In Massachusetts We Trust

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watch a minute or so of this clip.

From a labor-market perspective, the Affordable Care Act has little in common with the 2006 health reform law implemented in Massachusetts.

Some employers are complaining about the $2,000 per-employee-per-year penalty they will pay beginning next year when the main provisions of the Affordable Care Act go into effect. The Congressional Budget Office also warned about the astonishing increase in marginal tax rates that middle-income Americans will experience, because the additional income earned by a family will be considered by the Internal Revenue Service as available for additional health insurance payments.

One might guess that large changes like these would shock the nation’s labor markets, especially the markets for less-skilled workers for whom $2,000 is a significant sum, not to mention the costs of health insurance.

The United States Department of Health and Human Services rejects these concerns, saying that the experience in Massachusetts suggests “that the health care law will improve the affordability and accessibility of health care without significantly affecting the labor market,” The Washington Examiner reported. The Urban Institute also thinks the Massachusetts results will accurately model the national market.

If there were another country or region that had already tried the federal Affordable Care Act, we would learn a lot from the results, regardless of how much business people might be complaining. However, even though the Affordable Care Act and the Massachusetts law are both forms of “health reform,” and both seek to reduce the number of people without health insurance, they are quite different in terms of the labor-market incentives they create.

One of several unique features of the Massachusetts law is that it attempts to leverage the exclusion of employer-provided health insurance from federal personal income tax for the purpose of getting insurance to the previously uninsured. The law encouraged employers to set up a “125 plan” that allows employees to use their own pretax dollars to buy health insurance.

Under a 125 plan, an employer need not pay for employee health insurance: the employer only assists a bit in the administration of the premium payments and withholding. The premium payments themselves come from employee paychecks. And the 125 plans are for employees (who may buy insurance on behalf of their families), not for people without jobs.

Even before the law was passed, Massachusetts employers typically offered some kind of health insurance plan to employees. The state law pushed a significant fraction of the remaining few to try the 125 approach by threatening to bill noncompliant employers for the uncompensated care their employees received around the state, a penalty known as the “free-rider surcharge.” So far, studies have found that enough employers took on 125 plans that ultimately no employers were liable for the surcharge.

In contrast, the federal Affordable Care Act attempts to nudge the national labor market away from the federal tax exclusion for employer-provided insurance by offering large subsidies only to people who are not part of an employer plan, including people who are not employed. The act also passes judgment on the affordability of employer plans and penalizes employers who offer “unaffordable” plans and then have employees who receive the subsidies. The federal penalties can reach $3,000 per employee and are not deductible from business taxes.

As long as they do something like the 125 plan to help their employees use the federal tax exclusion, Massachusetts employers are only nominally responsible for the “affordability” of health insurance or for failures of their employees to take advantage of the plan offered. The Massachusetts penalty is only $295 per employee-year (as far as I can tell, it is business tax-deductible, which makes the $295 less than one-tenth of the federal penalty); it can be avoided by an employer that makes nominal contributions to its employees’ premiums and induces enough employees to participate.

Perhaps it’s wise for the Affordable Care Act to push in a different direction than Massachusetts did, because many economists think the federal personal income tax exclusion promotes health care inefficiencies and diverts much-needed revenue from the United States Treasury.

But that wisdom doesn’t change the fact that the federal law will put very different pressures on employers and employees than the Massachusetts law does. It would be unwise to assume that next year’s national labor market will follow the patterns that the labor market in Massachusetts experienced after 2006.

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More differences will be noted in future posts. Take a look at these, especially the video debate linked from the second one.

Does Massachusetts Predict Employer Behavior Under Obamacare? Probably Not: Part 1

Part 2: Does Massachusetts Predict Employer Behavior Under Obamacare? Probably Not

Wages, Taxes, and Employer Penalties

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The cost to workers of the Affordable Care Act’s employer responsibility penalties is greater than you think, because of their business tax treatment.

Most low-skill workers are not offered health insurance by their employers, and those employers have been complaining about the $2,000-per-employee annual penalty they will pay beginning next year ($3,000 per employee who resorts to a subsidized exchange when insurance offered by the employer is deemed unaffordable to the worker).

Next year will not be the first time that employers had to pay taxes based on the number of employees they have. For example, they have been paying payroll taxes that amount to almost $2,000 per year for an employee with a $25,000 salary.

Employer payroll taxes have been extensively studied, and economists have concluded that employees ultimately pay for those taxes in the form of lower wages.

Thus you might think that the new $2,000 penalty would reduce wages by about $2,000 per employee per year. But unlike employer payroll taxes, the employer responsibility levies are not deductible from employer business taxes (see page 74 of this I.R.S. document). To have the same after-tax profit, an employer in the 39 percent bracket (a typical state-plus-federal bracket for corporations) would have to cut wages by $3,046.

An employer paying the $3,000 penalty would have to cut wages by $4,569. That would push someone working full-time at $10 per hour down to minimum wage.

Some good news for the employees who want health insurance: the employer penalties come with employee access to large federal subsidies for purchasing health insurance and paying out-of-pocket health expenses, unless you are in a family that is 400 percent or more above the poverty line.

Not all employers have to pay the penalties, and more good news for employees is that both types of employers will compete with each other in the market for labor, which might prevent penalty-paying employers from passing on the full cost to their employees.

Testimony on Work Incentives, the Recovery Act, and the Economy

Overview (about 5.5 minutes)
Do Transfers Stimulate the Economy? (about 2.5 minutes) Politically Incorrect (about 3 minutes) Will the ACA affect employment? (about 2 minutes) Unemployment isn't fun (about 1 minute) What are the effects of payroll subsidies? (less than one minute) Written testimony here.

Wow! Astonishing Incongruence with Conventional Wisdom

The videos were under oath.

"In late 2009 when we began to see some glimmer of hiring returning to the economy; however, we were hit head on with a hurdle we did not anticipate. We had applicants applying for jobs, but only to protect their status for unemployment insurance."
Stacey G. Reece, Spherion Staffing and Professional Recruiting [emphasis in original].

"Our experience would say that 8 out of 10 people on unemployment or other benefit programs will utilize those benefits as much as possible to avoid working. We have interviewed and offered people jobs on various benefits and we often hear:

'I have x number of weeks left on unemployment, I’m going to ride it out then look for a job.'

'I think there will be an extension to unemployment and I won’t need to look for a job.'

'I’ve been on unemployment for 2 years and it runs out in a couple of weeks. Do you have any openings?'

'The starting/training wage for this job is less than what I make on unemployment. I’ll stick with unemployment until it runs out.'

... our local employers are exceeding frustrated.  We struggle to successfully run our companies continually short-handed."

Andrea L. Carter. President Hydranamics, Inc., single-quoted text are statements by applicants for her Ohio manufacturing positions. [read more here]

The Incomes of Physicians

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Laws that govern training and licensing of physicians influence their incomes at least as much as health care demand does.

Medical doctors are a critical part of the supply of health services and their incomes are an important determinant of health care costs.

While a desire to help people motivates men and women to become physicians and go to work every day, that desire has existed for centuries and will continue to exist in the future and thereby is not the primary variable that causes physicians’ incomes to fluctuate over time.

By law, physicians are educated people, the types of people who would have earned college degrees, if not advanced degrees, even if they had never become doctors. For this reason, the incomes of physicians depend on the supply-and-demand factors determining the incomes of college graduates generally, such as technological change and the emergence of worldwide markets in many products.

As the wages of scientists, accountants, lawyers and other college-graduate professionals have pulled ahead of the wages of high school graduates, so too have the incomes of physicians, because most aspiring physicians have the option to enter another profession instead (Figure 2, on Page 37 in this paper, shows how incomes of physicians have been pretty constant relative to those of lawyers since World War II).

You would think that a greater demand for health care, such as the demand associated with the aging of the population or perhaps a universal health care law, would increase physicians’ incomes as more patients (or insurance companies on the behalf of patients) compete for physicians’ time. And that’s true in the short run, because physicians take many years to train. But demand is less important in the longer term (a decade or two).

In the long term, a relatively small increase in the incomes of physicians could be enough to attract a substantial number of physicians from pursuing other careers or from pursuing medicine in other countries (that’s one reason my Economix colleague Uwe Reinhardt concluded that the slow aging process was not a major cost driver in health care). Indeed, some of today’s physicians began their careers understanding that the population was aging and the health care industry offered many job opportunities (see also this paper on career choice and industry prospects).

Barriers to professional entry may have a greater influence on physicians’ incomes than health care demand would by itself. Laws regulate the training and licensing of physicians and the tasks that can be performed by people without a doctor of medicine degree. The number of medical schools in the United States has hardly changed since the 1980s, despite significant population growth.

Perhaps the restrictions on medical training and licensing are desirable, even though they raise physicians’ incomes.

State laws are starting to widen the scope of medical services that can be performed by nurses and physician assistants to include services previously permitted only by medical doctors. Physician outsourcing has also been discussed.

It is possible that the new health care law, with its emphasis on reducing costs, will apply pressure to ease restrictions on entry into the provision of health care services. On the other hand, centralized health care policy may naturally seek the advice of industry experts – especially medical doctors – who may appreciate the merits of keeping medical doctors closely involved with the provision of health services.

Earned Income Ironies

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The “earned income tax credit” is, ironically, more likely to be received by unemployed people than by workers who do not spend any time unemployed.

The credit was created years ago to reduce tax burdens on the poor and to “provide a genuine incentive for working;” a household must have some wage and salary income in order to receive the credit.

However, because the credit is administered on a calendar-year basis and is phased out with calendar-year wages and salaries, it is disproportionately received by people unemployed after a layoff.

As I illustrated in an earlier post, the credit follows a mountain-plateau pattern: an increasing portion for the lowest calendar incomes, a flat portion, a decreasing portion and then a flat portion of zero.

Internal Revenue Service

You might think that unemployed people do not receive the credit because they do not have any wage or salary income, but typically people unemployed from layoff do have wages or salary income during the calendar year of their unemployment from their previous job. Their layoff might have occurred after the beginning of the calendar year. Even a layoff occurring in December of the previous year might generate wage and salary income in the current year because of a severance payment or accumulated sick and vacation pay.

Moreover, an unemployed person might have a spouse with wage and salary income, and the spouse’s income counts toward the credit.

Because unemployment compensation is supposed to be reported on the recipient’s federal individual income tax return, I was able to further investigate this issue by examining a large sample of individual income tax returns for the years 2000-07 provided by the Internal Revenue Service to the National Bureau of Economic Research and other institutions for research purposes.

In 2007, 97 percent of the 7.6 million returns showing unemployment-compensation income (that is, the taxpayer or spouse was unemployed and receiving benefits some time during the calendar year) also had wage and salary income during the year. That percentage was essentially the same in each of the years 2000-06.

Of the same 7.6 million returns with unemployment income in 2007, one quarter received the earned income tax credit. By comparison, the credit was received by only one-sixth of the returns with wage and salary income but no unemployment income.

Among returns with unemployment income, the average earned income tax credit was $486, compared with $347 among the returns with wages but not unemployment income.

For most of the returns with both unemployment income and the earned income tax credit, the credit would have been even greater if the taxpayer had been employed fewer weeks than he or she actually was. Still more returns with unemployment income but no earned income tax credit would have received the credit if the unemployment had lasted longer.

This situation occurs so often because unemployment benefits are based on a person’s weekly work situation while the earned income credit is based on a household’s annual wages and salaries, and because weekly unemployment benefits by themselves are usually less than weekly wages and salaries.

The earned income tax credit is thus a good example of how a so-called tax credit can act like a tax from a working person’s point of view.

The Health Care Law and Retirement Savings

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Because of its definition of affordability, beginning next year the Affordable Care Act may affect retirement savings.

Employer contributions to employee pension plans are exempt from payroll and personal income taxes at the time that they are made, because the employer contributions are not officially considered part of the employee’s wages or salary (employer health insurance contributions are treated much the same way). The contributions are taxed when withdrawn (typically when the worker has retired), at a rate determined by the retiree’s personal income tax situation.

Employees are sometimes advised to save for retirement in this way in part because the interest, dividends and capital gains accrue without repeated taxation. In addition, people sometimes expect their tax brackets to be lower when retired than they are when they are working.

These well-understood tax benefits of pension plans will change a year from now if the act is implemented as planned. Under the act, wages and salaries of people receiving health insurance in the law’s new “insurance exchanges” will be subject to an additional implicit tax, because wages and salaries will determine how much a person has to pay for health insurance.

While much about the Affordable Care Act is still being digested by economists, they have long recognized that high marginal tax rates lead to fringe benefit creation. And the Congressional Budget Office has concluded that the act will raise marginal tax rates.

Were an employer to reduce wages and salaries (or fail to increase them) and compensate employees by introducing an employer-matching pension plan, the employee is likely to benefit by receiving additional government assistance with his health-insurance costs. The pension contributions will add to the worker’s income during retirement, except that the income of elderly people does not determine health-insurance eligibility to the same degree, because the elderly participate in Medicare, most of which is not means-tested.

Take, for example, a person whose four-member household would earn $95,000 a year if his employer were not making contributions to a pension plan or did not offer one. He would be ineligible for any premium assistance under the Affordable Care Act because his family income would be considered to be about 400 percent of the poverty line.

If instead the employer made a $4,000 contribution to a pension plan and reduced the employee’s salary so that household income was $91,000, the employee would save the personal income and payroll tax on the $4,000 and would become eligible for about $2,600 worth of health-insurance premium assistance under the act. (The employer would come out ahead here, too, by reducing its payroll tax obligations).

Even though the Affordable Care Act is known as a health-insurance law, in effect it could be paying for a large portion of employer contributions to pension plans. This has the potential of changing retirement savings and the relative living standards of older and working-age people.

Making More Unemployed than Employed

By adding significantly to benefits for unemployed people without commensurate additions to the incomes of workers, the 2009 American Reinvestment and Recovery Act (a.k.a., "stimulus law") changed 100 percent taxation from a rare circumstance to one that presented itself to about five million household heads and spouses. If Congress had heeded the advice of those calling for a "bigger stimulus," as many as 13 million people would have made more unemployed than they would as workers. Watch this 19 min video to see how such high implicit tax rates became reality.

Viewers interested in more information on this topic: please look at http://www.nber.org/papers/w18591

It happens in Japan too (ht Austen Bannan).

Research-free Policy Analysis

A widely held belief: "[The poor and unemployed] will spend a large fraction of any aid, and therefore transfers to that group will have a much bigger multiplier effect than, say, tax cuts for the rich." The exact words are from Professor Krugman, but many others believe it.

Where is the research that supports the claim that transfers to the poor and unemployed have a multiplier effect on GDP?

Where is the research that supports the claim that transfers to the poor and unemployed have a multiplier effect on aggregate employment?

Empirical research would be best. A theory would be interesting too, as long as the theory were complete in terms of recognizing that the funds have to come from somewhere.

Commenters please let me know. To get you warmed up, let me note some irrelevant replies:

• Irrelevant Reply #1. Theoretical research by Woodford, Rebelo, Werning, Krugman, Eggertsson, and others on what they call the "government spending multiplier". Those authors really mean government purchases, which are quite different from the transfers I'm asking about. If nothing else, GDP by definition includes government purchases but does not include transfers.
• Irrelevant Reply #2. Empirical estimates of the "government spending" multiplier. As far as I know those studies measure government purchases (esp Department of Defense purchases), not transfers, and purchases are quite different from the transfers I'm asking about.
• Irrelevant Reply #3. Empirical estimates of the consumption behavior of the unemployed (this one is a classic). I am not asking whether the poor and unemployed spending their money differently than everyone else does -- they do. I am not asking whether aid to the poor and unemployed expands the markets for the things the poor and unemployed tend to buy. I am asking about the effects on aggregate GDP and employment, including all of the sectors -- even the sectors that do not disproportionately serve the poor and unemployed.

Interesting Reply. This new Keynesian model addresses the question I am asking. Not surprisingly, it finds that the "Keynesian aggregate demand effect" is trivial. The model also features a wealth effect of transfers by assuming, without explanation, that the poor and unemployed's labor supply is less sensitive to transfers than everyone else's labor supply.

Further Thoughts on Assessing Regulatory Costs and Benefits

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A new study shows that the impact of federal government regulation might be even more significant than that of federal taxation.

I recently wrote about the need for a federal regulation budget, explaining how private-sector activities to comply with regulation do not appear in the official federal budget, while private-sector interactions with tax and spending programs do, in terms of the amount of money they pay or receive. I also pointed to a few first steps to quantifying the amount of regulation.

Last week Sam Batkins of the American Action Forum, which describes itself as “a forward-looking policy institute dedicated to keeping America strong, free and prosperous,” released a kind of federal regulatory budget for each of the last several years.

The budgets began with the Federal Register, a daily journal of laws passed by Congress, executive orders and federal government agency reports. Government agencies are often required to estimate private-sector costs of complying with those regulations, and Mr. Batkins aggregated those costs (the federal Office of Management and Budget is obligated to conduct a related analysis on a subset of regulations, as you can see in one of its reports).

As a daily journal, the Federal Register contains federal government activity during the year, which makes it different from, say, the federal budget for taxes. Much of the taxes paid in 2012, for example, were collected pursuant to laws and Internal Revenue Service rules promulgated in previous years, at which times they would have appeared in the Federal Register.

In other words, the 2012 Federal Register might be interpreted as additions and subtractions to the inventory of federal regulations as they stood at the end of 2011, rather than the total amount of regulation faced by the private sector during 2012. Mr. Batkins found that new regulations cost $236 billion in terms of compliance, while regulations rescinded during the year reduced compliance costs by $2.5 billion.

He found that more compliance costs were added in 2012 than in any of the other several years in his study.

Just as a government revenue budget should not be interpreted as net costs because the revenue makes beneficial spending possible, Mr. Batkins’s regulatory costs should not be interpreted as net costs because the regulations are thought to create benefits, too.

Another difficulty with estimates from the Federal Register is that new regulations may partly replace old ones (even though the old ones may technically remain on the books), so one might want to subtract the previous compliance costs of obsolete regulations from Mr. Batkins’s estimate to arrive at the total increase in compliance costs from, say, 2011 to 2012.

Other costs in Mr. Batkins’s study are those imposed on state and local governments, which are real costs but largely result in higher taxes for state and local taxpayers. That means Mr. Batkins’s total is really a combination of tax costs and regulatory costs (equivalently, if one were to add tax revenue to Mr. Batkins’s compliance costs, the total would involve some double-counting).

A nice feature of Mr. Batkins’s study, and one it holds in common with a budget for taxes and spending, is that it can be examined by type. He finds that “commodities and securities” was one of the largest categories of new compliance costs, largely because of the implementation of Dodd-Frank regulations. Environmental regulations were another large category.

The results show that, for good or for bad, the costs of complying with federal regulations are probably accumulating more rapidly than taxes are.