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An Analysis of Health Spending Growth Determinants

By May 13, 2014Commentary

An economist from the Federal Reserve Board authors a research paper on health spending growth, sponsored by the Engelberg Center for Health Care Reform at the Brookings Institution.  (Brookings Paper)  The paper is very thoughtful and attempts to understand what drives health spending growth, a question of some great national significance.  While we had been in a period of slower growth, although still above GDP increases, very recent evidence suggests a rapid uptick in that growth may be occurring.  The basic facts are well-known, health spending has gone from 5% of GDP in 1960 to over 17% today.  This impacts federal and state budgets and affects workers’ take-home pay.  Some economists have suggested that factors such as income growth, medical price inflation, demographics and changes in insurance coverage had some role, but that the growth of technology was a primary determinant.  Other economists have noted that technology is likely only affordable as GDP and incomes grow and as health plans picked up more of the costs.  Despite the recent growth of high-deductible plans, out-of-pocket spending for health services by consumers has declined dramatically, from 56% of total spending in 1960 to 14% in 2012.    This means that public spending on health has grown and continues to grow very rapidly, now accounting for over half of all health care costs, and that workers have seen more of their total compensation go to insurance coverage, both directly in premium sharing and in foregone wages.  As the paper points out, there is an inevitable limit to this phenomenon of willingness to pay ever more money for health care.

The paper finds that medical price inflation has also been a contributor to the spending growth.  Labor prices are the largest component of input costs to health services and average compensation to health workers has risen significantly faster than that of other workers over the last few decades.  The paper then examines the role of the general economy in regard to health spending, a subject in much debate currently regarding whether it is the last recession that was the primary cause of the concurrent slowdown in health spending.  It appears from the analysis in the paper that health spending lags broader economic trends, potentially by a few years, but is correlate with them.  For example, health spending seems to continue to grow rapidly in recession years, but subsequently fades, even as the economy may be recovering.  Some have suggested this may be people hastening to get health services before they lose a job and associated health plan benefits.  And a few years after the economy has recovered, health spending accelerates.  We may be seeing this exact pattern now, as spending become subdued after the worst of the recession, but now may be picking up.  And different payers may see different effects, with private insurance seeming to have about a four-year lag to GDP trends and Medicare and Medicaid having longer lags in response.  The author warns that it would likely be a mistake to assume current slower growth rates will persist.

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