He might get his wish.

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The Public Option: It's Baaaaaaaack!

Megan McArdle is a Bloomberg View columnist. She wrote for the Daily Beast, Newsweek, the Atlantic and the Economist and founded the blog Asymmetrical Information. She is the author of "“The Up Side of Down: Why Failing Well Is the Key to Success.”
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In matters of public policy, it’s never wise to declare any question dead. The minute you begin to read the funeral rites, it will suddenly rise up out of its coffin, brush itself off, and demand a word with the minister. Thus, I should have known better to think that we were done with the public option. It was not dead. It was never dead. It was just resting quietly and pining for the fjords.

The Democratic National Committee has included the public option and Medicare buy-in as part of its 2016 party platform. This is obviously a sop to the Sanders wing of the party, which never got over its anger about the final shape of Obamacare. And while in general, I think that their demands are pipe dreams, it seems there is a reasonable chance that if Hillary Clinton is elected to the presidency, those people will finally see the dream of the public option made flesh.

Why do I think that? Because there’s a good chance Donald Trump will secure the nomination and lose in a landslide, handing Hillary Clinton the House and the Senate along with the Oval Office. Once she gets in, there will be demands to do something to please the newly energized left wing of the party, and this will look like a good thing to do. Unlike single payer, it will likely be scored by the Congressional Budget Office as cheap, even deficit-reducing. That will make it a more attractive option than anything else she could do on health care.

That means that it’s time to unearth the carton of ancient notes, open the folder marked “Health Care Reform 2010,” and take a look at what the public option would do.

To summarize for those who have forgotten the last exciting round of health-care quarrels, a “public option” would be a public insurer that would sell policies on the insurance marketplace alongside for-profit companies. It would be expected to be budget-neutral, which is to say that it would have to cover all its costs -- including administrative overhead -- through premiums. Nonetheless, its supporters think that it would provide cheaper policies than the for-profits, and while people have long expressed worries that this would crowd other insurers out of the market, if you favor single payer, that’s a feature, not a bug.

However, the hopes for a public option revolution were always a bit overblown. The less wonky supporters of the public option -- and that’s most of them -- were generally under the impression that private insurers had bloated administrative costs and obscene profits, so that a public insurer which could streamline overhead would easily be able to offer better prices. But while Medicare’s overhead costs are lower than those of private insurers, that doesn’t mean that the public option policies would be cheap. For one thing, one of the reasons that Medicare’s overhead is low is that it doesn’t do annoying things such as sell policies to consumers, who require a lot of expensive hand-holding and bill-collecting. As one of many players in the marketplace, the public option would need to have all those service staff, just like the insurance companies do.

For another thing, there’s a credible case that Medicare lowers its overhead by inadequately policing fraud, which is not necessarily a net savings to the whole system, but does lower the amount captured in that one budget line. Medicare’s overhead—which is expressed as a percentage of total expenses -- also looks artificially low because the population it covers is so sick. Expressed as a hard number rather than a ratio, its administrative expenses per enrollee are arguably higher than the private sector's.

Finally, there’s the matter of efficiency. Medicare has lower overhead because it has a huge number of consumers spread out across 50 states. Normal health insurance policies, unfortunately, are regulated at the state level, which means that the public option would have to write an individual policy for each market, have individual networks of doctors and hospitals, and deal with individual insurance regulators.

As for the profits -- well, insurer profits were never anything like the lavish riches that public-option supporters imagined, but it’s particularly crazy to speak of this now, because overall, insurers have been losing boatloads of money on their exchange policies. Fully 15 of the 23 co-ops -- which were also supposed to be able to offer attractive policies by cutting out those obscene profit margins -- have been shut down, and many of the rest look as if they will eventually follow suit. If the public-option insurer really does have to cover all its costs, it could well end up on the high side of the current markets.

Of course, there’s one way that a public option could be cheaper than the competition: It could fix the prices it pays to doctors at something close to Medicare rates, which are lower than those paid by private insurers. That was the proposal that the Congressional Budget Office scored as deficit reducing; a CBO analysis that assumed the public option negotiated rates like a normal insurer found that “paying negotiated rates would attract a broad network of providers but would typically have premiums that are somewhat higher than the average premiums for the private plans in the exchanges.” On the other hand, why shouldn’t we just have the public option pay Medicare rates, or something close to them? It works for Medicare, doesn’t it?

Well, sort of. To see why this could be a problem, you have to consider the difference between marginal and average cost. Your average cost is the total cost of running your hospital or practice, divided by the number of patients. Your marginal cost is the cost of serving one additional patient. If you’re a hospital with a lot of fixed costs for things like buildings, maintenance and machines, your average cost per patient will be much higher than your marginal cost of tucking one more person into a bed.

In that situation, it is possible that for it to be profitable to take on additional patients whose fees are less than the average cost of serving everyone, but higher than the marginal cost of serving that one extra person. This is basically what airlines try to do, because their marginal costs are very low, while their average costs are high. So they charge some price-insensitive fliers a lot of money, and then offer others prices very close to the cost of carrying one more body on the plane. It’s a great deal -- if you get to be the marginal cost consumer. But people tend to forget that not everyone can be the marginal-cost consumer; someone has to cover those average costs.

Hospital profit margins are no more lavish than insurance company profits were; that suggests there might be a problem with trying to push every patient in the country down to Medicare rates. Yes, you in the back, I am indeed aware that Europe provides excellent health care for a much smaller percentage of GDP than we here in the United States. The problem is, a lot of the expensive stuff we do is the legacy of decisions that were made decades ago: Decisions about how many hospitals to build, how much equipment to buy, how to train our doctors and pay our health-care workers. We cannot snap our fingers and transform all that physical plant and human capital into the Dutch health-care system. If you try, the workers who are going to lose jobs or see their pay cut will form a powerful political coalition to fight you -- and the history of such fights suggests that they will win.

It is thus hard to see a scenario where the public option holds to the promises of its supporters -- that it will cover its own costs rather than turning into a sucking hole in the middle of the federal budget -- and also fulfills their dreams of a kinder, gentler, cheaper public insurer. If insurers were making money in the market, there would maybe be an argument. But they aren’t, and there isn’t.

On the other hand, the political logic is sound. Almost no one dives deep into the details of any policy, or thinks systemically about costs. A public option sounds plausible -- which in politics is much more important than whether it actually is.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Megan McArdle at mmcardle3@bloomberg.net

To contact the editor responsible for this story:
Tracy Walsh at twalsh67@bloomberg.net