President Obama: Ignoring Human Incentives

Feb 27, 2014 by AFP

By Eric Peterson

Understanding human incentives is paramount to economics. Accurate predictions and beneficial public policies can only be crafted when these incentives are taken into account.  Unfortunately, however, legislation and regulations are enacted that ignore or distort these incentives, creating unintended, and often profoundly negative consequences. Obamacare is a case in point.

The alleged purpose behind Obamacare was to expand health insurance coverage to all Americans. For many Americans health insurance is simply too expensive. In order to combat the high and growing prices of healthcare premiums, the President’s healthcare law was designed to provide subsidies to low and middle income families, however; Obamacare subsidies are progressive.  For example, a family whose income is 150% above the federal poverty line will pay 4% of their income for a “silver” health care plan, while an individual or family making 200% above the federal poverty line will pay 6.3% of their income. It’s a simple concept: the more money you make the fewer subsidies you receive.

Another goal of Obamacare was to decouple employment and health insurance in order to reduce “job lock.” Reducing “job lock,” frees individuals to start new businesses or change jobs without fear of losing their health insurance.  While reduction in job lock will have small benefits, Obamacare has also resulted in much greater job reduction, according to a report released by the nonpartisan Congressional Budget Office (CBO). The CBO report concluded that 2.5 million equivalent workers will be incentivized not to work over the next decade.

The Obamacare subsidies provided for the purchase of health insurance function as extra income. This allows individuals to reallocate funds they would have spent on healthcare to other areas. This discourages work because individuals will have a higher standard of living for no extra effort thanks to wealth transfers from the tax dollars of other workers.

The cost of working also increases because of another distorted incentive:  As individuals increase their earnings the subsidy provided by the government decreases.  Instead of spending their time working to increase their skills or earn additional money, many workers will reduce their schedules from full-time to part time, or shy away from taking on additional responsibilities or opportunities to increase the size of their paychecks.  This will be especially prevalent when individuals reach certain income thresholds.  Subsides decrease sharply at incomes greater than 150%, 200% and 250% of the federal poverty line and disappear altogether at 400%. Individuals will work up until they get close to these levels and then either work off the books or cease working all together.

While many people believe subsidizing health care for low income individuals is a good thing, decreasing incentives to work will likely have long term negative side effects for those very same individuals.  Wages reflect value. Individuals entering the market receive low wages because they initially create less value compared to more experienced workers.  Employers are often willing to invest in these low value workers now in hopes of increasing their productivity later. This increased productivity will lead to upward mobility and higher wages in the future.

The President’s healthcare law makes this less likely to happen for two reasons. First Obamacare subsides encourage potential employees to find part time work over a full time job.  Forgoing the subsidy acts as an implicit tax on employment based insurance, making part time work more appealing. Since employees are more likely to work part time, employers will have a reduced incentive to invest in their development. Second, employees are more likely to leave their work as their health care will no longer be tied to their employment. The CBO estimates that employer based coverage will decline around 4% due to the implicit tax mentioned earlier. This provides employers with a disincentive to invest in their own employees.

The implications on the long term health of the economy and income mobility for individuals from Obamacare are decidedly negative. More discouraging is the class system this legislation creates. Not only does Obamacare discourage workers from increasing their human capital, it discourages work. Individual wealth is built up over a lifetime of hard work and steadily increasing earnings. Obamacare chops off the first step to the income ladder, increasing the number of people who choose not to climb at all.

Milton Friedman said “One of the great mistakes is to judge policies and programs by their intentions rather than their results.” Obamacare has the intention of providing healthcare to millions of previously uninsured, however; the results of the program are devastating not only for the millions who have lost health care, but because of the incentives that create long term negative economic effects to those it intends to help.