What's Wrong With the Economy?

Why are so many people unhappy and angry? Why is the electorate turning to populist candidates like Bernie Sanders and Donald Trump? Why are they so mad at the Washington D.C. establishment? What’s the problem?

Perhaps the biggest problem is the low growth of the economy leading to fewer job opportunities and little or no growth in family incomes coupled with the rising cost of two family essentials: health care and education. Housing costs have also risen faster than family incomes.

In this first of a series of articles, we will discuss the rapidly rising cost of health care and education. Subsequent articles will discuss the reasons for the low growth of the economy and family incomes.

Attached is a graph from a Foundation for Economic Education article “Why luxury TVs are affordable and health care is not.” It provides some of the answer.

Price Changes 1996 to 2016:  Selected Consumer Goods and Services

The chart shows that over the past 20 years inflation has averaged about 2.2% per year so that something, on average, that cost $1.00 in 1996 would cost about $1.55 today.

Is inflation of 2.2% per year a problem? It’s very close to the inflation target the Federal Reserve is trying to maintain via monetary policy, 2.0% per year.

There’s more to the story and inflation is a big problem for a lot of people.

First, the inflation rate is based upon consumer purchases of a standard basket of goods and services. This doesn’t measure inflation in financial assets such as stocks, bonds, and commercial real estate. Inflation in housing is measured indirectly looking at a rental equivalent for owner occupied homes. When these financial assets go up, it’s considered a good thing, investors are making money, and is not thought of as inflation by most people. To the extent that the prices of stocks, bonds, and commercial real estate are increasing due to fundamentals such as increases in company earnings, market driven interest rate changes (not manipulated by the Fed), or increases in rental rates for commercial properties this is not inflation but a real increase in value. However, we don’t separate out real versus inflationary increases in financial assets.

Inflation of financial assets increases wealth differentials since it’s high income people who already own most financial assets and gain the most from asset price inflation.

Second, all consumer goods and services are not increasing at the same rate as shown on the chart. Thanks to improving technology, advanced manufacturing methods, low cost labor from China and Mexico, and other factors, most products and services are getting cheaper and better such as flat screen TVs. There are often significant improvements in quality, performance, and features that aren’t even captured by measures of inflation. For example, car prices haven’t increased much in the past 20 years but there have been major improvements in performance, features (mainly electronics), safety, reliability, and durability.

It was only one generation ago that a long distance phone call was very expensive and we counted the minutes we were on the phone. Now, we have portable cell phones and the cost of communications, data as well as voice, is low and decreasing.

Thanks to technology, innovation, and other factors, most of the things we need or want are getting more affordable. However, some things are getting much more expensive in spite of new technologies and other factors that should dramatically reduce their cost. The biggest are education and health care.

Why doesn’t the cost of health care and education exhibit the same trends as most other things we buy? Compare the experience of buying something where companies compete for your business (automobiles, clothes, consumer electronics, entertainment, etc.) to your purchases of health care and education.

A major problem in sectors where there are rising costs is a lack of choice and real competition in the marketplace. Users of health care, for example, are not in a position to act as customers and make intelligent choices based on price, quality, and other measures, choosing from suppliers who have to compete for their business. Health care is increasingly being delivered by large, bureaucratic, highly regulated, near-monopolies.

For health care and education, there are substantial barriers to real competition, innovation, new technologies, and potential new competitors. Is it even possible to have an Uber, Amazon, or Google equivalent for education or health care?

Why can’t a patient communicate with their doctor via e-mail or talk to them by phone? Because in most cases, they aren’t paid for answering an e-mail or talking on the phone. They have to see the patient to get paid.

Why did we even need the Affordable Care Act anyway? If we wanted to cover an additional 30 million uninsured, why not expand Medicaid? Medicaid already covered millions and an estimated 9.0 million of the uninsured were already eligible for Medicaid but hadn’t signed up. Most of the coverage expansion under the ACA is from adding more people to Medicaid anyway. Did we really have to overhaul the health care industry to accomplish this?

Also, health insurance is not health care. Under the ACA, insurance premiums for low income people are subsidized to reduce their cost. Taxpayers pay the difference and hide the true cost of the program. Even then, the low-income insured have to pay often unaffordable co-pays and deductibles. Some services are excluded and there are often narrow provider networks that limit access to many physicians and hospitals.

Similarly, student loans did little or nothing to improve education or even give many additional people access to a college education or other training. We now have about $1.3 trillion in outstanding student debt, more than total credit card debt. All this money has allowed educational institutions to increase their prices without improving their product (inflation) or to substitute student debt for taxpayer support in the case of state universities. In addition, the national statistic is that it now takes six years on average for someone to earn a four-year BA or BS degree. Even then, less than 50% graduate. This is a major loss of productivity when it comes to a getting a college education.

The cost of K-12 education probably has a trend similar to higher education. The cost per student hasn’t gone up as much but more of the money available is being spent outside the classroom such as for higher teachers’ pensions and health care expenses, more administration and reporting, etc. Programs such as music and sports have been cut to divert funds to other purposes.

In our high-tech world, why don’t students have tablet computers with state-of-the-art, interactive educational software? Most have cell phones. Why don’t we teach computer programming in primary school?

We can see why there is a lot of voter dissatisfaction. In addition to rapid inflation of health care and education costs, average family income hasn’t been growing very fast since about 2000. The cost of educating children or paying for health care is growing much faster than it should be and is rapidly becoming unaffordable to more families.

Raising the minimum wage or providing “free college” isn’t the solution. All this does is shift costs, someone else pays. We need to address fundamental problems that prevent education and health care from benefiting from technology and innovations that would significantly reduce costs, improve quality and convenience, lead to better health care and education outcomes, and make basic, affordable health care and education available to everyone.

What needs to be done? Slowing the growth of health care and education costs isn’t enough. We need major changes that will fundamentally reduce the cost of health care and education. If we don’t solve the cost problem, we can’t afford to give everyone the access to health care and education that most of us would support as policy objectives. Why not try for a 50% decrease? We need creative thinking and some very bold initiatives.

Health care in the U.S. already consumes 18 percent of our GDP compared to 10 to 12% for other developed countries who manage to have universal coverage in spite of spending less. At 18% of GDP, the U.S. spends about $10,000/person on health care, $40,000 for a family of four. Where does all this money go?

For college, why can’t someone get a BA degree in three years attending school full-time, twelve months/year? That should be enough time to take the credits required. What about practical, cost effective job training and apprenticeship programs for careers that don’t require a college degree? Do students need to attend class when most course content can be delivered online? Why can’t they get together for workshops, labs, and discussion groups but get their lectures over the Internet on a schedule of their choosing?

We can’t achieve the goals of universal health care and quality education for all unless we are open to revolutionary improvement in how these services are delivered. Uber anyone?

About the Author:

William Fletcher is a business executive with interests in public finance and national security. He retired as Senior Vice President at Rockwell International where most of his career was spent on international operations and business development for Rockwell Automation. Before joining Rockwell, he worked for Bechtel Corporation, McKinsey and Company, Inc., and Combustion Engineering’s Nuclear Power Division, and was an officer and engineer in the U.S. Navy’s nuclear program. His international experience includes expatriate assignments in Hong Kong, Europe, the Middle East, Africa and Canada. In addition to his interest in California’s finances, he is involved in organizations dealing with national security and international relations. Fletcher is a graduate of Tufts University with a BS degree in Engineering and a BA degree in Government. He also graduated from the U.S. Navy’s Bettis Reactor Engineering School.