The curse of the cross subsidy

John Cochrane's wrote an interesting piece on what he calls "the second original sin of healthcare regulation" (the first being the tax deductibility of employer provided group insurance of course). His post describes what's fundamentally broken about the US healthcare system, but his observation applies to far more than just healthcare.

Our political system is allergic to the word "tax." Instead of straightforwardly raising taxes in a non-distortionary way (a VAT, say), and providing charity care or subsidies -- on budget, please, where we can see it -- our political system prefers to fund things by forcing cross subsidies.

Medicare and medicaid don't pay what the service costs, because we don't want to admit just how expensive that service is. So, large hospitals make up the difference by overcharging you and me instead. The poster child (though not really a cost driver) is emergency room care. The government passed a law saying hospitals must provide emergency room care for free. But money does not grow on trees, so again you and me (via private insurance) must get overcharged to cross-subsidize. The ACA tried to force young healthy wealthy (not getting subsidies) to vastly overpay for insurance, to cross subsidize the poorer and sicker.

Cochrane argues that this is much more harmful than simply raising the money through taxes and doling it out through the state.

Low prices, efficiency, and innovation in the provision of services like health care come centrally from competition, and especially disruptive competition.  With no competition -- especially no entry by new doctors, hospitals, clinics, insurance companies -- costs spiral up. As  costs spiral up, the cost of the charity care spirals up. As that spirals up, the size of the cross-subsidies spirals up. As that spirals up, the need to restrict competition spirals up.

In a sensible world, government assistance lives beside a free market, where innovation and price discovery happen. That keeps the cost of government assistance somewhat in check. But when we choose assistance by cross-subsidy, then kill off competition and force us all in the regulated system, that check disappears.

The UK obviously doesn't have this problem with healthcare, but the problem of cross-subsidy still creeps up in a number of markets. 

"Affordable Housing" mandates are a classic example. In the absence of real planning reform there'll be a shortage of housing within the price range of ordinary Britons. Policymakers looking for a second best solution have a choice. Either leave the market alone and offer cash subsidies to those who struggle to afford a home, or require house builders to not only build what the market is demanding, but also to sell a percentage of the houses they build at "affordable" (below market value) rates. The latter option is clearly sub-optimal, it's essentially a specific tax on new construction and makes construction much riskier for developers raising barriers to entry. Affordable housing requirements are meant to make housing more affordable but by penalising new development they make the shortage worse for all.

Another example is the energy market. Prof. Stephen Littlechild (who served as a top energy regulator in the 80s) has set out in great detail how over the past 10 years Ofgem undermined competition in the energy market. Energy companies used to offer low prices online and in competitors' areas to encourage consumers to switch supplier. Ofgem decided that firms should instead offer the same price to everyone. The price sensitive consumers who frequently switch were to subsidise the lazier consumers. But just like in the case of healthcare, the results were much worse than simply taxing one group and giving it to another. Not only did prices rise for price sensitive consumers, but prices didn't fall for the rest. The number of people switching suppliers fell and the market became much less competitive. 

Rather than a lesson being learned, this was followed by calls for even greater cross-subsidisation. The consumer affairs magazine Which? then called for energy companies to provide a simple, uniform price. That would have required massive geographic cross-subsidisation but thankfully Ofgem rejected the proposal. The coast isn't clear however with Theresa May seriously considering capping the difference between the 'cheapest and 'most expensive' tariff.

Taxes do affect behaviour and discourage productive activities, but the solution isn't to cook the books and shift taxes off the balance sheet. Doing so only makes things worse. It distorts prices and damages competition. Worse of all, it leads to even deeper calls for regulation when the existing rules fail to deliver. Subsidies are bad, but cross-subsidies are worse.

Adam Smith Songs!

 By the end of 2017, my band will release an album inspired entirely by the works of Adam Smith. Spanning eight songs and covering both Theory of Moral Sentiments and The Wealth of Nations, the album will highlight the beautiful prose and infinite wisdom found in Smith’s writing.

The eight songs are not meant to be a comprehensive summary of Smith’s two books, but rather a mosaic of Smith’s wisdom. I see them as eight of the most illustrative concepts he uses to explain human nature and political economy.

The inspiration came about when I attended a gathering of singer-songwriters in New York. As an economics graduate student, I stood out amongst the crowd that otherwise featured people doing creative work as their day jobs. I was in an Adam Smith reading group at the time, loving his writing style and description of the world around him, and realized there was a niche to be filled by writing music based on the works of the classical economist.

Early on in the process of writing the songs, I came to see how biographical and relatable the themes were. Within Smith’s concept of the Impartial Spectator, we can all relate to the desire to “not only be loved, but to be lovely.” Smith describes a poor man’s son yearning for the luxury and ease of having riches, only to regret his efforts on his death bed: Every one of us has at one time or another overestimated what accomplishments and riches will do for our happiness.

Overall, I hope the album will inspire people to learn more about Smith and his rich, nuanced, and wise view of human nature and economics. Too often, he is depicted as an extreme free-marketeer that sees human beings as being governed purely by a cold self-interest. This caricature overlooks his significant descriptions of market failures and the central role of sympathy in his view of human nature, among other things. If “Hamilton” could inspire everyday people to learn more about a centuries-old American thinker, so can these eight songs.

Our first single featured here is called “Silent Revolution,” inspired by Book 3, chapters 2-4 of Wealth of Nations. Smith describes how the introduction of commerce, through no intention or foresight of any parties involved, allowed for the gradual liberation of the masses away from feudalism. Interdependence replaced dependence, prosperity ensued, and power became more decentralized.

You can listen to the song here.

Nicky Morgan in Brexit fake news shocker

We are warned these days that we must be most careful about fake news. Indeed, that we must vigilantly fight back against the purveyors of it. What is meant is that anyone who states that Donald Trump might have a point must be mercilessly mocked and banished from public life, but the actual effect of taking the injunction seriously is that we will all end up exposing the usual political falsehoods.

Yea, even from former Cabinet Ministers. Such as this from Nicky Morgan:

Its consequences would be very dangerous: this would be an extremely perilous economic path. Leaving the EU with no deal means Britain would default to World Trade Organisation rules with our biggest trading partner. The resulting tariffs on imports and exports would raise prices for British consumers buying imported goods,

The problem with this is that reversion to WTO rules doesn't mean that Britain must impose import tariffs. That's fake news. If Ms Morgan knows that it is untrue then she's being economical with the actualite. If she doesn't know then she's remarkably ill informed on the subject she wishes to pontificate about.

This isn't unusual, Nick Clegg has been wandering around spreading the same fake news.

WTO terms means that there is a maximum tariff schedule that other people can charge against our exports. There's also a maximum that we're allowed to impose upon imports into the UK. But it is a maximum. We are entirely at liberty to impose any rate we like below those various maximums as long as the same product from different sources is equally treated. That includes imposing rates of 0%.

We did in fact go and check this at the source, the WTO itself in Geneva. We can move, as Patrick Minford has been saying we should, to unilateral free trade under WTO rules. There is absolutely no insistence whatsoever that we should or must impost import tariffs.

To claim that Britain must impose import tariffs is incorrect, it is not true, it is fake news. Yea even though we're told we must by an ex-Cabinet Minister who should know better.

A little offer to Ms. Morgan. If she'd care to tell us whether she's being economical or merely ill informed we will publish the answer she gives us.

Somewhere, Edmund Burke is doing the Happy Dance

As a conservative sorta guy Edmund Burke wouldn't really be in tune with today's millennial snowflakes. Yet there are things they're doing which he would thoroughly approve of:

Millennials have nevertheless dealt with the breakdown in the social safety net through community support, connectivity and responsibility. We’ve used social media to create a new kind of economy, one where decisions and directions have the potential to be mitigated, controlled and owned by those formerly most vulnerable. In an era of welfare cutbacks, young people have responded by crowdfunding the needs of their peers.

Burke, of course, thinking that that war against the collapse of society best being fought by the little platoons:

This form of selfless community organisation flies in the face of what older generations would have us believe about selfish, lazy millennials, but nobody should be surprised – a recent YouGov study in Australia showed that respondents under 30 were those most supportive of socialism and wealth redistribution over capitalism in comparison to other ages. It many ways, we see social capital as more of a viable resource than money.

That the young and untried like ideas that don't work in greater numbers than those tempered by experience is not a great surprise. But none of us oldsters are against social capital, nor against the rallying around. As with Burke, it's who does that rallying and under what level of compulsion.

The best level being those very little platoons in action here, just people getting on with it themselves, under no compulsion at all other than that they wish to do this.

But when I had the misfortune of having three cameras break on me consecutively, as a freelance photojournalist, I was thrown into panic. My livelihood was directly compromised by a series of unlucky mishaps. It was hard to pretend that I wasn’t on the verge of a breakdown as I catastrophised about what I would have to do in order to get back on my feet.

After a day of appeals on Twitter, I earned a few hundred dollars to buy a new camera; the donations were all from young people who had experienced similar things, or from people who liked or supported my work.

We might or might not have chipped in ourselves. But that the problem was solved without the compulsion of state socialism shows that it's not in fact needed to solve such problems, does it not? That, perhaps, art can be done without taxation and arts grants? 

Burke did say that left to themselves, allowed the room to do so, that people on their own will solve many to most such problems. How wondrous of the millennial snowflakes to prove this for us all over again.

Maybe arguing about immigration isn't totally hopeless after all

Here’s a cool new paper. It tests whether people are willing to substantially shift their opinions about immigration policy when they’re given more information about it. The results suggest that people may be doing less ‘motivated reasoning’ about immigration policy than many think, and that there’s real value in trying to highlight the facts to the public.

I’ve written before about why people oppose immigration – whether it’s because they believe that immigrants threaten their incomes, safety, or way of life, or because they just don’t like immigrants and want less of them for more emotional reasons. Simply asking them is unlikely to give us the truth, because people who simply dislike immigrants will tend to give a more reasonable-sounding reason (they may not even be aware that they are doing this). This paper tests this by looking at whether people’s responses change when they have new information that might make them less hostile to immigrants.

First, it looks at the Transatlantic Trends Survey, which polled 19,000 people in 13 different countries and, among other things, asked whether they thought there were too many immigrants in their country. People almost always overestimate the proportion of their country’s population that are immigrants, in the UK by a factor of two. But, here, half of the respondents were told the true proportion. The prediction is that if people are motivated reasoners, learning that there are far fewer immigrants than they may have believed should not change their view. If they are hostile because they believe that immigrants threaten their jobs or way of life, then information that contradicts that should result in less hostile answers.

In most countries surveyed, especially in the UK, the ‘treatment’ group that was given the correct figure gave substantially less anti-immigrant responses than the ‘control’ group that was not given any figure. In the UK there was an 18 percentage point gap, which was the difference between a majority saying there were too many immigrants among the group that wasn’t given the correct numbers and a minority in the group that was.

Interestingly, the gap seems related to the total size of the opposition to immigration – countries with smaller proportions of people saying there were too many immigrants also saw smaller percentage drops when the correct figures were provided, which is consistent with opposition being made up of two groups – one ‘hardcore’ group opposed no matter what the facts are, one group whose views are up for grabs. Further research needed!

The second part of the study was based on a poll of Americans who were given information not just about the proportion of the country that are immigrants, but their characteristics – their propensity to commit crimes or be imprisoned compared to natives, their English-speaking rate, their unemployment rates and how many of them were illegal versus legal. Again, this had a pretty big effect (0.25 of a standard deviation) in changing people’s attitudes and beliefs about immigrants for the better, though they were much less likely to shift policy positions.

Maybe this was just a temporary effect? Four weeks later, there was very little change in either group’s responses. The new information actually stuck!

Now, here’s the really encouraging bit, for me: right-wingers moved most strongly towards more pro-immigrant positions when given this new information, in terms of their attitudes and their policy preferences.

The paper isn't perfect, for example because giving new information might prompt people to give more 'politically correct' pro-immigration answers. But it's a start. 

This all suggests two things to me that are very encouraging. One is that ideas, debate and new information really can change people’s mind. Obviously that’s not exactly easy, because why should Joe Bloggs believe your ‘facts’ and not the other guy’s? But it does mean there’s hope and we might not all be motivated reasoners – indeed my suspicion is that it’s elites who are the most dogmatic, and normal people are far more open-minded, though less well informed. It’s a vindication of that handful of people (like KCL’s Jonathan Portes and the Cato Institute’s Alex Nowrasteh) who stick to the facts in the public immigration debate and challenge those who don’t. I tried doing this last week as well.

The other is that the lowest-hanging fruit in arguing for a more liberal stance on immigration could be in talking to the right more. Say there are people who are right-wing in general, but not necessarily hardcore anti-immigrationists, they get their information from right-wing news sources, which also make anti-immigration factual claims and arguments, and the opposite is true on the left. If that's the case, we would expect that there are more ‘mistaken’ right-wingers than left-wingers, and so more people on the right who might be persuaded to take a different view.

That’s consistent with the results of this paper, and it is an encouragement of immigration-liberal right-wingers to make that case to their friends and allies who disagree. It might not be as hopeless as you think.

Was F. A. Hayek a Neoliberal?

F A Hayek published his “Constitution of Liberty” in 1960, and added as an appendix a very famous essay, “Why I Am Not a Conservative.” When the ASI in 1987 published a volume of tribute essays by famous scholars, entitled “Hayek – on the fabric of human society,” I wrote the final essay, somewhat cheekily entitled “Why F. A. Hayek is a Conservative.” You can see it here.

Debate has taken place since, and I think most commentators have tended to agree with me that he was. His view morphed over his lifetime, becoming distinctly more conservative than the more straightforward libertarian outlook of his younger days. His basic case originally was that Conservatives wanted to conserve the status quo. If that status quo was socialism, he did not want to conserve it. When he wrote, there was a postwar consensus of mixed economy socialism with its nationalized industries, welfare state and National Health Service. He did not wish to conserve it.

I argued that this was an aberration, and that what Conservatives wished to conserve was not any given status quo, but the spontaneity of society. I added the magic words “or to restore” to the wish of Conservatives to conserve that spontaneity. If it were lost they would bring it back. This added a justification to the Thatcher revolution, which was well named, and of which Hayek most decidedly approved.

On the day my book “The Neoliberal Mind” is published, I ask whether Hayek was himself a neoliberal. He was certainly pro free-market and for a large measure of personal freedom, and applauded their spread. Had he lived longer, he would have undoubtedly applauded their progress since. He also shared with today’s neoliberals an outlook that seeks to prevent people from taking society in a preconceived direction, but instead to allow it to emerge from the interaction of peoples making independent decisions.

But there are aspects of neoliberalism which are as much about character as they are about political outlook. Most neoliberals are optimists, most embrace new technology for the opportunities it brings. I don’t think Hayek quite shared that enthusiasm for the new, or the readiness of neoliberals to embrace change and to ride with it.

Hayek sought for a name for people who shared his viewpoint, and toyed with the idea of “Old Whig.” I think on balance, and it is close, I would stand by my original judgement and say that he was more of a conservative than a neoliberal. But I think he would have approved of neoliberals even if his disposition prevented him from actually being one himself.

Odd where you can find wisdom these days

The political classes are in conniption fits about the evils of ticket touting. We've insistences that the very idea of a secondary market should be illegal. We've also the same people shouting that of course tickets must be reasonable in price, it's wrong that people must pay what appears to be the market value for something they wish to go and do.

On this very subject Matthew Syed discusses what happens in the Bundeliga, where ticket prices are deliberately low and yes, there's a massive ticket touting operation: 

On the wider point, history suggests that manipulating prices is generally a bad way to provide poorer people with access to valuable things, creating distortions, rackets and expensive counter-measures. Much better, as a rule, to redistribute income and wealth through the tax system. Either way, the Bundesliga is not the paradise we are sometimes led to believe. It has many strengths, but many covert defects, too.

Entirely so. As we remark often enough, changing the distribution of consumption is simple enough if that is what one is determined to do. Change the distribution of the cash which allows the consumption, don't mess with the markets nor the prices of those things being consumed.

And yes, just for the avoidance of doubt, there is always going to be some changing of that consumption distribution. We might have arguments about how much of it there should be, in fact we do, but the basic concept is clearly going to go on.

But the way to do it is to subsidise people, not things.

Sadly, we seem to find this obvious truth being expressed on the sports pages rather than in Parliament. 

Are we cynical enough we ask ourselves?

We're not exactly unusual around here in finding that much of the modern world makes more sense when viewed through a slightly cynical eye. But the question we must keep asking ourselves is, well, are we cynical enough? 

Take this complaining by Unite about Ineos buying the Forties pipeline off BP:

BP’s £200m sale of a major North Sea oil pipeline to petrochemicals company Ineos should face scrutiny by MPs, the Unite union has said, claiming the deal poses a risk to jobs and puts key infrastructure in the hands of one man.

Ineos said it had agreed with BP to buy the Forties Pipeline System, which transports nearly 40% of the oil produced in the North Sea and employs 300 people.

Given that Ineos owns the refinery at the end of that pipeline it seems unremarkable enough that the two pieces of infrastructure should be owned by the same organisation, or even person.

“Unite firmly believes that this sale is bad for Scotland and the UK.”

“We demand that both the Scottish and Westminster parliament carry out inquiries and that every MSP and MP in Scotland has a responsibility to make their position clear.”

“Do they believe this sale is in the national interest?”

That's really a pretty strong demand for what is a trivially sized transaction. At which point we begin to think a little cynically about this:

Unite added that it had “serious concerns” about the livelihoods, pensions and employment conditions of 300 people employed by BP on the Forties Pipeline System.

The union had previously fought a bitter battle with Ratcliffe, afterIneos threatened to close the huge Grangemouth refinery altogether in 2013 during a bad-tempered cost-cutting dispute.

Ah, yes, that's right. Ineos faced down Unite so Unite will never be in favour of anything the company does at all. So, we're being cynical, yes, but are we being cynical enough?

The Essence of Neoliberalism

Tomorrow sees the publication of my book, “The Neoliberal Mind.” This is a summary of its conclusions:

Neoliberalism is anchored in the real world of things that actually happen and can be observed to happen. In other words it is an empirical outlook, one that can adapt to observable reality. The test of its precepts is of whether they achieve the desired results in the real world. It is not rights-based, nor is it to be deduced from allegedly necessary truths about the universe. Instead it is an approach that seeks to achieve things generally desired, things such as prosperity and freedom, by means that have been shown to work in practice.

Most neoliberals are characterized by an optimism that human effort and ingenuity can achieve worthwhile goals. They are not gloomy about human nature or fearful that humanity is headed for catastrophe. On the contrary, they hold the view that human problems can be solved if people are clever enough and sufficiently resourceful.

They tend to compare the present with the past, rather than with some imagined and hypothetical future. They look at the tremendous strides humankind has made in the modern world, they examine the causes behind those successes, and try to apply the same kind of practices to stimulate further improvement.

Neoliberals are conscious that investment is the key to growth, and seek policies to encourage it. They know that because it involves deferring present gratification, there must be rewards to motivate people to do it.

They reject preconceived visions of what the future should be like, concerning themselves instead with the mechanisms by which a spontaneous outcome can emerge from the interaction of millions of people. They regard the resulting order as one that contains more intelligence and more knowledge, dispersed though it is, than any that can be dreamed up by a few planners. They also see it as more compatible with a free society.

They take a realistic view of history, especially that of the Industrial Revolution. They regard it as the development that made possible the improvement of the lives of ordinary people, lifting them from rural poverty and squalor. They welcome the fact that trade and industry and the wealth they bring are helping the world’s poor today just as they helped the poor in Britain’s industrialization.

Neoliberalism seeks to remove barriers to trade and investment, not to help the rich in developed countries, but to raise the living standards of people in poor countries, and applauds the progress made recently in lifting a majority of humankind up from subsistence and starvation. It works to do more of what has worked before. It rejects notions that growth should be curbed, and takes the opposite view that growth is limitless.

Neoliberals look at the world as it actually is, not seeking to reduce it to models of it that omit its ever-changing complexity. They do not seek to make it conform to some prior precept of what it ought to be, but to allow it to develop where people want to take it. And their optimism persuades them that people can make it better.

US healthcare: most people don't know what they're talking about

US healthcare is famous for three things: it's expensive, it's not universal, and it has poor outcomes. The US spends around $7,000 per person on healthcare every year, or roughly 18% of GDP; the next highest spender is Switzerland, which spends about $4,500. Before Obamacare, approx 15% of the US population were persistently uninsured (8.6% still are). And as this chart neatly shows, their overall outcome on the most important variable—overall life expectancy—is fairly poor.

But some of this criticism is wrongheaded and simplistic: when you slice the data up more reasonably, US outcomes look impressive, but being the world's outrider is much more expensive than following behind. What's more, most of the solutions people offer just don't get to the heart of the issue: if you give people freedom they'll spend a lot on healthcare.

The US undoubtedly spends a huge amount on healthcare. One popular narrative is that because of market failures and/or extreme overregulation in healthcare, prices are excessively high. So Americans with insurance (or covered by Medicare, the universal system for the elderly, or Medicaid, the government system for the poor) get the same as other developed world citizens, but those without get very poor care and die younger. A system like the NHS solves the problem, according to this view, with bulk buying of land, labour, and inputs, better incentives, and universal coverage.

But there are some serious flaws in this theory. Firstly, extending insurance to the previously-uninsured doesn't, in America, seem to have large benefits. For example, a recent NBER paper found no overall health gains from the massive insurance expansion under Obamacare.* A famous RAND study found minuscule benefits over decades from giving out free insurance to previously uninsured in the 1970s. In fact, over and above the basics, insuring those who choose not to get insurance doesn't ever seem to have large gains. Indeed, there is wide geographic variation in the life expectancy among the low income in the US, but this doesn't even correlate with access to medical care! This makes it unlikely that the gap between the US and the rest is explained by universality.

To find the answer, consider the main two ingredients that go into health outcomes. One is health, and the other is treatment. If latent health is the same across the Western world, we can presume that any differences come from differences in treatment. But this is simply not the case. Obesity is far higher in the USA than in any other major developed country. Obviously it is a public health problem, but it's unrealistic to blame it on the US system of paying for doctors, administrators, hospitals, equipment and drugs.

In fact in the US case it's not even obesity, or indeed their greater pre-existing disease burden, that is doing most of the work in dragging their life expectancy down; it's accidental and violent deaths. It is tragic that the US is so dangerous, but it's not the fault of the healthcare system; indeed, it's an extra burden that US healthcare spending must bear. Just simply normalising for violent and accidental death puts the USA right to the top of the life expectancy rankings.

This is what we'd expect if we approached the topic more honestly, and dug into the detail of healthcare stats. You might think—you might think!—that this is what international healthcare rankings like those from the WHO or the Commonwealth Fund do. Not so. The WHO just looks at a corrected life expectancy measure, but not one corrected for any of the factors which attempt to isolate the impact of healthcare. The Commonwealth Fund's is a mix of high level aggregate measures like physicians per capita and a survey asking people around the world questions like whether "Doctor or other clinical staff talked with patient about a healthy diet and healthy eating". Neither are useless, but they are not the real deal.

Academic papers that drill down into the detail find that the US does well in cancer survival, heart attack and stroke survival, and successfully medicating those with long-term conditions such as diabetes. In fact, when the Commonwealth Fund did this sort of analysis themselves decades ago, the US ranked among the best of countries. This is partly because the US has much more advanced equipment, partly because it funds more costly treatments in general, and partly because it funds the newest treatments, when their marginal costs are often stratospheric. This may subsidise medical research for everyone else.

Now this is not to say the US system works well. The fact that the US spends vastly more than everyone else, and only does a bit better, if that, makes the system pretty unimpressive. But it's important to understand why. The UK really does have "death panels" that refuse treatments because they're extremely costly relative to their tiny impact. The USA has a system where most people can buy—are even subsidised through the tax system to buy—insurance that is as extensive as they like, paying for ever more expensive and marginally beneficial therapies. Eventually you're spending a fifth of your GDP on it.

Maybe if the US government straightened things out—scrapped the incentives that push people to get too much healthcare and deregulated the system to increase competition and push down costs the US would spend a more rational share of its income on health. I think this is pretty likely. But I bet the gap wouldn't go away fully. Americans just have a lot of cash, and want to spend an increasing share of it on their wellbeing as they get even richer. As long as the system is mostly open, I'd expect that to continue.

*see tables 3, 7, and 8 for subsample analysis; doesn't look like any sub-group has seen any significant gains at all