Health reform and the election, part 3: One candidate would mandate employer-provider insurance, one

October 22, 2008

In the third and final presidential debate on October 15, Senators Barack Obama and John McCain spent some time discussing health care -- an issue which, in spite of increasingly dominant concerns about the economy -- still seems to matter a great deal to American voters. The volley went something like this:

MCCAIN: "Now, my old buddy, Joe, Joe the plumber, is out there. Now, Joe, Senator Obama's plan, if you're a small business and ... if you don't  ... adopt the health care plan that Senator Obama mandates, he's going to fine you. Now, Senator Obama, I'd ... still like to know what that fine is going to be, and I don't think that Joe right now wants to pay a fine when he is seeing such difficult times in America's economy."

OBAMA: "I just described what my plan is. And I'm happy to talk to you, Joe, too, if you're out there. Here's your fine -- zero. You won't pay a fine, because ... I exempt small businesses from the requirement for large businesses that can afford to provide health care to their employees, but are not doing it.

"I exempt small businesses from having to pay into a kitty. But large businesses that can afford it, we've got a choice. Either they provide health insurance to their employees or somebody has to."

That's what the candidates are saying about employer mandates in health care. But what should they be saying?

It's a question that Mark Pauly, professor of health care systems at the Wharton School, addressed last November at the inaugural Health Economics and Policy Lecture, hosted by the School of Health Management and Policy at the W. P. Carey School of Business.

In Part 3 of a series on health care reform and the election, experts at the W. P. Carey School separate fact from politics in the issues surrounding employer mandates.

Who really pays for health insurance?

"The third thing that candidates should say ... concerns a relatively indisputable economic proposition on health insurance provided through the workplace, which is where almost all of us get our insurance. Economists believe that in most cases ... the entity that actually ends up sacrificing consumption or income when health care premiums rise is not the employer but the employees," Pauly said.

In other words, employer mandates -- the kind Barack Obama proposes and John McCain opposes -- don't actually eat into a business's costs. The employee foots the bill, whether the employer chooses to provide health insurance or is required to do so.

While obvious to economists, that concept is not at all apparent to employers or employees. The idea that "employer mandates do not really force employers to share," Pauly said, is generally met with "overwhelming disbelief on the part of normal human beings." That's why, not surprisingly, employers for the most part strongly resist the idea of employer mandates and employees strongly support it.

Most non-economists don't understand the concept because "who pays" is not always transparent, said Marjorie Baldwin, economist and director of the School of Health Management and Policy. "Let's say the federal government required employers to pay 100 percent of health care premiums for their employees. Employees might be very happy -- and might not realize that they were getting smaller pay increases (or no pay increases) and that fewer workers were being hired, or some were being laid off because employer costs had risen."

The confusion affects corporate managers and accountants, too, said Jonathan Ketcham, economist and assistant professor at the School of Health Management and Policy. "The fact that it's the employees who bear the whole cost for health insurance is masked by the company's standard accounting practices; the accountants see health insurance costs coming off of the employer's balance sheet, not considering the fact that the employer recoups those costs elsewhere -- like in lower wages," he said.

"Ultimately, the consumers will pay for health care -- either in the form of lower wages, insurance premiums, direct payments to providers or taxes," Baldwin said. "So let's make it transparent so that consumers can make informed decisions about how much/what types of health care services to consume."

Pauly agrees. "Both candidates are saying that the government should level with people, that government should be transparent. Why get into the rigmarole of trying to do things that look different than they really are -- and just end up confusing people?" Pauly wondered.

If not employer mandates, then what?

Pauly suggests, instead, that candidates ought to think "of levying the cost of any additional health insurance on the people who will really pay for it, which is either workers or taxpayers, and in some cases both. More generally, if they want someone other than the worker to pay, they cannot obtain that result through an employer mandate. If they really want employers to pay, they should propose a tax on capital income or profits."

An alternative to employer mandates, Baldwin suggested, is "individual mandates with subsidies for those who cannot afford even a basic policy." Individual mandates, Ketcham said, would require individual Americans to obtain health insurance, just as auto insurance is required for anyone who wants to own a car. Other alternatives, according to Ketcham, include a government-provided health safety net for people who don't have health insurance and tax incentives to encourage individuals to insure their health.

"If you look around globally," Ketcham said, "there are good examples of alternatives to employer mandates."

Looking globally, one isn't likely to find a system of employer-provided health insurance like the U.S.' According to Pauly, the U.S. system of employer-provided health insurance is unusual. He said the fact that employees' health insurance is tax-free (health care premiums are paid before taxes are taken out of employees' wages) is one advantage of employer-based health care (versus an employee taking higher wages and purchasing health insurance on his own in the market).

In fact, Pauly said, "it is mainly (though by no means entirely) tax advantages that cause this particular and somewhat peculiar system of employer-provided health insurance."

Ketcham suggested that McCain has it right when he proposes repealing that tax advantage. "Most economists agree that would be an equitable and efficient reform," Ketcham said. Not taxing employer-based health insurance premiums, he said, means that people are treated differently based on whether or not their employer provides health insurance.

It also disproportionately benefits higher-income people. The 40 percent of all Americans who don't pay federal income tax at all (because they're the lowest-income earners), for example, don't benefit from tax-free health insurance coverage.

Yet, according to Pauly, the tax issue is not necessarily clear cut. "The usual calculations of the tax subsidy include both income and payroll taxes, but McCain would only impose income taxes on health benefits, not payroll taxes. So the workers who pay no income tax still get a tax subsidy because they do not pay the payroll tax either, but they would not be subject to taxation under the McCain proposal," he said.

Still, Ketcham said that "Taxing employer-based health insurance would generate $250 billion this year. That money could be put to much better use than subsidizing higher-income people’s purchases of health insurance."

Would small businesses suffer more under an employer mandate?

Clearly, Senator McCain is trying to incite opposition from "Joe the plumber" -- and small businesses like him -- to what McCain calls a "fine" that he says Senator Obama would impose on businesses that don't offer their employees health insurance. In reality, Obama's plan exempts small businesses from the employer mandate. On top of that, Pauly, said, Obama’s proposal is not a "literal mandate." Instead, it imposes a fine on medium and large businesses that do not offer health insurance to their employees. The penalty is a percentage of the employer’s payroll. I would have called it a literal mandate if the fine was as large as or larger than what it would have cost the employee to offer coverage,” Pauly said.

Yet if history is any guide, McCain's aim to pit businesses against Obama's plan may be a wise strategy. The Clinton healthcare reform plan was dogged with opposition from small businesses.

"In the first round of the Clinton healthcare reform plan," Pauly said, "it was small businesses that were the most vociferous and effective in opposing employer mandates." In exempting small businesses (like "Joe the plumber") Obama "is sort of trying to buy them off," said Pauly.

But Ketcham suggested that there may well be reason for small businesses to oppose employer mandates more strongly than large businesses. "Small businesses face a higher administrative burden in providing employee benefits -- including retirement programs as well as health insurance," he said. "Large businesses enjoy economies of scale -- they have HR departments to manage benefits for all of their employees, whereas small businesses lack that kind of HR infrastructure, which results in a higher per-employee cost to administrate benefits."

But how to deal with those administrative costs, "is a fundamentally different question -- with a fundamentally different answer" than the question of who pays for health insurance, Ketcham said.

Small businesses may also be differently affected by employer mandates because they're constrained by state regulations, whereas many large businesses are regulated -- in terms of what their health plans must cover -- at the federal level. "State regulations require employers to offer more benefits than federal regulations do," Ketcham said.

But empirical evidence doesn't suggest that's a bad thing. "State regulations that require health plans to include more benefits would only harm businesses if employees didn't value those extra benefits," Ketcham said. Evidence shows that employees typically value extra benefits like chiropractic care, he said.

Beyond those differences, which don't change the fact that it's employees who foot the bill for the costs of healthcare coverage, employer mandates would affect businesses differently in one other way: those employers that have a relatively large number of minimum-wage workers will bear a larger burden if health insurance were mandated.

"The average cost of health insurance is about $4 per employee per hour," Ketcham said.  So an employee making $11 an hour without health insurance might only make $7 an hour if health insurance were mandated. But when employees are working at minimum wage, employers can't cut wages to offset the costs of paying for health insurance.

"An employer mandate would make it more expensive for employers to employ minimum-wage workers," Ketcham said.

A study released by the National Bureau of Economic Research (NBER) showed that employer mandates would reduce the number of minimum-wage jobs in the U.S. by about 225,000. "And those minimum-wage workers are disproportionately low-educated minority women," Ketcham said.

The bottom line? Joe the plumber, if you employ minimum-wage workers, you'll be more affected by an employer mandate than if you employed higher-wage workers. For everyone else, you'll pass the cost of health insurance along to your employees -- just as every other business that offers health insurance does.

Bottom Line:

  •  Employer mandates -- the kind Barack Obama proposes and John McCain opposes -- don't actually eat into a business's costs. The employee foots the bill, whether the employer chooses to provide health insurance or is required to.
  • Some alternatives to employer mandates include: individual mandates with subsidies for low-income families; a government-provided health safety net for people who don't have health insurance; and tax incentives to encourage individuals to insure their health.
  • The U.S. system of employer-provided health insurance is unusual. "It is mainly (though by no means entirely) tax advantages that cause this particular and somewhat peculiar system of employer-provided health insurance."
  • Taxing employer-provided health insurance would be "an equitable and efficient reform" -- and would generate $250 billion this year.
  • There may well be reason for small businesses to oppose employer mandates more strongly than large businesses -- small businesses face a higher administrative burden in providing employee benefits -- including retirement programs as well as health insurance.
  • Employers that have a relatively large number of minimum-wage workers will bear a larger burden than those with higher-wage employees if health insurance were mandated. When employees are working at minimum wage, employers can't cut wages to offset the costs of paying for health insurance.