Workers, not employers, bear the (full) cost of health benefits

Michael F. Cannon Director of Health Policy Studies, Cato Institute
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The Kaiser Family Foundation recently issued its annual survey of employer-sponsored health benefits, declaring: “Family Health Premiums Rise 3 Percent to $13,770 in 2010, But Workers’ Share Jumps 14 Percent as Firms Shift Cost Burden.” That’s half-right — but the other half perpetuates a myth about employee health benefits that stands in the way of real health care reform.

Many workers believe they pay one part of their health insurance premium — say, $4,000 — and their employer pays the rest.  But that’s not how it works.  When your employer “contributes” the other $9,770 toward your premium, the money doesn’t come out of company profits.  It comes out of your wages.

The Congressional Budget Office explains: “When an employer offers to pay for health insurance, it pays less in wages and other forms of compensation than it otherwise would, keeping total compensation about the same.”  MIT health economist and Obama advisor Jonathan Gruber writes in the Handbook of Health Economics that economic research yields “a fairly uniform result: the costs of health insurance are fully shifted to wages.”  In a recent survey, more health economists agreed on this issue — 91 percent — than on any other question posed.

In other words, you pay the full cost of your health benefits: partly through an explicit $4,000 premium and partly because your wages are $9,770 lower than they otherwise would be.

Kaiser therefore claims the impossible when it says that firms are shifting costs to workers.  Employers cannot shift to workers a cost that workers already bear.  Yet this year, as in past years, the Associated Press, Bloomberg, CNN, Kaiser Health News, The Los Angeles Times, The New York Times, NPR, The Wall Street Journal, and The Washington Post uncritically repeated the cost-shifting myth.

Gary Claxton, the Kaiser vice president who directs the survey, defends their interpretation.  Economists agree that workers bear these costs in the long run, he says, but not necessarily in the short run — and the “employee share” of premiums reached a new high in 2010, while the nominal “employer contribution” remained constant.  “I think the way we talk about it is the way most people think about it and experience it,” he says.

Short-run exceptions to the rule are possible under certain conditions.  But Kaiser doesn’t bother trying to establish whether capital and labor markets are correcting a combination of below-equilibrium profits and above-equilibrium labor costs.  Year after year, Kaiser reports that employers bear the lion’s share of the cost of health benefits, and any increase in the “employee share” is a cost-shift.

Kaiser even claims that employers shift “the costs of health insurance to workers through [higher] deductibles and other cost-sharing.”  But increasing deductibles and coinsurance does not shift health insurance costs; it reduces the amount of insurance.  That shifts the cost of health care — from all members of the insurance pool to individual members, not from employers to workers.

Kaiser’s embrace of this myth clouds how it interprets changes in health benefits.  Kaiser president Drew Altman warns that “shifting the costs to workers during a terrible economy is bad news for working people…it means added economic insecurity.”

If we begin with the understanding that workers bear the full cost of their health benefits, however, 2010 looks less dismal:

  • Family premiums grew by 3 percent in 2010, the slowest rate in a more than a decade.  That’s good news.
  • Part of the reason for slow premium growth is that employers increased deductibles and other cost-sharing.  That’s also good news.  First, that’s how rational people respond to rising prices.  Second, the federal tax code’s preference for job-based insurance encourages excessive coverage anyway (another area of agreement among economists).  Third, greater cost-sharing pressures providers to reduce costs.
  • The fact that the average “employer contribution” did not increase in 2010 merely means that workers paid the 3-percent markup entirely through higher explicit premiums, rather than lower wages.

That’s not to say there’s no bad news.  The federal tax code has let employers control thousands of dollars of their workers’ earnings (and made health insurance less secure) for yet another year.  Workers still don’t realize that $9,770 is their money.  And President Obama’s new health care law leaves them with even less control over it.

Economists and health care researchers need a new lexicon that clarifies who pays for employer-provided health insurance.  The nation’s leading survey of employee health benefits can lead the way.

Michael F. Cannon (@mfcannon) is director of health policy studies at the Cato Institute and coauthor of Healthy Competition: What’s Holding Back Health Care and How to Free It.