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How today’s health care reform can create tomorrow’s entrepreneurs.


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Jonathan Gruber

This spring, some conservative and libertarian bloggers, aghast at Barack Obama’s expansive government agenda, began calling on investors and entrepreneurs to protest by "going Galt"—that is, withdrawing their money and productive energies from the economy. The allusion is to John Galt, the hero in Ayn Rand’s Atlas Shrugged, who leads America’s creative entrepreneurs in a strike against a wealth-sapping collectivist establishment and brings the economy to its knees. Of course, the fact that the economy is already on its knees might blunt the point of such a strike today. Still, entrepreneurs do play a vital role in the prosperity of this country. So it’s worth asking how their behavior might be affected by Obama’s policies. An excellent starting point is the biggest single initiative in President Obama’s budget, a down payment toward universal health insurance coverage for all Americans. In this case at least, the protests are obviously misplaced. Universal health insurance, far from suppressing entrepreneurship, could be a boon to it.

The main reason for this is a phenomenon known as "job lock," a term coined during the last round of debate over universal health coverage in the early 1990s. Job lock refers to the fact that workers are often unwilling to leave a current job that provides health insurance for another position that might not, even if they would be more productive in that other position. This is because employer-provided insurance is traditionally the only reliable form of fairly priced private insurance coverage available in the U.S. The alternative is to purchase insurance in the nongroup market, where insurance prices and availability are typically not regulated, so insurance companies can drop individuals when they become ill or charge them exorbitant prices. As a result, individuals feel "locked" into less productive jobs.

Over the past fifteen years, dozens of studies have documented the detrimental impact that job lock has on the economy. These studies typically compare the mobility of workers who are at firms with insurance but do not have an alternative source of coverage (such as spousal insurance or COBRA continuation coverage) to those who do have an alternative source of coverage should they leave the firm. The studies find that mobility is much higher when workers do not have to fear losing coverage; job-to-job mobility is estimated to increase by as much as 25 percent when alternative group coverage is available.

Job lock is a serious problem for our society, because one of the bedrocks of our long-term economic success is our fluid labor markets compared to other nations, like France and Germany, that make it expensive and administratively burdensome to hire new employees or to fire unproductive ones. Job lock diminishes our international advantage in this area, since other nations with universal health insurance coverage do not have this problem. In addition, individuals will be less happy and less productive in positions that they would prefer to leave but for the loss of insurance. Employers will lose, because the workers they retain through job lock are those who value insurance the most, not necessarily those who are the best long-term fit for the company.

Which brings us back to entrepreneurship. Some of tomorrow’s potential entrepreneurs are today’s employees at firms that provide health insurance. They may have powerful new ideas that will build the firms of tomorrow. But if they leave their current job to work on those ideas they may find themselves without access to reliable health insurance. If they are very young and healthy, this may not be a major impediment. But for older entrepreneurs who have developed ideas through years of working for others, the fear of losing health insurance when they go out on their own can be a barrier to taking that leap.

There are fewer direct studies of the impact of job lock on entrepreneurship. But the most convincing research, by Alison Wellington, mirrors the findings of other job mobility studies: Americans who have an alternative source of health insurance, such as a spouse’s coverage, are much more likely to be self-employed than those who don’t. Wellington estimates that universal health care would therefore likely increase the share of workers who are self-employed (currently about 10 percent of the workforce) by another 2 percent or more. A system that provides universal access to health insurance coverage, then, is far more likely to promote entrepreneurship than one in which would-be innovators remain tied to corporate cubicles for fear of losing their family’s access to affordable health care. Indeed, even the Galtians among us should be celebrating the expanded potential for individual enterprise once the chains tying them to a job that provides insurance have been broken.

Opponents of universal coverage will point to three additional reasons to oppose such a policy. The first is that the government will impose a burdensome "employer mandate" or "pay or play" scheme under which business owners must either provide coverage for their employees or pay into a public fund to help finance universal coverage. The second concern is that a universal health care system might disrupt existing insurance relationships, perhaps forcing businesses to buy insurance that is more expensive than what they currently have. The third worry is that the burden of financing universal coverage might fall on them in the form of higher tax rates. These are all legitimate issues, but they depend very much on the specifics of how universal coverage is enacted.

The first concern is overblown for the simple reason that most of the existing employer-mandate or pay-or-play proposals exempt small firms and the self-employed. For example, the universal health care law passed in my home state of Massachusetts in 2006 imposes an assessment of $295 per employee on businesses that don’t provide their workers with health coverage, but that assessment does not apply to firms with ten or fewer employees.

As to the second concern, about disruption, most discussions of universal coverage today center on an approach I call "incremental universalism": building on the existing set of private insurance arrangements to fill in the holes for those who cannot access fairly priced insurance. Individuals and firms that are satisfied with their insurance arrangements will be largely left alone as part of these reforms. Moreover, if the reforms are successful and more people are brought into the system, the resulting economies of scale may allow for lower health care costs going forward, which would benefit entrepreneurs as well as other workers. Indeed, after Massachusetts enacted universal health care, the elected officials and interest groups that supported the measure had an interest in making sure the reform was financially sustainable, and so threw their weight behind a major new piece of cost-control legislation that set up a commission that is taking on the high provider rates that make health care so expensive in our state. If this new legislation is successful, then not only will the state have covered the minority of its citizens who were uninsured—it will also have used this as a springboard to lowering costs for the majority who were already covered.

Of course, any expansion of coverage must be financed, at least in the short run. To some extent the financing can come from existing efficiencies in our health care system, such as the reduction in overpayments to private Medicare plans proposed by President Obama in his budget. But this will not be enough. Other sources of financing will be required in the short term, and this may lead to the third concern: higher tax rates on income. Will these higher taxes deter entrepreneurship? The evidence here is unclear. One study, by Donald Bruce and Mohammed Mohsin, found that tax rates have little effect on the decision to become an entrepreneur. Another study, by William Gentry and R. Glenn Hubbard, found that raising the taxes on the rich alone could deter risk taking because it would remove some of the financial reward for successfully investing in entrepreneurial ventures.

With this in mind, policymakers should push for a financing source that would clearly not deter entrepreneurship: capping the subsidy provided through the tax code for employer-provided health insurance. Currently, workers are taxed on their wages, but not on the value of their employer-

provided health insurance. Likewise, the self-employed can deduct the full cost of their health insurance from their taxes. These foregone taxes amount to $250 billion per year, making this the third largest health care program in the U.S. Moreover, this tax policy leads to overconsumption of insurance, because workers purchase insurance with untaxed dollars. If MIT offers me higher wages, I only keep about sixty cents on each dollar of that raise because of taxation. But if they offer to add a new benefit to my health insurance plan instead, then I get the full dollar value of that benefit without taxation. Numerous studies have shown that this "tax bias" toward health insurance over wages leads to a dramatic increase in employer insurance spending.

One natural source of financing for universal coverage is to "cap" this tax subsidy. For example, the government could announce that it would tax employed individuals on any insurance premium that exceeds the average cost of insurance in their area. Similarly, the government would allow the self-employed to deduct the cost of their insurance premiums from their income taxes, but only up to the average cost in their area. Therefore, for any business or self-employed person who buys insurance at the average cost or below, there would be no change in taxation. This would raise substantial revenues but would in no way deter individuals from investing in or starting new businesses—it would simply encourage entrepreneurs to buy low-cost policies in order to avoid taxation.

The type of universal health insurance coverage policy proposed by President Obama will clearly promote the freedom of workers to leave their jobs to start new companies. By solving a major impediment to mobility in the U.S. labor market, a larger government goes hand in hand with more business development. The next John Galt may owe a debt of gratitude to this pioneering effort in universal coverage.

Jonathan Gruber is a professor of economics at MIT and a member of the Massachusetts Health Connector Board.


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