugs, etc.), which doctors and hospitals were in the network for that plan, and what (if any) costs would be covered if one obtained medical services from an out of network doctor or hospital.

The resulting prices for the plans will therefore differ markedly across individuals in the nation.  To illustrate how wide this variation can be, even within just one state, I looked at the cost of the insurance plans offered in two regions of Florida.  Florida was chosen because its average benchmark plan premium rate ($468 in 2020) is close to the US average ($462), and it is a largish state where up to six insurers compete in offering plans in some parts of the state, while in other parts of the state only one insurer offers plans.  Choosing each just at random, I looked at the plans offered in Wakulla County, in the northern part of the state, which has just one insurer offering plans, and in Hillsborough County, around Tampa in the central part of the state, where five insurers offer plans.  One can find the plans offered, with all the details on their prices and coverage, at the Affordable Care Act web site, HealthCare.gov.

The costs differ dramatically between the two regions, and are systematically higher in Wakulla County.  I priced what a family plan would cost, with a household of four:  a man of 35, a woman of 35, a boy of 12, and a girl of 10 (although sex will not matter).  The cost of the second-lowest cost Silver plan (the benchmark plan, which I will discuss further below) would be $2,451.12 per month ($29,413 per year) in Wakulla, or 80% higher than the benchmark plan rate of $1,358.94 per month ($16,307 per year) in Hillsborough.  But the effective price difference was even greater, as the deductible in the Wakulla benchmark plan is $11,900, versus a deductible of $8,000 in Hillsborough.  And the plans differed in various other ways as well.

At the low end of the price range, the least expensive plan offered in Wakulla (a Bronze level plan) would still cost $1,538.22 per month ($18,459 per year), which is 52% more than the least expensive plan offered in Hillsborough of $1,011.00 per month ($12,132 per year).  Both of these plans had a deductible of $16,300 for the family, and also an out of pocket maximum of $16,300.  That is, these were essentially catastrophic health care plans that would not cover any health care expenses unless very high health care costs ($16,300) were incurred in the year.  Furthermore, one would have to pay $34,759 in Wakulla ($28,432 in Hillsborough) for the monthly premia plus the out of pocket expenses in any year when one’s health care costs exceeded the out of pocket maximum.

These costs are huge but reflect the fact that, as discussed at the top of this post, health care costs are simply very high in the US.  The amounts paid in premia each year (of $29,413 in Wakulla and $16,307 in Hillsborough) span the average paid (in 2019) of $20,576 for a family plan in employer-sponsored coverage discussed at the top of this post.  The main difference is that a large share (71% on average in 2019) of the cost of the employer-sponsored plans is hidden as it is paid by the employer from the overall compensation package for the employees, but before what is then (residually) paid in wages to the workers.  But the cost is still there.

Competition (or lack of it) between insurers also matter.  The far higher costs in Wakulla relative to Hillsborough are not due to a much higher cost of living in that part of the state (indeed, the cost of living there is probably lower), but rather because only one insurer is offering plans in Wakulla versus five in Hillsborough.  But even with the benefit of competition between insurers, it would be difficult for most families to be able to afford, on their own, such health insurance costs.  Hence a key aspect of the Affordable Care Act are federally funded subsidies provided to individuals and households to be able to purchase such health care coverage.  But this also adds an additional layer of complexity.

There are two forms of these subsidies provided for under the Affordable Care Act.  One is a subsidy on the insurance premia paid.  This is set according to the cost of the second-lowest cost Silver level plan in the area where the individual lives (termed the “benchmark plan”), and sets the subsidy to be equal to the difference between the cost of that benchmark plan and some percentage of family income.  That percentage varies by family income, and starts low (2.08% of family income in 2019, for example, for family incomes of up to 133% of the federal poverty line), and rises up to 9.86% (in 2019) for a family income between 300 and 400% of the federal poverty line.  There is no subsidy for those with incomes above 400% of the federal poverty line.  The percentages are adjusted year to year according to a formula that reflects certain relative price changes.  The ceiling rate of 9.86% in 2019, for example, began at 9.5% in 2014, and in fact fell in 2020 to 9.78%.

[Technical Note:  Why the second-lowest price to determine the benchmark plan?  It follows from a basic finding of those who analyze how markets function best.  If you are selling a product, then one wants those who are bidding to buy the product to bid the highest price that they are willing to pay.  But if the price that they will pay in the end depends on the price they specifically offer, they will bias their bid price downwards in the hope that they will get the product at a somewhat lower price.  And since all the bidders follow the same logic, the price will be biased low.  By providing the product to the one who bids the highest, but at the price of the second-highest bidder, one will remove that systematic bias.  In the case here, where one is offering a product for sale (the insurance plan), the same logic holds, but it will be the second-lowest priced plan chosen to serve as the benchmark.  And while the issue here is a price to be used for setting the subsidy that will be provided to those participating in these markets, the same principle holds.]

The second subsidy, provided for those with incomes up to 250% of the federal poverty line, covers a share of the out-of-pocket costs for deductibles, co-pays, and co-insurance.  The insurance companies would initially provide these (i.e. not charge the individual for these when health costs are incurred), and under the Affordable Care Act would then be compensated by the federal government for these costs.  However, the Trump administration working with the then Republican-controlled Congress ended these payments to the insurance companies, by zeroing out the funds for these in the budget.

The insurance companies were, however, still obliged by law to provide these cost-sharing subsidies to the eligible (low income) enrollees in their plans.  The result was that the insurance companies were forced to raise their premium rates on the plans to everyone to cover those costs.

Here it is important to note a feature of how the Obamacare premium subsidies are structured.  Since the amount a person eligible for a premium subsidy (i.e. with income up to 400% of the federal poverty line) will pay is fixed at some percentage of their income, any increase in the cost of the benchmark insurance plan for that individual will be matched dollar for dollar by an increase in the premium subsidy.  Hence the decision by Trump and the Republicans in Congress to end the cost-sharing subsidies led directly to a similar amount of higher premium subsidies being paid, with little or no savings to the budget.

But it gets worse. While those receiving the premium subsidies (those with incomes up to 400% of the federal poverty line) would not be affected by the now higher plan prices, middle-income households with incomes above that 400% line would have to pay the higher prices.  As a result, some of those households dropped their coverage due to the higher cost.  This in turn led the insurance companies to raise the costs of their plans by even more (due to the more limited, and likely higher risk, mix of enrollees in their plans).  This in turn then led to even higher premium subsidies being paid to those eligible (those with incomes below 400% of the poverty line).  The end result of this effort by Trump and the Republicans in Congress to undermine the Obamacare exchanges was to increase the amount spent in the federal budget over what would have been the case had they continued to fund the cost-sharing subsidies.

The Buttigieg plan (and similarly that of others, such as Joe Biden) would then be to keep this basic structure, but add to it a publicly-managed health insurance option.  It would be sold on the Obamacare marketplace exchanges, in parallel with the private plans, and those seeking health care insurance in those markets would be able to choose whichever they preferred.

What would be the impact?  The Congressional Budget Office provided estimates in an analysis undertaken in 2013.  They concluded that a public option would be able to provide health plans similar to the private plans offered on the Obamacare exchanges, but at premium rates that would be 7 to 8% less.  That is, for similar coverage the greater efficiency that could be achieved by a publicly managed option (due to greater scale, the ability to piggy-back on the extremely efficient Medicare system, and by not paying the profit margins that the private health insurers demand), could provide insurance cover at a significantly lower cost.  Note this 7 to 8% lower cost would be an average across the country – it would be more in some areas and less in others.  And with the public option priced at this level, covering its costs, the CBO estimates (conservatively, it would appear) that 35% of those participating in the Obamacare exchanges would choose this public option.

And it gets better.  While there would be no direct effect on the net government budget by offering a public option priced to cover its costs (no more and no less), there would be significant positive indirect effects.  First, government outlays would be reduced, as the new competition brought on to the Obamacare exchanges by the public option would drive down overall prices on the exchanges, and in particular the price of the benchmark insurance plan (the second-lowest cost Silver plan).  At these lower costs, the amount the government would need to spend on premium subsidies for existing enrollees with incomes up to 400% of the federal poverty line would go down.  This would be partially (and only partially) offset, however, by a larger number of those currently with no insurance choosing now to enroll through the exchanges to obtain health care insurance.  A number of these individuals and their families would be eligible for premium subsidies.  However, while this would be a cost to the budget, increased enrollment is a good thing and was, after all, the primary objective of the Affordable Care Act.

Second, with some workers (and their employers) now finding the insurance options on the exchanges more attractive, a switch of some share of workers to the exchanges will lead to an increase in the taxable share of worker incomes.  Hence government revenues would go up.

The impact of these two sets of indirect effects would be significant savings to the government budget.  The CBO estimates were for the period 2014 to 2023, but assumed the program would be in effect only from 2016 to 2023 and with a ramping up period in 2016.  Hence this was not a true ten-year impact estimate.  But if one extrapolates the CBO figures for a full ten years, and for the period 2020 to 2029 (the same period as was used above for the Warren plan), the net savings to the budget would be about $320 billion.  This is not small.

Adding a public option to the Obamacare exchanges would therefore appear to be an obvious thing to do, and it is.  And indeed, a public option was included in the Affordable Care Act legislation as it was originally passed in the House of Representatives in 2009.  But it was then taken out by the Senate.  The Democrats had a majority in the Senate at that time, but still abided by the legislative rules that required a 60 vote majority to pass major pieces of legislation.  (This was later effectively changed by Senate Majority Leader Mitch McConnell when Republicans took control of the Senate so that, for example, the major re-writing of the tax code in December 2017 was deemed to require only 51 votes to pass.)  But to get to 60 votes, the Democrats needed the vote of Senator Joe Lieberman of Connecticut.  Lieberman would only agree if the public option was taken out.  Lieberman represented Connecticut and insurers are especially influential in that state, providing significant campaign contributions and with several headquartered there.  And it is only the private insurers who will lose out by allowing competition from a public option.  As a consequence, the Affordable Care Act as ultimately passed did not include a public option.

Buttigieg’s full health care plan includes a number of other proposals as well.  Generally, all the candidates support them (even Trump says he does on some of them), including requirements such as ending surprise out-of-network billing (when care is provided at an in-network hospital by an out-of-network doctor or other provider, and then billed at often shockingly high out-of-network rates); limits on what those out-of-network rates can be (Buttigieg would set a ceiling of two times the Medicare rates); allowing Medicare to negotiate on prescription drug prices used in health care services it covers (Medicare is currently blocked from doing so by law); and more.  But while all the candidates support such reforms, there are powerful vested interests that have so far succeeded in blocking them.

Buttigieg would also lower the share of family income used to determine the premium subsidies they are eligible for.  As discussed above, that share is 9.78% in 2020 for those with incomes between 300 and 400% of the federal poverty line (and lower for those at lower income levels).  Buttigieg would set the ceiling rate at 8.5% (with lower rates for those at lower incomes), and importantly would also remove the limit on family incomes for eligibility.  This would be significant for many.  Take, as an example, the price of the benchmark plan being offered in 2020 in Wakulla County, Florida, of $29,413 for a family of four (at the ages specified, as discussed above).  With the federal poverty line in 2020 of $26,200 for a family of four, and hence $104,800 as 400% of this poverty line, such a family would be required to pay 9.78% of their income ($10,249) for their share of the cost should they choose the benchmark insurance plan, and would receive a subsidy of $19,164 (where $19,164 = $29,413 – $10,249).  If they earned $1 more than 400% of the poverty line, they would receive no subsidy and would have to pay the full $29,413 should they purchase the benchmark plan.

In the Buttigieg proposal, the share of income would be capped at 8.5%, so for someone at 400% of the poverty line their share of the cost would be $8,908 instead of $10,249.  Furthermore, it would not be restricted only to those with an income below 400% of the poverty line.  So if the benchmark plan cost were to remain at $29,413 (the CBO estimates it would go down by 7 to 8% if a public option is introduced, as noted above, but leave that aside for here), families with incomes of up to $346,035 would be eligible in this county of Florida for at least some subsidy, with the subsidy having diminished smoothly to zero at that point.

Another difference is that Buttgieg proposes that the benchmark plan be shifted from the second-lowest cost Silver plan to a Gold-level plan (presumably also second-lowest cost, although he does not say specifically in what is posted).  Gold-level plans have more generous benefits than the Silver plans, but at the cost of higher premia.  Hence the premium subsidies would be higher for any given level of income given the 8.5% cap.  Keep in mind also that the Affordable Care Act premium subsidies, while determined relative to the cost of the benchmark insurance plan, can then be used by the individual for any other plan offered on the exchanges.  The dollar amount provided under the subsidy will be the same.

Buttigieg would also auto-enroll into the public option (which could then later be switched by the individual to one of the private plans) those who would otherwise be eligible for free insurance.  This would be in cases where they would have been eligible for Medicaid had that state accepted the expansion under the Affordable Care Act but then refused to do so, or in cases where the individual or family would have been eligible for a zero-cost plan after the premium and cost-sharing subsidies are taken into account.  Possibly more problematic would be the Buttigieg proposal to enroll retroactively someone without a health insurance plan who would then need some health care treatment.  This could provide an incentive not to enroll in any insurance plan (with its associated monthly premia) unless and until some substantial health care cost is incurred.

How would this be paid for?  Buttigieg estimates that the 10-year cost would be $1.5 trillion, which is modest compared to the Medicare-for-All plans.  There is no way I can check that figure, but it appears plausible.  Part of the reason it is relatively modest is that for those workers enrolled in an employer-based plan but who choose to switch to the public option (as they would now be allowed to do), Buttigieg would require the employer to pay in an amount equal to what they would otherwise have paid for that employee’s health insurance plan.

While one should want to require something of this nature, exactly how it would work is not clear.  There could be an adverse selection problem.  If the employer was required to pay in an amount that is the pro-rated share of the cost of one worker in the company plan, and hence the same for each worker whether old or young or with a pre-existing condition or not, there would be an incentive to encourage (perhaps quietly) the workers with the more expensive expected health insurance expenses to switch to the public program.  How to set the prices of what the companies would pay to avoid such negative outcomes would need to be worked out.  There is also the issue that the system would create an incentive for companies to scrimp on the coverage of the health plans they offer, so that they would then both encourage workers to shift to the public option and pay less into that system when their workers do so.

But such issues should be resolvable, for example by tying what the employer would pay for an employee switching to the public option not to what the employer was spending before on their health plan, but rather to what providing health care coverage would cost in the public option for that worker.

The addition, then, of the public option would be a major improvement over what we have now.  Would it, however, provide as Buttigieg asserts a “natural glide-path to Medicare for All” if private health insurers “are not able to offer something dramatically better” than what they have now?  That is not so clear.

The addition of the public option to the present system would not fundamentally change the system.  One would continue to have a highly complex and fragmented system, with disparate plans where any individual’s cost of health insurance would depend on several factors.  Specifically, even for the same degree of coverage in terms of what medical costs are covered and for the same deductible, co-pays, and so on, the cost of their health plan would vary depending on the expected health care risks of the individual (their age), how much it then costs to address any consequent health care issues that arise (their location), and their income (for those eligible for subsidies).

Setting aside the income (health care subsidies) issue for the moment, we have noted above that health plan costs can vary by up to a factor of three based on age.  And the costs by location vary similarly.  Even using state-wide averages (the variation will be greater if one took into account the different costs at the county level within a state), the average cost of the benchmark insurance plan for a 40-year-old in 2020 is $881 per month in Wyoming but $309 in Minnesota.  This is a ratio (between the most expensive and the least) of close to three.  Putting just these two cost factors together, the range of costs for an individual across the country can vary by a factor of nine.  Taking within state variation in cost also into account would lead to an even higher ratio.

By what path would this then possibly transition to a Medicare-for-All system?  Suppose one is at the point where 90% or more of the population has chosen to enroll in the public option.  While almost all of the population might then be in a publicly managed health care plan, they would be in plans where either they (or other parties on their behalf, i.e. their employers or the government) are paying premia that could vary by a factor of nine or more for the exact same coverage.  Some (the young and healthy, living in areas where health care costs are more modest) would be paying relatively little, while others (the old and those living in areas where health care costs are especially high) would be paying much more.  This is not what most people envision when referring to Medicare-for-All.

Would this then transition to a true Medicare-for-All system?  That could be difficult.  In a Medicare-for-All system as most people view it, the amount paid for health care would vary only based on income.  The current Medicare system (for those aged 65 and older) is funded by a combination of taxes on wages (2.9% of wages of workers of all ages, technically half by the employer and half by the employee), and by monthly premia for those enrolled in Medicare (where these premia start at $144.60 monthly in 2020 per person, and rise to as much as $491.60 per person for those at high-income levels).

If the Medicare-for-All system were then funded, directly or indirectly, by taxes and/or premia that are based solely on income (such as a higher payroll tax, for example), the transition would imply that those who were before paying relatively modest amounts in premia for their health care plans (whether via the public option or in one of the private plans) would end up paying more.  And it could be much more given the factor of nine (or greater) range in the cost of these plans.  One should expect that they will scream loudly, and seek to block such a transition.

This would then not be a “natural glide path” to Medicare-for-All.  Rather, unless something major is done, and forced through despite the likely opposition of those who would end up paying more for their health care insurance, the system would likely remain as now, with a highly fragmented and complex system of multiple health care plans, at widely varying premium rates, with some paying relatively modest amounts and some an order of magnitude more.

[And a point of full disclosure:  I had myself, in an earlier post on this blog, not seen this issue.  I had argued that a system with an efficient public option could lead, through competition, to a Medicare-for-All system.  The proposal I had discussed there included that the publicly-managed option would be allowed also to compete on the market for employer-sponsored plans, and not just in the market for individual cover, but the issue would remain.  One would end up in a system with widely varying premia rates, based on the risk of those being covered, and it would then be difficult to move out of such a system to one where what is paid is linked solely to income.]

D.  The Warren Plan for a Public Option as a Transition to Her Medicare-for-All Plan

Senator Warren announced her Medicare-for-All plan (described in section B above) on November 1, 2019.  Two weeks later, on November 15, she announced that as first step she would seek to add a public option early in her administration, while postponing to the third year of her prospective administration seeking approval in Congress for her Medicare-for-All plan.  See the link here for this proposal at her campaign website, or here for the same proposal at an external website.

While there are a number of health care reforms she presents in this proposal, several of which she says could be implemented by executive order alone and not require congressional legislation, I will focus here on how she envisions her public option.  It is quite different from the public option as discussed by Buttigieg, Biden, and others, and indeed Warren labels it (somewhat confusingly) a “Medicare for All option”.  It would be offered on the Obamacare market exchanges, along with the private insurance plans that are there now, but would differ from them in key ways.

Most importantly, Warren’s public option would provide for a far more generous level of coverage than what is covered under the private health insurance plans, with this paid for in part by substantially more generous government subsidies than what would be provided to those who enroll in any of the private health insurance plans.  That is, this would no longer be a level playing field, with the public option priced to cover its costs and then competing on the basis of being able to operate more efficiently and at a lower cost than the private plans.

This then addresses the key question, discussed above, of how to transition from a system of multiple, competing, health plan options, to a single-payer Medicare-for-All system.  The answer is that the public option that Warren proposes to add in the first year of her administration would be so generous, and at such a low cost to the individual, that it would make little sense for almost anyone not to enroll in it.

Specifically, under her proposals:

a)  The Warren public option health insurance plan would be comprehensive in what it covers, matching what would be covered in Warren’s November 1 Medicare-for-All proposal.  That is, in addition to what the insurance options on the Obamacare exchanges are now required to include, her public option would include coverage for expenses such as for dental care, vision services, auditory, mental care, long term care, and more.  This would be far broader than what the current Medicare system covers for those over age 65 (but as part of her proposal, she would have Medicare expand its coverage to include these additional medical expenses as well).

b)  There would be a zero deductible from the start, and some unspecified (but low) cap on out-of-pocket expenses.

c)  The Warren public option would be free for those below the age of 18, and free as well for households with incomes below 200% of the federal poverty line (i.e. $52,400 for a family of four in 2020).  Note that in effect this makes Medicaid redundant, as all those now eligible for Medicaid (those with incomes up to 130% of the federal poverty line, but less in states that did not accept the expansion of Medicaid provided for in the Affordable Care Act) would be better off with the proposed Warren public option.

d)  The Warren public option plan premiums, co-pays, and co-insurance would then be set so that the plan would initially cover 90% of expected medical costs.  Note that while a Platinum level plan on the Obamacare exchanges also covers 90%, the public option plan proposed by Warren would cover a broader range of medical expenses (dental, etc.), so they are not fully comparable.

e)  Premium subsidies for the Warren public option (and usable only for this option) would be set so that households do not spend more than 5.0% of their incomes for the insurance plans (and less for those at lower incomes).  This would be well below the 9.86% ceiling in effect in 2019 on premium subsidies (9.78% in 2020) under the current Affordable Care Act system for those purchasing coverage on the exchanges.  Importantly, and as Buttigieg also proposes, these subsidies would be available for households of any income, and not capped at a household income of 400% of the federal poverty line.

The new subsidies would be generous compared to what is now provided.  While it is not clear how much it would cost on average for the comprehensive coverage (with zero deductible) as envisioned in the Warren public option (no estimate was provided in what was posted by the Warren campaign) if one assumes a modest plan cost of $25,000 per year for this expansive cover, the subsidies would be:

Family Income

5% of Income

Subsidy

$100,000

$5,000

$20,000

$300,000

$15,000

$10,000

$500,000

$25,000

$0

The subsidy would only fully phase out at an income of $500,000 in this example.  This would mean that even some households with an income in the top 1% in the US (incomes that started at about $475,000 in 2019) would be receiving subsidies to purchase their health insurance plan.

f)  Keep in mind as well that, as was discussed earlier, any increase in the cost of providing the insurance plan will be covered dollar-for-dollar with an increased subsidy (for those receiving any subsidy).  The amount the individual pays is capped at 5% of income.  This is important as Warren would have the 90% share of expected medical costs being covered by the insurance plan rising “in subsequent years” to 100%.  While this more generous cover would, in normal insurance, need to be paid for by higher premia, the 5% of incomes cap on what will be charged in effect means that the more generous cover would be paid for by higher government subsidies, dollar for dollar, for all those eligible to receive such subsidies.

g)  For those who choose to continue to enroll in one of the private insurance plans offered on the Obamacare exchanges, Warren has that the share of income required from the individual would be “lowered” from the 9.86% rate of 2019 (9.78% in 2020).  But she does not specify to what rate it would be lowered to.  Presumably if the intention is to lower it to the 5.0% rate that would apply for Warren’s public option, they would have said so.  And the subsidy would also be made more generous by benchmarking it to the cost of Gold level plans, rather than the second-lowest cost Silver plan.  Finally, the Warren plan says that for those choosing still to enroll in one of the private insurance plans they would also “lift the upper income limit on eligibility” for the premium subsidies from the current 400% of the federal poverty line.  But it is not clear if it would be removed altogether, or simply lifted to some higher level.

These measures would lead to an increased level of subsidies for those choosing to remain with one of the private plans on the Obamacare exchanges.  But while there is much that is not fully clear here, it does appear clear that the subsidies would not rise to what would be provided to those who choose instead to enroll in the Warren public option.  And what would certainly be the case is that the public option as proposed by Warren would provide a more comprehensive level of health cost cover than what is being covered in the private plans, and with a zero deductible, lower co-pay and co-insurance rates, and a lower out-of-pocket ceiling.

h)  Workers in firms that provide company-sponsored health insurance plans could opt to enroll in the Warren public option instead.  For those who do, their companies would be required to “pay an appropriate fee” to the government.  How that “appropriate fee” would be set was not specified.  If linked to what the employer would be otherwise paying for the company-sponsored plan for the worker, one would have the same adverse selection issue that was discussed above for the similar proposal in the Buttigieg plan.  But it should be possible to address this in some way.

How much would this cost, and how would it be paid for?  As noted above, no specific cost estimates (on neither the cost of a typical plan nor the cost of the overall proposal) are provided in what the Warren campaign posted.  All that is clear is that with the more comprehensive list of what is covered, along with the zero deductible, modest co-pays and co-insurance, and a low limit on out-of-pocket expenses, the Warren public option plans will cost more to provide than what the Platinum level plans offered on the exchanges cost.  This is true even though both would be priced to cover 90% of expected medical costs, since the list of medical costs covered would be broader.

But while the cost of providing the Warren public option plan would be higher, the cost to the individuals signing on to it would be lower due to the greater premium and other subsidies that would be made available for it (with the 5.0% limit on family income, with no ceiling on income for eligibility).  With such subsidies being made available, it is difficult to see why anyone would not wish to sign on to such a plan.  While technically voluntary, and with private insurance “allowed” to compete for such business, this would be far from a level playing field.

Thus there would be a significant cost to the overall government budget to cover the cost of the subsidies provided to those signing on to the Warren public option.  But as noted, no estimate was provided in what was posted by the Warren campaign of what this might be.  All that was provided was the statement that the cost would be less than what her full Medicare-for-All plan (as discussed in Section B above) would cost.  She notes that that proposal had listed a number of taxes and other measures to pay for the Medicare-for-All plan, and that the more modest cost of her proposed public option could make use of some subset of these.

But how much less would that cost be?  It would of course depend on how many people enroll, and that is not known.  But with the higher subsidies provided for a far more extensive cover than available in the private plans offered on the Obamacare exchanges, and indeed more extensive than in most employer-sponsored private health insurance plans, there are not many who would not be personally better off by switching to the Warren public option.

There would, however, be at least one key difference in the funding, at least to start.  While Warren has that individuals with incomes over 250% of the federal poverty line would pay premia for the public option she is proposing, with this capped at no more than 5.0% of family income, the full Warren Medicare-for-All plan would have no such premia.  But paying premia of 5% of income would generate significant funding.  While Warren says that the 5% rate would be scaled down over time (at some unspecified pace), a crude back-of-the-envelope calculation indicates that a 5% charge (if applied throughout the 2020-29 period) could provide on the order of about 40%, and possibly more, of the $11.7 trillion in extra funding (for the 2020-29 period) that would be required in Warren’s Medicare-for-All plan

Specifically, the share of family income to be paid for premia (whether 5.0%, or the 9.86% in 2019 on the current Obamacare exchanges) is based on a share of taxable household income.  With some minor adjustments (which can be ignored for the purposes here), that income is the adjusted gross income shown on the family’s income tax return.  Using data for 2016 reported by the IRS, the total adjusted gross income shown on all tax returns filed in the US that year was $10,226 billion.  Of this, $1,960 billion was reported by households with incomes of less than $50,000 (which also accounted for 59.4% of all returns filed).  Since this is roughly what 250% of the poverty line would be (for a family of four), where Warren would not charge any premium rate, those incomes will be excluded.  And while the premium rate would then only be phased up with incomes to the full 5.0% rate, Warren does not say what the pace of that would be.  Taking the extreme case by assuming it would go immediately to the 5.0%, the total adjusted gross income on tax returns filed for 2016 for incomes of $50,000 or more would then be $8,266 billion (= $10,226b – $1,960b).

To make this comparable to the figures discussed in Section B above on the cost of Warren’s full Medicare-for-All plan, one can then take this as a share of GDP and apply it to the forecast value of GDP for the 2020-29 period.  Note first that the figure for overall adjusted gross income as reported on tax returns ($10,226 billion in 2016) is less than GDP (which was $18,715 billion in 2016) for a number of reasons.  Taxable income, as defined under tax law, differs from income as defined in the GDP accounts, and there are other factors as well (such as corporate income).  But the two will generally move together.  Applying then the share of GDP in 2016 accounted for by households with incomes of more than $50,000, to the forecast total GDP for the 2020-29 period ($261,911 billion) and then taking 5.0% of that, households would pay (assuming 100% enroll) about $5.8 trillion if applied to the full ten year period.  This would be a substantial portion of the $11.7 trillion that would need to be raised by new taxes or government spending reductions in the Warren Medicare-for-All plan.  That is, very roughly, half.

This assumes, however, that the premia paid will always be 5.0% of incomes.  But that will not be the case.  The premia will be set at some rate, and households would pay only up to whatever that rate is (but no more than 5.0% of their incomes).  As noted above, even with a premium rate of $25,000 a year (likely low for an average rate, given the generosity of what would be covered), households with incomes of up to $500,000 a year would be receiving subsidies.  And $500,000 a year for household income is approximately the break-point between the 99% and the 1% in terms of income ranking.  If one assumes that the 1% choose not to enroll in the Warren public option, but rather buy their health insurance directly from some private provider, the impact on health care costs incurred in the public plans would be negligible.  They are only 1% of the total (assuming the other 99% do enroll), plus they probably have lower per person health care costs than for those of lower incomes (the rich are generally healthier, with a lower incidence of heart disease, cancer, diabetes, and so on).

But the richest 1% do account for a significant share of overall household income.  Again using the IRS data for 2016, the richest 1% of households accounted for 17.2% of overall adjusted gross income of all households.  Taking this as a share of GDP, applying that share to the forecast 2020-29 GDP, taking 5% of it and subtracting that amount from what would be generated if all households paid the 5%, one arrives at a figure of $4.6 trillion for the funding that could be raised.  This would be close to 40% of the $11.7 trillion required.

These estimates are rough, and would apply only to the initial years of the program Warren is recommending as part of a transition to her Medicare-for-All plan.  But it suggests that 40% or more of the extra government funding required could be raised by charging a 5% premium to those with incomes over 250% of the poverty line.  Note that the $11.7 trillion in net funding needed (over ten years) already has taken into account a transfer from state and local governments of what they would otherwise be spending on Medicaid and other health insurance programs that would become redundant under Warren’s plans.  It is also net of transfers from private companies of what they would otherwise be spending on the employer shares of company-sponsored health insurance plans.  Thus the 5% premium would be a substitute for some share of the additional taxes that Warren has proposed in her Medicare-for-All plan.  But as that 5% premium rate is reduced to zero over time under her proposals, that full set of additional taxes would be needed.  Just not right away.

Still, the amounts involved are huge.  If everyone (other than the extremely rich) choose to enroll in Warren’s public option, as it would make sense for them to do, the 5% premia paid would come to 1.7% of GDP.  The $11.7 trillion required in the full Medicare-for-All plan comes to 4.2% of the ten-year GDP.  Thus there would be a need to raise from some set of sources an additional 2.5% (= 4.2% – 1.7%) of GDP.  GDP in 2020 will total about $22 trillion, and 2.5% of this is $550 billion.  That is a massive amount to be raised.  Keep in mind that this is not additional spending, but rather in effect a transfer from what would otherwise be spent on health care (through the insurance premia we now pay, plus out-of-pocket expenses).  Indeed, there would be a net saving by moving to a more efficient / lower-cost health care funding system.  But that $550 billion would still need to be raised.

E.  Summary, and a Path Forward

The health care funding system in the US certainly needs to change.  The US spends far more than any other country in the world on health care, but despite this health care outcomes are worse than elsewhere.

Fundamental reform is needed, and a number of proposals have been made.  The most far reaching would be to move to a Medicare-for-All system.  Senator Elizabeth Warren has made a detailed proposal on how this would work and what the funding needs would be, and is to be commended for this.  But the funding needs would be massive.  While overall spending on medical care would not go up (indeed it would go down under her plan), there would be massive shifts from how the payments are made now (via premia paid for private health insurance and out-of-pocket) to how they would be made in a single-payer Medicare-for-All scheme.

In Warren’s plan, the shift in spending through government accounts would total an estimated $34.0 trillion over the ten years of 2020-29 (12.2% of GDP), if nothing else is done.  However, Warren’s team estimates that there would be savings of $7.5 trillion from a number of reforms and other efficiency gains leaving $26.5 trillion (9.5% of GDP) to be funded.  To provide a sense of how large this is, it can be compared to the forecast by the CBO that individual income taxes over this period would in total raise less, at only $23.2 trillion.

Part of the $26.5 trillion would be covered by transfers from state and local governments of what they currently spend on health care programs out of their own budgets (primarily Medicaid), and part from transfers of 98% of what private companies spend on the employer share of company-sponsored health care plans for their employees.  But even assuming such transfers will be possible (it is likely they will be strongly resisted), there will still be a need to raise a further $11.7 trillion (4.2% of GDP).  Warren proposes to do this through a series of measures, mostly from new taxes.  In terms of 2020 GDP of about $22 trillion, that 4.2% would come to $920 billion.  This is huge.

Given such amounts to be raised, plus concerns over the possible disruption that any such plan might cause (where one especially never wants to face disruption when health is at stake), many prefer a more gradual and possibly more modest reform.  An obvious alternative would be to include in the Obamacare market exchanges a public option, similar to Medicare and possibly managed by Medicare itself.  Allowing also employees currently on a company-sponsored health insurance plan to opt in to the public option should they wish (with their company still paying a fee tied to what they otherwise would be spending for the worker), one would have that those who want a Medicare-like plan could choose it, and those who don’t don’t.

The Congressional Budget Office has estimated that such a public option could be provided at a cost that is, on average, 7 to 8% less than what private plans charge, as the public option would be more efficient.  On top of this, there would be significant indirect savings to the overall government budget.

But would this then provide “a natural glide-path” to a Medicare-for-All system, as Buttigieg asserts?  That is not so clear.  The reason is that the public option would price plans similar to how the private plans are now priced (just 7 to 8% lower on average).  Their prices would reflect the risks of the individuals being covered and the cost of providing health care where they live.  Thus even if the public option grew to dominate the market, one would still have a wide range of health care premia being paid, which could easily vary by an order of magnitude between the low risk / low cost individuals to the high risk / high cost ones.  And the system would then remain like this, complex and with a wide range of costs linked to factors other than income.  Moving that system to one where the costs depend only on income would lead to higher costs for the low risk / low cost individuals in the system, and they will likely complain loudly.

How was this addressed in the second plan that Warren put out, where (in addition to a long list of other reforms) a public option would be made available immediately, as a transition step to her full Medicare-for-All scheme?  The answer is that the “public option” Warren proposed was quite different from the public option referred to by Buttigieg (as well as by Biden, Klobuchar, and others).  The public option as normally presented has been an option that competes with the private plans on the Obamacare exchanges, priced to cover its costs and receiving no special advantages.

Warren’s public option is different.  It would be comprehensive in terms of what it covered, would not have a deductible, only low co-pay and co-insurance rates, and a low out-of-pocket ceiling.  And while the premium for such a plan would need to be relatively high to cover such benefits and low out-of-pocket costs, Warren would provide government subsidies so that no one would need to pay more than 5% of their incomes to cover those costs.  And at a 5% ceiling, those subsidies could go to some pretty rich people.  Assuming a premium of $25,000 a year would be required to cover the costs of the plans (a conservative estimate, given what it would cover), households with incomes of up to $500,000 a year would be eligible.  That is, all but the richest 1% would be eligible.

In such a system one could choose to continue with a private plan, but for most it would be foolish not to switch.  Thus while this public option as proposed by Warren would be competing with the private plans, it would not be on a level playing field.  Rather, those enrolling in the public option of Warren would receive subsidies substantially greater than what those enrolling in a private plan could.  There is nothing necessarily wrong with this, but it should be recognized.  And those subsidies would have to be funded from somewhere.

The Warren team provided no estimate of what the overall cost of this might be, but simply noted that it would be something less than the full Medicare-for-All plan she had earlier proposed.  And the premium of up to 5% of family income that would be paid to cover a portion of the cost would be a significant source of funds.  But even including this, and assuming most Americans (other than the rich in the top 1%) chose to enroll in Warren’s public option, there would be a need to find $550 billion in additional government funding (if this applied in 2020).

These amounts are all huge.  But given the amount the US is now spending on health care (about $4 trillion expected in 2020, or 18% of GDP), any fundamental shift in how health care is funded will involve massive amounts.  And again it should be emphasized that the amounts needed do not imply a net increase in what will be spent, as the reforms being considered can be expected to reduce overall health care costs.  Nevertheless, the amounts are large, and will lead to major interpersonal shifts (with some paying less than they are now, and some paying more and possibly much more).  Those impacts should not be downplayed.

Still, the Warren plan for a transition to a Medicare-for-All system would be a plan for how to move forward.  It may well not be possible to do this quickly, given the size of the shifts in funding sources.  But one can envision where one might start with a public option such as Warren has proposed (exhaustive in what it covers, and with a zero deductible), but where the ceiling on family income for the premia might start not at 5% but perhaps more like the 8.5% Buttiegieg has proposed.  Then this would be reduced over time, perhaps by 1% point per year while other funding sources are scaled up, with this eventually brought down to zero.  At that point we would be in a full Medicare-for-All system.

Andrew Yang’s Proposed $1,000 per Month Grant: Issues Raised in the Democratic Debate

A.  Introduction

This is the second in a series of posts on this blog addressing issues that have come up during the campaign of the candidates for the Democratic nomination for president, and which specifically came up in the October 15 Democratic debate.  As flagged in the previous blog post, one can find a transcript of the debate at the Washington Post website, and a video of the debate at the CNN website.

This post will address Andrew Yang’s proposal of a $1,000 per month grant for every adult American (which I will mostly refer to here as a $12,000 grant per year).  This policy is called a universal basic income (or UBI), and has been explored in a few other countries as well.  It has received increased attention in recent years, in part due to the sharp growth in income inequality in the US of recent decades, that began around 1980.  If properly designed, such a $12,000 grant per adult per year could mark a substantial redistribution of income.  But the degree of redistribution depends directly on how the funding would be raised.  As we will discuss below, Yang’s specific proposals for that are problematic.  There are also other issues with such a program which, even if well designed, calls into question whether it would be the best approach to addressing inequality.  All this will be discussed below.

First, however, it is useful to address two misconceptions that appear to be widespread.  One is that many appear to believe that the $12,000 per adult per year would not need to come from somewhere.  That is, everyone would receive it, but no one would have to provide the funds to pay for it.  That is not possible.  The economy produces so much, whatever is produced accrues as incomes to someone, and if one is to transfer some amount ($12,000 here) to each adult then the amounts so transferred will need to come from somewhere.  That is, this is a redistribution.  There is nothing wrong with a redistribution, if well designed, but it is not a magical creation of something out of nothing.

The other misconception, and asserted by Yang as the primary rationale for such a $12,000 per year grant, is that a “Fourth Industrial Revolution” is now underway which will lead to widespread structural unemployment due to automation.  This issue was addressed in the previous post on this blog, where I noted that the forecast job losses due to automation in the coming years are not out of line with what has been the norm in the US for at least the last 150 years.  There has always been job disruption and turnover, and while assistance should certainly be provided to workers whose jobs will be affected, what is expected in the years going forward is similar to what we have had in the past.

It is also a good thing that workers should not be expected to rely on a $12,000 per year grant to make up for a lost job.  Median earnings of a full-time worker was an estimated $50,653 in 2018, according to the Census Bureau.  A grant of $12,000 would not go far in making up for this.

So the issue is one of redistribution, and to be fair to Yang, I should note that he posts on his campaign website a fair amount of detail on how the program would be paid for.  I make use of that information below.  But the numbers do not really add up, and for a candidate who champions math (something I admire), this is disappointing.

B.  Yang’s Proposal of a $1,000 Monthly Grant to All Americans

First of all, the overall cost.  This is easy to calculate, although not much discussed.  The $12,000 per year grant would go to every adult American, who Yang defines as all those over the age of 18.  There were very close to 250 million Americans over the age of 18 in 2018, so at $12,000 per adult the cost would be $3.0 trillion.

This is far from a small amount.  With GDP of approximately $20 trillion in 2018 ($20.58 trillion to be more precise), such a program would come to 15% of GDP.  That is huge.  Total taxes and revenues received by the federal government (including all income taxes, all taxes for Social Security and Medicare, and everything else) only came to $3.3 trillion in FY2018.  This is only 10% more than the $3.0 trillion that would have been required for Yang’s $12,000 per adult grants.  Or put another way, taxes and other government revenues would need almost to be doubled (raised by 91%) to cover the cost of the program.  As another comparison, the cost of the tax cuts that Trump and the Republican leadership rushed through Congress in December 2017 was forecast to be an estimated $150 billion per year.  That was a big revenue loss.  But the Yang proposal would cost 20 times as much.

With such amounts to be raised, Yang proposes on his campaign website a number of taxes and other measures to fund the program.  One is a value-added tax (VAT), and from his very brief statements during the debates but also in interviews with the media, one gets the impression that all of the program would be funded by a value-added tax.  But that is not the case.  He in fact says on his campaign website that the VAT, at the rate and coverage he would set, would raise only about $800 billion.  This would come only to a bit over a quarter (27%) of the $3.0 trillion needed.  There is a need for much more besides, and to his credit, he presents plans for most (although not all) of this.

So what does he propose specifically?:

a) A New Value-Added Tax:

First, and as much noted, he is proposing that the US institute a VAT at a rate of 10%.  He estimates it would raise approximately $800 billion a year, and for the parameters for the tax that he sets, that is a reasonable estimate.  A VAT is common in most of the rest of the world as it is a tax that is relatively easy to collect, with internal checks that make underreporting difficult.  It is in essence a tax on consumption, similar to a sales tax but levied only on the added value at each stage in the production chain.  Yang notes that a 10% rate would be approximately half of the rates found in Europe (which is more or less correct – the rates in Europe in fact vary by country and are between 17 and 27% in the EU countries, but the rates for most of the larger economies are in the 19 to 22% range).

A VAT is a tax on what households consume, and for that reason a regressive tax.  The poor and middle classes who have to spend all or most of their current incomes to meet their family needs will pay a higher share of their incomes under such a tax than higher-income households will.  For this reason, VAT systems as implemented will often exempt (or tax at a reduced rate) certain basic goods such as foodstuffs and other necessities, as such goods account for a particularly high share of the expenditures of the poor and middle classes.  Yang is proposing this as well.  But even with such exemptions (or lower VAT rates), a VAT tax is still normally regressive, just less so.

Furthermore, households will in the end be paying the tax, as prices will rise to reflect the new tax.  Yang asserts that some of the cost of the VAT will be shifted to businesses, who would not be able, he says, to pass along the full cost of the tax.  But this is not correct.  In the case where the VAT applies equally to all goods, the full 10% will be passed along as all goods are affected equally by the now higher cost, and relative prices will not change.  To the extent that certain goods (such as foodstuffs and other necessities) are exempted, there could be some shift in demand to such goods, but the degree will depend on the extent to which they are substitutable for the goods which are taxed.  If they really are necessities, such substitution is likely to be limited.

A VAT as Yang proposes thus would raise a substantial amount of revenues, and the $800 billion figure is a reasonable estimate.  This total would be on the order of half of all that is now raised by individual income taxes in the US (which was $1,684 billion in FY2018).  But one cannot avoid that such a tax is paid by households, who will face higher prices on what they purchase, and the tax will almost certainly be regressive, impacting the poor and middle classes the most (with the extent dependent on how many and which goods are designated as subject to a reduced VAT rate, or no VAT at all).  But whether regressive or not, everyone will be affected and hence no one will actually see a net increase of $12,000 in purchasing power from the proposed grant  Rather, it will be something less.

b)  A Requirement to Choose Either the $12,000 Grants, or Participation in Existing Government Social Programs

Second, Yang’s proposal would require that households who currently benefit from government social programs, such as for welfare or food stamps, would be required to give up those benefits if they choose to receive the $12,000 per adult per year.  He says this will lead to reduced government spending on such social programs of $500 to $600 billion a year.

There are two big problems with this.  The first is that those programs are not that large.  While it is not fully clear how expansive Yang’s list is of the programs which would then be denied to recipients of the $12,000 grants, even if one included all those included in what the Congressional Budget Office defines as “Income Security” (“unemployment compensation, Supplemental Security Income, the refundable portion of the earned income and child tax credits, the Supplemental Nutrition Assistance Program [food stamps], family support, child nutrition, and foster care”), the total spent in FY2018 was only $285 billion.  You cannot save $500 to $600 billion if you are only spending $285 billion.

Second, such a policy would be regressive in the extreme.  Poor and near-poor households, and only such households, would be forced to choose whether to continue to receive benefits under such existing programs, or receive the $12,000 per adult grant per year.  If they are now receiving $12,000 or more in such programs per adult household member, they would receive no benefit at all from what is being called a “universal” basic income grant.  To the extent they are now receiving less than $12,000 from such programs (per adult), they may gain some benefit, but less than $12,000 worth.  For example, if they are now receiving $10,000 in benefits (per adult) from current programs, their net gain would be just $2,000 (setting aside for the moment the higher prices they would also now need to pay due to the 10% VAT).  Furthermore, only the poor and near-poor who are being supported by such government programs will see such an effective reduction in their $12,000 grants.  The rich and others, who benefit from other government programs, will not see such a cut in the programs or tax subsidies that benefit them.

c)  Savings in Other Government Programs 

Third, Yang argues that with his universal basic income grant, there would be a reduction in government spending of $100 to $200 billion a year from lower expenditures on “health care, incarceration, homelessness services and the like”, as “people would be able to take better care of themselves”.  This is clearly more speculative.  There might be some such benefits, and hopefully would be, but without experience to draw on it is impossible to say how important this would be and whether any such savings would add up to such a figure.  Furthermore, much of those savings, were they to follow, would accrue not to the federal government but rather to state and local governments.  It is at the state and local level where most expenditures on incarceration and homelessness, and to a lesser degree on health care, take place.  They would not accrue to the federal budget.

d)  Increased Tax Revenues From a Larger Economy

Fourth, Yang states that with the $12,000 grants the economy would grow larger – by 12.5% he says (or $2.5 trillion in increased GDP).  He cites a 2017 study produced by scholars at the Roosevelt Institute, a left-leaning non-profit think tank based in New York, which examined the impact on the overall economy, under several scenarios, of precisely such a $12,000 annual grant per adult.

There are, however, several problems:

i)  First, under the specific scenario that is closest to the Yang proposal (where the grants would be funded through a combination of taxes and other actions), the impact on the overall economy forecast in the Roosevelt Institute study would be either zero (when net distribution effects are neutral), or small (up to 2.6%, if funded through a highly progressive set of taxes).

ii)  The reason for this result is that the model used by the Roosevelt Institute researchers assumes that the economy is far from full employment, and that economic output is then entirely driven by aggregate demand.  Thus with a new program such as the $12,000 grants, which is fully paid for by taxes or other measures, there is no impact on aggregate demand (and hence no impact on economic output) when net distributional effects are assumed to be neutral.  If funded in a way that is not distributionally neutral, such as through the use of highly progressive taxes, then there can be some effect, but it would be small.

In the Roosevelt Institute model, there is only a substantial expansion of the economy (of about 12.5%) in a scenario where the new $12,000 grants are not funded at all, but rather purely and entirely added to the fiscal deficit and then borrowed.  And with the current fiscal deficit now about 5% of GDP under Trump (unprecedented even at 5% in a time of full employment, other than during World War II), and the $12,000 grants coming to $3.0 trillion or 15% of GDP, this would bring the overall deficit to 20% of GDP!

Few economists would accept that such a scenario is anywhere close to plausible.  First of all, the current unemployment rate of 3.5% is at a 50 year low.  The economy is at full employment.  The Roosevelt Institute researchers are asserting that this is fictitious, and that the economy could expand by a substantial amount (12.5% in their scenario) if the government simply spent more and did not raise taxes to cover any share of the cost.  They also assume that a fiscal deficit of 20% of GDP would not have any consequences, such as on interest rates.  Note also an implication of their approach is that the government spending could be on anything, including, for example, the military.  They are using a purely demand-led model.

iii)  Finally, even if one assumes the economy will grow to be 12.5% larger as a result of the grants, even the Roosevelt Institute researchers do not assume it will be instantaneous.  Rather, in their model the economy becomes 12.5% larger only after eight years.  Yang is implicitly assuming it will be immediate.

There are therefore several problems in the interpretation and use of the Roosevelt Institute study.  Their scenario for 12.5% growth is not the one that follows from Yang’s proposals (which is funded, at least to a degree), nor would GDP jump immediately by such an amount.  And the Roosevelt Insitute model of the economy is one that few economists would accept as applicable in the current state of the economy, with its 3.5% unemployment.

But there is also a further problem.  Even assuming GDP rises instantly by 12.5%, leading to an increase in GDP of $2.5 trillion (from a current $20 trillion), Yang then asserts that this higher GDP will generate between $800 and $900 billion in increased federal tax revenue.  That would imply federal taxes of 32 to 36% on the extra output.  But that is implausible.  Total federal tax (and all other) revenues are only 17.5% of GDP.  While in a progressive tax system the marginal tax revenues received on an increase in income will be higher than at the average tax rate, the US system is no longer very progressive.  And the rates are far from what they would need to be twice as high at the margin (32 to 36%) as they are at the average (17.5%).  A more plausible estimate of the increased federal tax revenues from an economy that somehow became 12.5% larger would not be the $800 to $900 billion Yang calculates, but rather about half that.

Might such a universal basic income grant affect the size of the economy through other, more orthodox, channels?  That is certainly possible, although whether it would lead to a higher or to a lower GDP is not clear.  Yang argues that it would lead recipients to manage their health better, to stay in school longer, to less criminality, and to other such social benefits.  Evidence on this is highly limited, but it is in principle conceivable in a program that does properly redistribute income towards those with lower incomes (where, as discussed above, Yang’s specific program has problems).  Over fairly long periods of time (generations really) this could lead to a larger and stronger economy.

But one will also likely see effects working in the other direction.  There might be an increase in spouses (wives usually) who choose to stay home longer to raise their children, or an increase in those who decide to retire earlier than they would have before, or an increase in the average time between jobs by those who lose or quit from one job before they take another, and other such impacts.  Such impacts are not negative in themselves, if they reflect choices voluntarily made and now possible due to a $12,000 annual grant.  But they all would have the effect of reducing GDP, and hence the tax revenues that follow from some level of GDP.

There might therefore be both positive and negative impacts on GDP.  However, the impact of each is likely to be small, will mostly only develop over time, and will to some extent cancel each other out.  What is likely is that there will be little measurable change in GDP in whichever direction.

e)  Other Taxes

Fifth, Yang would institute other taxes to raise further amounts.  He does not specify precisely how much would be raised or what these would be, but provides a possible list and says they would focus on top earners and on pollution.  The list includes a financial transactions tax, ending the favorable tax treatment now given to capital gains and carried interest, removing the ceiling on wages subject to the Social Security tax, and a tax on carbon emissions (with a portion of such a tax allocated to the $12,000 grants).

What would be raised by such new or increased taxes would depend on precisely what the rates would be and what they would cover.  But the total that would be required, under the assumption that the amounts that would be raised (or saved, when existing government programs are cut) from all the measures listed above are as Yang assumes, would then be between $500 and $800 billion (as the revenues or savings from the programs listed above sum to $2.2 to $2.5 trillion).  That is, one might need from these “other taxes” as much as would be raised by the proposed new VAT.

But as noted in the discussion above, the amounts that would be raised by those measures are often likely to be well short of what Yang says will be the case.  One cannot save $500 to $600 billion in government programs for the poor and near-poor if government is spending only $285 billion on such programs, for example.  A more plausible figure for what might be raised by those proposals would be on the order of $1 trillion, mostly from the VAT, and not the $2.2 to $2.5 trillion Yang says will be the case.

C.  An Assessment

Yang provides a fair amount of detail on how he would implement a universal basic income grant of $12,000 per adult per year, and for a political campaign it is an admirable amount of detail.  But there are still, as discussed above, numerous gaps that prevent anything like a complete assessment of the program.  But a number of points are evident.

To start, the figures provided are not always plausible.  The math just does not add up, and for someone who extolls the need for good math (and rightly so), this is disappointing.  One cannot save $500 to $600 billion in programs for the poor and near-poor when only $285 billion is being spent now.  One cannot assume that the economy will jump immediately by 12.5% (which even the Roosevelt Institute model forecasts would only happen in eight years, and under a scenario that is the opposite of that of the Yang program, and in a model that few economists would take as credible in any case).  Even if the economy did jump by so much immediately, one would not see an increase of $800 to $900 billion in federal tax revenues from this but rather more like half that.  And other such issues.

But while the proposal is still not fully spelled out (in particular on which other taxes would be imposed to fill out the program), we can draw a few conclusions.  One is that the one group in society who will clearly not gain from the $12,000 grants is the poor and near-poor, who currently make use of food stamp and other such programs and decide to stay with those programs.  They would then not be eligible for the $12,000 grants.  And keep in mind that $12,000 per adult grants are not much, if you have nothing else.  One would still be below the federal poverty line if single (where the poverty line in 2019 is $12,490) or in a household with two adults and two or more children (where the poverty line, with two children, is $25,750).  On top of this, such households (like all households) will pay higher prices for at least some of what they purchase due to the new VAT.  So such households will clearly lose.

Furthermore, those poor or near-poor households who do decide to switch, thus giving up their eligibility for food stamps and other such programs, will see a net gain that is substantially less than $12,000 per adult.  The extent will depend on how much they receive now from those social programs.  Those who receive the most (up to $12,000 per adult), who are presumably also most likely to be the poorest among them, will lose the most.  This is not a structure that makes sense for a program that is purportedly designed to be of most benefit to the poorest.

For middle and higher-income households the net gain (or loss) from the program will depend on the full set of taxes that would be needed to fund the program.  One cannot say who will gain and who will lose until the structure of that full set of taxes is made clear.  This is of course not surprising, as one needs to keep in mind that this is a program of redistribution:  Funds will be raised (by taxes) that disproportionately affect certain groups, to be distributed then in the $12,000 grants.  Some will gain and some will lose, but overall the balance has to be zero.

One can also conclude that such a program, providing for a universal basic income with grants of $12,000 per adult, will necessarily be hugely expensive.  It would cost $3 trillion a year, which is 15% of GDP.  Funding it would require raising all federal tax and other revenue by 91% (excluding any offset by cuts in government social programs, which are however unlikely to amount to anything close to what Yang assumes).  Raising funds of such magnitude is completely unrealistic.  And yet despite such costs, the grants provided of $12,000 per adult would be poverty level incomes for those who do not have a job or other source of support.

One could address this by scaling back the grant, from $12,000 to something substantially less, but then it becomes less meaningful to an individual.  The fundamental problem is the design as a universal grant, to all adults.  While this might be thought to be politically attractive, any such program then ends up being hugely expensive.

The alternative is to design a program that is specifically targeted to those who need such support.  Rather than attempting to hide the distributional consequences in a program that claims to be universal (but where certain groups will gain and certain groups will lose, once one takes fully into account how it will be funded), make explicit the redistribution that is being sought.  With this clear, one can then design a focussed program that addresses that redistribution aim.

Finally, one should recognize that there are other policies as well that might achieve those aims that may not require explicit government-intermediated redistribution.  For example, Senator Cory Booker in the October 15 debate noted that a $15 per hour minimum wage would provide more to those now at the minimum wage than a $12,000 annual grant.  This remark was not much noted, but what Senator Booker said was true.  The federal minimum wage is currently $7.25 per hour.  This is low – indeed, it is less (in real terms) than what it was when Harry Truman was president.  If the minimum wage were raised to $15 per hour, a worker now at the $7.25 rate would see an increase in income of $15.00 – $7.25 = $7.75 per hour, and over a year of 40 hour weeks would see an increase in income of $7.75 x 40 x 52 = $16,120.00.  This is well more than a $12,000 annual grant would provide.

Republican politicians have argued that raising the minimum wage by such a magnitude will lead to widespread unemployment.  But there is no evidence that changes in the minimum wage that we have periodically had in the past (whether federal or state level minimum wages) have had such an adverse effect.  There is of course certainly some limit to how much it can be raised, but one should recognize that the minimum wage would now be over $24 per hour if it had been allowed to grow at the same pace as labor productivity since the late 1960s.

Income inequality is a real problem in the US, and needs to be addressed.  But there are problems with Yang’s specific version of a universal basic income.  While one may be able to fix at least some of those problems and come up with something more reasonable, it would still be massively disruptive given the amounts to be raised.  And politically impossible.  A focus on more targeted programs, as well as on issues such as the minimum wage, are likely to prove far more productive.

The Growing Fiscal Deficit, the Keynesian Stimulus Policies of Trump, and the FY20/21 Budget Agreement

A.  The Growing Fiscal Deficit Under Trump

Donald Trump, when campaigning for office, promised that he would “quickly” drive down the fiscal deficit to zero.  Few serious analysts believed that he would get it all the way to zero during his term in office, but many assumed that he would at least try to reduce the deficit by some amount.  And this clearly should have been possible, had he sought to do so, when Republicans were in full control of both the House and the Senate, as well as the presidency.

That has not happened.  The deficit has grown markedly, despite the economy being at full employment, and is expected to top $1 trillion this year, reaching over 5% of GDP.  This is unprecedented in peacetime.  Never before in US history, other than during World War II, has the federal deficit hit 5% of GDP with the economy at full employment.  Indeed, the fiscal deficit has never even reached 4% of GDP at a time of full employment (other than, again, World War II).

The chart at the top of this post shows what has happened.  The deficit is the difference between what the government spends (shown as the line in blue) and the revenues it receives (the line in green).  The deficit grew markedly following the financial and economic collapse in the last year of the Bush administration.  A combination of higher government spending and lower taxes (lower both because the economy was depressed but also from legislated tax cuts) were then necessary to stabilize the economy.  As the economy recovered the fiscal deficit then narrowed.  But it is now widening again, and as noted above, is expected to top $1 trillion dollars in FY2019 (which ends on September 30).

More precisely, the US Treasury publishes monthly a detailed report on what the federal government received in revenues and what was spent in outlays for that month and for up to that point in the fiscal year.  See here for the June report, and here for previous monthly reports.  It includes a forecast of what will be received and spent for the fiscal year as a whole, and hence what the deficit will be, based on the budget report released each spring, usually in March.  For FY2019, the forecast was of a deficit of $1.092 trillion.  But these are forecasts, and comparing the forecasts made to the actuals realized over the last three fiscal years (FY2016 to18), government outlays were on average overestimated by 2.0% and government revenues by 2.2%.  These are similar, and scaling the forecasts of government outlays and government revenues down by these ratios, the deficit would end up at $1.075 trillion.  I used these scaled figures in the chart above.

The widening in the deficit in recent years is evident.  The interesting question is why.  For this one needs counterfactuals, of what the figures would have been if some alternative decisions had been made.

For government revenues (taxes of various kinds), the curve in orange show what they would have been had taxes remained at the same shares of the relevant income (depending on the tax) as they were in FY2016.  Specifically, individual income taxes were kept at a constant share of personal income (as defined and estimated in the National Income and Product Accounts, or NIPA accounts, assembled by the Bureau of Economic Analysis, or BEA, of the US Department of Commerce); corporate profit taxes were kept at a constant share of corporate profits (as estimated in the NIPA accounts); payroll taxes (primarily Social Security taxes) were kept at a constant share of compensation of employees (again from the NIPA accounts); and all other taxes were kept at a constant share of GDP.  The NIPA accounts (often referred to as the GDP accounts) are available through the second quarter of CY2019, and hence are not yet available for the final quarter of FY2019 (which ends September 30, and hence includes the third quarter of CY2019).  For this, I extrapolated the final quarter’s figures based on what growth had been over the preceding four quarters.

Note also that the base year here (FY2016) already shows a flattening in tax revenues.  If I had used the tax shares of FY2015 as a base for the comparison, the tax losses in the years since then would have been even greater.  Various factors account for the flattening of tax revenues in FY2016, including (according to an analysis by the Congressional Budget Office) passage by Congress of Public Law 114-113 in December 2015, that allowed for a more rapid acceleration of depreciation allowances for investment by businesses.  This had the effect of reducing corporate profit taxes substantially in FY2016.

Had taxes remained at the shares of the relevant income as they were in FY2016, tax revenues would have grown, following the path of the orange curve.  Instead, they were flat in nominal dollar amount (the green curve), indicating they were falling in real terms as well as a share of income.  The largest loss in revenues stemmed from the major tax cut pushed through Congress in December 2017, which took effect on January 1, 2018.  Hence it applied over three of the four quarters in FY2018, and for all of FY2019.

An increase in government spending is also now leading, in FY2019, to a widening of the deficit.  Again, one needs to define a counterfactual for the comparison.  For this I assumed that government spending during Trump’s term in office so far would have grown at the same rate as it had during Obama’s eight years in office (the rate of increase from FY2008 to 16).  That rate of increase during Obama’s two terms was 3.2% a year (in nominal terms), and was substantially less than during Bush’s two terms (which was a 6.6% rate of growth per year).

The rate of growth in government spending in the first two years of Trump’s term (FY2017 and 2018) then almost exactly matched the rate of growth under Obama.  But this has now changed sharply in FY19, with government spending expected to jump by 8.0% in just one year.

The fiscal deficit is then the difference, as noted above, between the two curves for spending and revenues.  Its change over time may be clearer in a chart of just the deficit itself:

The curve in black shows what the deficit has been, and what is expected for FY2019.  The deficit narrowed to $442 billion in FY2015, and then started to widen.  Primarily due to flat tax revenues in FY2016 (spending was following the path it had been following before, after several years of suppression), the deficit grew in FY2016.  And it then continued to grow until at least through FY2019.  The curve in red shows what the deficit would have been had government spending continued to grow under Trump at the pace it had under Obama.  This would have made essentially no difference in FY2017 and FY2018, but would have reduced the deficit in FY2019 from the expected $1,075 billion to $877 billion instead.  Not a small deficit by any means, but not as high.

But more important has been the contribution to the higher deficit from tax cuts.  The combined effect is shown in the curve in blue in the chart.  The deficit would have stabilized and in fact reduced by a bit.  For FY2019, the deficit would have been $528 billion, or a reasonable 2.5% of GDP.  Instead, at an expected $1,075 billion, it will be over twice as high.  And it is a consequence of Trump’s policies.

B.  Have the Tax Cuts Led to Higher Growth?

The Trump administration claimed that the tax cuts (and specifically the major cuts passed in December 2017) would lead to such a more rapid pace of GDP growth that they would “pay for themselves”.  This clearly has not happened – tax revenues have fallen in real terms (they were flat in nominal terms).  But a less extreme argument was that the tax cuts, and in particular the extremely sharp cut in corporate profit taxes, would lead to a spurt of new corporate investment in equipment, which would raise productivity and hence GDP.  See, for example, the analysis issued by the White House Council of Economic Advisors in October 2017.

But this has not happened either.  Growth in private investment in equipment has in fact declined since the first quarter of 2018 (when the law went into effect):

The curve in blue shows the quarter to quarter changes (at an annual rate), while the curve in red smooths this out by showing the change over the same quarter of a year earlier.  There is a good deal of volatility in the quarter to quarter figures, while the year on year changes show perhaps some trends that last perhaps two years or so, but with no evidence that the tax cut led to a spurt in such investment.  The growth has in fact slowed.

Such investment is in fact driven largely by more fundamental factors, not by taxes.  There was a sharp fall in 2008 as a result of the broad economic and financial collapse at the end of the Bush administration, it then bounced back in 2009/10, and has fluctuated since driven by various industry factors.  For example, oil prices as well as agricultural prices both fell sharply in 2015, and the NIPA accounts indicate that equipment investment in just these two sectors reduced private investment in equipment by more than 2% points from what the total would have been in 2015.  This continued into 2016, with a reduction of a further 1.3% points.  What matters are the fundamentals.  Taxes are secondary, at best.

What about GDP itself?:

Here again there is quarter to quarter volatility, but no evidence that the tax cuts have spurred GDP growth.  Over the past three years, real GDP growth on a quarter to quarter basis peaked in the fourth quarter of 2017, before the tax cuts went into effect, and has declined modestly since then.  And that peak in the fourth quarter of 2017 was not anything special:  GDP grew at a substantially faster pace in the second and third quarters of 2014, and the year on year rate in early 2015 was higher than anything reached in 2017-19.  Rather, what we see in real GDP growth since late 2009 is significant quarter to quarter volatility, but around an average pace of about 2.3% a year.  There is no evidence that the late 2017 tax cut has raised this.

The argument that tax cuts will spur private investment, and hence productivity and hence GDP, is a supply-side argument.  There is no evidence in the numbers to support this.  But there may also be a demand-side argument, which is basically Keynesian.  The argument would be that tax cuts lead to higher (after-tax) incomes, and that these higher incomes led to higher consumption expenditures by households.  There might be some basis to this, to the extent that a portion of the tax cuts went to low and middle-income households who will spend more upon receiving it.  But since the tax cut law passed in December 2017 went primarily to the rich, whose consumption is not constrained by their current income flows (they save the excess), the impact of the tax cuts on household consumption would be weak.  It still, however, might be something.

But this still did not lead to a more rapid pace of GDP growth, as we saw above.  Why?  One needs to recognize that GDP is a measure of production in the domestic economy (GDP is Gross Domestic Product), and not of demand.  GDP is commonly measured by adding up the components of demand, with any increase or decrease in the stock of inventories then added (or subtracted, if negative) to tell us what production must have been.  But this is being done because the data is better (and more quickly available) for the components of GDP demand.  One must not forget that GDP is still an estimate of production, and not of total domestic demand.

And what the economy can produce when at full employment is constrained by whatever capacity was at that point in time.  The rate of unemployment has fallen steadily since hitting its peak in 2009 during the downturn:

Aside from the “squiggles” in these monthly figures (the data are obtained from household surveys, and will be noisy), unemployment fell at a remarkably steady pace since 2009.  One can also not discern any sharp change in that pace before and after January 2017, when Trump took office.  But the rate of unemployment is now leveling off, as it must, since there will always be some degree of frictional unemployment when an economy is at “full employment”.

With the economy at full employment, growth will now be constrained by the pace of growth of the labor force (about 0.5% a year) plus the growth in productivity of the average labor force member (which analysts, such as at the Congressional Budget Office, put at about 1.5% a year in the long term, and a bit less over the next decade).  That is, growth in GDP capacity will be 2% a year, or less, on average.

In such situations, Keynesian demand expansion will not raise the growth in GDP beyond that 2% rate.  There will of course be quarter to quarter fluctuations (GDP growth estimates are volatile), but on average over time, one should not expect growth in excess of this.

But growth can be less.  In a downturn, such as that suffered in 2008/09, GDP growth can drop well below capacity.  Unemployment soars, and Keynesian demand stimulus is needed to stabilize the economy and return it to a growth path.  Tax cuts (when focused on low and middle income households) can be stimulative.  But especially stimulative in such circumstances is direct government spending, as such spending leads directly to people being hired and put to work.

Thus the expansion in government spending in 2008/09 (see the chart at the top of this post) was exactly what was needed in those circumstances.  The mistake then was to hold government spending flat in nominal terms (and hence falling in real terms) between 2009 and 2014, even though unemployment, while falling, was still relatively high.  That cut-back in government spending was unprecedented in a period of recovery from a downturn (over at least the past half-century in the US).  And an earlier post on this blog estimated that had government spending been allowed to increase at the same pace as it had under Reagan following the 1982 downturn, the US economy would have fully recovered by 2012.

But the economy is now at full employment.  In these circumstances, extra demand stimulus will not increase production (as production is limited by capacity), but will rather spill over into a drawdown in inventories (in the short term, but there is only so much in inventories that one can draw down) or an increase in the trade deficit (more imports to satisfy the domestic demand, or exports diverted to meet the domestic demand).  One saw this in the initial estimates for the GDP figures for the second quarter of 2019.  GDP is estimated to have grown at a 2.1% rate.  But the domestic final demand components grew at a pace that, by themselves, would have accounted for a 3.6% point increase in GDP.  The difference was accounted for by a drawdown in inventories (accounting for 0.7% points of GDP) and an increase in the trade deficit (accounting for a further reduction of 0.8% points of GDP).  But these are just one quarter of figures, they are volatile, and it remains to be seen whether this will continue.

It is conceivable that domestic demand might fall back to grow in line with capacity.  But this then brings up what should be considered the second arm of Trump’s Keynesian stimulus program.  While tax cuts led to growing deficits in FY2017 and 18, we are now seeing in FY2019, in addition to the tax cuts, an extraordinary growth in government spending.  Based on US Treasury forecasts for FY2019 (as adjusted above), federal government spending this fiscal year is expected to grow by 8.0%.  This will add to domestic demand growth.  And there has not been such growth in government spending during a time of full employment since George H. W. Bush was president.

C.  The Impact of the Bipartisan Budget Act of 2019

Just before leaving for its summer recess, the House and the Senate in late July both passed an important bill setting the budget parameters for fiscal years 2020 and 2021.  Trump signed it into law on August 2.  It was needed as, under the budget sequester process forced on Obama in 2011, there would have otherwise been sharp cutbacks in the discretionary budgets for what government is allowed to spend (other than for programs such as Social Security or Medicare, where spending follows the terms of the programs as established, or for what is spent on interest on the public debt).  The sequesters would have set sharp cuts in government spending in fiscal years 2020 and 2021, and if allowed, such sudden cuts could have pushed the US economy into a recession.

The impact is clear on a chart:

The figures are derived from the Congressional Budget Office analysis of the impact on government spending from the lifting of the caps.  Without the change in the spending caps, discretionary spending would have been sharply reduced.  At the new caps, spending will increase at a similar pace as it had before.

Note the sharp contrast with the cut-backs in discretionary budget outlays from FY2011 to FY2015.  Unemployment was high then, and the economy struggled to recover from the 2008/09 downturn while confronting these contractionary headwinds.  But the economy is now at full employment, and the extra stimulus on demand from such spending will not, in itself and in the near term, lead to an increase in capacity, and hence not lead to a faster rate of growth than what we have seen in recent years.

But I should hasten to add that lifting the spending caps was not a mistake.  Government spending has been kept too limited for too long – there are urgent public needs (just look at the condition of our roads).  And a sharp and sudden cut in spending could have pushed the economy into a recession, as noted above.

More fundamentally, keeping up a “high pressure” economy is not necessarily a mistake.  One will of course need to monitor what is happening to inventories and the trade deficit, but the pressure on the labor market from a low unemployment rate has been bringing into the labor force workers who had previously been marginalized out of it.  And while there is little evidence as yet that it has spurred higher wages, continued pressure to secure workers should at some point lead to this.  What one does not want would be to reach the point where this leads to higher inflation.  But there is no evidence that we are near that now.  Indeed, the Fed decided on July 31 to reduce interest rates (for the first time since 2008, in part out of concern that inflation has been too low.

D.  Summary, Implications, and Conclusion

Trump campaigned on the promise that he would bring down the government deficit – indeed bring it down to zero.  The opposite has happened.  The deficit has grown sharply, and is expected to reach over $1 trillion this fiscal year, or over 5% of GDP.  This is unprecedented in the US in a time of full employment, other than during World War II.

The increase in the deficit is primarily due to the tax cuts he championed, supplemented (in FY2019) by a sharp rise in government spending.  Without such tax cuts, and with government spending growth the same as it had been under Obama, the deficit in FY2019 would have been $530 billion.  It is instead forecast to be double that (a forecast $1.075 trillion).

The tax cuts were justified by the administration by arguing that they would spur investment and hence growth.  That has not happened.  Growth in private investment in equipment has slowed since the major tax cuts of December 2017 were passed.  So has the pace of GDP growth.

This should not be surprising.  Taxes have at best a marginal effect on investment decisions.  The decision to invest is driven primarily by more fundamental considerations, including whether the extra capacity is needed given demand for the products, by the technologies available, and so on.

But tax cuts (to the extent they go to low and middle income households), and even more so direct government spending, can spur demand in the economy.  At times of less than full employment, this can lead to a higher GDP in standard Keynesian fashion.  But when the economy is at full employment, the constraint is not aggregate demand but rather production capacity.  And that is set by the available labor force and how much each worker can produce (their productivity).  The economy can then grow only as fast as the labor force and productivity grow, and most estimates put that at about 2% or less per year in the US right now.

The spur to demand can, however, act to keep the economy from falling back into a recession.  With the chaos being created in the markets by the trade wars Trump has launched, this is not a small consideration.  Indeed, the Fed, in announcing its July 31 cut in interest rates, indicated that in addition to inflation tracking below its target rate of 2%, concerns regarding “global developments” (interpreted as especially trade issues) was a factor in making the cut.

There are also advantages to keeping high pressure on the labor markets, as it draws in labor that was previously marginalized, and should at some point lead to higher wages.  As long as inflation remains modest (and as noted, it is currently below what the Fed considers desirable), all this sounds like a good situation.  The fiscal policies are therefore providing support to help ensure the economy does not fall back into recession despite the chaos of the trade wars and other concerns, while keeping positive pressure in the labor markets.  Trump should certainly thank Nancy Pelosi for the increases in the government spending caps under the recently approved budget agreement, as this will provide significant, and possibly critical, support to the economy in the period leading up to the 2020 election.

So what is there not to like?

The high fiscal deficit at a time of full employment is not to like.  As noted above, a fiscal deficit of more than 5% of GDP during a time of full employment is unprecedented (other than during World War II).  Unemployment was similarly low in the final few years of the Clinton presidency, but the economy then had fiscal surpluses (reaching 2.3% of GDP in FY2000) as well as a public debt that was falling in dollar amount (and even more so as a share of GDP).

The problem with a fiscal deficit of 5% of GDP with the economy at full employment is that when the economy next goes into a recession (and there eventually always has been a recession), the fiscal deficit will rise (and will need to rise) from this already high base.  The fiscal deficit rose by close to 9 percentage points of GDP between FY2007 and FY2009.  A similar economic downturn starting from a base where the deficit is already 5% of GDP would thus raise the fiscal deficit to 14% of GDP.   And that would certainly lead conservatives to argue, as they did in 2009, that the nation cannot respond to the economic downturn with the increase in government spending that would be required to stabilize and then bring down unemployment.

Is a recession imminent?  No one really knows, but the current economic expansion, that began five months after Obama took office, is now the longest on record in the US – 121 months as of July.  It has just beaten the 120 month expansion during the 1990s, mostly when Clinton was in office.  Of more concern to many analysts is that long-term interest rates (such as on 10-year US Treasury bonds) are now lower than short-term interest rates on otherwise similar US Treasury obligations.  This is termed an “inverted yield curve”, as the yield curve (a plot of interest rates against the term of the bond) will normally be upward sloping.  Longer-term loans normally have to pay a higher interest rate than shorter ones.  But right now, 10-year US Treasury bonds are being sold in the market at a lower interest rate than the interest rate demanded on short-term obligations.  This only makes sense if those in the market expect a downturn (forcing a reduction in interest rates) at some point in the next few years.

The concern is that in every single one of the seven economic recessions since the mid-1960s, the yield curve became inverted prior to that downturn.  While this was typically two or three years before the downturn (and in the case leading up to the 1970 recession, about four years before), in no case was there an inverted yield curve without a subsequent downturn within that time frame.  Some argue that “this time is different”, and perhaps it will be.  But an inverted yield curve has been 100% accurate so far in predicting an imminent recession.

The extremely high fiscal deficit under Trump at a time of full employment is therefore leaving the US economy vulnerable when the next recession occurs.  And a growing public debt (it will reach $16.8 trillion, or 79% of GDP, by September 30 of this year, in terms of debt held by the public) cannot keep growing forever.

What then to do?  A sharp cut in government spending might well bring on the downturn that we are seeking to avoid.  Plus government spending is critically needed in a range of areas.  But raising taxes, and specifically raising taxes on the well-off who benefited disproportionately in the series of tax cuts by Reagan, Bush II, and then Trump, would have the effect of raising revenue without causing a contractionary impulse.  The well-off are not constrained in what they spend on consumption by their incomes – they consume what they wish and save the residual.

The impact on the deficit and hence on the debt could also be significant.  While now a bit dated, an analysis on this blog from September 2013 (using Congressional Budget Office figures) found that simply reversing in full the Bush tax cuts of 2001 and 2003 would lead the public debt to GDP ratio to fall and fall sharply (by about half in 25 years).  The Trump tax cuts of December 2017 have now made things worse, but a good first step would be to reverse these.

It was the Bush and now Trump tax cuts that have put the fiscal accounts on an unsustainable trajectory.  As was noted above, the fiscal accounts were in surplus at the end of the Clinton administration.  But we now have a large and unprecedented deficit even when the economy is at full employment.  In a situation like this, one would think it should be clear to acknowledge the mistake, and revert to what had worked well before.

Managing the fiscal accounts in a responsible way is certainly possible.  But they have been terribly mismanaged by this administration.

The Economy Under Trump in 8 Charts – Mostly as Under Obama, Except Now With a Sharp Rise in the Government Deficit

A.  Introduction

President Trump is repeatedly asserting that the economy under his presidency (in contrast to that of his predecessor) is booming, with economic growth and jobs numbers that are unprecedented, and all a sign of his superb management skills.  The economy is indeed doing well, from a short-term perspective.  Growth has been good and unemployment is low.  But this is just a continuation of the trends that had been underway for most of Obama’s two terms in office (subsequent to his initial stabilization of an economy, that was in freefall as he entered office).

However, and importantly, the recent growth and jobs numbers are only being achieved with a high and rising fiscal deficit.  Federal government spending is now growing (in contrast to sharp cuts between 2010 and 2014, after which it was kept largely flat until mid-2017), while taxes (especially for the rich and for corporations) have been cut.  This has led to standard Keynesian stimulus, helping to keep growth up, but at precisely the wrong time.  Such stimulus was needed between 2010 and 2014, when unemployment was still high and declining only slowly.  Imagine what could have been done then to re-build our infrastructure, employing workers (and equipment) that were instead idle.

But now, with the economy at full employment, such policy instead has to be met with the Fed raising interest rates.  And with rising government expenditures and falling tax revenues, the result has been a rise in the fiscal deficit to a level that is unprecedented for the US at a time when the country is not at war and the economy is at or close to full employment.  One sees the impact especially clearly in the amounts the US Treasury has to borrow on the market to cover the deficit.  It has soared in 2018.

This blog post will look at these developments, tracing developments from 2008 (the year before Obama took office) to what the most recent data allow.  With this context, one can see what has been special, or not, under Trump.

First a note on sources:  Figures on real GDP, on foreign trade, and on government expenditures, are from the National Income and Product Accounts (NIPA) produced by the Bureau of Economic Analysis (BEA) of the Department of Commerce.  Figures on employment and unemployment are from the Bureau of Labor Statistics (BLS) of the Department of Labor.  Figures on the federal budget deficit are from the Congressional Budget Office (CBO).  And figures on government borrowing are from the US Treasury.

B.  The Growth in GDP and in the Number Employed, and the Unemployment Rate

First, what has happened to overall output, and to jobs?  The chart at the top of this post shows the growth of real GDP, presented in terms of growth over the same period one year before (in order to even out the normal quarterly fluctuations).  GDP was collapsing when Obama took office in January 2009.  He was then able to turn this around quickly, with positive quarterly growth returning in mid-2009, and by mid-2010 GDP was growing at a pace of over 3% (in terms of growth over the year-earlier period).  It then fluctuated within a range from about 1% to almost 4% for the remainder of his term in office.  It would have been higher had the Republican Congress not forced cuts in fiscal expenditures despite the continued unemployment.  But growth still averaged 2.2% per annum in real terms from mid-2009 to end-2016, despite those cuts.

GDP growth under Trump hit 3.0% (over the same period one year before) in the third quarter of 2018.  This is good.  And it is the best such growth since … 2015.  That is not really so special.

Net job growth has followed the same basic path as GDP:

 

Jobs were collapsing when Obama took office, he was quickly able to stabilize this with the stimulus package and other measures (especially by the Fed), and job growth resumed.  By late 2011, net job growth (in terms of rolling 12-month totals (which is the same as the increase over what jobs were one year before) was over 2 million per year.  It went to as high as 3 million by early 2015.  Under Trump, it hit 2 1/2 million by September 2018.  This is pretty good, especially with the economy now at or close to full employment.  And it is the best since … January 2017, the month Obama left office.

Finally, the unemployment rate:

Unemployment was rising rapidly as Obama was inaugurated, and hit 10% in late 2009.  It then fell, and at a remarkably steady pace.  It could have fallen faster had government spending not been cut back, but nonetheless it was falling.  And this has continued under Trump.  While commendable, it is not a miracle.

C.  Foreign Trade

Trump has also launched a trade war.  Starting in late 2017, high tariffs were imposed on imports of certain foreign-produced products, with such tariffs then raised and extended to other products when foreign countries responded (as one would expect) with tariffs of their own on selected US products.  Trump claims his new tariffs will reduce the US trade deficit.  As discussed in an earlier blog post, such a belief reflects a fundamental misunderstanding of how the trade balance is determined.

But what do we see in the data?:

The trade deficit has not been reduced – it has grown in 2018.  While it might appear there had been some recovery (reduction in the deficit) in the second quarter of the year, this was due to special factors.  Exports primarily of soybeans and corn to China (but also other products, and to other countries where new tariffs were anticipated) were rushed out in that quarter in order arrive before retaliatory tariffs were imposed (which they were – in July 2018 in the case of China).  But this was simply a bringing forward of products that, under normal conditions, would have been exported later.  And as one sees, the trade balance returned to its previous path in the third quarter.

The growing trade imbalance is a concern.  For 2018, it is on course for reaching 5% of GDP (when measured in constant prices of 2012).  But as was discussed in the earlier blog post on the determination of the trade balance, it is not tariffs which determine what that overall balance will be for the economy.  Rather, it is basic macro factors (the balance between domestic savings and domestic investment) that determine what the overall trade balance will be.  Tariffs may affect the pattern of trade (shifting imports and exports from one country to another), but they won’t reduce the overall deficit unless the domestic savings/investment balance is changed.  And tariffs have little effect on that balance.

And while the trend of a growing trade imbalance since Trump took office is a continuation of the trend seen in the years before, when Obama was president, there is a key difference.  Under Obama, the trade deficit did increase (become more negative), especially from its lowest point in the middle of 2009.  But this increase in the deficit was not driven by higher government spending – government spending on goods and services (both as a share of GDP and in constant dollar terms) actually fell.  That is, government savings rose (dissavings was reduced, as there was a deficit).  Private domestic savings was also largely unchanged (as a share of GDP).  Rather, what drove the higher trade deficit during Obama’s term was the recovery in private investment from the low point it had reached in the 2008/09 recession.

The situation under Trump is different.  Government spending is now growing, as is the government deficit, and this is driving the trade deficit higher.  We will discuss this next.

D.  Government Accounts

An increase in government spending is needed in an economic downturn to sustain demand so that unemployment will be reduced (or at least not rise by as much otherwise).  Thus government spending was allowed to rise in 2008, in the last year of the Bush administration, in response to the downturn that began in December 2007.  This continued, and was indeed accelerated, as part of the stimulus program passed by Congress soon after Obama took office.  But federal government spending on goods and services peaked in mid-2010, and after that fell.  The Republican Congress forced further expenditure cuts, and by late 2013 the federal government was spending less (in real terms) than it was in early 2008:

This was foolish.  Unemployment was over 9 1/2% in mid-2010, and still over 6 1/2% in late-2013 (see the chart of the unemployment rate above).  And while the unemployment rate did fall over this period, there was justified criticism that the pace of recovery was slow.  The cuts in government spending during this period acted as a major drag on the economy, holding back the pace of recovery.  Never before had a US administration done this in the period after a downturn (at least not in the last half-century where I have examined the data).  Government spending grew especially rapidly under Reagan following the 1981/82 downturn.

Federal government spending on goods and services was then essentially flat in real terms from late 2013 to the end of Obama’s term in office.  And this more or less continued through FY2017 (the last budget of Obama), i.e. through the third quarter of CY2018.  But then, in the fourth quarter of CY2017 (the first quarter of FY2018, as the fiscal year runs from October to September), in the first full budget under Trump, federal government spending started to rise sharply.  See the chart above.  And this has continued.

There are certainly high priority government spending needs.  But the sequencing has been terribly mismanaged.  Higher government spending (e.g. to repair our public infrastructure) could have been carried out when unemployment was still high.  Utilizing idle resources, one would not only have put people to work, but also would have done this at little cost to the overall economy.  The workers were unemployed otherwise.

But higher government spending now, when unemployment is low, means that workers hired for government-funded projects have to be drawn from other activities.  While the unemployment rate can be squeezed downward some, and has been, there is a limit to how far this can go.  And since we are close to that limit, the Fed is raising interest rates in order to curtail other spending.

One sees this in the numbers.  Overall private fixed investment fell at an annual rate of 0.3% in the third quarter of 2018 (based on the initial estimates released by the BEA in late October), led by a 7.9% fall in business investment in structures (offices, etc.) and by a 4.0% fall in residential investment (homes).  While these are figures only for one quarter (there was a deceleration in the second quarter, but not an absolute fall), and can be expected to eventually change (with the economy growing, investment will at some point need to rise to catch up), the direction so far is worrisome.

And note also that this fall in the pace of investment has happened despite the huge cuts in corporate taxes from the start of this year.  Trump officials and Republicans in Congress asserted that the cuts in taxes on corporate profits would lead to a surge in investment.  Many economists (including myself, in the post cited above) noted that there was little reason to believe such tax cuts would sput corporate investment.  Such investment in the US is not now constrained by a lack of available cash to the corporations, so giving them more cash is not going to make much of a difference.  Rather, that windfall would instead lead corporations to increase dividends as well as share buybacks in order to distribute the excess cash to their shareholders.  And that is indeed what has happened, with share buybacks hitting record levels this year.

Returning to government spending, for the overall impact on the economy one should also examine such spending at the state and local level, in addition to the federal.  The picture is largely similar:

This mostly follows the same pattern as seen above for federal government spending on goods and services, with the exception that there was an increase in total government spending from early 2014 to early-2016, when federal spending was largely flat.  This may explain, in part, the relatively better growth in GDP seen over that period (see the chart at the top of this post), and then the slower pace in 2016 as all spending leveled off.

But then, starting in late-2017, total government expenditures on goods and services started to rise.  It was, however, largely driven by the federal government component.  Even though federal government spending accounted only for a bit over one-third (38%) of total government spending on goods and services in the quarter when Trump took office, almost two-thirds (65%) of the increase in government spending since then was due to higher spending by the federal government.  All this is classical Keynesian stimulus, but at a time when the economy is close to full employment.

So far we have focused on government spending on goods and services, as that is the component of government spending which enters directly as a component of GDP spending.  It is also the component of the government accounts which will in general have the largest multiplier effect on GDP.  But to arrive at the overall fiscal deficit, one must also take into account government spending on transfers (such as for Social Security), as well as tax revenues.  For these, and for the overall deficit, it is best to move to fiscal year numbers, where the Congressional Budget Office (CBO) provides the most easily accessible and up-to-date figures.

Tracing the overall federal fiscal deficit, now by fiscal year and in nominal dollar terms, one finds:

The deficit is now growing (the fiscal balance is becoming more negative) and indeed has been since FY2016.  What happened in FY2016?  Primarily there was a sharp reduction in the pace of tax revenues being collected.  And this has continued through FY2018, spurred further by the major tax cut bill of December 2017.  Taxes had been rising, along with the economic recovery, increasing by an average of $217 billion per year between FY2010 and FY2015 (calculated from CBO figures), but this then decelerated to a pace of just $26 billion per year between FY2015 and FY2018, and just $13 billion in FY2018.  The rate of growth in taxes between FY2015 and FY2018 was just 0.8%, or less even than just inflation.

Federal government spending, including on transfers, also rose over this period, but by less than taxes fell.  Overall federal government spending rose by an average of just $46 billion per year between FY2010 and FY2015 (a rate of growth of 1.3% per annum, or less than inflation in those years), and then by $140 billion per year (in nominal dollar terms) between FY2015 and FY2018.  But this step up in overall spending (of $94 billion per year) was well less than the step down in the pace of tax collection (a reduction of $191 billion per year, the difference between $217 billion annual growth over FY2010-15 and the $26 billion annual growth over FY2015-18).

That is, about two-thirds (67%) of the increase in the fiscal deficit since FY2015 can be attributed to taxes being cut, and just one-third (33%) to spending going up.

Looking forward, this is expected to get far worse.  As was discussed in an earlier post on this blog, the CBO is forecasting (in their most recent forecast, from April 2018) that the fiscal deficits under Trump will reach close to $1 trillion in FY2019, and will exceed 5% of GDP for most of the 2020s.  This is unprecedented for the US economy at full employment, other than during World War II.  Furthermore, these CBO forecasts are under the optimistic scenario that there will be no economic downturn over this period.  But that has never happened before in the US.

Deficits need to be funded by borrowing.  And one sees an especially sharp jump in the net amount being borrowed in the markets in CY 2018:

 

These figures are for calendar years, and the number for 2018 includes what the US Treasury announced on October 29 it expects to borrow in the fourth quarter.  Note this borrowing is what the Treasury does in the regular, commercial, markets, and is a net figure (i.e. new borrowing less repayment of debt coming due).  It comes after whatever the net impact of public trust fund operations (such as for the Social Security Trust Fund) is on Treasury funding needs.

The turnaround in 2018 is stark.  The US Treasury now expects to borrow in the financial markets, net, a total of $1,338 billion in 2018, up from $546 billion in 2017.  And this is at time of low unemployment, in sharp contrast to 2008 to 2010, when the economy had fallen into the worst economic downturn since the Great Depression  Tax revenues were then low (incomes were low) while spending needed to be kept up.  The last time unemployment was low and similar to what it is now, in the late-1990s during the Clinton administration, the fiscal accounts were in surplus.  They are far from that now. 

E. Conclusion 

The economy has continued to grow since Trump took office, with GDP and employment rising and unemployment falling.  This has been at rates much the same as we saw under Obama.  There is, however, one big difference.  Fiscal deficits are now rising rapidly.  Such deficits are unprecedented for the US at a time when unemployment is low.  And the deficits have led to a sharp jump in Treasury borrowing needs.

These deficits are forecast to get worse in the coming years even if the economy should remain at full employment.  Yet there will eventually be a downturn.  There always has been.  And when that happens, deficits will jump even further, as taxes will fall in a downturn while spending needs will rise.

Other countries have tried such populist economic policies as Trump is now following, when despite high fiscal deficits at a time of full employment, taxes are cut while government spending is raised.  They have always, in the end, led to disasters.