In a nutshell, the study models the costs to worker wages of expanding health care coverage, under various health care cost inflation scenarios.

The piece starts by explaining the established linkage between wages and the cost of employer-provided benefits:

But most of the ongoing discussions about who should pay for health care legislation have proposed employer coverage mandates, limitations on health benefit tax preferences, taxation of health insurers and “play-or-pay” provisions, all of which would distribute the costs of expanded coverage among employers and, through them, to their workers in the form of slower wage growth.

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Compensation includes wages, employer contributions to Social Security and Medicare, the cost of any health insurance coverage for workers and their dependents, and contributions to any pension plans, 401(k) plans and other capital accumulation programs. While many of the proposals for health reform are looking to employers to fund much of the cost, there has been little focus on the links among wages, compensation and the cost of employer-sponsored health and retirement benefits. No one has talked much about how higher health benefit costs to employers would affect the paychecks workers bring home.

Health benefit cost inflation has been outpacing inflation and wage growth for some time now. There was a brief respite during the 1990s, when health benefit cost inflation was only 1.5 percentage points more per year than average wage growth for the bottom two-thirds of the earnings distribution. And since that decade, wage growth has fallen to roughly half what it was during the 1990s. Yet there was no comparable drop in compensation over the period. What happened? The health and pension cost share of compensation rose, which drove down cash wages.

If we expanded health insurance coverage but our current health cost inflation rate continued unabated, the higher overall costs would result in falling wages at the bottom of the earnings spectrum and very slow wage growth on up the earnings distribution. These dismal wage outcomes would persist over at least the next couple of decades, possibly longer.

The next scenario considers the real possibility that health inflation increases as a result of expanded insurance coverage offered under reform. Looking back at the implementation of Medicare, this is exactly what happened. This scenario combines expanded health care coverage with accelerated health inflation rates. In this case, the higher costs would drive disposable wages downward across most of the earnings spectrum, although the declines would be steepest for lower-earning workers.

It is natural to assume away potentially adverse results when proposing solutions to broad policy problems. The Medicare story told above offers a good case study of a likely reality if we expand health insurance without controlling health cost inflation. In fact, there is no good reason to assume that expanding health insurance coverage will moderate health costs. Virtually all studies of the relationship between health insurance coverage and consumption have found that coverage generally stimulates consumption. In alternative scenario 2, we assume that cost trend rates from 2000 through 2007 persist until 2030 (see Table 6).

Table 6: Scenario 2, Annual Wage Growth Rate Projections Across Earnings Deciles Assuming Health Insurance Reform Is Adopted Where Such Insurance Is Provided and Financed Through Employers, and Health Cost Inflation Rates Persist

In this case, the financial shock of expanded coverage would be much larger and would drive wages down for nearly the bottom 40 percent of the earnings distribution. The higher health cost inflation rates in scenario 2 suggest that workers at the bottom of the earnings distribution might not recover from the implementation shock of mandated insurance. The base cost would be so high that the higher inflation rate would consume the benefits of any productivity improvements and then some over the next 20 years. Some might be tempted to dismiss this projection as making overly pessimistic assumptions about health inflation in coming years. But readers should keep in mind that the assumptions in scenario 2 are milder than the actual experience reflected in Table 3, in which health cost growth exceeded the assumptions used to develop this projection in 35 of the 45 years for which we have historical data.

Health Costs With Increased Inflation Rates and Expanded Coverage

When the Medicare program was started during the 1960s, real wages grew at a compound annual rate of 2.8 percent, while employer-sponsored health benefits costs grew by 8.9 percent per year, after adjusting for inflation. During the 1970s, when demand for services under Medicare intensified, real wages grew by 0.8 percent per year, while employers’ health benefit costs grew by 8.1 percent per year, after adjusting for inflation.[1] Given that the legislation now being proposed to expand health insurance coverage includes no particularly effective mechanisms for controlling the pressures of new demand for health goods and services, it seems prudent to at least consider a scenario where expanded coverage accelerates health inflation. In alternative scenario 3, our high-cost scenario, employers’ health costs increase by 6 percentage points per year more than compensation. The results of this “adding fuel to the fire” scenario appear in Table 7.

In alternative scenario 3, health cost growth would swamp the productivity rewards of all but the very highest earners. By the end of the projection period, workers at the lowest earnings levels would have no wage income — all remuneration rewards would be spent on health care and retirement obligations. Of course, before reaching this point, policymakers would have to find another way to finance benefits for the most vulnerable. But assuming that expanding health insurance coverage will somehow moderate service pricing would be risky policy. The real experience of the 1960s and 1970s proves that health costs can greatly exceed the growth in the productivity capacity of workers for protracted periods. The cost basis of these benefits is so much higher now than it was in the 1960s and 1970s that we cannot safely ignore the cost inflation potential of reforms. Under alternative scenarios 1 and 2, the two lower-inflation scenarios, one might argue that having higher earners finance some of the benefits for lower earners could enable all workers to realize some reward from their added productivity. But in scenario 3, the negative effects are pronounced relatively high up the earnings distribution, closing off any readily apparent escape valve.

Table 7: Scenario 3, Annual Wage Growth Rate Projections Across Earnings Deciles Assuming Health Insurance Reform Is Adopted Where Such Insurance Is Provided and Financed Through Employers, and Health Cost Inflation Rates Increase to Wage Growth Plus 6 Percentage Points per Year

To show the potential claim that entitlement programs could make on workers, alternative scenario 4 assumes the cost increases projected under current law for Social Security retirement and disability programs and the Medicare HI program come to pass. We developed these projections in conjunction with the expanded health insurance scenario developed under our middle range of health cost inflation assumptions. For entitlement program costs, we used the pay-as-you-go cost rates for the Old-Age, Survivors and Disability Insurance and HI programs from the most recent Trustees Reports. The results of our projections are presented in Table 8. In alternative scenario 4, the combination of entitlement reform that raises taxes to projected cost rates along with health care reform could reduce wage income for the bottom 40 percent of the earnings distribution over the entire projection period. It would significantly erode the productivity reward to most higher-earning workers as well.

The longer we wait to address entitlement financing, the more likely policymakers are to raise taxes rather than adjust benefits or enact some combination of the two.

Table 8: Scenario 4, Annual Wage Growth Rate Projections Across Earnings Deciles Assuming Health Insurance Reform Is Adopted Where Such Insurance Is Provided and Financed Through Employers, Recent Health Cost Inflation Rates Persist, and Social Security and Medicare HI Payroll Tax Rates Increase to Finance Current Law Benefits