Cost Disease Reprise

Scott Alexander (Slate Star Codex) posted a wide-ranging thought piece on Cost Disease, particularly in Healthcare, Education and Housing. All three stand out for remarkable proliferation of cost without demonstrably returns to quality. For the first two sectors especially, Alexander notes that wages (per worker) are about the same as they’ve always been, so what gives? He runs through a gamut of hypotheses: regulatory barriers, distorting subsidies, market failures, monopolies, litigation risk, administrative bloat, measurement problems, changed consumer preferences, rapacious capitalists and others.

Alexander ultimately concludes that the results are inconclusive and worrying:

I’m more worried about the part where the cost of basic human needs goes up faster than wages do. Even if you’re making twice as much money, if your health care and education and so on cost ten times as much, you’re going to start falling behind. Right now the standard of living isn’t just stagnant, it’s at risk of declining, and a lot of that is student loans and health insurance costs and so on.

What’s happening? I don’t know and I find it really scary.

The whole piece is interesting and worth reading, but equally interesting is his follow up that collected some of the more insightful comments from professional economists, journalists and readers. Alexander says:

A lot of people thought the explanation was obvious; unfortunately, they all disagreed on what the obvious explanation was.

I actually don’t think it’s entirely accurate to say “they all disagreed.” Without going through all the comments, John Cochrane, Megan McArdle, Scott Sumner, Noah Smith and many of the lesser-known readers all basically point to distortions caused by government intervention (although Smith says the problem is bad intervention, as opposed to better intervention). They focus on different costs of intervention, but what Alexander fails to appreciate is that they are all linked and each one “causes” the other.

Administrative bloat, regulatory barriers to entry, disruptive subsidies and incentives, and even (in some ways) all the attendant litigation risk are all basically the same problem: the (inevitably) poorly-considered, one-size-fits-all business decisions of a third party that has little skin in the game,  and lacks both the motivation or the ability to internalize and correct its mistakes, and instead runs around trying to “fix” problems of its own creation.

Alexander’s conclusion that “they all disagreed” is just another way of saying the number of problems that flow from politically constrained decision makers are myriad, overlapping and mutually reinforcing.

Administrative bloat results from increased administrative burden, which in turn restricts competition by blocking new entrants, which restricts innovation and price competition, which increases the incentive to subsidize and restrict through regulation and handouts, which increases administrative bloat and so on and so forth. Moreover, at every regulatory/subsidy inflection point, some special interest (industry, union, aspiring regulator, etc.) gets a piece of the vig.

Nor does the left hand follow the right. Policy-makers consider themselves mechanics and divvy up the “market” into its constituent parts. I do drugs, you do insurance, Jane does consumer protection, Mark does subsidies, you do labor, I’ll do medical devices, someone has to do licensing, and maybe Ellen does safety? OK great. Now we go our separate ways.

Markets are, however, ecosystems. All of these “parts” are inextricably linked, you cannot change one without effecting the others, and the inclination to “administer” them centrally is like administering a Rain Forest, by establishing separate bureaus for frogs, birds, tree vines, rain, soil, big cats, insects, etc.

In this case, at the same time as the FDA is preventing new innovation, the HHS is subsidizing consumption of the old (pricey) products, at the same time as insurance regulators are demanding broader coverage, while insisting employers pay for it (reducing wages), while consumer protection agencies (and their private surrogates) are suing everyone involved over the insurance that must provide everything and be paid for by everybody, at the same time as professional guilds are restraining the supply of doctors and nurses because their costs have continued to rise (because bloat and costs of education), and at the same time as heavily regulated and (now) entrenched market participants demand regulatory cover from younger upstarts.

Distortions beget further distortions. To plug the price leak caused by increased costs by one part of the government, another part of the government offers subsidies, which begets further oversight and costs, which in turn lead to more subsidies, which lead to poor consumer choices, which lead to rising costs, which lead to more subsidies and regulation.

The Cost Disease is a one-way upward ratchet of poorly conceived policies from a firm that cannot be expected to do any better.


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