Repealing The Individual Mandate Is A Tax Break For The Poor

Four Republican senators have blocked Obamacare repeal. These same senators’ low-income constituents are among those most hurt by Obamacare’s individual mandate tax.

Article in The Federalist, December 1, 2017.




Who Pays the ACA Tax Penalty?

Mostly those who make less than $50,000 per year.  State-by-state breakdown below.  This is a tax on the poor.

Obamacare Poverty Tax 2015




So, You Want a Swiss Healthcare System?

So, You Want a Swiss Healthcare System?

So, You Want a Swiss Healthcare System?

If you fail to comply with the mandate, the Swiss government will garnishee your wages and charge you a penalty equivalent to the cost of the premiums plus up to 50 percent, and, if you persist, the government will sign you up for an insurance policy and allow the provider to sue you for back premiums covering the period during which you were uninsured.

So, You Want a Swiss Healthcare System? Over at the National Review, Kevin Williamson does a terrific job of describing the highly-lauded Swiss health-care system. Read the whole article and you’ll understand why such a system is unlikely to work here. I’ll give the Cliff’s Notes version here.

There is no such thing as employer-provided health insurance in Switzerland. Residents pay for their own insurance. All insurance and care is offered on private markets, consumers have choice (with one big exception), and government spending on health care is relatively low.

Swiss law mandates that all citizens purchase insurance. It establishes a minimum package of benefits that meet the mandate. Insurance premiums for lower-income folks are subsidized with a goal no more than ten percent of household income should be spent on insurance. Pre-existing conditions must be covered. There are controls on procedure costs and reimbursement.   Insurance companies must offer their minimum policies on a nonprofit basis. Payments for services co-pays and deductibles) are relatively high. Prices must be made public, encouraging competition. And “community rating” is required. However, the Swiss version of “community rating” allows variation in premiums for age and gender. (The Swiss have always had, um, unique attitudes towards women. It was 1991 when the last canton, Appenzell Innerrhoden, allowed women to vote.)

Per-capita spending on health care is about the same across a wide swath of countries, including Switzerland, the U.S., the Netherlands, Sweden, Germany, and Denmark.

But the real key is compliance. One reason the Affordable Care Act is collapsing is that younger, healthier adults are not buying insurance. They have figured out that they will be subsidizing the elderly and they don’t like that much. And the penalties are laughably small. By the way, remember that younger workers are likely to have much lower household income than older workers. Do you blame them for resenting having to subsidize health care for those earning higher incomes than them?

Swiss compliance is very high. One reason is cultural. The Swiss people generally believe in following the rules. About a century ago I spent a summer working near Zurich. At 2 am it was common to see cars and pedestrians waiting for traffic lights, even though the streets were empty.

But the real kicker is one more law. Kevin says it better than I ever could:

If you fail to comply with the mandate, the Swiss government will garnishee your wages and charge you a penalty equivalent to the cost of the premiums plus up to 50 percent, and, if you persist, the government will sign you up for an insurance policy and allow the provider to sue you for back premiums covering the period during which you were uninsured.

The ACA doesn’t come anywhere near that level of enforcement. The next time someone says the U.S. should have a health insurance and care system like Switzerland’s, remember these small facts.




Mini-Clawback, Oregon Exchange Version

John Kitzhaber and Cylvia Hayes

John Kitzhaber and Cylvia Hayes

Part of the funding for the Patient Protection and Affordable Care Act (ACA) was supposed to help states set up their own health care exchanges. Many of those exchanges crashed and burned. Oregon was especially egregious. Much of the $305 million spent on the state’s exchange was flat-out wasted. The website never came close to actually working. But never fear – the Feds want their money back!

Oh, wait, just kidding. The Feds want money back all right. About $800,000. That total is funds that were spent on items that were “not allowable.” That’s right – the Feds are trying to claw back all of 0.26% of total spending. The rest, apparently, is the state’s participation trophy from the Feds. Nothing to see here, just normal and necessary expenses.

You may also recall that former Governor John Kitzhaber who resigned in the wake of scandals surrounding his relationship with staffer/consultant/marijuana entrepreneur wannabe Cylvia Hayes. Investigations are ongoing. But Kitzhaber and Hayes have the ultimate get-out-of-jail-free card: they are lifelong Democrats.




A Labor Force Participation Rate Update

It’s been almost three years since I published my review of the labor force participation rate (LFPR) broken down by age group. This is a labor force participation rate update. Click here to download my Excel workbook.

Overall

The LFPR continues its precipitous decline. In 2014 it reached 62.9%, the lowest rate since 1977. That’s 37 years, over one full generation. Here’s what it looks like:

LFPR_over16 A Labor Force Participation Rate Update

The Youngsters

The 16 − 24 age group at least halted the precipitous decline, leveling out at 55%. However, since 2010 this group has the had the lowest LFPR since at leat 1960. The previous low during this period was 1963’s rate of 55.21%.

LFPR_16to24 A Labor Force Participation Rate Update

The 25 − 34 group saw a continuing decline in the LFPR, reaching levels not seen since 1982. At least this group continues to have a high absolute rate, over 80%.

LFPR_25to34 A Labor Force Participation Rate Update

The Middle Aged

The 35 − 44 (“early middle age”) group also stayed above 80%. At 82.18% this is the lowest since 1984.

LFPR_25to34 A Labor Force Participation Rate Update

The 45 − 54 LFPR fell below 80% for the first time since 1988. This is the “prime working age” group. The decline is worrying.

LFPR_45to54 A Labor Force Participation Rate Update

Among the 55 − 64 (“late middle age”) the LFPR seems to have stabilized around 64.5%. This is the first group whose participation has increased during the last seven years.

LFPR_55to64 A Labor Force Participation Rate Update

The Formerly Elderly

You might think these folks are old. But they are staying in the labor force. The BLS now has data on narrower age groups: 65 − 69, 70 − 74, as well as 75 and older.

The 65 − 69 group’s participation has increased steadily since 1994. The LFPR seems to have stabilized around 31.5%. Nevertheless, this is a significant increase over the 20% rates we saw in the 1980’s.

LFPR_65to69 A Labor Force Participation Rate Update

Probably the most startling result is the 70 − 74 age group whose participation rate has nearly doubled since 1987. People are working further into what was once regarded as practically mandatory retirement.

LFPR_70to74 A Labor Force Participation Rate Update

Aggregating the formerly elderly, let’s first look at the group aged 65 and older. In 1960 their LFPR was 20.82%. That rate dropped fairly steadily, reaching a low of 10.77% in 1985. Since then it has increased, approaching the early 1960’s values.

LFPR_over64 A Labor Force Participation Rate Update

The group aged 75 and older has seen their LFPR double since 1987. However, the value of 7.98% in 2014 is small relative to the other groups.

LFPR_over74 A Labor Force Participation Rate Update

Conclusion

I wish I could say there is good news in this report. But the best I can offer is that some trends seem to have leveled off. At this point, however, it’s safe to say the U.S. economy has lost a substantial number of young potential workers who will never make up the ground they have lost.

In some of my other research I’m exploring the possibility that these younger people may actually be working in the “informal sector” (also called the underground economy or hidden economy). It’s possible that the growth of this sector has absorbed some young people, meaning that the reported LFPR’s are lower than the actual participation rate. At this point I do not know whether I will be able to tease even a preliminary answer out of the data. However, there are good reasons to suspect this might be true.

Consider the Affordable Care Act. This plan fundamentally requires young people to subsidize health insurance for older people. One way to avoid this tax is to not report any income (and therefore not file any tax returns). Working off the books for cash probably looks like a pretty good deal to some of these folks.

One of the fundamental ideas of economics is that if you make an activity more costly, people will perform less of that activity. The explosion of regulations emanating from Washington, D.C. has increased the cost of employment in the formal sector (the parts that produce data that is used to measure GDP and national income). It seems likely that at least a few people have chosen to work outside the formal economy. The real issue, of course, is how many have taken this path.




Obamacare Includes a Hidden New Death Tax

Death Taxes Obamacare includes a hidden new death tax

California, naturally, is one of the states that bought into the Medicaid expansion under Obamacare. In my lovely state the program is called MediCal. It turns out that Obamacare includes a hidden new death tax.

Here’s the short version:

  1. Expand Medicaid enrollment. (About 1/3 of California residents are now covered under MediCal.)
  2. Realize that state law requires asset recovery after a MediCal recipient dies. In many cases this will wipe out any inheritance.
  3. Scramble to change the law.

From the San Jose Mercury-News story:

California is one of 10 states that recover a broad array of costs from recipients of Medicaid, the health program for the poor that is called Medi-Cal in California. The policy applies to recipients 55 and older — and only after they die.

The seizure of assets has been going on for years but has suddenly become a heated issue since millions of low-income American adults began enrolling in the expanded Medicaid program created by the Affordable Care Act, commonly known as “Obamacare.”

One of the Medi-Cal recipients is Campbell resident Anne-Louise Vernon, 59. She contends that California’s aggressive cost-recovery program is unjust because people whose higher income levels allow them to get subsidized private health insurance through the new Obamacare health care exchanges don’t have to pay back anything.

Vernon said she requires constant medical care because of severe nerve damage in her arms and arthritis in her legs –conditions that have prevented her from finding a job. The divorced mother of two said her home is her only real asset.

Medi-Cal, she said, has now essentially imposed a “reverse mortgage” on her home in exchange for health insurance.

“What is fair about that?” asked Vernon.

Fair? There is absolutely nothing fair about Obamacare. Pleadings like Ms. Vernon’s are, frankly, silly. There’s no such thing as a free lunch. I despair of people ever understanding the meaning of that phrase.

And you wonder why this once-golden state is in such a mess. The legislature can’t even anticipate obvious problems like this.




Kathleen Sebelius Doesn’t Know Any Economists

I know! I know!

I know! I know!

Today HHS Secretary Kathleen Sebelius made this comment:

 “There is absolutely no evidence, and every economist will tell you this, that there is any job loss related to the Affordable Care Act,” Sebelius said Monday in Orlando. “Part-time physicians are actually down since 2010, not up. The number of full-time workers continues to increase. I know that’s a popular myth that continues to be repeated but it just is not accurate.”

Ms. Sebelius obviously has not talked to any economists outside the beltway.  Three years ago I predicted the current labor market conditions caused by the ACA.

On the other hand, given the administrations choices for other cabinet posts, we should probably be happy that Ms. Sebelius remains in her post.  However, it’s clear that Kathleen Sebelius doesn’t know any economists.




“Freeing Workers From the Insurance Trap”

Update an hour later: The People’s Cube has some hilarious stuff under the title Rejoice! You have been liberated by the Red Army!  Here’s a sample:

You have been liberated by the Red Army!

Credit: Oleg Atbashian, creator and editor of ThePeoplesCube.com. Used by permission of Mr. Atbashian.

Update February 6, 2014: There has been much handwringing from ACA supporters.  Several even went so far as to say that even though the labor force will lose 2.5 million workers, that doesn’t necessarily mean there will be 2.5 million fewer jobs.  At this point, I like to bring out my ultra-simple model of the economy: GDP = labor productivity x number of workers.  Fewer workers means lower GDP unless something drastic happens with productivity.  (Economic theory says fewer workers should raise the marginal productivity of labor.)

Luckily, CBO Director Dr. Douglas Elmendorf testified before the House Finance Committee.  Below is a video showing his reply to questions from Rep. Paul Ryan (R-Wisconsin).  Dr. Elmendorf confirms that the reduction in labor supply directly leads to the CBO forecast of lower economic growth.

The February 4, 2014 New York Times includes an editorial that pegs the Orwell newspeak meter.  Headlined “Freeing Workers From the Insurance Trap” the editorial goes on to laud the virtues of not working.  A few excerpts:

The Congressional Budget Office estimated on Tuesday that the Affordable Care Act will reduce the number of full-time workers by 2.5 million over the next decade. That is mostly a good thing, a liberating result of the law.

“Liberated” from a job.

The report estimated that — thanks to an increase in insurance coverage under the act and the availability of subsidies to help pay the premiums — many workers who felt obliged to stay in a job that provided health benefits would now be able to leave those jobs or choose to work fewer hours than they otherwise would have. In other words, the report is about the choices workers can make when they are no longer tethered to an employer because of health benefits. The cumulative effect on the labor supply is the equivalent of 2.5 million fewer full-time workers by 2024.

Apparently all those workers losing their jobs are just quitting or choosing to switch to part-time employment.

 The report clearly stated that health reform would not produce an increase in unemployment (workers unable to find jobs) or underemployment (part-time workers who would prefer to work more hours per week).

Yet, somehow, the labor force has shrunk dramatically in the last five years, while both the unemployment and underemployment rates have remained very high. I’ve written about this in numerous articles, including two from early 2010 (click here and here) and my in-depth study of the labor force participation rate.

Huh?

Huh? (from Tammy Bruce website)

And I have to point out a major error in this piece.  The claim that you can quit your job and not worry about healthcare for the first time is misleading at best.  You will still need to purchase individual health insurance, either directly from a provider or on one of the exchanges.  If you make the latter choice, I don’t think it’s fair to say there is “no cost” to this option.  Heck, both choices have costs, but using an exchange consumes much more time, exposes your personal data to much more risk, and is more intrusive than the private alternative.  And, under the old system, you actually could extend your health insurance after you left a job via COBRA.

The Times editorial board has now officially become a propaganda wing of the Obama administration.

Other opinions on the Times editorial:

Peter Ferrara of Forbes 

John Luciew in the The Patriot-News (central Pennsylvania) 

Tammy Bruce 




The Impact of the ACA Medical Device Tax Corrected Version

[h/t to Mike Schibly for pointing out that I switched millions to billions in the section titled “A Generalization to Medical Devices.”  That has been corrected as of February 4, 2014, 4:15 pm Pacific standard time.]

[An alert reader pointed me to a serious error in the first version of this article.  My dollar tax per CT scanner was about eight times too high.  That makes deadweight losses and most other calculations considerably smaller.  This is the corrected version of the article.  And thanks for bringing this problem to my attention.]

In this blog entry, I’ll discuss the impact of the ACA medical device tax. The Patient Affordable Care Act (ACA) includes a 2.3 percent sales tax on these devices. The impact of this particular tax has not been discussed much.  But it’s important.  In this blog entry, I’ll describe the tax, discuss its likely impacts, and look at the incidence of the tax.

Background on the ACA Medical Device Tax

I decided to write this after hearing a statement made on NPR’s Morning Edition on July 2, 2012.  In a discussion of the medical device tax, the following exchange took place.  The speakers are:

  • Paul Van de Water, an economist with the “left-leaning Center on Budget and Policy Priorities.”[1]  Dr. Van de Walter got his Ph.D. in economics from MIT in 1975.  Speaking as an MIT alumnus, this embarrasses me.
  • Chris Arnold, NPR reporter.

“…

ARNOLD: Okay. So here’s how this new tax works. When a medical device gets sold, there will be a 2.3 percent sales or excise tax. Now, people who support this tax say that the medical device makers are exaggerating about the impact. Paul Van de Water is an economist with the left-leaning Center on Budget and Policy Priorities. He says that this tax is basically the same as a sales tax that you pay at the grocery store.

PAUL VAN DE WATER: The grocery store is collecting the tax. The grocery store is the institution that sends the tax to the state government, just the way the medical device manufacturer is going to write the check to the Treasury.

ARNOLD: Still, economist Paul Van de Water is skeptical. He says it’s not like a hospital will decide to do fewer hip replacement surgeries just because of a two percent tax on replacement hips. So he says the device makers should be able to pass along the cost. The industry, though, is lobbying hard. Last month the House of Representatives voted to repeal the tax, but there’s likely to be a bigger hurdle in the Senate. Chris Arnold, NPR News, Boston.”[2]

Economists study this sort of thing all the time.  The topic falls under the general heading of the incidence of a tax.  And the only way that 100 percent of a tax is passed along to buyers is if the demand curve is vertical.  In the real world, there are no vertical demand curves.  Ergo, Dr. Van de Water’s statement is false.

But there’s still an interesting question remaining.  What short and long run impacts on the industry will this tax create?  This is likely to get a bit tedious, so bear with me.

The Medical Device Tax

The Patient Affordable Care Act (PACA) includes a 2.3 percent tax on sales of medical devices. The tax would apply to any medical device sold in the U.S. regardless of where it was manufactured.  Here’s an excerpt from a September, 2011 study published in the journal Health Affairs.

“… the final incidence of the fees imposed on medical device manufacturers, pharmaceutical companies, and insurers is more complicated. To the extent that these fees are passed on to the end consumers in the form of higher medical prices and thus premiums, they will probably be borne proportional to the burden of premiums, which, as noted, are regressive.

On the other hand, if these fees function more like corporate income taxes, current economic theory would suggest at least some of the burden would be financed through corporate capital. Some of the burden would also fall on labor through reductions in productivity and hence, wages as the incremental burden is shared by capital and labor. Similarly, at least some of the incidence of penalties on employers for not providing coverage could fall on wages.”[3]

Before analyzing the incidence of this tax, let’s understand one important point.  This tax is on sales, not profit.  Even a start-up company with massively negative profits will still have any sales subjected to this tax.  That fact alone will dampen innovation.[4]

What this boils down to is the relative price elasticities of supply and demand.  Arguments presented so far focus on short-run impacts.  Later I’ll also consider the long-run impacts.

What is a Taxable Medical Device?

Like so many aspects of the PACA, the rules for which devices are subject to the tax are being created by the IRS and FDA.  The IRS has issued a proposed set of rules which are still open for comment.  Here’s what the IRS says (from the previously linked page):

” Section 4191(b)(1) provides that, in general, a “taxable medical device” is any device, as defined in section 201(h) of the Federal Food, Drug & Cosmetic Act (FFDCA),(codified as amended at 21 U.S.C. 301 et seq. (2006)), that is intended for humans. Section 201(h) of the FFDCA provides generally that the term “device” means an instrument, apparatus, implement, machine, contrivance, implant, in vitro reagent, or other similar or related article, including any component, part, or accessory, that is recognized in the official National Formulary, or the United States Pharmacopeia, or any supplement to them; intended for use in the diagnosis of disease or other conditions, or in the cure, mitigation, treatment, or prevention of disease; or intended to affect the structure or any function of the body, and that does not achieve its primary intended purposes through chemical action within or on the body and that is not dependent upon being metabolized for the achievement of its primary intended purposes.

Section 4191(b)(2) provides that the term “taxable medical device” does not include eyeglasses, contact lenses, hearing aids, and any other medical device determined by the Secretary to be of a type that is generally purchased by the general public at retail for individual use.”

As is customary with sales taxes, devices purchased for resale or as intermediate goods (parts) are not subject to the tax.

Before we get into the theory, we need some data.  Luckily, the Census Bureau does periodic detailed surveys of industries.  Their 2010 report is available, conveniently as an Excel table.  I have included Table 1 in my Excel workbook. (If you download that Excel workbook, beware of a couple of things.  First, it’s an Excel 2007 macro-enabled (,xlsm) workbook.  Second, the worksheets are highly interconnected.  Check dependencies before you make any changes.  Of course, if you screw something up you can always download another copy here.)

In 2010, the total spent on medical devices including ionizing radiation equipment was $26,796.9 million.  The average from 2006 through 2010 is $26,202.7 million.  Eyeballing the data, the total has fluctuated with a standard deviation of $1,396.1 million.  Importantly, there is no obvious trend in the data:

Medical Device Sales

Medical Device Sales

A quick linear regression reveals no statistically significant trend.  So let’s assume the average will be the actual in 2013.  The tax will raise about $602.7 million dollars during that year.  (Yes, I’ll discuss the likely long-run impacts later.)

Let’s look at one specific market: CT scanners.  Since 2006 there has been a slight, but statistically significant downward trend in sales.  A simply trend forecast indicates sales of about $1,078.1 million in 2013.  That will raise about $24.8 million in tax revenue.

Now we’re ready to look at who will bear the burden of these taxes.  The real question is how much will be paid by buyers and how much by sellers.  Dr. Van de Water believes 100 percent of the tax will be paid by buyers.  Let’s learn some economics, then consider the implications for the medical devices market.

The Incidence of a Tax: Who Pays?

Economists divide the world of sales taxes into two types.  A specific tax is a tax per unit purchased.  The example people in most countries understand is taxes on gasoline.  Many of those taxes are per gallon or per liter.  (Note that sales taxes are also levied on gasoline sales in many places. That means gasoline taxes are both specific and ad valorem.)

The second tax is an ad valorem tax, a percentage of the money amount of the transaction.  Sales taxes generally fall into this category.  The medical device tax also falls into this category.

For analytical purposes, it really doesn’t matter much which form the tax takes.  To make this article somewhat more comprehensible I’ll convert the ad valorem tax into its specific tax equivalent..

A specific tax drives a wedge between the price buyers pay and the price sellers receive.  The difference, the amount of the tax per unit, goes to the government.  An easy way to understand such a tax is with a simple supply – demand diagram.  I’ll consider CT scanners with a price of $150,000.[5]  Our forecast sales revenue of $1,078.1 million in 2013 implies sales of 7,187 units.  The remaining question is the price elasticities of supply and demand.

A Digression on Elasticity

(If you’re familiar with elasticity, feel free to skip to the next section.)

Price elasticity is the ratio of the percentage change in quantity demanded or supplied divided by the percentage change in price.  For example, consider the following calculation of the price elasticity of demand:

Calculating Elasticity

Calculating Elasticity

The interpretation is simple.  A one percent increase in price will cause quantity demanded to fall by 0.1364 percent.  At a price of $20, demand is inelastic because the absolute value of the elasticity is less than 1.0.

Now consider the same demand curve at a different price:

Calculating Elasticity

Calculating Elasticity

At the higher price, demand has become elastic because the absolute value of elasticity is greater than 1.0.  At this price, quantity demanded is very responsive to price changes.  A one percent increase in price will cause quantity demanded to fall by 1.5 percent.

Note that the sign of the coefficient of price in the demand curve is negative.  This is consistent with the first law of demand: holding everything else constant, at a higher price, buyers will purchase less of any product.  In other words, demand curves slope downward.  And the slope of any demand curve is negative.[6]

Similar calculations apply to the price elasticity of supply.  Since supply curves slope upward, supply elasticity will be a positive number.

Naturally, economists calculate elasticity a bit differently.  We like to use the point elasticity of demand.  That means we need calculus:

Elasticity With Calculus

Elasticity With Calculus

You may have noticed something about the two previous examples.  Even though the demand curve is a straight line (linear) the elasticity changes as the price and quantity change.  Elasticity is not the same as the slope of the demand curve.  For that reason, economists often use a constant elasticity demand curve formulation:

Constant Elasticity Demand Curve

Constant Elasticity Demand Curve

Elasticity and Medical Devices

So let’s use the constant elasticity formulation for convenience. Assume a price elasticity of demand of -0.5 and a price elasticity of supply of +1.[7]  Given P = $150,000 and Q = 7,187, we can figure out the constant terms in the demand and supply curves, giving us:

CT Scanner Constant Elasticity Curves

CT Scanner Constant Elasticity Curves

Be patient: we’ll use these equations in just a minute.  But it will be easier to start with linear equations:

CT Scanner Linear Curves

CT Scanner Linear Curves

The linear demand and supply curves are carefully constructed so that at the equilibrium price and quantity (P = $150,000 and Q = 7,289.85) the price elasticity of demand is -0.5 and the supply elasticity is +1.0.  (The accompanying Excel workbook calculates both elasticities at each point on the linear demand and supply curves.)

Simple Supply – Demand Models

Using historical data and some assumptions, I’ve guesstimated supply and demand models using both linear and constant-elasticity formulations.  The linear model is constructed to guarantee that, at the market equilibrium, demand and supply elasticities will be -0.5 and +1.0 respectively.

The linear and nonlinear models looks like this:

Linear Model

Linear Model

 

Constant Elasticity Model

Constant Elasticity Model

With the tax, the implied quantity is 7,131.90.  Here’s what it looks like for both models.  (The nonlinear model appears to be linear because the horizontal and vertical axes have been zoomed.)

Tax Incidence, CT Scanners, Linear Model

Tax Incidence, CT Scanners, Linear Model

 

Tax Incidence, CT Scanner, Nonlinear Model

Tax Incidence, CT Scanner, Nonlinear Model

Welfare Loss

The welfare loss is the area of the triangle bounded by the supply curve, the demand curve, and the vertical line that shows the quantity with the tax. Economists call this the deadweight loss created by the tax.  It’s a widely-used measure of the inefficiency created by taxes, subsidies, and externalities. Using the linear model, the deadweight loss is $95,060.90.  With the constant-elasticity model the deadweight loss is $781,431.81. (I used a somewhat non-standard method of numerical integration to calculate this number.  The Excel workbook also shows the result using the more common formulation.  The deadweight loss is about $5,000 greater using that method.)

The Incidence of the Medical Device Tax

So who pays the tax?  Let’s begin with a simple example using the linear supply and demand curves developed above.  We’ll also begin by treating the tax as if it was a specific tax, equal to 2.3 percent of $150,000 or $3,450.23 per CT scanner.  The idea is to find the quantity at which the difference between the demand price and the supply price is equal to the size of the tax.  The graphs above illustrate this for our CT scanners.

Using a little algebra, we can determine that the quantity will be 7,131.90 units (the horizontal intercept of the green vertical line in the above graphs).  Using the linear model, the demand price will be $152,300.16 and the supply price $148,849.92.  Given the equilibrium price of $150,000, the amount of the tax paid by buyers will be $152,300.16 − $150,000 = $2,300.16.  Sellers will pay $150,000 − $148,849.92 = $1,150.08.  And the total payment will equal the amount of the tax.  The deadweight loss will cost consumers $63,373.93 and the cost to sellers will be $31,686.97.

You may have noticed something about this example.  Buyers will pay 2/3 of the tax and sellers will pay the other 1/3.  The incidence of the tax that falls on consumers is equal to

Tax Incidence Using Elasticities

Tax Incidence Using Elasticities

where η is the price elasticity of supply and ε is the price elasticity of demand.  The remaining 1/3 is, of course, paid by the seller.

This leads us to a very important result of economic analysis: it does not matter whether the tax is actually paid by buyers or sellers.  The incidence only depends on elasticities, not who actually makes the payment.

“But,” the reader wonders, “can it really be that simple?  What about the nonlinear constant elasticity forms of the demand and supply curves?”

It turns out it does not matter.  The only things that determine the incidence of a tax are the elasticities of supply and demand.  Below is a graph that may be persuasive.  Note that the demand and supply prices are the same as in the linear case.

A Generalization to Medical Devices

Now that we’ve seen that elasticities are the only things that matter, we can extend this to the entire category of medical devices covered by PACA.  We will continue to assume the price elasticity of demand is -0.5 and the supply elasticity is +1.0.

As noted earlier, the average spending on covered medical devices from 2006 to 2010 was $26,202.7 million.  Further, while this amount fluctuates from year to year, there is no statistical trend over those five years.  Let’s assume this amount is 2013 spending.  With a tax rate of 2.3%, the total tax collected will be $602.7 million.  We can predict that 2/3 of that amount ($401.8 million) and sellers will pay the other 1/3 ($200.9 million).  The statement that “the tax will just be passed along to buyers” is patently false.

A Quick Look at the Long Run

Present and past members of Congress and the Executive branch have succeeded in pretty much destroying the U.S. candy manufacturing industry.  Restrictions on U.S. sugar imports keep the U.S. price of sugar about twice the world price.  The candy industry uses a lot of sugar.  Therefore, since under NAFTA they cannot trans-ship sugar through Mexico or Canada, they are moving production and jobs to those two countries.  Buy the sugar at world prices, transform it into candy and export the candy to the U.S.  Simple, huh?

The point of that example is simple: people and businesses respond to incentives.  I predict a surge in hospitals and clinics just south of the U.S. – Mexico border.  These places will house very expensive medical devices.  Medical tourism will expand a great deal, at least among those who can afford it.  (This won’t happen in Canada because in that country it’s illegal for individuals to pay for healthcare.)

“But,” you ask, “a 2.3 percent tax isn’t all that much.”

You should get a job in Washington, D.C. if you believe that.  Remember, the tax on a single CT scanner is almost $25,000.  A positron emission tomography (PET) scanner runs upwards of $8 million,[8] generating a tax of nearly $200,000.

And, of course, as the clinics move the jobs will go with them.  And wealthy people will be able to get their high-end treatments immediately in Mexico while those not so well off will be treated under ObamaCare.

References

Arnold, C. (2012), National Public Radio, Morning Edition, July 2, 2012.  Transcript and audio available at http://www.npr.org/2012/07/02/156096945/sales-tax-in-health-law-targets-medical-devices  accessed July 3, 2012.

CT scanner prices from
http://www.absolutemed.com/Medical-Equipment/CT-Scanners-Systems. Accessed July 3, 2012.

Ketsche, P.E., E.K. Adams, S. Wallace, V. D. Kannan, and H. Kannan (2011). “Lower-Income Families Pay A Higher Share Of Income Toward National Health Care Spending Than Higher-Income Families Do.” Health Affairs, September 2011 30:1637-1646; doi: 10.1377/hlthaff.2010.0712.

Pertile, P., E. Torri, L. Flor, and S. Tardivo (2009). “The timing of adoption of positron emission tomography: a real options approach.” Health Care Management Science 12:217-227 DO I 10.1 007/s 1 072(HJ08-9085-4

U.S. Bureau of the Census:
“MA334S – Electromedical and Irradiation Equipment” (2005, available at http://www.census.gov/cir/www/334/ma334s.html. Accessed July 4, 2012.)
“MA334A – Electromedical Equipment and Analytical Instruments” (2009 and 2010, available at http://www.census.gov/manufacturing/cir/historical_data/ma334a/index.html, Accessed July 6, 2012.)

U.S. Internal Revenue Service (2012). REG-113770-10, “Notice of Proposed Rulemaking and Notice of Public Hearing Taxable Medical Devices.” Available at  http://www.irs.gov/irb/2012-13_IRB/ar12.html. Accessed July 7, 2102.



[1] Statement by NPR reporter Chris Arnold. National Public Radio, Morning Edition, July 2, 2012.  Transcript and audio available at http://www.npr.org/2012/07/02/156096945/sales-tax-in-health-law-targets-medical-devices
accessed July 3, 2012.

[2] Ibid.

[3] “Lower-Income Families Pay A Higher Share Of Income Toward National Health Care Spending Than Higher-Income Families Do.” Patricia Ketsche, E. Kathleen Adams, Sally Wallace, Viji Diane Kannan, and Harini Kannan. Health Affairs, September 2011 30:1637-1646; doi: 10.1377/hlthaff.2010.0712.

[4] If you’re thinking that 2.3 percent isn’t all that much, it can be the difference between life and death for a startup company.  Especially when entrepreneurial mobility is available.  There is no law stating that medical entrepreneurs must develop their ideas in the U.S.

[5] http://www.absolutemed.com/Medical-Equipment/CT-Scanners-Systems accessed July 3, 2012.

[6] People often believe the first law of demand is derived from pure mathematics.  In fact, using nothing but math and the standard assumptions about consumer behavior, you cannot prove demand curves slope downward.  The first law of demand is based on the millions of demand curves estimated statistically from real world data.  This is the empirical part of economics called econometrics.  It is a good part of what economists do in practice.

[7] If you don’t like my elasticity assumptions, download the Excel workbook and fiddle with them yourself.

[8] The price of a PET scanner is incredibly difficult to find.  I used the figure in Pertile, P., E. Torri, L. Flor, and S. Tardivo (2009), Table 1.  This data is the last worksheet in the Excel workbook.  If you can find a better number, use it — and be sure to let me know what it is and where the heck you found it.




President Obama Has a Solution to a Problem Created by the ACA

"...he is out of touch with planet earth."

President Obama has a solution to a problem created by the ACA.  The ACA is better known as Obamacare.  The problem in question is employers cutting employee hours to less than 30, thus exempting the employer from some of the ACA mandates to business.  (It’s safe to assume that most businesses will have at least a few full-time employees who will be subject to ACA requirements — at least if there are 50 or more employees.)

The President’s solution?  Increase the minimum wage!  That’s a great idea — instead of just getting hours cut, some of those employees will find themselves with their work hours reduced to zero.  These are the employees who lost their jobs du to the minimum wage hike.

Mr. Obama is as bad at economics as he is at math.