THCB

A Brief History of Price Controls by Annoyed Republican Administrations

Although, unlike most other nations, the U.S. has only two parties worth the name, their professed doctrines compared with their actions strikes me as more confusing than the well-known Slutsky Decomposition which, as everyone knows, can be derived simply from a straightforward application of Kramer’s rule to a matrix of second partial derivatives of a multivariable demand function.

The leaders of the drug industry, for example, probably are now breaking out the champagne in the soothing belief that their aggressive pricing policies for even old drugs are safe for at least the next eight years from the allegedly fearsome, regulation-prone, price-controlling Democrats. My advice to them is: Cool it! Follow me through a brief history of Republican health policy, to learn what Republicans will do to the health-care sector when it ticks them off.

Republicans like to tar Democrats over allegedly socialist policy instruments such as price controls, global budgets and deficit-financed government spending. Democrats usually roll over to take that abuse, almost like hanging onto their posteriors signs that says “Kick me.”  I say “abuse,” because Republicans have never shied away from using the Democrats’ allegedly left-wing tactics when health care chews up their budgets or turns voters against them.

Think of the early 1970s. Like most other economies in the world, the U.S. economy then suffered very high inflation, led by health spending widely judged to be out of control. So Republican President Richard Nixon thought nothing of slapping price controls onto the entire U.S. economy, keeping them longest on the health care sector. (I cannot imagine Democrats ever having the guts to do that or, for that matter, to sojourn to China, there to pay court to Mao Tse Tung, the self-anointed Communist Emperor of the Middle Kingdom).

Think of the 1980s. Ticked off by the ever increasing grab for taxpayers’ money triggered by Medicare’s retrospective reimbursement of hospitals then in place, Republican President Ronald Reagan thought nothing of slapping onto that sector a set of centrally administered Medicare prices for the whole country. That new pricing scheme, based on the Diagnosis Related Groupings (DRGs), reminds one of nothing so much as Soviet style pricing, to cite the mournful, subsequent mea culpa of one of the former bureaucrats tasked with implementing that system between 1983 and 1986.

I recall making in the early 1990s a presentation to the Missouri Hospital Association, where I opened up with the following slide:

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(I actually wore that uniform at the podium. I had been bought by my wife, in 1989, from a Russian at the Brandenburg Gate in Berlin, immediately after the fall of the Berlin Wall. The photo was taken in 1990 by our son Mark, at the tank museum of the Aberdeen Proving Grounds in Maryland, before a WWII Russian T-62 tank.)

Evidently enchanted by the price-controlling, cost-containment power of President Reagan’s Soviet pricing scheme for hospitals, President George Herbert Walker Bush imposed, in 1992, a similar scheme on physicians treating Medicare patients. Known as Medicare Fee Schedule (MFS), it was based on the Resource-Based Relative Value Scale (RBRVS), a pseudo-scientific design that seeks to base relative Medicare fees for particular services on their relative cost of production. A problem with that approach, of course, is that relative costs do not coincide with relative values. It would set the fees for, say, a hypothetical transurethral tonsillectomy as much higher than that of the traditional transoral one, simply because the transurethral approach is more time consuming.

Anticipating that physicians would game the new Medicare Fee Schedule by responding to lowered fees with commensurate increases in the volume of services recommended and delivered to patients, the Bush Sr. Administration coupled the new fee schedule with Volume Performance Standards (VPS), a fancy euphemism for nationwide global budgets, one for surgical and the other for non-surgical physician services delivered to Medicare patients. Democrats may dream of global budgets. Republicans do them. That anyone seriously thought a global budget for as large an entity as the entire U.S. could ever work – that it was productive to punish conservatively practicing physicians in Duluth, Minnesota for huge volume increases in Dade Country, Florida — is a testimony to the far reaches of the human mind.

Predictably disenchanted with the non-performance of the Volume Performance Standards, a Republican House in 1997 morphed it into Medicare’s Sustainable Growth Rate (SGR). The SGR became law. It was global budgeting still for the entire nation, but so stringent that Congress dared apply it in only one year, otherwise kicking it down the road unused, for eventual resolution.

That resolution came in 2015, with the so-called “Doc Fix,” the still controversial Medicare Access and CHIP Reauthorization Act (MACRA). That act was sponsored and introduced to the Republican House of Representatives by a Republican Congressman from Texas who is also a physician. It was promptly signed into law by President Obama, after it was passed with a bi-partisan vote in both chambers. The MACRA quite sensibly seeks to establish a direct link between Medicare payments to a physician and the quality of the services delivered by that physician. Alas, once packaged by the bureaucracy into concrete regulations for operation in the trenches, the resulting complexity of measuring quality in practice and even the validity of these operational metrics now predictably has physicians all over the country up in arms. 

And so it goes, to plagiarize Kurt Vonnegut.

So it is prudent to wonder just what health policy will come down in the years ahead from the Republican Mount Olympus ruled by President Trump. Republican Presidents, members of Congress and Governors may like playing golf with the leaders of the health-care industry and share a Bourbon or two with them; but they don’t like it when that industry’s endless, energetic search for mammon chews up their budgets, and they do not hesitate to react to that fiscal hemorrhaging with fury, often resorting to the allegedly socialist tactics they usually ascribe to the Democrats.

What can be said about health policy also applies to U.S. fiscal policy. Democrats have never been able to shake off the label that they are the party of deficit-financed government spending – that they practice the much maligned, socialist Keynesian economics — in spite of plenty of history to the contrary. Consider, for example, the graph below published by the non-partisan Congressional Budget office (CBO).

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The time paths of federal tax revenues and spending clearly show what former Vice President Dick Cheney reportedly explained to an amazed then Secretary of the Treasury Paul O’Neill: “Reagan taught us that deficits don’t matter.”

Deficit financed government spending and tax cuts are usually considered the very core of Keynesian economics, aimed at shoring up the demand side of the economy. It is based on the idea that there is not enough demand to buy the products the supply side could deliver. It is a policy much decried by Republicans and the media supporting them, e.g., The Wall Street Journal or the anchors and talking heads on Fox News TV. It stands in contrast to so-called supply side economics, which seeks to rev up the economy by changing the financial incentives  (mainly taxes) and regulatory burden faced by the supply side of the economy, assuming that the barrier to faster economic growth lies on the supply side of the economy.

Although during the election campaign in 1980 President Reagan had promised to balance the federal budget by 1984 and rev up the economy just with tax cuts that, through faster economic growth, would be self-financing, in fact his administration coupled the huge cuts in the individual tax rates it got swiftly passed by Congress with huge increases in defense spending and even farm support, driving up federal deficits to levels easily three times as high as the previously much decried, relatively puny deficits registered by President Carter (see chart below). By the end of President Reagan’s eight-year term in office, the public federal debt had tripled. By the time President Bush Sr. left office, it had quadrupled.

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Had President Reagan really tried his hand at supply side economics, he would have lowered substantially the corporate tax rate from the statutory level of 35% to closer to 20% or even below, to keep U.S. capital and investments at home. Instead he left the high statutory corporate tax rate in place and even increased the tax take from the corporate sector by closing some loop holes. Reagan’s tax policy – especially his second-term efforts to close loop holes and broaden the tax base — actually seemed to slouch toward policies many Democratic economists would and did support. The point here is that overall, one can fairly argue that Reagan’s fiscal policy slouched much more toward the much maligned Keynesian policy of driving economic growth, rather than to solid supply side economics.

Seemingly paradoxically, corporate executives tend to go along with cuts in individual rather than corporate tax rates. It is so because they all manage two companies: one owned by shareholders, and the other, increasingly large company owned by their families. When given a choice between tax cuts for either or the other of the two entities, they naturally lobby for the second, which is what Republican presidents – Reagan, Bush Sr., Bush Jr. — have always faithfully delivered. We shall see what President Trump will do in that regard.

The CBO graph above also shows the eventual decline in the federal deficit and emergence of a federal budget surplus under Democratic President Clinton (although in fairness it must be said that then House Speaker Newt Gingrich gave him a helping hand). When President George W. Bush ascended to the White House, he actually inherited a federal surplus and the prospect of shrinking public debt. His fiscal policy frittered away both.

President George W. Bush, starting in 2001, basically repeated the rather reckless Reagan strategy of trying to goose the economy through increased government spending coupled with massive cuts in individual income-tax rates, all financed with large deficits and rapid increases in the federal debt. Under his reign the federal public debt rose from $5.6 trillion to close to $10 trillion.  With the Medicare Prescription Drug, Improvement and Modernization Act of 2003, he even put a brand new future entitlement – heavily subsidized drug purchases by Medicare recipients – on the federal tab. That even after that action deficit financing of large future entitlements can so easily be hung around the neck of Democrats attests to the political power of the Republican oral tradition.

Finally, the CBO chart clearly shows that it would be unfair to impute the huge budget deficits and run-ups in the federal debt after fiscal 2009 to President Obama. In the wake of the global financial crisis of 2007-2009 – not of either President Bush’s or President Obama’s making —  government revenues plummeted and much of the increased spending came from the so-called automatic stabilizers – mainly entitlements such as Medicaid, unemployment compensation, food stamps etc. – long ago baked into federal law. Neither of the two presidents had any control over these trends. Indeed, according to the CBO’s Budget Projections of January 2009 – published before President Obama had moved into the White House – the projected deficit in President Bush’s last budget, submitted in October 2008 for fiscal 2009 (October 2008 to September 2009), was close to $1.2 trillion. Surely that did not conform to the President’s idea of sound fiscal policy.

With this brief historical background, one can just see what might happen to fiscal policy under the reign of President Trump.

My hunch is that, to win a second term, he will heed Vice President Cheney’s dictum and, once again, practice the good old Keynesian economics that the American public loves so much: large tax cuts combined with massive, job-creating increases in federal spending on defense and on infrastructure projects, including, perhaps, sparkling new elementary- and high schools and perhaps even new health-care facilities in inner cities, to own up visibly to the folks living there to whom he had promised help, and all debt financed as good investments to make America grow and great again. Why not?

The alternative, asking the private sector to finance these infrastructure projects, may seem attractive to Republicans at first blush, but one must wonder how folks in the so-called “fly-over” country will react when all of a sudden their hitherto free roads and bridges are converted to toll-charging facilities, with tolls set on Wall Street by rapacious private equity firms beholden only to their equity investors in the US and abroad. It might not be a vote getter.

Keynesian economics has worked well for Republicans, because voters love it, as they seem to get something for nothing, federal debt and future taxpayers be damned. And in a world financial market awash in capital with nothing to do, safe U.S. government bonds will find many eager buyers.

It is all quite confusing, even to a Ph. D., and perhaps especially to a Ph. D., because, as I noted in the introduction, U.S. politics are ever so much more intellectually taxing than is the good old Slutsky Decomposition.

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17 replies »

  1. I believe one of the things you are trying to get across is the following:

    “Not splitting G into current government operations and government investments can easily seduce people into thinking that cutting taxes and reducing government spending on schools or research (i.e., cutting G) and using those tax savings to build more private golf resorts (i.e., increasing I) somehow makes America’s economy stronger. Many people seem to believe it. It is pure bull shine.”

    Understood. I agree. We need a strong infrastructure. The question is which government should be the one responsible, state or federal? The question then becomes who should be doing the work, government employees or state employees (private of government employees)? I hope this abbreviated response and what follows permits you to understand that I don’t examine Carter as simplistically as you suggest.

    It is also simplistic to believe the President is totally responsible for the economy during his term. He isn’t. His term is affected by the Presidential term(s) before just as his term affects the following Presidential term that starts on day one before he can act on any of the legislation he wishes. A President might have specific goals, but once again those goals cannot be set in stone. Who knows what will happen in the world? GWB almost immediately faced 9/11 and forced a change in his vision of his Presidency. Then again the President only has that much capital to expend and he has to work with a Congress that might not be agreeable.

    I think we have to look at each Presidency in a broad fashion. I believe you when you say, “ that Reagan really only had one extraordinary year—1984. The rest are not extraordinary—certainly no better than Clinton’s.” The Clinton years were good years economically, and the equivalent of Reagan’s years (excepting that one year), but I believe Reagan laid a lot of the ground work and I believe that Clinton somewhat of a pragmatist was pushed in the right direction by Congress. However, when we look at the totality of the President’s term we note that Reagan ended the Cold War, set the economy up for growth, and performed admirably with a few mistakes. Clinton made a lot more mistakes and was a bit too mired in scandal, much of which has been reproduced by his other half.

    I appreciate your attempt to resurrect the Carter Administration. I don’t think anyone believes that everything Carter’s Administration did was a failure. But, do you believe he was a better President than Clinton? Reagan? I don’t think you do. How about FDR, Truman, Eisenhower, JFK?. Of course, we can include Obama in the mix, but I think we have to wait a bit to develop that broader perspective you seek. Volcker’s appointment was a bit late for the administration.

    Other than the appointment of Volcker do you think Carter’s policies were adequate and proficient at fighting inflation? The President’s body language and demeanor does have an effect on the nation.

    On another note I am not happy with looking at percent change in a vacuum and therefore cannot glean a positive or negative stance based upon those graphs.. One can always be a bit selective in how the data is presented. Secondly, though you call the health-care sector a locomotive, a locomotive carrying nothing behind it isn’t very productive no matter how large the engine is. I think a better investment for the many wasted dollars in healthcare (much of it from tax revenues) would be on infrastructure, one of many choices. Reagan was faced with extremely high inflation so I am not so concerned that his unemployment figures went up. Inflation went down and though unemployment went up it went down when inflation was controlled. The GDP did reasonably well. I believe Reagan’s economic policies had a long range positive effect on our economy and security while the sum of Carter’s policies was leading us in the wrong direction.

    Thank you for the pdf. You had a lot to say and that provoked a lot of questions in my mind too lengthy to engage with on such a blog. It did as you say demonstrate problems in the Bush2 administration, but I have already told you I was not satisfied with that administration. We have several administrations where taxes were cut and the GDP rose along with investment. Coolidge, Kennedy, and Reagan. However, I am fearful of drawing a conclusion looking at only one metric, something I believe you expand on in the slide(s) that followed.

    One last thing, I agree with your comments under ‘observation on household savings’. Fiscal responsibility should be a mainstay of government and individuals. Something has happened since WW2 and I believe that something is the pernicious effect an intrusive government has on its people. I stopped reading there, for the time being, recognizing I had read the portions you had emphasized. Thank you for this which I will continue to read when more time is available.

  2. Allan:

    You asked for a broader perspective on Carter, Reagan et al. The slides at this link http://www.princeton.edu/~reinhard/pdfs/PRINCETON_CLASS_OF_2000MAY2008UPDATED.pdf can provide it.

    They are slides from a talk to the Princeton alumni. All or most of the data come from the President’s Report to Congress (G.W. Bush’s in this case).

    You will see in the slides 19-20 on real GDP growth that Reagan really only had one extraordinary year—1984. The rest are not extraordinary—certainly no better than Clinton’s. And Rwagan handed Bush Sr. a lousy economy.

    Look at the slide 26 on unemployment. Tell me about the Reagan miracle.

    Look at slide 31 on the Consumer Price Index. Inflation was as high under Nixon as it was under Carter. Your idea that Carter caused the inflation is simplistic. Presidents don’t have that power. Inflation happens to them, on their watch, but the factors driving it are usually not under their control. In this case it was a tripling of oil prices at a time when our energy coefficient (percentage change of energy consumption over percentage change of GDP) was about double it magnitude now, because we had not yet learned to conserve energy. Unions also were stronger and more widespread. Carter appointed Volker, by the way, not Reagan. The airlines and trucking were deregulated by Carter, at his command. I know it, because my classmate was in charge.

    Look at slides 40-41 on investment, the red line called “non-residential investment.” It is business investment. Under Clinton it rose as percent of GDP. Under Bush Jr. It fell. Investments went mainly into real estate.

    You can do Talmudic studies on the rest of the slides. What you will find is a very mixed picture, but certainly a huge hole in the Reagan mythology.

    In general, the simplistic theory that Presidents run the economy like a CEO runs a corporation is silly. Think of an elephant going down a jungle path. You can perhaps move the elephant’s path a bit by beating on its legs with chop sticks. That’s what presidents can do. But the beast has its own will. Probably the only truly potent stick a president has is fiscal policy – austerity vs Keynesian economics.

  3. We have to help some people get medical care. We can’t just give them insurance because the providers and the public believe Santa and angels are in charge and prices run amok, as we have seen.

    This is the classic third-party-payer dilemma.

    We can’t just give them money because it is too fungible and they will spend it for everything under the sun.

    So we have to give them Medi-buck voucher-type of things.

    The big question is how do we make the providers receiving these vouchers believe and act as if they are money coming from patients and not Santa? If they believe this, they will try to give the patient a deal and they will be kind and forgive some charges, and bundle services, blah blah…all the good things in modern commercial life will happen. We thus reduce provider-induced demand.

    And how do we make the patient want to spend them just as wisely as cash? Then we have reduced moral hazard.

    Maybe if we allow the patient to convert these vouchers into cash in clever ways, this would be an answer. And maybe if we didn’t allow the provider to convert them into cash until the patient was pleased with his care…?

    If we can figure out how to do this, then we have discovered a miracle in health care financing. The world needs this solution too.

  4. Please do. I’ll read it all, but if you can dispence with selection both numbers and issues it would be appreciated.. Please don’t tell me GWB was bad because I disagreed with much of what he did. Please don’t tell me how good Bill Clinton was because he was pushed a lot. A divided government worked pretty well during that administration.

    Happy Thanksgiving.

  5. Allan, I will send you some data that puts a much broader perspective on things. You will be surprised what you’ll see, if you approach the data with an open mind. But we’ll have to wait until after Thanksgiving

  6. Uwe, despite what you believe I am more indifferent to the political parties than you. Neither of them represents me. Carter was a terrible President. He was a disaster for the economy and his foreign policy stunk. The hostage crisis, though it actually happened, could be a metaphor of Carter’s Presidency. He held America down until Reagan came on board. There is more failure to the Carter administration than it appears you want to think about which is probably the reason you shifted to blaming Reagan. What you forget is that Reagan ended the Cold War without firing a shot and started an economic boom. He wasn’t perfect. Who expects any President to be perfect? The country requires positive progress by reasonably honest leaders that don’t sell our country to the highest bidder while continuously lying to the American public.

    I have closed my eyes, Uwe, and I have found fault on both sides. I am willing to criticize Reagan and others for the deeds I feel they shouldn’t have done. But, I also have to look at the positive sides and can’t trust the opinions of the media or the elitists to guide me. I have been watching Obama stir up racism since almost day one of his administration when racism was on the decline. I watched his weak foreign policy leave a vacuum and leave us reentering Iraq something we shouldn’t have done the first time. We saw anarchy in Iraq and should have learned that this area of the world requires strong men some with terrible natures. What did we do in Libya? To my understanding, Obama was reluctant to fight in Libya and he was right. I also understand Hillary was a leading voice and convinced him to enter the battle ( she doesn’t learn). We are now left with an anarchic state with a lot of dead people and little hope for a return to better times at least in the near future.

    We differ, pleasantly, as I believe in the free marketplace and you seem to believe in democratic socialism. We meet because neither of us wishes to see people dying in the streets and we both fight for what we believe on behalf of all the people rather than the powerful and the elite. I don’t want you to disappear because we are a pluralistic nation and all sides should be represented based upon Constitutional directives.

    “ You see, Allan, these vignettes just conform once again to my general theme: that Republicans like to talk a good game, but when push comes to shove they often resort to tactics that they derisively impute to the “weak” Democrats.”

    It seems that you looking in a mirror replacing names to make your thesis more attractive. I responded to what you said (““President Reagan had promised… relatively puny deficits registered by President Carter””) and suggested that instead of looking piecemeal at a President’s time in office it would be best to look at their results in their totality.

    I am not a famous economist like you (said with respect), but drifting to an economic term I believe in tradeoffs. I would trade a Carter and take half of a Reagan any day of the week.

  7. I think the next post in this series should be:

    “Is Donald Trump actually a Republican? An Investigation.”

  8. Peter has already commented on the hostage crisis. Evidently Carter was not willing to pay ransom for the release of hostages. That was a longstanding US principle pronounced several times by President Reagan as well. In fact, however, he sold Iran (through the good offices of Israel) thousands of US TOW missiles for the release of 13 US hostages held by Hezbollah in Lebanon (and MacFarlane threw in a cake and a bible for good measure). Reagan personally authorized that trade.

    Now close your eyes, Allan. Imagine if Carter or Obama had engaged in such a trade. Can’t you just see the right-wing punditry explode, waxing stern about “weakness?”
    While we are on Lebanon: a Hezbollah terrorist in a truck managed to kill 240 US Marines stationed there. Reagan’s reaction: Pull down the flag and withdraw the Marines. No retaliation of any sort. The Navy, stung by the attack, actually had fully loaded jets on deck of a carrier, ready to bomb the Beqaa Valley (where Hezbollah was headquartered) back into the stone age. They were ordered to stand down by then Defense Secretary Weinberger, evidently with Reagan’s approval.
    Now close your eyes, Allan. Imagine Carter or Obama reacting thus to a brutal attack on our Marines. Can’t you just hear the right-wing punditry explode in indignation and waxing stern over “weakness”?

    You see, Allan, these vignettes just conform once again to my general theme: that Republicans like to talk a good game, but when push comes to shove they often resort to tactics that they derisively impute to the “weak” Democrats.

    So it was good of you to bring up the topic of hostages.

  9. “why do people, such as his august colleague from Princeton, Professor Krugman, get their knickers in such a twist over the GOP?”

    If it were only deficits there’d be no knicker twisting. Here in the south, with blue dog Dems, there’s even less spread between the parties – except for subtleties.

    On social/environmental/equity issues there’s more hope with Democrats who seem to allow broader thinking and more hope – a little less bible thumping.

    Let’s see how far Trump will go with health care and deficits.

  10. Looks like Professor Reinhardt has a secret crush on the Republicans!

    Milton Friedman was correct – we’re all Keynesians now.

    With so little to choose from between the two parties, as the Prof so eloquently describes, why do people, such as his august colleague from Princeton, Professor Krugman, get their knickers in such a twist over the GOP?

  11. You could write as many sentences as you liked or even quoted the pertinent sentence. Instead you chose to use insults. Your research that you say you do represents trash. It is intellectually dishonest as you pass opinion off as fact. Even your definitions don’t match Websters as we both noted in your bout with John Irvine. At least he was able to coin a word based upon your flawed definitions. He called them petermisms.

  12. Well Allan, one sentence would not have explained it enough – but I see nothing long enough would open your eyes. I do research and defer to reference pieces that have fact and substance – not like your off the cuff bias and fantasy opinion pulled from who knows where.

    If you haven’t heard yet, the internet is the new library – as long as the sources are vetted, just like everything else.

  13. I love these referrals that send one to an opinion piece. Say it in your own words and if you can’t at least quote the sentence you wish you could have written along with the http. If you can’t do that then I refer you to the NY Public Library.

    To the statement “Maybe it is time for an outsider.”

    Peter responds: “If the American people wanted “outsiders” why do incumbents win close to 90% of the time.”

    Apparently it was time since Trump is an outsider. Sometimes your statements mystify me.

  14. “President Reagan had promised… relatively puny deficits registered by President Carter”

    However, we have to look at results in their totality. Just focussing on security Reagan won the cold war without firing a shot while the Iran Hostage crisis with Carter at the helm saw our hostages held for 444 days. Reagan started an economic boom after Carter raised inflation rates to an obscene level.

    However, I will give you credit in that both Republicans and Democrats have both promoted socialist programs that are bad for the nation. Maybe it is time for an outsider.

  15. The federal government can sell Treasury bills, notes and bonds to domestic and foreign investors at attractive or at least acceptable interest rates until it can’t. A failed auction probably won’t be pretty. At the same time, current interest rates in many other developed countries are even lower than ours so deficit financing and debt accumulation can probably persist for a while longer.

    Separately, if I were a drug company CEO, I might try to be more sensitive to the fact that patients don’t buy our products because they want to but because they have to. Instead of trying to extract every last nickel from the economy for the benefit of our shareholders, it would be a better long term strategy to strike a more reasonable and appropriate balance among all of our constituencies — customers, employees, shareholders, suppliers and the communities we operate in. I think corporate America may have lost its way a bit here, especially the pharmaceutical industry.

    Finally, I can’t think of any other industry that sells its products at different prices in different countries based on per capita GDP as a proxy for ability to pay.

  16. Great piece Uwe. Unfortunately the truth of long analysis does not hold up with shoot-from-the-hip election feel good/quick fix tag lines to an electorate with short attention spans and shorter memories.

    It’s just “hooray for our side” politics.

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