The fact that half of all Americans with health insurance get it through their jobs is a true oddity of the U.S. health care system. No other country operates in such a way. Yet surveys show that most people on employer-sponsored health insurance (ESHI) seem to be happy with it. So why shouldn’t we follow the old maxim “If it ain’t broke, don’t fix it?”
The Affordable Care Act took that approach. Rather than trying to replace ESHI, the ACA made having health insurance mandatory for employers with 50 or more workers. Yet serious health economists tell us that ESHI is “broke” after all. In fact, they say it is so profoundly dysfunctional that it deserves to be called the “original sin” of the U.S. health care system.
ESHI’s biggest problems come down to three things: job lock, which reduces labor mobility of beneficiaries; the fundamental inequity in how benefits disproportionately go to the highest-paid workers; and the increased fragmentation of health care finance that comes from a system administered by thousands of separate employers.
This term describes the tendency of employer-sponsored health insurance to discourage people from changing jobs, starting their own businesses, or cutting their hours (usually either to care for family members or move toward retirement). Job lock undermines labor market mobility, makes it harder to match workers to the most suitable jobs, and cuts labor productivity.
56 percent of people surveyed said that health insurance affected their decision to stay in their current job.
Almost everyone seems to know at least one friend or relative who has taken a job that wasn’t great for them—or not left such a job—simply because it was the only way for them to get health coverage. A recent New York Times op-ed by former reporter Kurt Eichenwald dives into this experience. Eichenwald has a severe form of epilepsy, and the medication alone costs $50,000 a year. He vividly details 40 years of struggles to secure and keep health insurance. Small employers refused to hire him because he would send the company premium through the roof; he had frightening gaps in coverage and had to appeal to his parents to cover costly emergency room visits; and he recounts the humiliation of having to beg for an entry-level job far below his qualifications just to maintain coverage.
Eichenwald’s situation is by no means rare. In the survey cited above, 46 percent of respondents listed health benefits as an important factor in deciding to work for their current employer. That includes 9 percent who reported health coverage was the decisive factor in taking the job. An even greater proportion, 56 percent, said that health insurance affected their decision to stay in their current job.
There is much academic literature on the extent of job lock that is summarized well in a 2015 report by Dean Baker and published by the AARP Public Policy Institute. Baker noted that there is wide agreement among investigators that people with ESHI are less likely to change jobs, become self-employed, retire early, or reduce hours of work. Although there are many other factors besides health insurance that influence labor mobility, Baker concluded that even when those complicating factors are accounted for, job lock is a reality.
A second criticism of employer-sponsored health insurance is its inequity. Workers with high-paying jobs get most of the benefits while those with lower pay or part-time status get little help.
60 percent of non-taxpayers work. Even if they get ESHI, it gives them no tax benefit at all.
Differences in tax rates are part of the reason. According to data from the Kaiser Family Foundation, a typical ESHI policy with family coverage has a total cost of just under $20,000, of which employers pay about $14,000. Suppose you are a head of household earning $60,000 a year, sufficient to put you in the 25 percent federal tax bracket. Having your employer pay $14,000 of your insurance premium rather than getting that much extra in cash and paying the premium yourself would save you $3,500 in taxes. But if you are a top executive in the 40 percent tax bracket, the tax deductibility of the insurance is worth $5,600.
However, according to the Tax Policy Center, some 44 percent of Americans pay no income tax at all—in most cases not because they enjoy massive loopholes but because their income is too low; 60 percent of the non-payers work. Even if they get ESHI, it gives them no tax benefit at all. They would be no worse off if health benefits were not deductible and employers added the cost of their insurance to their cash pay instead.
There’s a second factor that adds to the inequity: Low-wage workers, by and large, are not even offered the option of health benefits. Data from the Social Security Administration show that only about one-third of workers in the lowest fifth of the wage distribution are offered health benefits and that less than 20 percent of them accept those offers. In contrast, more than 80 percent of those in the top fifth of the wage distribution are offered health benefits and accept them.
Robert Kaestner and Darren Lubotsky, economists at the University of Illinois at Chicago, provide an estimate of the overall inequality of ESHI based on the combined effects of differences in tax rates and differences in offer and acceptance rates. The following chart from their study shows that workers in the bottom fifth of the family income distribution get annual benefits of less than $500 from ESHI while those in the top fifth get benefits averaging $4,500. What’s more, the value of health benefits to well-paid workers grew substantially over the period shown in the chart while the value for the lowest-paid workers decreased slightly.
A third problem employer-sponsored health insurance contributes to is fragmentation of health care finance. A policy brief from Brandeis University put it this way:
“The U.S. health care delivery system is expensive, fragmented, highly decentralized, and poorly organized… made up of a fragmented network of public and private financing, health care delivery, and quality assurance structures. There is no single national entity or set of policies guiding the health care system. States divide their responsibilities among multiple agencies, and providers who practice in the same community and care for the same patients often work independently from one another. The U.S. health system is the most expensive system in the world and yet health outcomes and quality are no better and often worse than in most developed nations.”
Fragmentation is a problem not only for small employers, who have little bargaining power in purchasing group policies from insurers, but also for larger employers. Many larger employers try to save on health-benefit costs by self-insuring. According to Collective Health, a company that advises employers on their ESHI programs, 79 percent of companies with 200 or more employees were self-insured in 2017, up from 60 percent in 1999.
Given the structure of the system, providers will always come out ahead, driving up costs for workers and their families.
The problem is, companies that self-insure don’t always do a good job of it. Ali Diab, CEO and founder of Collective Health noted this in a post on the company’s blog:
“Contrasted with other areas of concentrated employer spending, like payroll, or sales and marketing, the distinct absence of a modern, technology-driven approach to managing this effort [ESHI] stands out. To understand why employers depend on these complex arrangements, we need look no further than the antiquated, error-prone administration systems that power the ‘back office’ of today’s healthcare industry.”
Recently, three corporate giants—Amazon, JPMorgan Chase, and Berkshire Hathaway—joined forces to form a combined health care enterprise to manage benefits for their hundreds of thousands of employees. The stock prices of traditional insurers fell when news of the consortium was announced, but many analysts are skeptical of how well it will work. Leemore Dafny, a professor at Harvard Business School, told reporters from the New York Times, “Just because you know an industry is underperforming and you have a lot of money doesn’t mean you have a successful strategy.” Dafny said she was excited to see such serious players take on the problems of ESHI but noted there were numerous examples of outsiders trying, and failing, to succeed in the health care system.
When it comes down to hard bargaining, health care providers—including big insurers, hospitals, and drug companies—are less fragmented than employers. Furthermore, health care is what they know best. For employers whose main expertise lies in a number of other areas, health care is only a sideline. Given the structure of the system, providers will always come out ahead, driving up costs for workers and their families, which are the ultimate health care consumers.
Making the Transition
If employer-sponsored health insurance were a carefully crafted system established with some clear purpose in mind, we might think twice before getting rid of it, but it is not. Instead, people who have tried to trace its origins, like Indiana University’s Aaron Carroll, portray ESHI as an accident of history. Job-linked health benefits first became widespread during World War II when U.S. firms faced both a labor shortage and a wage freeze. Desperate to attract employees, the story goes, they started giving out benefits like health insurance instead of cash raises. The IRS boosted the popularity of ESHI by declaring such benefits to be nontaxable. When President Harry Truman’s attempts to establish a national health care system failed after the war, ESHI became a central element of a complex health care system whose many disparate parts have never fit together well.
It really is good news, in a way, that ESHI is already fading away. The latest Employer Benefits Survey from the Kaiser Family Foundation shows that the percentage of employers offering health benefits declined from 68 percent in 2000 to 53 percent in 2017. Meanwhile, employee contributions and deductibles have been steadily increasing.
We urgently need something better. It is time to stop putting up with the job lock, the inequities, and the fragmentation that characterize ESHI. Many of the leading ideas for health care reform, including universal catastrophic coverage (my preferred solution) and Bernie Sanders’ Medicare for All (popular among progressives), would replace ESHI altogether. Other reforms, such as the Medicare Extra plan from the Center for American Progress would allow both employers and employees to opt out of ESHI in favor of a fully portable type of insurance. The time to begin the transition is now.
A more detailed version of this post can be found at NiskanenCenter.org.