The Baucus Bill Explained

Under the 1,502-page Baucus bill, everyone will be required to have health insurance and, for most people, the insurance will be very expensive. In 2016, for example, the minimum coverage is projected to cost:

Individual: $5,000 plus $1,700 of potential deductibles and copayments
Family: $14,700 plus $5,100 of potential deductibles and copayments

If you do not get insurance from an employer, you will be required to buy this insurance in an “exchange,” where there will be government subsidies for those who earn between 100% and 400% of the government poverty level. These subsidies can be quite large. For a family earning $30,000 the (premium plus out-of-pocket) subsidy is $17,300 — an amount equal to more than half of the family’s income! At $42,000 income, the subsidy is $14,000. (See the tables below.)

Now here’s the rub. There are 127 million nonelderly Americans living between 100% and 400% of the federal poverty level. Yet the Congressional Budget Office (CBO) projects that only about 17 million will be in the exchange getting these subsidies.

So what happens to everyone else? They will have to bear this cost on their own (through out-of-pocket premiums and reduced wages) without any new help from government.

And what if people don’t buy the insurance they are required to buy? They will pay a (2016) fine of $600 — a tempting alternative considering that if they get sick and really need insurance, insurers will not be allowed to deny them coverage or charge them a higher premium.

Stop in the name of love….
Think it over,
Think it over.


Technically, your employer does not have to provide insurance to you and your family. But if not, and if you go into the exchange, your employer will face a fine (tax) that will be the lesser of:

  1. The average government subsidy in the exchange, or
  2. $400 per employee for all employees, whether or not they are in the exchange

Say the average subsidy is $4,000 for individuals and $10,000 for families. Under alternative (1), the employer would be assessed fines in these amounts for employees who obtain insurance in the exchange. Under alternative (2) the employer would pay $400 for every employee.

Writers at such otherwise sympathetic places as The New York Times, The Washington Post and the Center on Budget and Policy Priorities have all remarked on how bizarre this choice is and on the perverse incentives it creates. Let me make four quick observations.

First, let’s combine the interests of the employee and the employer and ask whether it makes sense to be in the exchange or outside of it. Under alternative (1), the fine is equal to the average subsidy. Since workers with above average incomes get below average subsidies in the exchange, these workers and their employers would pay more in fines than they would get back in subsidies. By contrast, below-average-income workers and their employers would pay less in fines than they would get back in subsidies. Under alternative (2), the vast majority of workers would get more in subsidies in the exchange than the $400 fine their employers would have to pay. So wherever this is the cheaper alternative, expect many employers to drop their coverage altogether or not provide it in the first place.

Second, alternative (1) is likely to be cheaper for companies with lots of highly paid workers and a few low-paid ones. Since IBM’s high-income employees will not qualify for any subsidy in the exchange, the company would be better off sending its groundskeepers, maids and custodians to the exchange and paying the average subsidy as a fine rather than paying $400 for every employee. By contrast, a maid service with lots of moderate-income employees and very few highly paid ones would be better off sending everyone to the exchange and paying the $400-per-employee fine.

Third, depending on the employer’s labor profile, these alternatives have radically different hiring implications. If the first alternative turns out to be cheaper, employers will face a $4,000 annual tax on each new, moderate-income, single employee and a $10,000 tax on each new, moderate-income, head-of-household employee. On the other hand, if the second alternative is cheaper, the annual tax on each new hire will be only $400.

Finally, the tax law adds two more wrinkles to these considerations. Although employers can deduct premium payments, they will not be able to deduct the fines. This means that the effective cost of a $400 fine is closer to $600. The effective costs of $4,000 and $10,000 fines are closer to $6,000 and $15,000. Another consideration is the current practice of excluding employer-paid premiums from the employees’ taxable income. This exclusion is more valuable as income rises and employees reach higher tax brackets. Within the exchange, however, the size of the subsidy falls as income rises.

It’s hard to believe we are even considering such a Rube Goldberg approach to health insurance. But since we are, what are the likely consequences? Here are the first ten that come to mind:

  1. Millions of jobs lost. Economic theory teaches that employee benefits and/or labor taxes are substitutes for wages. Eventually, employees pay for their benefits with less take home pay. No doubt in the long run this is true. In the short run, however, the employer of a $30,000 uninsured employee under alternative (1) either has to endure a one-third increase in labor costs or cut his employee’s paycheck by one-third. I believe the short-run response is likely to be unemployment. For a state such as Texas — where 30 percent of working-age adults are uninsured — the economic effects will be devastating.
    As employers and employees adjust to the new health insurance regime (in ways described below), politicians are unlikely to sit idly by. They will meddle more and more. So for almost every employer, the likely future is higher and higher labor costs. As in Europe, employers will try to avoid new hires wherever possible. In any sector that relies on low- and moderate-wage labor that must be supervised on-site, jobs will be permanently lost. Many will go offshore.
  2. A shift to independent contracting. The CBO is not being creative enough in estimating that only 17 million people will enter the exchange. If you have lavish subsidies in one sector and draconian taxes in the other, people will find a way to exit the latter and enter the former. For example, wherever possible, people will become independent contractors — doing work that could be done by employees in a way that is not counted as “employment.” That way, people can take advantage of subsidies in the exchange without any reduction in wage income.
  3. Major industrial restructuring. To return to IBM, the ideal solution is to fire all its low-paid workers and contract with outside firms for their services. Newly-created firms could offer grounds keeping, maid, custodial and other services and send all the employees to the exchange for a $400-a-piece fine. More generally, we would expect low-income employees to congregate in firms that specialize in hiring them and selling their services to other firms.
  4. Emergence of niche markets. Any head of family earning up to $24,000 in 2016 will qualify for Medicaid. And (ironically), employers will not have to pay any fine if they don’t provide insurance to employees who enroll in Medicaid. So low-paid workers will look attractive to employers, so long as they remain low-paid. After a $1 raise, however, if the employee seeks highly subsidized (and probably much better) insurance in the exchange, the employer will get hit with a $17,300 fine! So employers in these markets will survive only by keeping a lid on their payrolls. We can also imagine niche market firms employing spouses, live-at-home teenage workers and anyone else who is getting insurance through another family member. Niche market firms could also emerge, hiring part-time employees (less than 30 hours per week), for whom there are no fines or penalties.
  5. Growth of the underground economy. Since the subsidy within the exchange phases out as income rises, it creates a penalty on higher earnings that operates just like a tax. As family income increases from $30,000 to $54,000, for example, the decline in subsidy is almost 31% of the income increase. When added to a 15.3% (FICA) payroll tax and, say, a 15% income tax, this pushes the overall marginal tax rate to 61% for below-average-income workers! And this is without even considering the effects of phasing out the Earned Income Tax Credit (EITC) and other welfare benefits. These high tax rates will strongly discourage reported income.
  6. Higher insurance premiums. Insurers will be required to sell to all comers (guaranteed issue) and charge everyone of the same age the same premium (modified community rating). These restrictions encourage people to remain uninsured (paying a $600 fine if it is really enforced) while they are healthy, secure in the knowledge they can always buy coverage after they get sick. The result: premiums for those who do insure will be much higher than otherwise. We previously reported that in New York’s individual market, premiums are $9,036 for singles and $26,460 for families. Also as previously reported, studies by BlueCross, WellPoint, the insurance industry trade association (AHIP) and every other public and private study are all predicting soaring premiums — a 50% average increase by one estimate and premiums tripling for the young and the healthy by another.
  7. Fewer insurance choices. Although advocates of health insurance exchanges tout the advantages of competition and choice, there are likely to be far fewer choices in the exchange than there are in the individual market today. In New York, for example, all the commercial carriers have left the market — leaving only BlueCross as the monopoly insurer!
  8. Higher than anticipated taxpayer costs; fewer than anticipated people insured. We have previously reported on budget shenanigans, designed to disguise the true cost of health reform. Insider leaks now reveal that even with these shenanigans, the first-ten-year cost is in excess of $1 trillion. Beyond that, the CBO is under-estimating how much people will reorder their behavior in the face of the perverse financial incentives described above. Where there are lavish subsidies to be had, people will find ways of having them and this can occur even without any reduction in the number of uninsured. Indeed, the Baucus bill makes being uninsured a very attractive proposition for healthy people.
  9. New unfunded liabilities. The Social Security/Medicare Trustees reported last spring that the combined unfunded liability in the two programs is $107 trillion — almost seven times the size of the U.S. economy. These obligations will get larger. Even without “reform,” the number of people covered by Medicaid and the State Children’s Health Insurance Program (S-CHIP) will be 76 million by 2019. With “reform,” the number will reach 90 million.
    Employers will be indirectly required to provide health insurance for which employees nominally pay no more than 10% of income. Within the exchange, the maximum cost (for the minimum required insurance) will be capped at between 2% of income and 12% (from 300% to 400% of poverty). And here is the problem with that: For the past 40 years health care costs have been rising at twice the rate of growth of income and there is no reason to expect abatement.
    So either health insurance costs will take more and more of family income (as the legislation now reads), or government subsidies will close the gap — meaning that taxes will take more and more of family income. If the recent response to Medicare costs for seniors is any guide, the taxpayers will be stuck with a larger liability than anyone is now estimating.
  10. Exacerbating the problems of cost, quality and access. The Baucus bill will increase demand, but it will do nothing to increase supply. This almost certainly will lead to higher prices and more health care spending. As previously explained, there are no realistic offsetting provisions for controlling health care costs.
    Also as previously explained, the perverse incentives of managed competition will encourage health plans within the exchange to underprovide care to the sickest enrollees.
    Even if the number of people who are nominally insured rises, access to care may actually decrease. As demand increases and supply does not, the waiting costs of care will rise for almost everyone and the money cost of care will rise for most people. (Remember: The vast majority of people are getting no new government subsidy.) Massachusetts cut the number of uninsured in half. But waiting times to see a new doctor in Boston are twice as long as in any other U.S. city and the number of people seeking nonemergency care at hospital emergency rooms is as high today as ever.

Here is what is worst of all: Not only will “reform” not solve any of the problems it is supposed to solve, it will almost certainly undermine the ability of entrepreneurs in the private sector to solve them.

individual-and-family-subsidies-under-baucus (2)

Comments (19)

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  1. Joe S. says:

    Thanks for posting this. Very well done.

  2. Larry C. says:

    Good analysis.

  3. Larry says:

    Nice post…unintended consequences get them everytime. And remember no good deed goes unpunished.

  4. Charles Ramsey says:

    I continue to be stunned that the Democrats are even talking about such bizzare health insurance (not health care) reform while staring at $107 TRILLION in unfunded liabilities which they don’t have the courage to discuss. I was also stunned that Geo. W. signed Medicare Part D without attempting an overhaul of Medicare. I am enjoying my Medicare, but I know it is unsustainable and I am ashamed of what we are leaving our children and unborn generations.

  5. David says:

    I STILL can not beleive that the Democratic congress is trying to ram this bill into the American public !!! Thought that they were elected to “represent the people”. Looks like NOT !!!!!!

  6. Melissa P says:

    Thank you for the explanation. My fear is that the majority of Americans don’t understand o won’t take the time to understand the harsh reality of this bill.

  7. Don Levit says:

    Here we have an example where demand is demanded to meet the supply.
    If you can’t fill the demand on your own, we’ll get the government to subsidize you.
    I wonder what will happen to the supply and demand dynamic under this scenario?
    Do you think the providers will continue to raise their prices, in order to get even higher subsidies?
    Do you know why talk is cheap?
    Because the supply exceeds the demand.
    I wish somehow we could do with health care, what we have succeeded to do with talk.
    Don Levit

  8. Ken says:

    If any bill passes, this is likely to be it. And that’s too bad.

  9. Devon Herrick says:

    It is especially disconcerting that the Democrats (purportedly the champion of the “little guy”) are proposing a health reform proposal that stands to hurt moderate-income workers the most. Moderate-income workers are most likely to lack a job with good health coverage. Most currently have a job but that could change under the Senate Finance Bill.

    Apparently Baucus has never heard of the Cobb-Douglas Production Function — which explains the trade-off between labor and capital. If labor becomes more expensive, employers can substitute capital. So basically a firm that employs 10 low-skill ditch-diggers (using shovels) could fire them, buy a backhoe and hire one more highly skilled worker who knows how to operate it.

  10. Neil H. says:

    This is truly awful. I can’t believe something like this could actually pass.

  11. Pauline Seeber says:

    I would like to see this plan shoved down the very same throats of the bureaucrats who are forcing us to use it, but alas, those politicians don’t pay for health insurance. Just make them, like we will have to. See if they can live with such atrocious laws that are suppose to be made “by the people and for the people.” The lead bureaucrats (and we all know who they are) are just using the president like a puppet. I am not a Democrat, nor did I vote for any Democrats, but would if I felt any of them had a brain and REALLY cared about this country and not their pockets first. Those in office now are destroying this country. I am very afraid for this country as we used to know it.

  12. beverly says:

    Excellent analysis! Thanks

  13. Janice Michaud says:

    Thanks for this look into the future, you have aptly defined the momentum.
    It will be the underground economy and contracted workers that will deny the over powered government elite sustenance. Instead of hoping for economic recovery, we will be engaged in a renaissance.

  14. Robert Kramer says:

    There might be an excuse for ignorance, but there is no excuse for stupidity. The first is genetic, the latter is not defensible…

  15. David Norwood says:

    You must stop this junk from becoming law…

  16. Jennie Fiedler says:

    The Few. The Dumb. The American Policticians. Are the dumbest people in our country running it now?

  17. Don Levit says:

    Speaking of stupidity, do you know the difference between genius and stupidity?
    Genius has its limits.
    Don Levit

  18. What's Really Broken? says:

    Either I am a genius or clueless; either may explain that no one has responded to my thoughts about health care INSURANCE and its contribution to HIGH COST of HEALTH CARE, LACK of RESPONSIBILITY for ONE’S HEALTH, and HEALTH CARE @ ANY COST ENTITLEMENT MENTALITY. I’ve posted the following on another Health Alert, Harry Reid’s comment regarding insurance industry:

    The ACTUAL problem is the COST of HEALTH CARE. Fix THAT and Health Care is available to all. The ANSWERS must attack the current conditions AFFECTING the HEALTH CARE COST (i.e. MARKET), as well as our own beliefs about Health, Health Care, personal responsibility for one’s health. The ANSWERS will take a lot more ENERGY, TIME, EFFORT than Obama’s Robin Hood approach, which is EASY, IMMORAL, and quite frankly, DIVISIVE (to our citizenry). Those who oppose the immorality of TAKE-and-GIVE socialistic policy are cast as DARK / GREEDY / UNCARING. Those who answer (EVERY HEART’S) desire to see every ill person made well – IGNORING the damning evidence of Federal Government programs & DAMNING the consequences of expanding those programs – cast themselves as CARING and therefore SUPERIOR. Unfortunately, money that grows on trees is worthless – and destructive. We cannot fix this problem by stealing or printing money!

    I myself believe that insurance is one of the culprits, if not the most significant culprit. Not because insurance companies are “greedy,” however. I believe that insurance elevates the cost of health care in an insidious way – by its very nature. By creating this huge pool of $ controlled by a third party (the insurance company), the commercial relationship between the seller (doctor) and buyer (patient) is OBLITERATED. Americans complain about the monthly premium costs, but we pay them gratefully because we know that a hospital stay (the actual HEALTH CARE COST) can easily amount to $100,000. Do I, the patient, really care how much the doctor charges if I pay only a smidgeon of it? NO. You see? The two-party commercial relationship doesn’t exist in Health Care. Where else does this occur in our economic system? Health Care Insurance is itself a socialist system! And its reimbursement standards are based on Medicare, another socialistic system!

    The only way for Health Care Costs to return to a seller-buyer regulated market is to totally rethink our approach to disease and Health Care. MOST disease and illness are due to behaviors and lifestyles that WE CHOOSE. Hmmmm… think about that. WE create our own NEED for Health Care to a very large degree. Then WE think we have a RIGHT to be TREATED for those conditions that WE have SELF-IMPOSED (again, to a large degree) – no matter the cost, no matter the cost to whom. We drink, do drugs, smoke, choose crap instead of real food; we don’t exercise, don’t sleep enough.

    Now: WHAT IF we knew there were no security blanket – no health care insurance $ to unethically depend on (again, I’m speaking with regard to self-imposed poor health due to our own personal choices)? How would knowing that health care insurance $ weren’t available to us for those self-imposed diseases affect our behaviors and lifestyle choices?

    WHAT IF the government demanded that we contribute to a savings plan of our own choice (not controlled by the government) for our own medical care expenses? And providers did not have access to a bottomless well of (insurance) $? How would this change – radically – the cost of health care?

    Millions of us willingly take on a 5-6 year car note to drive that dream car; we buy a house on a 20 or 30 yr mortgage… the actual cost to us for that dream car and house is WAY above the sticker price – thousands and thousands and thousands of dollars! We don’t question this wasteful use of our hard-earned $ and yet blanche at the thought of paying thousands of dollars to stay healthy and alive – we have been conditioned to entitlement thanks to Medicare and health care insurance!

    We must remember that we are human beings – we love the easy way out, the way that costs us little or nothing in self-control and self-accountability. This road leads to surrender of freedom as we grab the freedom from others to meet our needs.

    Our country did not become great and wonderful because its founders took the easy way out. On the contrary. We have become soft and spoiled and self-seeking. We want security instead of LIFE. I’m reminded of a wonderful film, “Then She Found Me.” Helen Hunt plays a woman who is raised Jewish by her adoptive parents. In the beginning of the move, amidst the strains of lovely Klezmer music, Helen Hunt (main character) narrates a Jewish story about a father who is teaching his son to have more courage and be less afraid. “He puts his son on the second step and says, ‘Jump and I’ll catch you.’ “ Then on the third step and so on. She continues the story, “The boy jumped from a very high step – but this time, the father stepped back and the boy fell flat on his face. He picked himself up, bleeding and crying and his father said to him, ‘That’ll teach you.’“
    At first I was appalled by this story and didn’t understand it. At the end of the film, however, Helen repeats the story and adds a coda. “When he [the father] caught him [the son], he [the son] was filled with love, and when he [the father] didn’t [catch the son], he [the son] was filled with something else, something more – LIFE. Amen!”

  19. Don Levit says:

    What’s Really Broken?:
    I agree with much of what you so powerfully expressed.
    We all have so many self destructive tendencies.
    It is hard to believe that health insurance could be hazardous to our health, but you may be on to something here.
    I, too, think this bottomless well of insurance should be curtailed.
    In fact, in my opinion, the payout should be in direct relation to one’s contributions, less claims made.
    Possibly a multiple of 10 or 20 times this figure.
    That way, the person is benefiting many times over what he has contributed, which is the beautiful concept of the community helping the individual.
    In addition, the savings aspect you mentioned is very important, for pay-as-you-go is not the way to address health care expenses.
    Medicare is a great warning of what not to do, for the “savings” have been squandered in lieu of other, current governmental expenses.

    There definitely is a socialistic concept to insurance, which is okay, as long as it is curtailed.
    In that way, the individual is encouraged to take the bull by the horns, as you suggest, rather than simply succumbing to the bull.
    I’m with you and my Jewish colleagues: “Choose Life.”
    Don Levit