The Agenda

A Peculiar Method of Accounting for US Output

Matt Yglesias writes:


Measured in PPP terms, the United States is just about the richest country on earth in output per head. But it’s also well-known that the United States has substantially higher defense spending than other rich countries and leads the world in health care spending. Yet whatever you think about America’s large military budgets, American citizens pretty clearly are’t safer from invasion and conquest than are Portugese people. Our military spending is either largely wasted, or else its benefits are widespread and extend to our allies. And similarly, Americans aren’t healthier on the whole than citizens of other rich countries.

But as you can see from this chart Matthew Cameron put together using OECD data, a lot of America’s lead in output per capita over other rich countries consists of defense and health care.

Follow the link to see the chart, which shows that, well, the U.S. is still very close to the top of the heap.

If the U.S. radically reduced defense expenditures, would all of that output evaporate or would the people working in the national security apparatus, defense contractors, etc., find remunerative work elsewhere in the economy? After the deep defense cuts of the 1990s, one gets the impression that skilled workers were able to find employment in other sectors, and at least some found more lucrative employment in more productive firms.

As for health expenditures, I wonder about the extent to which this reflects the relative affluence of Americans at P90 and P50. We certainly have a dysfunctional health system, yet as David Cutler argued in Your Money or Your Life and elsewere, it’s a safe bet that more affluent people will spend more on health because 

[M]edical spending isn’t increasing because of inflation so much as because of people consuming more ‘’good stuff.’’ This view is beginning to course through the health-care world. Scanning the literature, you now happen upon sentences like, ‘’We believe that some of the concern about the growth in spending may be misplaced’’ (Health Affairs) and ‘’On average . . . society is better off exchanging more money for better health’’ (The Journal of Economic Perspectives). No one disputes that spending will continue to increase; limiting the rate of growth is the most we can hope for.

That same Roger Loewenstein article contains another interesting observation:

However, health-care costs in Canada have increased at nearly the same rate as in the United States. In fact, spending growth in most developed nations — regardless of how they finance and organize care — has been moving ahead at similar rates. Since 1960, costs in six of the G-7 countries have risen, on average, by 4.9 percent a year. The rise in costs in the United States, at 5.1 percent annually, is close to the middle of the pack. Sherry Glied, of Columbia’s School of Public Health, concludes that ‘’no particular characteristic of any health-care regime is the main determinant of growth in costs.’’ Technology is.

In a similar vein, the tax burden seems to reflect on the level of economic activity more than short-run growth rates. Remember that paper on fixed amenities and rent-extraction we discussed yesterday? Now, the United States spends more on health than an Estimated Spending According to Wealth measure would predict, just as we spend more on tertiary education that ESAW would predict. Thorfinn at GNXP wrote an excellent post on this subject last year:


As countries get richer, they face Baumol’s cost disease. Tradable goods like manufactured goods experience large gains in productivity that steadily lower consumer costs and required labor inputs. These sectors of the economy steadily shrink as countries get richer, like how agriculture went from employing 70-80% of the US population in 1870 to 2-3% today. On the other hand, service and labor-intensive industries tend to see rising costs and grow to dominate the economy over time.

Yet while this would predict rising health costs over income, it doesn’t say whether that trend should be linear or quadratic or what have you. The regression line drawn in the table assumes something like a linear trend of health spending with respect to per capita GDP. While this may be reasonable for the cluster of European countries in the middle of the graph; it’s not at all clear that extrapolates to America, an outliner in terms of income.

In the absence of a model for health spending, which doesn’t seem to be provided, there’s no reason to assume a roughly linear relationship from the other OECD countries. …

Like healthcare, tertiary education is a sector intensive in the use of highly skilled labor, expensive buildings, and land in prime locations. The relationship between expenditure per student and PPP-adjusted GDP appears to be non-linear, suggesting that societies spend proportionately more on these education expenses as they grow richer.

All of this is to say that I don’t think that we have a higher GDP per capita because we spend lots of money on health and defense. Rather, I think that we spend lots of money on health because have a high GDP per capita which makes certain forms of rent extraction by health providers easier than would be the case in a poorer country. One could make a strong case that we waste money on health expenditures — but this “waste” does translate into wages for medical providers, among other things. As someone who doesn’t particularly enjoy miming and trapeze and extreme tanning, I could say that these expenditures are “wasted” as well.

The underlying anxiety is about “waste” in the domain of health spending centers on third party payment and social justice concerns. As we get richer, we’ll spend more on health. But we won’t get richer evenly, and we will subsidize health expenditures for poor people. It should be perfectly kosher for rich people to spend lots of money on their health, just as we barely bat an eyelash when they support mimes, American Studies departments, etc. Yet this spending by the rich spurs the development of advanced medical technologies that are really expensive, and we’ve collectively decided that it is wrong to deny people expensive, new-fangled treatments. It will be interesting to see if this attitude ever changes.


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