In Medicare discussions, the suggestion arises from time to time that we could reduce federal spending by raising the Medicare eligibility age, for example, from 65 to 67. The popular liberal response (see e.g., this Kaiser Family Foundation report) is that raising Medicare’s eligibility age actually would increase healthcare costs, not lower them. But if we rethink this, we would see that raising the eligibility age indeed would not increase costs, and so the original suggestion is correct.
In its simplest formulation (i.e., assuming that the Medicare eligibility age conforms to the Social Security retirement age), increasing the eligibility age to 67 would mean shifting healthcare coverage of 65-year-olds and 66-year-olds from Medicare to private health plans. The only difference between the current structure and the “but-for” world (eligibility age = 67) would be the source of payment. So for costs to be higher in the but-for world, the shift of 65 and 66-year-olds to private plans would either (a) cause the patients to become sicker or (b) otherwise result in higher costs per unit.
It’s unlikely that changing the source of payment would cause 65 and 66-year-olds to become sicker. After all, the government doesn’t operate its own healthcare system with its own hospitals and doctors reserved for Medicare recipients. Rather, patients are treated by the same providers and treatments, whether covered by Medicare or private plans. Providers who treat 65-year-olds and 66-year-olds are unlikely to start providing substandard care simply because private health plans insure these patients.
But what about providers who charge private health plans more than they charge Medi-care? Wouldn’t this mean higher costs if we shifted 65 and 66-year-olds from Medicare to private plans? Yes, providers do charge private plans more than Medicare, but this doesn’t mean that total costs would increase if we raised the eligibility age. In the first place, the government would save the amount spent on 65 and 66-year-olds and this savings would go to the private sector in the form of tax reductions. This would give the private sector the means to cover most of the additional costs due to the shift.
Medicare prices are lower than prices paid by private health plans although not because government is more efficient, but because the government arbitrarily sets low prices. If providers accept low prices from one group, they make up the shortfall with higher prices to another group. This is called cost shifting* and it means that private plans effectively pay (i.e., subsidize) a portion of Medicare costs.
So the portion of Medicare costs that the private sector already subsidizes plus the amount returned to it in the form of tax reductions would cover the costs of the additional 65 and 66-year-olds that the private sector would cover. If the Medicare eligibility age were 67 instead of 65, we would expect that (1) Medicare costs would be less because the government would cover fewer patients, (2) total costs would remain the same, and (3) the average premiums for those covered by private plans would tend to be less because there would be more private patients and fewer Medicare subscribers to subsidize.
In some instances, liberals claim that raising the eligibility age to 67 would increase costs because shifting 65 and 66-year-olds to private plans would result in older and less healthy populations covered by both Medicare and private insurers. Both populations indeed would be older, but this is irrelevant. All that counts is the impact of shifting 65 and 66-year-olds to private plans, and as the analysis shows, Medicare costs and the average costs for individuals covered by private plans would decrease, so the liberals reliance on this fact is unjustified.
The tax reductions and cost shifting is what liberals fail to see and consider – there isn’t even a hint of their significance in the Kaiser Family Foundation report. This omission and the mistaken conclusion that raising the Medicare age would increase costs is a classic example of the kind that Frederic Bastiat wrote about in his 1850 essay entitled “What is Seen and What is Unseen.” Liberals fancy themselves “progressives,” but they’ve hardly progressed at all since 1850.
*UPDATE: Some economists, such as Austin Frakt at The Incidental Economist, deny that cost shifting occurs, but his explanation for this (following a monograph by Michael Morrisey) is based on assumptions that are unrealistic. See my post about Frakt’s analysis here.