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How Rising Health Costs Will Hurt the Economy

Anthony Randazzo
March 27, 2012, 11:48am

Beyond just government spending on health care increasing in the coming decades, which is a rather hot topic this week, private health care costs are set to grow at an increasingly exponential rate in the coming years. This is not necessarily something new, as we've had rising health care costs for decades now. But what is going to be a challenge for the economy is that economic prosperity trends America had in the 20th century were able to absorb these rising costs in a way we won't see in the next few years since those trends have flatlined.

Rising health costs are not new...

America has gone from spending $147 per capita on health care in 1960 to around $8,400 per capita in 2010 on health care. And as life expectancy has increased from 69 years to 78 years during that timeframe, the costs have picked up more rapidly. And that is not to mention that technological advances while more life saving have also been more costly.

But economic trendlines are flatlining...

Prior to 1960 we had a significant period of economic prosperity. Entrepreneurship and innovation and labor force expansion and education were all on the upswing in the early to mid part of the 20th century. As a result, we were able to absorb inflating health care costs without it too dramatically hitting economic growth. However, all of those factors have flatlined at various points in the past few decades. And the trends are catching up to us. As a result, the increased costs over the next decade are going to have much more visible effects than in the past. Here are three examples:

1—Labor Market Participation: According to the most recent BLS data, there are actually more people outside the labor force today than there were a year ago when the unemployment rate was higher. If we were to add those who have stopped looking for a job in the past month to the labor data, the headline unemployment rate would go from 8.3% to about 9.6%, according to CBO projections. Unfortunately, this weak labor market participation is a long-term trend. The labor force stopped growing substantially in 1990, and today's labor force participation rate has actually declined to levels last seen in the early 1980s.

This is important because much of America's economic growth following World War II came with a substantial surge in labor market participation, particularly by women entering into the work force, going from 32.7% of the work force in 1948 to 58.1% in 2011. The baby boomer generation also helped fuel the economic boom. Larger labor pools enabled capital to be put to work more efficiently. Even if economic output continues to grow with all these workers on the sidelines, our output is dramatically lower than where it would be if we had more people working. A two-decade flatline in labor market participation that is declining means bad news for output in the coming years.

2—Education Results: At the same time that the labor force was expanding in the 20th century, education gains were rapidly moving forward. From 1900 to 1970, high school graduation rates climbed from 6% of children to 80% of children. But since then we have flatlined, and even declined a bit in graduation rates. The number of high school grads relative to the population has fallen to 9.6%. Even with life expectancy and the baby boomers adding age to the overall population-this is a sign of substantial stagnation. Test scores in core subjects have also flatlined since the 1970s, according to a 2011 report from the National Center for Education Statistics. This may not appear to be a problem, but given the technological advances and teaching method advances since the 1970s, we should expect test scores to increase.

These and other flatlining education trends mean less competitive American workers, slower adaptation to shifts in economic fundamentals, and exacerbated employment problems. Low-skill labor opportunities are shrinking every day due to automation, efficiency gains, and the capacity to outsource some manufacturing work. Workers of the future will have to be even better educated then the current generation to compete in a world of skilled labor.

3—Innovation and Entrepreneurship: The lifeblood of the American economic miracle has always been new businesses. But since peaking in 2006, employment in new businesses and registration of new businesses has seen substantial declines. Entrepreneurship was down nearly 25 percent in 2011 compared to 2006. And economist Tyler Cowen has laid out a strong case that innovation has been one the decline in America since the 1970s. This means that innovation and entrepreneurship have had correlated slow downs with the labor market expansion's stall out and the drop off in educational advances.

This means weak economic prospects in the near- to medium-term...

All of this suggests we should not be expecting the big GDP growth period often seen after recessions. We have had a recession, a financial crisis, a global fiscal crisis, a national debt crisis all hit at the same time that innovation, entrepreneurship, education, and labor trends have taken negative turns. And this is not to mention that America's major growth sectors are changing and it is going to take time to reorient the work force to the new growth sectors.

What kind impact will these trendline shifts cause?

To start with, having more GDP resources taken up by health care spending means less business investment, translating into fewer jobs.

The more that health care costs consume GDP, the less capital the economy will have to build on. That means lower economic growth from business expansion, and possible continued challenges for unemployment over the next decade-don't be looking for that 6% unemployment rate any time soon.

In tandem, those rising health care costs are going to limit innovation and entrepreneurship. As new business start-ups are the lifeblood of the economy, this means lower GDP growth, translating into higher federal budget deficits.

Furthermore, rising health costs also mean the household debt situation will deleverage slower, hurting housing, and by extension economic recovery.

Conclusion

The take away here is that the impact of rising health care costs will be much more acute in 2020 than in 1980-unless of course we see some unexpected innovation that is on the scale of the Internet emerge to power the economy forward. Many of the growth trends we relied on in the path are flatlining and the low-hanging fruit of innovation is disappearing, as Tyler Cowen would say.

The good news is that the nature of todays and the next decades' economic woes are transitional. Our economic sectors are shifting. Our education system is not breaking down so much as struggling to adjust to changes in economic fundamentals. And the America spirit will adapt. The question is when.


Anthony Randazzo is Director of Economic Research


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