Gains From Medicare Trade

08 Thursday Dec 2016

Posted by pnuetz in Medicare, Privatization, Profit Motive

Tags

ACA, American Enterprise Institute, CMS, Donald Trump, Health Savings Accounts, HHS, IPAB, John C. Goodman, MACRA, Medicare, Medicare Advantage, Medicare Part C, Medigap, Obamacare, Original Medicare, Premium Support Plan, Privatization, Tom Price

Here’s a bit of zero-sum ignorance: private profits are robbed from consumers; only non-profits or government can deliver full value, or so this logic goes. Those who subscribe to this notion dismiss the function of private incentives in creating value, yet those incentives are responsible for nearly all of the material blessings of modern life. What the government seems to do best, on the other hand, is writing checks. It’s not really clear it does that very well, of course, but it does have the coercive power of taxation required to do so. Capital employed by government is not a “free” input. It bears opportunity costs and incentive costs that are seldom considered by critics of the private sector.

The role of private profit and the zero-sum fallacy come up in the context of proposals to privatize government services. In what follows, I discuss a case in point: privatization of Medicare. Rep. Tom Price, the Chairman of the House Budget Committee, is Donald Trump’s nominee to head HHS. In November, Price said Congress would attempt to pass legislation overhauling Medicare in the first year of the Trump Administration. James Capretta of the American Enterprise Institute (AEI) explains some of the features of the possible reforms. Price has supported the concept of a premium support plan whereby seniors would purchase their own coverage from private insurers, paid at least in part by the government (also see here).

Medicare and Its Ills

The Medicare program is beset with problems: it has huge unfunded liabilities; it’s cash flows are being undermined by demographic trends; fraud and bureaucratic waste run rampant; it’s unpopular with doctors; and the regulations imposed on healthcare providers are often misguided.

Writing checks to health care providers is really the primary “good” created by the federal government in the administration of Medicare. The Centers for Medicare & Medicaid Services (CMS), a branch of the Department of Health and Human Services (HHS), also performs regulatory functions mandated by legislation, such as the Affordable Care Act (ACA).

More recently, CMS has been implementing the Medicare Access and Chip Reauthorization Act of 2015 (MACRA), which will introduce changes to the payment formulas for physician compensation under the plan. Economist John C. Goodman offers a cogent explanation of the ill-conceived economic planning at the heart of Medicare regulation and its implementation of MACRA in particular:

“…the government’s current payment formulas create perverse economic incentives — to maximize income against the formulas instead of putting patient welfare first. The goal is to change those incentives, so that providers will get paid more if they lower costs and raise quality.

But after the new formulas replace the old ones, provider incentives in a very real sense will be unchanged. They will still have an economic incentive to maximize income by exploiting the formulas, even if that is at the expense of their patients.“

After describing several ways in which Medicare regulation, now and prospectively, leads to perverse results, Goodman advances the powerful argument that the market can regulate health care delivery to seniors more effectively than CMS.

“If the government’s metrics are sound, why not allow health plans to advertise their metrics to potential enrollees and compete on these quality measures. Right now, they cannot. Every communication from health plans to Medicare enrollees must be approved by CMS. … Under MACRA, health plans profit by satisfying the government, not their customers. … Better yet, why not let the market (rather than government) decide on the quality metrics?“

Private Medicare Exists

Wait a minute: profit? But isn’t Medicare a government program, free from the presumed evils of profit-seekers? Well, here’s the thing: almost all of the tasks of managing the provision of Medicare coverage are handled by the private sector under contract with CMS, subject to CMS regulation, of course. That is true even for Part A and Part B benefits, or “original Medicare”, as it’s sometimes called.

Under “original” Medicare, private insurers process “fee-for-service” claims and payments, provide call center services, manage clinician enrollment, and perform fraud investigations. Yes, these companies can earn a profit on these services. Unfortunately, CMS regulation probably serves to insulate them from real competition, subverting efficiency goals. Goodman’s suggestion would refocus incentives on providing value to the consumers these insurers must ultimately serve.

Then there are “Medigap” or Medicare Supplement policies that cover out-of-pocket costs not covered under Parts A and B. These policies are designed by CMS, but they are sold and managed by private insurers.

And I haven’t even mentioned Medicare Parts C and D, which are much more significantly privatized than original Medicare or Medigap. The Part C program, also known as Medicare Advantage, allows retirees to choose from a variety of privately-offered plans as an alternative to traditional Medicare. At a minimum, these plans must cover benefits that are the equivalent to Parts A and B, as judged by CMS, though apparently “equivalency” still allows some of those benefits to be declined in exchange for a rebate on the premium. More optional benefits are available for an additional premium under these plans, including a reduced out-of-pocket maximum, a lower deductible, and reduced copays. Part C has grown dramatically since its introduction in 1996 and now covers 32% of Medicare enrollees. Apparently these choices are quite popular with seniors. So why, then, is privatization such a bogeyman with the left, and with seniors who are cowed by the anti-choice narrative?

What’s To Privatize?

Not privatized are the following Medicare functions: the collection of payroll-tax contributions of current workers; accounting and reporting functions pertaining to the Trust Fund; decisions surrounding eligibility criteria; the benefit designs and pricing of Part A (hospitalization) and Part B (optional out-patient medical coverage, including drugs administered by a physician); approval of provider plan designs and pricing under Parts C; regulation and oversight of all other aspects of Medicare, including processes managed by private administrative contractors and providers of optional coverage; and regulation of health care providers.

The Independent Payment Advisory Board (IPAB) was created under the Affordable Care Act (ACA), aka Obamacare, to achieve Medicare costs savings under certain conditions, beginning in 2015. Its mandate is rather confusing, however, as IPAB is ostensibly restricted by the ACA from meddling with health care coverage and quality. Proposals from IPAB are expected to cover such areas as government negotiation of drug prices under Part D, a Part B formulary, restrictions on the “protected status” of certain drugs, and increasing incentives for diagnostic coding for Part C plans. Note that these steps are confined to optional or already-private parts of Medicare. They are extensions of the administrative and regulatory functions described above. Despite the restrictions on IPAB’s activities under the ACA, these steps would have an impact on coverage and quality, and they mostly involve functions for which market solutions are better-suited than one-size-fits-all regulatory actions.

The opportunities for privatization are in 1) creating more choice and flexibility in Parts A and B, or simply migrating them to Parts C and D, along with premium support; 2) eliminating regulatory burdens, including the elimination of IPAB.

Impacts On Seniors Now and Later

Privatization is unlikely to have any mandatory impact on current or near-future Medicare beneficiaries. That it might is a scare story circulating on social media (i.e., fake news), but I’m not aware of any privatization proposal that would make mandatory changes affecting anyone older than their mid-50s. Voluntary benefit choices, such as Part C and D plans, would be given more emphasis.

There should be an intensive review of the regulatory costs imposed on providers and, in turn, patients. Many providers simply refuse to accept patients with Medicare coverage, and regulation encourages health care delivery to become increasingly concentrated into large organizations, reducing choices and often increasing costs. Lightening the regulatory burden is likely to bring immediate benefits to seniors by improving access to care and allowing providers to be more patient-focused, rather than compliance-focused.

Again, the most heavily privatized parts of Medicare are obviously quite popular with seniors. The benefits are also provided at lower cost, although the government pays the providers of those plans extra subsidies, which may increase their cost to taxpayers. Enrollees should be granted more flexibility through the private market, including choices to limit coverage, even down to catastrophic health events. Consumers should be given at least limited control over the funds used to pay their premia. That would include choice over whether to choose lower premia and put the excess premium support into consumer-controlled Health Saving Account (HSA) contributions.

Other Reforms

Pricing is a controversial area, but that’s where the terms of mutually beneficial trades are made, and it’s what markets do best. Pricing flexibility for private plans would be beneficial from the standpoint of matching consumer needs with the appropriate level of coverage, especially with fewer regulatory restrictions. Such flexibility need not address risk rating in order to have beneficial effects.

Regulations imposed on physicians and other providers should be limited to those demanded by private plans and the networks to which they belong, as well as clear-cut legislative rules and standards of practice imposed by professional licensing boards. The better part of future contributions to the Trust Fund by younger workers (i.e., those not grandfathered into the existing program) should be redirected toward the purchase today of future benefits in retirement, based on actuarial principles.

Perhaps the best cost-control reform would be repeal of the tax deductibility of insurance premia on employer-paid insurance plans. This provision of the tax code has already inflated health care costs for all consumers, including seniors, via demand-side pressure, and it has inflated their insurance premia as well. If extended to all consumers, tax deductibility would be less discriminatory toward consumers in the individual market and most seniors, but it would inflate costs all the more, with unevenly distributed effects. Unfortunately, rather than eliminating it entirely, qualification for the tax deduction is very likely to be broadened.

Conclusions

The Medicare program is truly in need of an overhaul, but reform proposals, and especially proposals that would put decision-making power into the hands of consumers, are always greeted with reflexive shrieks from sanctimonious worshippers of the state. The most prominent reform under consideration now would offer more of what’s working best in the Medicare program: private choices in coverage and costs. Solving the long-term funding issues will be much easier without a centralized regime that encourages escalating costs.

Earning a profit is usually the mark of a job well done. It is compensation for the use of capital and the assumption of risk (i.e., no bailouts). Physicians, nurses, chiropractors, insurance agents and customer service reps all earn compensation for their contributions. Providers of capital should too, including the owners of health insurance companies who do well by their customers. And if you think the absence of profit in the public sector creates value, remember the damage inflicted by taxes. Capital isn’t “free” to society just because it can be confiscated by the government.

Valuing Water Properly

16 Friday Sep 2016

Posted by pnuetz in Property Rights, Water Markets

≈ Leave a comment

Tags

Australia Department of Agriculture and Water Resources, Australia National Water Commission, Cap and Trade, Feebate, in toto ownership rights, John Fleck, Peter Nelson, prior appropriation, Privatization, Riparian Water Rights, The Hamilton Project, The Nature Conservancy, Walter Block, Water Capitalism, Water Markets, Water scarcity, WaterExchange, Waterfind

The Western U.S. is dealing with its water crisis in a variety of ways, but the most promising solutions, and the least draconian, involve the creation of water ownership rights and markets in which they can be traded. This recent Vox interview with John Fleck, author of “Water Is for Fighting Over“, emphasizes the dramatic reductions in usage that have taken place over the past few decades. Unmentioned, however, is that without correct price incentives, much of this adaptation involves unnecessary costs. Many users are forced to restrict water use via coercive rules. Even when conservation entails the installation of relatively simple technologies like low-flow toilets and less water-intensive landscaping, mandates do not encourage water to flow to its highest-valued uses. Mandates force conservation on all uses regardless of the efficiency with which it can be accomplished, leading to higher costs. Of course, droughts induce changes in agricultural usage as well (and reduce yields), but those changes are always suboptimal to the extent that real price incentives for a crucial input are absent.

Fleck is highly supportive of a few cases of water trading within and between certain irrigation districts. Despite these cases, however, water is priced too low in most jurisdictions to reflect its actual scarcity, and the adjustments that do occur are generally indiscriminate in terms of economic efficiency.

The only way to bring rationality to water use is for all parties to have an interest in its long-term sustainability. Markets can do that much better than collective action or forms of regulation instigated by the state. But for markets to work, traders must have a secure right in the thing being traded. Water rights are controversial, to say the least. Some basics of water rights are discussed briefly in this review of a book called “Water Capitalism: The Case for Privatizing Oceans, Rivers, Lakes, and Aquifers“, by Walter Block and Peter Nelson.

First, the riparian system, which works only when water is plentiful:

“‘The concept is that ownership of the adjacent land includes the riparian zone [the water frontage zone, i.e. shore] … typically to the centerline (unless he has holdings on both sides …) as well as the water [itself]. Pure riparian ownership gives the proprietor the privilege of drawing water … as long as there is any [to draw]’“

The in-toto system requires that any body of water, or any independent source of water, be owned by one entity, whether that is an individual, a cooperative, or a corporation. In such a world, owners of water assets would have an economic interest in good stewardship, and would charge rates that would effectively limit drawdowns to a sustainable flow. That is the only way to preserve the long-term value of their asset. However, the idea of an “independent” source of water is often problematic or even superfluous, as many or even most sources of water are dependent on others to one degree or another.

The prior appropriation system of water rights is described by Peter Nelson in this quote:

“‘This type of ownership both involves the water and measures it. The first user constructed the device(s) necessary to utilize and/or divert what he needed. In so doing, he mixed his labor with a natural resource. But what exactly does he own? It is not geometric in nature. The flow of water is what he possesses.’“

In some respects, prior appropriation is similar to the concept of squatter’s rights. However, the author of the book review linked above, Ryan Griggs, claims that ownership in a rate of flow, a usage right, is fundamentally different than a property right. I disagree. There are other forms of property that constitute claims to future flows of income, such as shares of stock or bonds held in perpetuity, and those flows are valued and traded as property. In any case, I’m not sure why ownership in a rate of usage is problematic from the perspective of the resource allocation problem at hand.

Prior appropriation is a convenient way of addressing the problem of vesting users with rights. Those rights would necessarily be attached to the land or area on which usage occurs, rather than portable for users, but I will continue to refer to “users” in what follows, rather than “places”. To simplify, suppose that each user owns an annual allotment of water as a percentage of total availability. If total availability fluctuates, some users will find it easier than others to adjust their usage. Individual users would receive their allotments based on prior use. They would pay a fee for the infrastructure and technology needed to extract and distribute water to them, and they would pay an additional rate per unit for water used above their allotment. If they use less than their allotment, they receive a rebate at the same rate per unit (or a “feebate“, a term sometimes used in conservation circles). Thus, users are given a conservation incentive.

In a low-water year when total availability is down, the price of usage will rise as users requiring more water than allotted bid on the available supplies. Those able to adjust their usage downward might find it profitable take “feebates”, in effect selling part of their allotment to other users. In this sense, water will flow to those uses in which its value is highest. The price of these trades will reflect the actual scarcity of the resource, and the higher price leads to more intensive conservation efforts. In fact, depending on the going rate, it’s possible for a user to become a net water seller, in term of monetary value, in a given period. It is also possible to arrange trades of longer-term water transfers, future water transfers, and even contingent water transfers.

The initial allotments are relatively easy to measure, though the details surrounding the measurement of historical usage must be agreed upon. However, future adjustments must be based on changes in total availability. How is that measured? A first step is to determine the extent to which total water supply is above or below a range deemed acceptable from a natural perspective. This, in turn, depends upon the annual rate at which the stock is recharged or replenished from natural sources. These data allow the calculation of a flow of usage each year that is consistent with moving toward the acceptable range for the water level. Depending on initial conditions, the allotments might require adjustments in usage in subsequent years, but that depends on the type of water source and the response of usage to the new conservation incentive. The path to “sustainable” allocations might have to be gradual, requiring several years. This might also require water authorities to purchase flows from other basins to bridge the gap, with the cost passed on to users in the marginal water rate (and reflected in feebates to the suppliers).

This might sound suspiciously like a “cap and trade” system because that’s exactly what it is. The determination of the initial allotments is a relatively benign exercise. The process for determining later adjustments is described above as a strictly technological problem, but in truth, it would be fraught with controversy, requiring a series of of political compromises. Battles over changes to allotments are likely to recur during periods of severe drought. This has been the case in Australia, for example, where the development of water markets is at a fairly advanced stage.

Australia succeeded in developing extensive water markets in response to the severe scarcity faced by farmers and other users in certain water basins. The National Water Commission published this report on water markets in 2011, which provides something of a blueprint for their system. These markets are primarily for water used in irrigation. The details of allotments in Australia are discussed in the report. No feebate system as described above is mentioned. Their water markets are now overseen by the Department of Agriculture and Water Resources. There are water brokers and exchanges to facilitate trading. WaterExhange and Waterfind provide on-line platforms for water trades. This Reuters article from September 2015 is of interest for its description of how water markets can become highly politicized under certain circumstances. This recent Bloomberg piece makes essentially the same point.

Regardless of the political complexities, the growing scarcity of water in the American West demands innovative new approaches to conservation. Creating secure rights in water flows and allowing users to engage in mutually beneficial trades of water gives them the right incentives for rational water management. Traditional approaches such as usage restrictions, mandates, and large water storage infrastructure projects are all costly and do not promote the efficiencies that come naturally by way of market solutions.

Further reading: A recent report from The Nature Conservancy is strongly supportive of markets to deal with water scarcity. This Hamilton Project paper on water markets is worth reading as well. Two previous posts on Sacred Cow Chips dealt with water markets: “Scarcity Scarcity Everywhere, And Water Pricing Stinks” and “Can Water Markets Drive the Nuts From California?”

Social Security: Saving or Tax? Proceeds or Aid?

17 Monday Aug 2015

Posted by pnuetz in Big Government

≈ 2 Comments

Tags

CATO Institute, Federal entitlements, FICA Tax, George W. Bush, Lump Sum vs. Annuity, Michael Tanner, Michigan Retirement Research Center, National Bureau of Economic Research, NBER, payroll taxes, Privatization, retirement, Social Safety Net, Social Security Privatization, Social Security Trust Fund, Treasury Special Purpose Bonds, Welfare Payments

In general parlance, an entitlement is a thing to which one is entitled. If you have paid into Social Security (FICA payroll “contributions”), you should feel entitled to receive benefits one day. Why do I so often hear indignant complaints about the use of the term “entitlement” when applied to Social Security and Medicare? I’ve heard it from both ends of the political spectrum, but more often from the Left. It is usually accompanied by a statement about having “paid for those benefits!”. Exactly, you should feel entitled to them. You are not asking society to pay you alms!

Yet there seems to be resentment of an imagined implication that such “entitlements” are equivalent to “welfare” of some kind. That might be because the definition of an entitlement is somewhat different in the federal budget: it is a payment or benefit for which Congress sets eligibility rules with mandatory funding, as contrasted with discretionary budget items with explicit approval of funding. Because payments are based solely on eligibility, Social Security, Medicare and many forms of welfare benefits are all classified as entitlements in the federal budget. Obviously, those complaining about the use of the term in connection with Social Security believe there is a difference between their entitlement and welfare. But as long as they are willing to leave their “contributions” and future eligibility in the hands of politicians, their claim on future benefits is tenuous. Yes, you will pay FICA TAXES, and then you might be paid benefits (alms?) if you are eligible at that time. Certainly, the government has behaved as if the funds are fair game for use in the general budget.

Having made that minor rant, I can get to another point of this post: the Social Security retirement system offers terrible returns for its “beneficiaries”. Furthermore, it is insolvent, meaning that its long-term promises are, and will remain, unfunded under the current program design. However, there is a fairly easy fix for both problems from an economic perspective, if not from a political perspective.

The chart at the top of this post shows that Social Security benefits paid to eligible retirees are less than the payroll taxes those same individuals paid into the system. The chart is a couple of years old, but the facts haven’t changed. It’s boggling to realize that you’ll receive a negative return on the funds after a lifetime of “contributions”. That kind of investment performance should be condemned as unacceptable. However, you should know that the program is not “invested” in your retirement at all! Social Security’s so-called “trust fund” is almost a complete fiction. Most FICA tax revenue is not held “in trust”. Instead, it is paid out as an intergenerational transfer to current retirees. In the past, any surplus FICA tax revenue was invested in U.S. Treasury special purpose bonds, which funded part of the federal deficit. Here is a fairly good description of the process. The article quotes the Clinton Office of Management and Budget in the year 2000:

“These balances are available to finance future benefit payments … only in a bookkeeping sense. They do not consist of real economic assets that can be drawn down in the future to fund benefits. Instead, they are claims on the Treasury that, when redeemed, will have to be financed by raising taxes, borrowing from the public, or reducing benefits, or other expenditures.“

Unfortunately, for the past few years, instead of annual surpluses for the trust fund, deficits have been the rule and they are growing. Retiring baby boomers, longer life expectancies, slow income growth and declining labor force participation are taking a toll and will continue to do so. Something will have to change, but reform of any kind has been elusive. An important qualification is that almost any reform would have to be phased in as a matter of political necessity and fairness to current retirees. Unfortunately, just about every reform proposal I’ve heard has been greeted by distorted claims that it would harm either current retirees or those nearing retirement. In fact, leaving the program unaltered is likely to be a greater threat to everyone down the road.

There are three general categories of reform: higher payroll taxes, lower benefits, and at least partial privatization. Tax increases have obvious economic drawbacks, while straight benefit reductions would be harmful to future recipients even if that entailed means testing: the return on contributions is already negative, especially at the upper end of the income spectrum. Michael Tanner discusses specific options within each of these categories, including raising the normal and early retirement ages. None of the options close the funding gap, but at least higher retirement ages reflect the reality of longer life expectancies.

Early in his presidency, the George W. Bush administration offered a reform plan involving no tax increases or benefit cuts. Instead, the plan would have offered voluntary personal accounts for younger individuals. Needless to say, it was not adopted, but it would have kept the system in better shape than it is today. The key to success of any privatization is that unlike the Social Security Trust Fund, workers with private accounts can earn market returns on their contributions, which are in turn reinvested, allowing the accounts to grow faster over time. Tanner notes that 20 other countries have moved to private accounts including Chile, Australia, Mexico, Sweden, Poland, Latvia, Peru, and Uruguay. This sort of change does not preclude a separate social safety net for those who have been unable to accumulate a minimum threshold of assets, as Chile has done. Tanner’s article lays out details of a tiered plan that would allow participants a wider range of investments as their accumulated assets grow.

Economic research suggests that participants do not place a high value on their future benefits. From a 2007 National Bureau of Economic Research (NBER) paper by John Geanakoplos and Stephen Zeldes entitled “The Market Value of Social Security“:

“We find that the difference between market valuation and ‘actuarial’ valuation is large, especially when valuing the benefits of younger cohorts. … The market value of accrued benefits is only 2/3 of that implied by the actuarial approach.“

An implication is that younger workers who have already made contributions could be offered the choice of a future lump sum that is less than the actuarial present value of their benefits when they become eligible. Such a program could cut the long-term funding gap significantly, if the results found by Geanakoplos and Zeldes can be taken at face value, though it could create additional short-term funding pressure at the time of payment.

Qualified support for such a program seems apparent from another 2007 NBER paper by Jeffrey R. Brown, Marcus D. Casey and Olivia S. Mitchell entitled “Who Values the Social Security Annuity? New Evidence on the Annuity Puzzle“. They find that:

“Our first finding is that nearly three out of five respondents favor the lump-sum payment if it were approximately actuarially fair, a finding that casts doubt on several leading explanations for why more people do not annuitize. Second, there is some modest price sensitivity and evidence consistent with adverse selection; in particular, people in better health and having more optimistic longevity expectations are more likely to choose the annuity. Third, after controlling on education, more financially literate individuals prefer the annuity. Fourth, people anticipating future Social Security benefit reductions are more likely to choose the lump-sum, suggesting that political risk matters.“

Moreover, lump sums may offer an additional advantage from a funding perspective: a 2012 paper from the Michigan Retirement Research Center at the University of Michigan by Jingjing Chai, Raimond Maurer, Olivia S. Mitchell and Ralph Rogalla called “Exchanging Delayed Social Security Benefits for Lump Sums: Could This Incentivize Longer Work Careers?” found that “... workers given the chance to receive their delayed retirement credit as a lump sum payment would boost their average retirement age by l.5-2 years.”

Certainly, it would be difficult for private accounts to fare as badly in terms of returns on contributions than the system has managed to date. The future appears even less promising without reform. There are several advantages to privatization of Social Security accounts beyond the likelihood of higher returns mentioned above: it would avoid some of the labor market distortions that payroll taxes entail, and it would increase the pool of national savings. Perhaps most importantly, over time, it would release the assets (and future benefits) accumulated by workers from the clutches of the state and self-interested politicians. They are not entitled to pursue their political ends with those assets; they are yours!

High-Speed Third Rail For Taxpayers

15 Friday May 2015

Posted by pnuetz in Big Government, infrastructure, Taxes

≈ 3 Comments

Tags

Amtrak, Bullet trains, California, capital costs, Carbon Emissions, fare revenue, Frederic Bastiat, High speed rail, infrastructure, Malinvestment, Megabus, operating costs, Privatization, profitability, Public benefits, Public boondoggles, Randall O'Toole, Sean Davis, The Federalist, Transit subsidies

Public boondoggles come in many forms, including sports stadiums and entertainment venues, convention centers, local trolly lines, light rail, superhighways, “gold-plated” public offices, and even subsidies for politically-favored (as opposed to market-favored) industries. Anything involving “infrastructure” has an almost perverse political appeal. The many varieties of boondoggles have much in common from a public finance perspective: ultimately, they are almost always funded by taxpayers; when they confer benefits to private parties (and they usually do), they are underpriced to those users. Taxpayers are often lucky if these projects cover their operating costs, let alone capital costs, via direct revenue generation. Taxpayers are usually on the hook for the bonds. Pure public benefits might offer some justication for this burden, but those cited by project proponents are often unconvincing on that basis. Let’s face it: projects are seldom evaluated against something approximating the true opportunity costs faced by the public or taxpayers.

A prominent example of such a project that seems to capture the political imagination is high-speed rail (HSR). My friend John Crawford emailed the following link: “Doing the math on California’s bullet train fares“. John provided this summary:

“Not surprisingly, today’s fare estimate has risen 72% over the estimate that was cited during planning. That’s telling but probably not surprising to anyone, even those that tried to change opinions by citing the $50 fare. What I think is most interesting follows.

CA-HSR price of 86 is about 20c/mile. Comparable prices are 22c for a Chinese train that everybody agrees to be subsidized, 54c for a French train that is profitable and 50c for the Amtrak corridor on the East coast, which is probably profitable; 46c in Germany. Somehow, they think they can do what nobody else in the world can do…profit at 20c/mile.“

The California authority is either spectacularly arrogant or stupid. Probably the former, because they are doing what self-interested bureaucrats and politicians always do. They want the project to get done, thus creating an empire, kicking a can-full of fare increases and taxpayer liabilities down the road, beyond the time when anyone will hold them accountable for the malinvestment. But the true extent of the malinvestment will never be obvious, because the counter-factual will remain in the unseen world of lost opportunity.

Something I find exasperating about articles like this are references to “profitability”, as in “… state officials say the system will quickly become profitable“, when the meaning is not actual profitability. My friend John did it too, but I forgive him because he knew the score, and because he’ll forgive me for being a pedant (I hope). But this is important! What the California officials mean by “profitability” (and it is a misuse of the term) is fare revenue in excess of operating costs. The latter do not include initial capital costs, so these officials are not making claims about actual profitability. Profitability means that revenue exceeds ALL costs, including capital costs. Many observers consider the California authority’s estimates of operating costs to be suspect, so it’s not even clear that revenue will cover the future costs of capital replacement, let alone the initial installation costs. Construction and planning costs are expected to be $68 billion for Phase 1 only, and you can safely bet on significant additional overruns by the projected completion of Phase 1 in 2029.

Fares calibrated to cover operating costs are not defensible in terms of long-run marginal cost pricing. While an incremental rider does not cause the capital cost of the system to increase in the short run, incremental riders absolutely do have an impact on long-run capital costs. In any case, there are many incremental riders at start-up. The long run is now. Yet, like many public projects, the burden of uncovered costs is justified in terms of other benefits of a supposedly public nature. Here is a vague description of such benefits from the CA HSR Authority:

“California high-speed rail will connect the mega-regions of the state, contribute to economic development and a cleaner environment, create jobs and preserve agricultural and protected lands.“

Let’s take these one at a time:

connecting “mega-regions”, if that is a real benefit of HSR relative to alternative modes of transportation, will largely accrue to riders, not the general public.
Economic development benefits are possible along the route or near stations, but that is hardly a pure public benefit, and it is likely to come at the expense of development elsewhere.
The trains will be powered, at least in part, by energy from fossil fuels. If HSR produces less carbon than equivalent airplanes, autos and other alternatives, that might represent a pure public benefit (according to the carbonphobic), but this is a costly way to achieve a minor reduction in carbon emissions. It is of value only to the extent that HSR brings real substitution away from other, higher carbon modes.
Construction jobs are part of the cost of the project, but this is a common ploy and very handy way to sell the project. Gains for the workers are certainly not a pure public benefit. To paraphrase Bastiat, calling construction jobs from malinvested capital a “public benefit” is like calling a broken window beneficial because it provides work for the glazier.
As for preserving agricultural and public lands, I do not believe that HSR will make much of a dent in future, land-gobbling highway construction (and if it did, it would offset those vaunted HSR job gains).

The public should always view large public projects like HSR with skepticism and insist that private benefits should be paid privately. There are always alternative uses of taxpayer funds, including the possibility that taxpayers should keep them. Too many public projects become funding disasters. In many cases, private parties would not be willing to buy the facilities for more than 10 cents on the dollar.of original cost. Without access to tax revenue, only a low purchase price would allow them to operate at a profit.

At the national level, this week’s tragic Amtrak crash near Philadelphia was the context for misguided calls to provide additional funding to the rail service. Sean Davis in The Federalist has a more logical proposal, even if it is a bit radical: not only should Amtrak be privatized, its assets should be given away! And how could anyone reach such a conclusion?

“Amtrak lost nearly $1.3 billion in 2013. Since its creation, Amtrak has racked up over $31 billion in accumulated losses. And every penny of those losses has been covered by federal taxpayers.

… Hand over the entire enterprise to whichever rail company wants it. ‘But that’s crazy!’ you might say. ‘Giving it away for free makes no cents [sic]!’

Well, neither does keeping it on the taxpayers’ books. The status quo costs taxpayers at least a billion dollars each year.“

Davis makes a fair point, though a give-away might attract multiple takers. Ultimately, bidding just might be necessary! Or, perhaps it would be necessary to PAY a private rail operator to take Amtrak off the federal government’s hands. A fairly high payment would still be worthwhile to taxpayers.

Randall O’Toole provides this excellent discussion of privatizing transit in a video of approximately 17 minutes. He discusses trends in ridership, the inefficiencies inherent in public transportation systems, and compares various market structures and types of private transportation systems, including private intercity buses (Megabus). He also addresses concerns that private transportation systems will not meet the needs of the poor by proposing the substitution of “transit stamps” for the huge subsidies currently paid into transportation bureaucracies.

There Is No Nordic Nirvana

17 Wednesday Sep 2014

Posted by pnuetz in Uncategorized

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Denmark, Finland, Iceland, John Fund, McCleans, Michael Booth, Nordic MIracle, Nordic Utopia, Norway, Privatization, Sweden, Tax Competitiveness, The Conversation, The Economist, Welfare State

Perhaps the Nordic utopia is not all it’s cracked up to be! Here’s a glimpse behind the facade from Michael Booth in The Guardian, with some blistering (and humorous) country-by-country commentary on a few of the cultural and economic failings of these darlings of the American Left. Here is The Conversation‘s rather cautious response. And here’s a comment from McLean‘s.

Apparently, the meme-niks of the Left are unaware that the more recent trend in Nordic countries has been away from government domination of the economy and high taxes. In fact, to his likely demerit, Booth even bemoans the widespread privatization of services that has taken place. This week’s Swedish election results were expected to herald a shift in direction, however, back toward the kind of welfare statism from which the country has turned away. Here’s The Economist‘s pre-election take on the situation. It includes some detail on the dismantling of the vaunted Swedish welfare state. But the outcome was not quite what The Economist expected. John Fund discusses the results, which included the advance of hard-line nationalists. Support for the welfare state seems to have eroded in tandem with the influx of immigrants. The hard-liners aside, this shift could simply indicate that support for the state from taxpayers is contingent upon the expectation of a return in the form of services, which may be diminished by redistribution to newcomers. However, some of the articles linked above imply a rising degree of racism toward non-Nordic immigrant populations.

As a further indication of the extent to which the Nordic countries have evolved, take a peak at the rank given to Sweden, Finland, Norway, Denmark and Iceland in this survey of international tax competitiveness. They are all ahead of the U.S. (which ranks 32nd out of 34 OECD countries) on the overall score and on most individual categories of tax competitiveness and neutrality.