Monday, December 9, 2013

The Power of Incentives

           My wife and I have a “high-deductible” health plan.  And we credit this type of plan for saving us money on healthcare expenses.  “Why”, you ask?  Because incentives matter.
Here’s how it works.  In January of each year, United Healthcare deposits $2,400 into our health savings account.  We may use the funds for any medical-related expenditure, including some qualifying dental expenses.  As an additional benefit, we aren’t required to establish a primary care physician and then waste time and money searching for referrals.  Instead we may visit the specialist of our choice without the hassle of first asking for permission. 
Costs for office visits and procedures are paid directly out of our HSA account.  And filing is similar to other kinds of insurance.  We just hand the doctor our insurance card and the funds are deducted from our account.  We can save money by using in-network doctors, but we can also venture out if we want.  Sure, we’ll pay a little more, but the choice is ours, and we believe more choice is good.
Now, here’s the best feature: any unused funds from the prior year are automatically carried forward into the next year – up to a maximum of $10,000 per family.  This allows us to “save” up for an emergency.  The ability to roll over unused funds also creates a neat incentive – it makes us smarter consumers of our healthcare dollars.  We routinely shop around and are quick to question doctors about procedures. And our efforts pay off.  Our dermatologist sent tissue samples to two different labs.  One lab charged $495 and the other $125 – for the same tests! With a regular health plan, there is exactly zero incentive (once the small co-pay has been paid) to forego any additional test, procedure, or lab work because the cost to do so is hidden.
Americans overspend on healthcare because we don’t know how much we're spending.  While this may sound crazy, it follows the economic axiom that people tend to over-consume when not faced with the full cost of consumption.  With traditional insurance coverage, most costs over and above the co-pay are paid directly by the insurance company, not the consumer.  This “third party” payer system has had the unintended consequence of masking the true cost of healthcare.  When friends ask about how much a particular procedure costs, we simply respond that it was covered by insurance.  And since we don’t know how much something costs, we can’t really know if we should forego its purchase.  We’ve abandoned one of the most essential elements of free market economics: the price system. 
The price system works because we respond to incentives.  Absent this remarkable feature of the market system, our ability to weigh tradeoffs is severely diminished.   Our so-called solution has been to shift this responsibility to third parties like insurance companies.  But this is problematic.  We routinely complain and lament insurance companies for denying claims.  On the other hand, insurance firm owners probably complain that their customers are routinely trying to abuse their services by constantly ordering wasteful tests and unneeded procedures.  And this awful arrangement will continue as long as we as health consumers are denied access to prices.
Consumer-driven high-deductible health plans save money because they capitalize on the economic theory that people are more cautious when spending their own money.  Insurance plans that allow consumers to accumulate unused healthcare dollars for future healthcare expenditures create additional incentives for healthcare consumers to comparison shop.  This would help create true healthcare competition – something that is badly needed. 
Obamacare does little to advance this money-saving potential.  In fact, Obamacare discourages high-deductible plans in favor of more traditional insurance arrangements.  This is unfortunate and almost guarantees that we’ll continue to spend ever more on healthcare while denying folks the opportunity to be in control of their healthcare choices and dollars.

Saturday, December 7, 2013

A Comparison

I thought of this after watching the movie The Internship

 Cost to Taxpayers - $0


Cost to Taxpayers - $360 - 600 Million

One of these sites links you to a world of information.  The other links to problems and glitches.

Milton Friedman on the Minimum Wage

Milton Friedman spoke with such clarity that ordinary lay people could grasp fundamental economic theory.  Here is Friedman speaking clearly in 1966 about the minimum wage.

"Congress has just acted to increase unemployment. It did so by raising the legal minimum-wage rate from $1.25 to $1.60 an hour. The result will be and must be to add to the ranks of the unemployed. 

Does a merchant increase his sales by raising prices? The situation is not different for other employers. The higher wage rate decreed by Congress for low-paid workers will raise the cost of the goods that these workers produce--and must discourage sales. It will also induce employers to replace such workers with other workers--either to do the same work or to produce machinery to do the work. 

Some workers who already receive wages well above the legal minimum will benefit. ... The groups that will be hurt the most are the low-paid and the unskilled. Many well-meaning people favor legal minimum-wage rates in the mistaken belief that they help the poor. These people confuse wage rates with wage income. 

It has always been a mystery to me to understand why a youngster is better off unemployed at $1.60 and hour than employed at $1.25."

Thursday, November 21, 2013

Broken Promise: Not Really.

But is this really true?  Did the government break a promise?

Not really. 

The president and supporters of the ACA may be guilty of pulling a fast one on the American people, but not of breaking a promise.  How is this possible you say?  We all heard the president on numerous occasions lay out several promises regarding the new healthcare law.  We repeatedly heard things like affordability for all, retention of plans for everyone, high quality care for everyone, improved access for everyone, and so on.  Were these not promises you say?

Additionally, we were consistently made to believe the present ails of our draconian and unfair healthcare system would be soon be remedied by Obamacare.  The president’s healthcare law, we were repeatedly told, would guarantee delivery of universally-affordable, high-quality healthcare for all Americans.  We all heard this.  However, as you know, things haven’t gone according to plan.  Many of the promises made by the president are turning out to be false.  But these weren’t really promises.

The promise of a future event or condition that lacks little chance of occurring is not a promise.  If I promised to discover the cure for cancer in two years, no one would believe me, because reasonable minds know it to be false. And thus my promise wouldn’t be accepted as such.  My promise lacks the definable features inherently associated with a promise, one of which is ability to deliver.

With respect to Obamacare, we weren’t really promised all these things – reasonable people knew them to be false.  We were, quite frankly, lied to.  All of the so-called promises made by Obamacare had little to no chance of actually occurring, and thus weren’t really promises.  A promise must have a probable or likely chance of becoming reality.  Did most reasonable people really believe that we could all have our cake and eat it too with respect to Obamacare? 

It may sound like splitting hairs, but it’s important to understand the difference between a lie and a promise.  One has a reasonableness of expected occurence and the other does not. Politicians are fond of “promises” but reasonable people know they are usually just disguised as lies. Learning the difference between the two will serve you well.

Friday, November 15, 2013

Excel Quirk

I came across a new hyperlinking quirk in Microsoft Excel today.  I was entering some numerical values into a spreadsheet and then linking them to a PDF.  I've done this hundreds of times without any problems, but today I ran into a quirk.

Some of the PDFs had a pound sign in their name (i.e. claim_check#1).  Excel would accept the hyperlink but refused to open the file. I got the infamous "Cannot open file" error each time I clicked on the hyperlink.  I was stumped until I realized that Microsoft treats the # sign as a bookmark holder when hyperlinking. 

When your hyperlink points to an Excel spreadsheet or Word document, you can instruct the link to open a particular bookmark within your application.  This is done by placing a # sign immediately after the hyperlink address, as shown below.

When Excel saw the # sign in the name of my PDF, it couldn't find the corresponding bookmark because there wasn't one.  So, I got the error.  Who knew?  So, when naming your PDFs or other documents, avoid the # sign if you plan to hyperlink to them in Word or Excel.

Thursday, November 14, 2013

Reality Check

"This is a president adrift, confused and entirely over his head. He has, in essence, confirmed what his harshest critics have long been arguing: he is incompetent and unknowledgable about how the world operates.  And we have three more years left of this.”

This is from the Washington Post opinion page.  Not kidding.

Why did it take a massive display of government ineptness to finally open the eyes of this newspaper?  To think the government could actually make good on every lofty promise and high-minded pronouncement about the ACA is beyond laughable.  Welcome to real world, Washington Post. 

Tuesday, November 12, 2013

Some thoughts on Obamacare enrollments

Word is that only 49,100 folks have signed up for health insurance since 1-Oct.  This is both good and bad news, depending on your perspective.

First, the good news.  Meager enrollment figures means savings for taxpayers.  Most assuredly, those signing up qualify for tax rebates and subsidies, and with fewer people electing to purchase health insurance, costs should be lower than expected.  That's good news for taxpayers.

Now, the bad news.  Meager enrollment figures could hit insurers’ bottom lines.  Also most assuredly, those signing up intend on using their health insurance.  Insurance companies were counting on the young and healthy (low users) to subsidize the old and sick (high users).  But it appears the former group is largely sitting on the sidelines.  If this trend continues, insurers could suffer losses.

Perhaps I should short some health insurance stock.  Any ideas on which ones?

Friday, November 8, 2013

Public or private health

In what world is my personal diet a matter of public health?  Apparently government regulators at the FDA have concluded that in this present world, it is.  And in the name of public health they are banning “trans fat”. 
In no way is the ingestion of “trans fat” a public health issue.  If the FDA can argue that it is, then what aspect of my existence is explicitly private in nature?

Friday, November 1, 2013

Oklahoma seeks to bring down Obamacare

Oklahoma is shepherding a lawsuit that could wreak havoc on Obamacare.  With help from Michael Cannon (of the Cato Institute), the suit claims that the law’s tax credits and subsidies – fundamental to the law’s success and survival are available only in states that chose to create an exchange.  The IRS, which will administer the tax rebates and subsidies, has ruled that those subsidies will be available to everyone everywhere.

Cannon believes that this tweak in the law was deliberate.  He says Congress intentionally limited subsidies to state-created exchanges as an incentive for states to build their own exchange.  It was the carrot and stick approach.  You build the exchange, you get the subsidies.  If we build it, no subsidies.  Congress (mis)calculated that this financial incentive would entice nearly all states to succumb to Congress’s wishes.  They were wrong.

Thirty four states have refused to build their own exchange.  This means that a large swath of the American citizenry is susceptible to an adverse ruling.  Using population data from Wikipedia, I estimated that approximately 184 million people (58% of population) in those 34 states would not have access to the tax rebates and subsidies available to the 134 million citizens in the remaining states. 
What would be the fallout if citizens in Colorado can apply for and obtain tax credits and subsidies to offset the cost of insurance while citizens in neighboring New Mexico cannot?  Those against the law would most likely celebrate any ruling that nibbles away at the law itself.  However, supporters and those looking to get subsidized insurance would undoubtedly protest as they are now denied access to those tax rebates and subsidies, if only for living in a Red state. I know of no federal benefit or entitlement that is geographically limited. 

I’m neither arguing for or against the position.  Personally, I despise Obamacare on many fronts.  My purpose for this post was to think through the implications of an adverse ruling.  Denying lucrative subsides to half the population simply won’t fly.  I believe this would present an untenable situation, which is why I believe no judge will rule to strike down the nationwide tax rebates despite the strong indications this is what should happen.  The outcome would be profoundly divisive and unimaginably chaotic. 

Tuesday, October 29, 2013

Applying the Gordon Growth Model to the S&P 500

The Gordon Growth Model is a very old and very useful stock valuation model. It's based on the insight that the value of stock today is the present value of all future dividends the stock holder will receive. If one can argue the dividends will grow at a constant rate, then we can use the simple Gordon model:

where P is the value of the stock today, D is the dividend in one year (normally), r is the required return on the stock, and g is the expected growth rate of the dividend. Now, using the simple model takes a lot of care, and shouldn't be applied to every stock. But, it does make sense, as an initial approach, to apply this model to the S&P 500 so we can try to get a sense of the fair value of the S&P 500. 

Now, according to Prof. Shiller's data, the dividend you would receive if you held one share of the S&P 500 index (yes, it's not possible but this is a theoretical exercise), is 34.4. Note the current index level (which can be interpreted as the price of one share of the index) is 1776. 

I built a little table to see how reasonable the current level of the index is, given the dividend. The range of the required return (r) that I use is 5-8%, and the growth rate (g) range is 0-4%. The range of index values I generate is 430 (required return of 8%, growth rate of 0%) and 3444 (required return of 5%, and growth rate of 4%). In only three situations can I generate a value above the current index value: required return of 5% and growth of 3.5% or 4%, and required return of 5.5% and growth of 4%. 

It is important to note that a reasonable range of required return for the S&P 500 is 6-8%. The historical (back to 1871) average growth rate of dividends is 3.5%. For those values, the range of index values I find is 765 - 1377. Note that, using the current dividend yield (34.4/1776) and growth rate, we can calculate the current total return as around 5.5%. That seems abnormally low to me.

According to my little exercise, the S&P 500 is currently above most reasonable values I can generate. I think that growth of 3.5% is rather high to expect right now. Most estimates I see are between 2-3%. That means the S&P 500 is going to drop down. I don't know when, so rather than shorting the index, put options are a better choice. 

Certainly we can "tech up" the situation, which will be my next exercise. Notably, we can include risk aversion measures, because if risk aversion is down, then it is conceivable that required return is lower than normal. That could justify higher stock valuations.