I’m going to try to lay out the stresses pushing and pulling on the US economy in the medium term. I’m going to intentionally oversimplify some things in order to make the overall picture as clear as possible.
And I’m going to apply a bit of a curve to the analysis, to account for the uncertainty surrounding the banking sector. (By that, I mean that we don’t know yet whether the private-sector crunch will abate, not abate, partially abate, or sectorally abate.)
In the medium term, the United States faces an unavoidable liability to fund healthcare for the baby-boomers.
As people age, they tend to consume more healthcare with each passing year. In the US, the next several decades will see steady increases in health spending, probably peaking around 2030 and declining thereafter.
This is mandated consumption. There is a firm expectation that rationing healthcare for the elderly is not an acceptable social outcome. Therefore we need to fund the spending.
There is also a firm expectation that no one may receive a level of care that far exceeds what is available to people without wealth. We could argue this point until we’re blue in the face, but I won’t waste my time. Social justice is non-negotiable in the current political environment. Therefore, some amount of income redistribution is inevitable.
It’s helpful to model the rise in health spending as a percentage over current consumption levels. It would be ideal if we could simply add future health spending on top of today’s consumption. Given that, you could project roughly how much economic growth we would need.
The long-term average growth of the stock market (a proxy for nominal economic growth) is perhaps 6%, maybe a bit more. That’s an encouraging number, but real (inflation-adjusted) growth has tended to be more like 3%. (At this moment, of course, the economy is SHRINKING at about a 6% rate.)
Real growth is a better match for health spending than nominal growth, because health spending is mandatory. It doesn’t respond to price signals because healthcare in the US is not delivered in free markets.
Therefore, under historic expectations, we’ll face an inflation-adjusted gap in health spending, between its rate of growth and the economy’s rate of growth. We’ll need to fund this gap by displacing other consumption. Our standard of living will NECESSARILY fall by the amount of the gap.
How big a gap? Well, say an elderly population spends 10% more on healthcare than a young one does. (The percentage will rise to a peak in about two decades, as I said, and then decline again.) The spread between 10% and trend-line growth is about 7%. That’s a rough working guess for the average decline in living standards we’ll need to suffer. Our children will not feel as wealthy during their adult lives as our parents felt during theirs.
We can make this problem better by encouraging economic growth, by making the economy more efficient (productive), or both.
We can grow the economy organically, or by importing capital, or both.
Unfortunately, the pressures on the economy are toward shrinkage rather than growth. Part of this is structural, because the redistribution necessary to achieve socially-just health spending will reduce efficiency by weakening incentives to produce more. That’s unavoidable.
However, there is also a stated desire by the new Administration to shrink the economy even further by aggressively reducing incentives to produce more, in the form of higher taxes on business, capital, high incomes, and energy use.
The Administration has explained this policy as a way of reducing our dependency on capital importation. The role for the government in all of this is to effectuate the redistribution of healthcare spending, which would not take place in a free market. They need money to do this, which they can get by taxing or borrowing more domestically, or by borrowing the savings of other countries.
There is clearly a point at which foreign investors will be unwilling to fund our external deficits. But it seems to me that a policy of encouraging strong organic growth would actually make it much easier to fund fiscal deficits, partly because more money would be available from the US, and partly because foreigners would be more willing to lend into a strongly-growing US economy than into a weak one. There clearly is an attractive potential strategy involving a permanent inflow of foreign capital, if you got the incentives right (that’s a post in itself).
The Administration disagrees with me, but they may change their minds after a few years of too-low growth. Or the people may decide to change the Administration.
Now the Administration is full of very smart people. They can read these tea leaves as easily as I can. There’s thus at least a possibility that they’ve intentionally chosen the path of weakening the private economy. That could make sense if their goal is to make fully-socialized healthcare politically easier to achieve by discrediting free enterprise.
So the ultimate outcome depends on the rate of economic growth. We will see a necessary reduction of living standards as healthcare spending displaces non-mandatory consumption. If strong growth returns, the blow will be less painful. Otherwise, it’ll be more painful.
This post also appears at MarketsAndPolicy.com.