Should We Worry About Higher Interest Rates?

IMF blog - Tue, 07/29/2014 - 09:15

By Hamid Faruqee

Global interest rates will eventually move higher. We do not know precisely when,  how fast, or how far, but we do know the direction. After a long period of very low interest rates following the global financial crisis, some central banks (mainly, the U.S. Federal Reserve and the Bank of England) are planning to “normalize”—that is, to gradually tighten their easy monetary policies as their economies improve. And when U.S. and U.K benchmark interest rates go up, interest rates tend to go up elsewhere, too.

So should we worry if and when global financial conditions tighten?

The 2014 IMF Spillover Report prepared by IMF staff looks into this important issue—what to watch out for and who to watch out for as interest rates begin to normalize. The answer depends on two sets of factors. First, what is going on in the originating source countries in terms of the underlying drivers behind higher yields—for example, whether or not stronger growth, say in the U.S. and U.K., is the main force behind higher interest rates.  Second, what is going on in the receiving countries—that is, how vulnerable they might be to higher borrowing costs.  Both these factors matter for spillovers as highlighted in the report.

Factors that drive yields highergood and bad spillovers

Higher interest rates and exit from monetary stimulus in major advanced economies when led by stronger growth prospects (real shocks) produce good spillovers. Interest rates tend to rise elsewhere. But they are lifted by a rising tide of economic activity at home and abroad. Another positive development is that trade and capital flows tend to strengthen.

On the other hand, when interest rates move up faster than what is suggested by the real economy (money shocks), things can look quite different. Interest rates elsewhere tend to go up more sharply as liquidity conditions tighten in major financial centers. Capital tends to flow out, especially from vulnerable emerging economies. Foreign activity is dampened. Spillovers then tend to be negative.

Based on the report’s analysis, the chart below shows what have been the main drivers of higher U.S. long-term yields since the taper episode over a year ago.

Notice what happened last summer. Against a backdrop of low market volatility, low spreads, and high asset prices, mere talk by the U.S. Fed of tapering its purchases came as a monetary shock or surprise to markets (blue area). Around this turning point, interest rates moved higher quickly. Market turbulence ensued. Negative spillovers were felt worldwide. The problem is that the central bank may have had little choice: if it felt market expectations and risk-taking had become too one-sided, some course correction may have been needed.

Whether fully intended or not, Fed communications during the episode have clear lessons going forward. Given an unconventional starting point—low interest rates and large balance sheets—major central banks face complex challenges when it comes to normalizing smoothly. If markets get well ahead of themselves, financial stability concerns may require higher interest rates even if growth is not stronger. With recent market volatility and spreads falling again to low levels and asset prices moving up (some at all-time highs), this is something to watch out for.

What else matters for spillovers?

On the receiving end, spillovers from higher interest rates depend on local factors too. During the May 2013 taper episode, for example, spillover effects were not all the same. Instead, effects differentiated across emerging economies depending on their fundamentals and policies. Notably, those with higher external deficits or lower reserves, higher inflation or weaker growth were harder hit. Their interest rates rose or currencies fell by more.

Moreover, risks can interact. Markets may reassess those economies with weaker fundamentals in the context of rising interest rates and tighter financial conditions. Thus, more vulnerable economies along these lines are the ones to watch out for going ahead.

Bottom line

So should we worry about higher interest rates? Not if stronger growth is the reason. We would happily take it over the alternative of lower interest rates and lower growth. However, the road ahead is a tricky one. Much will depend on how well the normalization process can be managed. That is, how smoothly can we transition along a path to higher growth and interest rates? And, given recent market trends, there may be further bumps along that road. Stay tuned.

Categories: Blog

Dueling Long-Term Projections Highlight Uncertain Trajectory for Health Care Costs

Brookings Institute Blog - Tue, 07/29/2014 - 08:02

Recent projections for Medicare spending from the Centers for Medicare and Medicaid Services (CMS) and Congressional Budget Office (CBO) are virtually identical through 2040, and both agencies’ projections for spending have fallen dramatically in recent years. But beyond 2040, the projections diverge. CBO, for example, projects that health spending will reach 10.5 percent of GDP in 2080, a full 3.7 percentage points higher than in CMS’s baseline projections.

What explains these dramatically different projections? Simply put: different assumptions. Both agencies assume that private health spending will slow over time, reflecting the notion that households will not want to forever curtail other types of consumption in order to afford ever-greater health consumption. But CBO and CMS make very different assumptions about Medicare over the long run. CBO assumes that without changes to Medicare policy, Medicare will be unable restrain health spending growth as effectively as the private sector. Hence, CBO assumes that Medicare will grow faster than private health spending in the long run. CMS, on the other hand, assumes that the ACA’s cuts are deep enough that Medicare spending will rise slower than private health spending.  

It is impossible to know which of these projections is “better.” Health economists know that health spending can’t rise faster than GDP forever, but we know little about how much health spending will be viewed as “too much.” Thus, we have no way to pin down the trajectory of private health spending over the long run. And the idea that we can say something useful about Medicare spending vs private health spending over 75 years is fanciful at best.

It’s not that CBO and CMS are doing bad projections—it’s that it is impossible to do a meaningful 75-year projection for health spending. CBO’s recent emphasis on the 25-year outlook, and its de-emphasis on the longer-run outlook, makes a lot of sense.

Categories: Blog

Around the Halls: The Crisis in Gaza Deepens

Brookings Institute Blog - Mon, 07/28/2014 - 14:30

When Daniel Byman emailed his latest piece on the current situation in Gaza to his colleagues, he ignited up a lively conversation and debate among the experts at the Center for Middle East Policy at Brookings. Below is an edited version of their conversation.

Khaled Elgindy, Fellow, Center for Middle East Policy, Foreign Policy Program:
Great piece, Dan. So, if the goal is to convince the other side that attacks on Israel “are too costly to carry out,” than disproportionality is by definition intended to maximize rather than minimize the harm to the other side. In which case, doesn’t that also mean that the enormous civilian casualty rate ( about 75 percent) is on some level intentional?

Daniel Byman, Senior Fellow and Director of Research, Center for Middle East Policy, Foreign Policy Program:
My sense (and here I'll defer to Natan) is that the IDF (Israel Defense Forces) gets and gives somewhat contradictory orders on this. There is both a strong and formal "when possible, try to avoid killing civilians" order, but also a message of "show them we mean business" and, of course, "protect the troops at all cost" (which can mean you bring down the building rather than try to clear it room by room to avoid civilians). So I think Israel often tries to do both proportionality and deterrence, and as a result both suffer.

Natan Sachs, Fellow, Center for Middle East Policy, Foreign Policy Program:
As you point out, Dan, I think the main difference is between the tactical and the operational levels. Israeli troops, as a rule, do not try to kill civilians, contra frequent accusations in social media and in the press, but the Israeli operation as a whole is not as sensitive to civilian casualties as it might be. From the Hamas side, of course, civilian casualties are the point, though in this round they have so far succeeded mostly in producing Palestinian civilian casualties.

On the tactical level, the Israeli standing orders are very clear – rehearsed by every soldier from day one – and they are to avoid civilian casualties when possible. This includes routine procedures for encounters and especially for airstrikes, many of which are canceled if the pilot or other visual intel identifies bystanders. There are now also actual lawyers in the forward war room for some operations. That’s of course much harder to do with infantry in actual combat, where their own lives are more at risk and they necessarily have to be more cautious, which can mean more aggressive measures in combat. Similar dilemmas are faced by American troops in asymmetric warfare.

But “when possible” of course depends on the setting, the orders, and the spirit of the orders from above. In the Hamas/Gaza case, where it is both harder to avoid civilians, and where the enemy is intent on causing civilians casualties even among the people it rules, it is very different than in others. With a mission that is vaguely defined by the high command, especially, it can entail less caution among the troops.

On the operational level, however, the Israeli decision to push on is also motivated by the desire to project strength and to deter Hamas, as you point out, Dan. As you also point out, this is complicated by Israel’s acute sensitivity to its own casualties, and especially POWs (prisoners of war), which weakens its hand in the game of chicken you describe, which in turn produces less sensitivity to civilian casualties on the other side.

As I've noted elsewhere, however, the focus on the Israeli decisions alone is a bad mistake in my view. Palestinians, contrary to the tone of many Palestinian politicians and commentators, have agency: they too can shape the course of events. That this conflict, with all the complications that the arena poses, would entail such tragic consequences was known to Hamas as well as to Israel. I'm not surprised by Palestinian rage toward Israel at the moment, and Israel could have done things far better; I am dismayed by the lack of Palestinian rage toward Hamas.

Tamara Cofman Wittes, Senior Fellow and Director, Center for Middle East Policy, Foreign Policy Program:
The demonstrations Friday in Jerusalem and the West Bank suggest that we might now be heading down an even darker road. If a cease-fire takes three more days, as some reports suggest, I hope that won’t be too late.

Salman Shaikh, Director, Brookings Doha Center and Fellow, Center for Middle East Policy, Foreign Policy Program:
With the West Bank protests starting up and lives being lost, I suspect that it will take some doing (even for Qatar and Turkey) to get Hamas to agree to any ceasefire proposal in the next few days. They are more popular in the West Bank than Abbas (and even Gaza), especially now. At a minimum, they will drive an even harder bargain.

Michael Doran, Senior Fellow, Saban Center for Middle East Policy, Foreign Policy Program:
Not sure the Israelis will go all the way, but they'll proceed to its outskirts.

Khaled Elgindy:
Just so I'm clear, what exactly is "all the way"?

Michael Doran:
Re-occupation and effort to topple Hamas.

That being said, I think Netanyahu will come out in “okay” shape. Hamas will be the loser. Lots of variables, but that's my prediction. You can all ridicule me if I'm wrong. But if I am right, I reserve the right to be insufferable for a week.

Shadi Hamid, Fellow, Project on U.S. Relations with the Islamic World, Center for Middle East Policy, Foreign Policy Program:
When you say Hamas will end up the loser, how do you define "lose"? Seems like they have more going for them right now, especially with developments in the West Bank (AWRAD's just released poll of West Bankers has mostly good news for Hamas). Of course, a lot will depend on the eventual ceasefire terms, but I'm just curious how we make the assessment of Hamas's success or failure in the coming weeks/months.

Michael Doran:
As for Shadi's question, about what “lose” means, it's not an easy question, because Hamas will probably stay in power in Gaza. Rooting them out is too difficult for anyone to take on. Even if Netanyahu's war aims expand beyond destroying tunnels to significantly degrading Hamas, I doubt he will go for broke and try to topple it entirely. Doing so would require occupying a hostile population for a very long time. So the mere fact of surviving will give Hamas the ability to claim victory, like so many Arab leaders have done in the past after taking their people into fruitless wars. Some western academics and apologists will echo Hamas's claims of "divine victory," to borrow a phrase from Nasrallah in 2006, but having the professors on your side is hardly a pride-worthy distinction.

Hamas looks strong now, because of the surge of public opinion in its favor. But that is transitory. After the dust settles, even Palestinian public opinion will not support Hamas at renewed levels. Six months from now, many Palestinians, especially those in Gaza, will ask themselves what all the pain and destruction that Hamas brought down on them was worth. Their disgruntlement will not weaken Hamas's grip on power, because it is a dictatorship supported by foreign money. But the organization, as it stands before its people and lectures them on the need for more sacrifice, will surely clock the sullen faces that stare blankly back. As for the "support" that Hamas gets from public opinion in other parts of the Arab world that will certainly dissipate. Of course, it's never been worth much anyway, throughout modern Arab history, because it never translates into lasting change in the behavior of states, the true power brokers in the region.

Meanwhile, Hamas will have lost considerably on the battlefield. Its extensive tunnel network will have been destroyed, and it will have lost many fighters. Its capabilities will be so degraded that it will take years to rebuild. And the reconstruction will take place in more difficult conditions, given that Hamas is now surrounded by a vice in the form of the Egyptian-Israeli alliance.

On top of all that, the world is about to notice something surprising. The United States is not as engaged and as influential as it was in the past, and, here's the surprising bit: that fact translates into very bad news for Palestinian nationalists. The mechanism by which the world constrained Israel was America. While that mechanism is not entirely gone, it is weak. Increasingly, Israel is going to look after its self-defense according to its own lights. Hamas's answer to that challenge is not an answer at all, and if it persists, it will only succeed in bringing down untold suffering on its own people.

So I am defining "loss" as a massive sacrifice, both by the organization and the people over whom it rules, in return for less than nothing.

Shadi Hamid:
Even if Hamas "loses" in the ways that you describe, it seems to me that they're likely to at least be better off than they were before the conflict started. It's hard to envision any ceasefire arrangement that won't include easing the blockade in some way (Hamas has little incentive to agree to a ceasefire that doesn't alleviate the humanitarian crisis in Gaza). The West Bank surge in pro-Hamas sentiment isn't just about public opinion; it's about closing the gap between Hamas and Fatah. If the developments in the West Bank underscore anything, it's the real, and growing, desire for Palestinian unity. Last week on MSNBC, Mustafa Barghouti said that a new uprising had started. He may be getting ahead of himself, but if a ceasefire doesn't hold in the coming days, there will be more instability in the West Bank (and corresponding anti-Palestinian sentiment) and that can only strengthen Hamas hand during post-ceasefire negotiations over contours of unity government. Also, the expectation, which I suppose is implicit in these Israeli deterrence operations, is that at some point Palestinians will blame Hamas more than they blame Israel. But, there's little to suggest this is how most Palestinians process the results of Israeli military operations.

Michael Doran:
Concessions on easing the blockade are largely symbolic, because, when all is said and done, Egypt and Israel control the exits. Also, the Israelis and Egyptians, in my view, are going to make sure that this ends on terms that are advantageous to them. It will either end, therefore, with a ceasefire agreement close to the one the Egyptians offered Hamas up front, or it will end without any formal agreement. Hamas will simply begin holding its fire and Israel will pull back unilaterally. Hamas will claim that it never buckled and Israel will get the quiet it craves. As for Palestinian unity, I wouldn’t hold my breath. It has never existed in the past, and this conflict won’t bring it about. I’m sure that Palestinians blame Israel bitterly, much more than they blame Hamas. But hatred is not a sound basis for national unity. Gaza and the West Bank are on different historical trajectories, and this conflict is not going to change that basic fact. On the contrary.

And as for hating Israel more than Hamas, I’d add this footnote: I’m willing to bet that for some significant minority of Gazans – how big a segment I can only guess – one of the things that they hold against Israel is the fact that it, as they see it, placed Hamas in power over them. I could be wrong. I’ve never been to Gaza and maybe the people there are made of something I have never seen before. But elsewhere in the Middle East, as you well know, that’s the kind of thing one often hears, about Israel and America, when people complain about the dictators ruling over them.

Regarding the notion that the Gazans will reserve their rage exclusively for the Israelis, see Anne Barnard's piece. Even if Hamas only "urged" the residents of Shuja'iyya to stay put and did nothing to discipline those who did not heed the advice, I would guess that those who lost family members in the bombing did not come away from the experience with warm feelings for the Resistance. As I say, I'm not building on that one bit. I don't believe that public opinion matters much. The people of Gaza will probably have no choice after the war but to express their undying loyalty to Hamas. But I also don't assume that the words that they say out loud have much relationship to the actual feelings in their hearts.

Salman Shaikh:
As someone who has lived in Gaza, travelled there frequently (though not since 2011), I would say that Hamas's popularity wanes when: a) it is unable to provide services (a symptom of a persistent monthly budget deficit and related, and the siege), b) its social and political authoritarian tendencies exhibit themselves (a source of real irritation among Gazans) and c) because it too is seen as being corrupt (that is what happened when the old Gaza elite was replaced by a new business elite synonymous with the tunnel economy). I would be surprised if its popularity wanes during or at the end of this conflict, though this could depend on who takes the credit for lifting the siege (Abbas or Hamas).

Bruce Riedel, Senior Fellow, Center for Middle East Policy and Center for 21st Century Security and Intelligence and Director, Intelligence Project, Foreign Policy Program:
The history of air warfare is actually very simple: if you terrorize the target (Rotterdam) quickly they fold. If you don't, the civilian population rallies behind the regime for the duration (London, Berlin, Hanoi).

Authors Image Source: © Ahmed Zakot / Reuters         
Categories: Blog

Assuming Risk as an ACO: What Does it Take?

Brookings Institute Blog - Mon, 07/28/2014 - 07:50

ACOs have to assess both the opportunities and the challenges in pursuing risk based payment arrangements. However, there are key strategies ACOs can adopt to help with the transition to greater financial accountability, and higher levels of performance. On July 16th, our ACO Learning Network hosted a webinar that explored critical success factors and barriers, as well as potential lessons for ACOs to increase their risk-bearing capacity.

Different Payment Models Pose Unique Challenges

Drawing upon an issue brief authored with colleagues from the American Academy of Actuaries, Greger Vigen highlighted some of the actuarial concerns inherent in various risk-based payment models. For example, when organizations undertake one-sided or “bonus only” shared savings arrangements, the arrangement should create incentives that are adequately aligned across the system to reward physicians that are providing not just cost-efficient, but also high-value, care. They must also find ways to create additional non-financial support when the size of provider shared savings is minimal. Both one-sided and two-sided shared savings models can lead to complex calculations in determining the true amount of savings resulting from the arrangement. Organizations undertaking bundled or episode-based payments must clearly determine what is included in specific bundles in order to justify assuming risk for those services.  Although partial capitation lends itself to an increased level of risk by creating strong incentives to reduce inefficiencies in certain parts of the system, such arrangements create effects on areas not covered by the partial capitation arrangement. Finally, by virtue of the increased risk level, global payment arrangements raise solvency considerations for organizations and require significant investment in infrastructure (or use resources from aligned partners) to manage utilization and facilitate appropriate organizational culture change. As programs move forward, there may be a combination of approaches used, including broad risk sharing or partial capitation arrangements between buyer and provider organizations. At the same time, more focused initiative may be used between the provider organization and the provider partners, such as bundled payments or partial capitation to certain providers. 

Critical Elements of High Performing Systems

Regardless of which risk-type arrangements ACOs choose to pursue, there are some critical elements that most high-performing systems share. According to Vigen, high-performing systems typically use a highly analytic process to understand their performance over time, rely on financial committees that are clear and “blunt” about the organization’s financial state, have in place multiple targeted financial initiatives, use payment reform to show how expenses could reduce revenue across multiple specific cases, have advanced clinical reporting systems, develop strong partnerships within and outside the organization to transform care, and use “next generation” analytic tools from outside organizations. Vigen contends that, in order to succeed at true transformation, organizations must develop initiatives aimed specifically at financial results, to supplement other initiatives designed to simply improve quality.  Building around these initiatives provides targeted results that can effectively engage and utilize actuaries. Actuaries and other external partners can help ACOs to more fully address financial issues and develop a framework for the prioritization and allocation of resources that identifies which existing processes to discontinue and which new processes to initiate.

Jim Whisler, a Principal at Deloitte Consulting, added that there are a number of opportunities to realize savings, many of which can be achieved through reducing variation. He emphasized that ACOs should take advantage of “low hanging fruit” that decrease utilization and optimize costs, such as ensuring appropriate use of generic and specialty pharmaceuticals, reducing inpatient stays, increasing use of ambulatory surgery center (ASC), and understanding appropriate use of lab, radiation, MRI, and CT scans. Savings and gain sharing can also vary between the different providers—primary care, specialists, and hospitals.  Ultimately, actuaries and clinical staff alike must be able to analyze data and pinpoint the true drivers of variation.

Effective Strategies Can Yield Significant Cost and Quality Improvements

In order to shed more light on how these strategies can be deployed in health systems, Bart Wald, Chief Executive for Physicians Services at Providence Health and Services, discussed the approaches that he undertook as President and CEO of Physician Associates of the Greater San Gabriel Valley, an IPA in California. Unlike compensation in most IPAs, which often relies either on fee-for-service (FFS) or capitation, Physician Associates, developed a system that uses a combination of both payment models. While capitation has traditionally been used more for primary care physicians (PCPs) than specialists, Dr. Wald emphasized that developing financial incentives for specialists was critical to effectively engaging them.  In his mind, specialists must be integrated and engaged in order to create a truly effective model. The IPA also created a “peer satisfaction” bonus program, in which PCPs and specialists rate each other and those attaining the highest ratings are given an additional bonus payment. The ratings are also posted on the web to increase transparency, and impact physician behaviors. In addition to engaging specialists, Physician Associates made sure to integrate hospitalists into the care team and incorporate social services and mental health staff.

The IPA was able to further transform care by building a population health infrastructure that directed funds towards ambulatory care management, patient-centered medical home (PCMH) development, complex care centers and disease management programs for vulnerable patients. They have also focused on improving the collection and sharing of patient data to better manage generic drug utilization, prescribing and adherence; track and attempt to minimize care received by patients outside of the physician network; and ensure effective continuity of care across the system. In summary, Dr. Wald stressed a number of factors for succeeding at risk-sharing—engaged practice members, adequate physician incentives to improve care performed in the outpatient setting, hospitalists and outpatient coordination on referrals, more advanced pharmacy management, extended disease registries, and integration between physicians and hospitals that includes joint expense management and other synergies. These interventions have resulted in a noticeable improvement in quality of care and led Physician Associates to run at a price and expense advantage below IPAs using a purely FFS payment model.

Dr. Wald also discussed an example of how hospitals are attempting to improve performance through creative partnerships with medical staff using a joint venture limited liability corporation between Providence Health Systems California and local physicians to reduce the occurrences of specific clinical conditions, such as hospital acquired complications, readmissions, and sepsis mortality. These physicians participate in a shared savings model.

Successful Risk-Sharing Arrangements Take Time

While the interventions described above may work and possibly work very well, truly effective risk-sharing design is an iterative process. Organizations must be nimble and able to adapt and modify tactics as necessary. As Greger Vigen emphasized, payment reform can be used as a tactic at the provider level in additional to a broad strategy or vision between provider and buyer.

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Categories: Blog

Managing Housing Market Risks in the United Kingdom

IMF blog - Mon, 07/28/2014 - 07:37

By Ruy Lama

House prices are rising rapidly in the UK at an annual rate of 10.5 percent. House price inflation is particularly high in London (20 percent per year), and it is gradually accelerating in the rest of the country. The recent increases in house prices have been getting a lot of attention, and understandably have raised questions about living standards and whether another “boom-bust” cycle has begun.

The current UK housing cycle raises two important questions. What is driving the rise in house prices? And how should macroeconomic policies respond?

Macroeconomic policies should tackle two crucial issues in the housing market: (i) mitigating systemic financial risks during upswings in house prices and leverage; and (ii) encouraging an adequate supply of housing in order to safeguard affordability. In this blog, we discuss how the UK authorities are addressing these two issues and what additional policies may be necessary to manage risks from the housing market.

The current UK Housing Cycle

Historically, episodes of high house price inflation in the UK have been associated with a rapid expansion of incomes and mortgage credit. But the current housing cycle is notably different from the past episodes: aggregate mortgage credit growth has been relatively weak (only 1 percent over the past year), as has gross disposable income (0.5 percent growth in 2013), yet, in spite of this, house prices have been steadily increasing.

Accelerating prices explain in large part by a structural undersupply of housing in areas where demand is high, compounded by pent-up demand as credit conditions ease and consumer confidence returns.

Perhaps because of expectations of further house price increases and a desire to get on the housing ladder, some households are taking larger loans relative to their incomes. The increase in the number of high loan-to-income (LTI) mortgages is more pronounced in London and among first-time buyers. As a result, an increasing number of households are vulnerable to negative income and  interest rate shocks.

Addressing financial risks from the housing market 

The UK authorities have implemented several policies designed to mitigate potential risks from the housing market. First, they have strengthened banks’ buffers against housing market exposures by applying more stringent mortgage risk weights and by increasing the provisioning of forborne retail mortgages. Second, they have tightened underwriting standards, for example, by verifying the income of new borrowers. Third, they have refocused the Funding for Lending Scheme toward business, by making household lending no longer eligible for borrowing allowances.

More recently, the government has recommended a cap on mortgages with high loan-to-income ratios, addressing the problem of excessive household indebtedness in the financial system, while allowing lenders to have the flexibility to allocate the risk of their mortgage portfolios.

The 2014 UK Article IV Staff Report analyzes recent experiences of such “macroprudential” measures in advanced economies, and suggests that that caps on debt-to-income (DTI) and on loan-to-value (LTV) ratios are potent tools to dampen mortgage credit growth and to mitigate financial stability risks. The effectiveness of these tools is enhanced when they are used simultaneously with additional macroprudential measures. Countries tend to implement macroprudential policies gradually, possibly as a result of the uncertainty of the transmission mechanism of those

However, if these policy measures prove to be insufficient, then the Bank of England might want to consider an interest rate hike to tighten financial conditions. This would certainly have an effect, but the decision would require weighing the immediate costs in terms of growth and employment against the effects of an increase in financial risks associated with the housing market.

Addressing structural problems of housing supply

The recent trends in house prices ultimately reflect an imbalance between demand and supply. While the demand for housing—measured by the volume of transactions— has recovered to pre-crisis levels, housing supply—measured by housing completions per capita—is lagging. Micro- and macro-prudential policies will only be able to affect the demand for housing, but will not influence the supply for housing and consequently its affordability in the medium and long term.

Recent reforms in the planning system are contributing to a gradual increase in house building from recession lows, but more is needed to remove the unnecessary constraints and regulations on development. Further reforms to the tax system could encourage a more efficient use of land and provide economic incentives to local councils to grant more building permits, for instance by better linking local fiscal revenues with the development of local projects. It is also crucial to further develop the private rental market sector in the UK, which currently accounts for approximately 16.5 percent of households.

Ensuring long-run affordability and addressing financial stability risks requires understanding the nature of the problem—and what can reasonably be expected from different policies. The financial authorities are concerned about the potential for financial risks and have employed new measures to control them. But, notwithstanding recent changes to planning laws, more will likely be needed on the supply side. Ultimately this will require political and social consensus to allow more houses to be built where they are needed.

Categories: Blog

Piketty Got It Right (At Least Most of It)

Brookings Institute Blog - Fri, 07/25/2014 - 13:46

In his book, Capital in the 21st Century, the French economist Thomas Piketty describes his hypothesis on why inequality has risen in past decades both across and within countries: The divergence forces are dominating the convergence forces, he claims.

The main divergence force, he asserts, is the return to capital being larger than economic growth rates in most economies (i.e. r>g), creating a “never-ending” cycle where the gap between individuals that inherited wealth and those who didn't keeps increasing. Natural market forces such as supply and demand are not enough to stabilize the market. Thus his suggested solution is a global tax on wealth with redistributive purposes. 

As for convergence forces, Piketty mentions knowledge diffusion. The spread of knowledge will induce productivity increases in places that are falling behind, generating more economic growth. In Piketty's own words: “The main forces for convergence are the diffusion of knowledge and investment in training and skills. The law of supply and demand, as well as the mobility of capital and labor, which is a variant of that law, may always tend towards convergence as well, but the influence of this economic law is less powerful than the diffusion of knowledge and skill and is frequently ambiguous or contradictory in its implications. Knowledge and skill diffusion is the key of the overall productivity growth as well as the reduction of inequality both within and between countries.”

Piketty got this part right. It is well known that productivity differences for the most part explain differences in income, and productivity can be fueled by acquiring more and better knowledge. The problem is, however, that knowledge, despite having all the characteristics of a public good, does not behave as such. Its transmission is difficult and its diffusion is slow and geographically localized. 

In fact, in our daily lives, we often struggle to learn new things, just as we struggle no less when we try to teach the things we already know to co-workers, peers or even family members. Imagine the learning/teaching process in an international setting when distances, different languages and cultures complicate things further.

The good news is that knowledge does diffuse, but very slowly and locally. How can we accelerate such processes? With the answer to that question we might begin to reverse the current pattern of growing inequality. Piketty refers to policy recommendations to induce knowledge diffusion by saying: “[…] the principal force for convergence –the diffusion of knowledge– is only partly natural and spontaneous. It also depends in large part on educational policies, access to training and to the acquisition of appropriate skills, and associated institution.”

Yet, we need more than that. We need knowledge to be transferred across borders, and hence, the challenge goes beyond a country’s own institutions or education policies.

Policies that aim to accelerate the international knowledge diffusion process might be more practical than Piketty’s suggestion on implementing a global tax on capital to slow down the “r>g” divergence force. He is technically correct, but implementing a global tax is unlikely to be politically supportable in the short run: Countries can barely agree on trade or environmental global policies, so they are much less likely to agree on global fiscal rules.

By researching the barriers to international knowledge diffusion and ways to overcome them, we can contribute to what Piketty himself suggests is the most important question that should keep economists busy in the years to come: how to reverse the increasing gap in incomes between and within countries?

Categories: Blog

Egypt Needs a New Social Protection System

Brookings Institute Blog - Fri, 07/25/2014 - 09:50

In his speech this week commemorating the July 23rd 1952 revolution President El-Sisi stated: “all my appreciation, gratitude and respect for Egyptians’ reaction to the cut in energy subsidies and the reduction in the budget deficit. It is a harsh policy measure but a necessary one and the government is trying to protect the poor.

Egypt’s Hard Economic Choices

Mr. El-Sisi is right to praise his people. So far Egyptians have shown tremendous resilience and understanding of political and economic imperatives. But it is not clear how long this will last nor how much more hardship they will accept. Therefore, the government should consider moving quickly to put in place an efficient social protection system to cushion the impact of ongoing and future economic reforms on the poor and the middle class.

Egypt’s budget for the fiscal year starting July 1, 2014 includes significant cuts in energy subsidies. As a result, petrol prices rose by 78 percent, diesel rose by 64 percent and natural gas prices rose by 175 percent. The government also started implementing electricity price increases that aim to double electricity prices over a five year period. In fact, additional price increases are to be expected in the coming years, because the government will continue to pay out energy subsidies of some 100 billion Egyptian pounds (about 14 billion US dollars) a year even after the most recent price increases, which is probably not sustainable.

Reducing energy subsidies is a step in the right direction, and it demonstrates the new administration’s ability to make hard choices. It is a step that should have been taken many years back. However, past governments lacked the political courage required to adopt such a potentially unpopular policy. The El-Sisi administration has so far succeeded in avoiding a popular backlash in part by arguing that it has no other choice if it is to avoid a serious macro-economic crisis.

It is true that the government has limited options. The budget deficit has reached nearly 14 percent of GDP in the fiscal year ending June 30th and the public debt is almost 90 percent of GDP. Price subsidies are slightly less than 9 percent of GDP, or more than one-quarter of total government spending. Energy subsidies alone are close to 7 percent of GDP. It is hard to see how Egypt can avoid macro-economic collapse without reducing, or even eliminating, those subsidies.

Toward a New Social Contract

But crises can also give rise to opportunities. It may be time for Egypt to overhaul its archaic safety net system and develop a new social contract that reflects the realities of the 21st century.

Over the last two decades many middle-income countries (e.g. Brazil and Mexico) shifted to social protection systems based on targeted cash transfers, but Egypt maintained its system based on generalized price subsidies. This is the system adopted by President Nasser more than 50 years ago, and it involves subsidizing prices of a number of commodities (including fuel, electricity, bread, rice, edible oil, tea and sugar).  

Generalized price subsidies are part of what has come to be known as the autocratic bargain or the autocratic social contract. This included free health and education, government jobs for all graduates and low prices for necessities, but limited political and civil liberties. The January 2011 revolution and the fall of President Mubarak demonstrated the limits of that arrangement, and highlighted the need for developing a new social contract—a contract which is consistent with a market economy and which responds to youth demands for freedom, dignity and social justice.

Social protection based on generalized price subsidies may (or may not) have worked in the 1960s, but it is certainly not working now. In addition to their high budgetary cost, price subsidies fail to target those who really need them. For example, the poorest 40 percent of the population receive only 3 percent of the subsidy on gasoline, 7 percent of the subsidy on natural gas and 10 percent of diesel subsidies. Moreover, they encourage over-consumption of the subsidized goods. Egypt’s economy has thus become more energy intensive than most advanced country economies, with negative consequences for economic efficiency and environmental sustainability.

This does not mean, however, that the poor and the middle class are not being hurt by the subsidy removal. They are affected in at least two ways. First, prices of most goods will rise because of the increase in transport costs. Already taxi fares in Cairo have risen by about 50 percent. Second, industry (especially energy intensive industries like iron and steel, cement, pharmaceuticals and fertilizers) will see their costs rise which may affect their ability to expand and hire new workers, unless they are able to pass on cost increases to consumers. Again, the poor and middle class are bound to be impacted.

The government is aware of those potential impacts and of the associated political risks. It is trying to protect the poor from price increases, but it is not clear that its efforts will be effective.   Government is increasing its surveillance of markets to ensure that there is no “unreasonable” increase in prices. However, experiences from around the world indicate that when governments try to intervene to fix prices they make matters worse, because they create shortages and encourage the development of a black market. The Government has also announced that about 69 million people who hold ration cards will have access to 20 subsidized consumption items.  That may be a good short-term solution. However, Egypt’s own experience indicates that subsidizing consumption goods is almost always associated with waste, leakage and corruption.  And, already people are grumbling that some of the subsidized goods are missing from shelves.

The idea of putting in place a social protection system based on targeted cash transfers has been studied in Egypt for several years, and could be quickly implemented. Experience from around the world indicates that such a system is much less expensive, more efficient and fairer than price subsidies. The Egyptian government should consider moving ahead quickly to put such a system in place. It makes economic as well as political sense. It would be one way of responding to demands for greater social justice, and would make implementation of future reforms and further subsidy reductions much easier.

Categories: Blog

Dutch Response to the MH17 Tragedy in Ukraine

Brookings Institute Blog - Thu, 07/24/2014 - 12:51

Every country mourns in its own way. As the bodies of 194 citizens who died in the crash of Malaysia Airlines Flight 17 in Ukraine are returning home, all eyes are on the particular Dutch brand of mourning. The Netherlands is a small country unused to such tragedies in its postwar history. At first, the public reaction was shock, followed by outrage over the appalling treatment of the victims and the looting on the crash site.

The official reaction has been more measured. The Dutch prime minister and foreign minister were able to contain their emotions and not participate in the accusations that were flying back and forth. They focused on bringing the victims home to their families, and starting an international investigation. There have been hints at further sanctions and a reevaluation of Dutch-Russian relations, but no calls for direct, precipitous action. In the rest of Europe, excluding the United Kingdom, the reaction has been more tepid. The French even found this a good moment to go ahead with the sale of a sophisticated helicopter carrier to the Russian Navy.

Mourning in America, recalling 9/11, is quite different. The American way, as the country singer Toby Keith so memorably put it, is to “put a boot in their ass.” Americans accordingly, have puzzled over what they see as a halfhearted reaction to such a tragic event. This (lack of) response has enraged policymakers and commentators in the U.S.  If this tragic event cannot spur tough European action against Ukrainian thugs and their Russian supporters, then what can? As my Brookings colleague Steven Pifer wrote, outrage is not a policy. I certainly agree, but I would add that history has proven that outrage is also a lousy policy advisor.

The Dutch and European response to Putin may indeed lack a certain satisfying call for immediate action, but that does not necessarily make it a less effective policy. Outrage notwithstanding, it is a fact of European life that 28 members of the European Union will agree only very slowly, if at all, on taking a meaningful stance vis-à-vis Russia. Economic ties with Russia are too substantial and moreover differ too much among member states to make a unified forceful response realistic. Moreover, as Europe continues to climb out of a grave economic recession, no politician is willing to risk thousands of jobs without knowing exactly what can be gained by doing so. Though the downing of MH17 has sped up the decision-making process in Europe and additional sanctions are soon expected, it is unlikely that they will even meet the standard of the oft-derided U.S. sanction efforts.

Thinking long-term in dealing with Russia

Given this difficulty, effectively Dutch and European policy makers are forced to look at the long term. Ending relations with Russia seems like economic suicide, and would not serve anyone and Russia will remain Europe’s neighbor under any circumstances. Yet it is possible to take a different view of Russia and change the nature of the relationship over time. The challenge that comes with long-term policymaking is that as time heals wounds, it cools ambitions. And history has shown that in the Netherlands in particular the merchant spirit often prevails over principle, as eloquently illustrated by Bas Heijne.

Whether this time will be different, only time can tell. However, the Dutch and the Europeans can draw some important initial lessons from this tragic event.

  • First, Russian President Putin is not our friend, and policies can reflect that as long as he and his clique are in charge in Russia. So the aim is to decrease rather than increase economic, political and cultural ties with that country. 
  • Second, to diminish Russian influence in European natural gas markets, member states finally need to get serious on completion of the internal market. Opening up Central, Eastern and Southern Europe for competition would prevent market abuse by Gazprom, and make European energy markets attractive for all global suppliers, including at some point those from North America. Close collaboration with the private sector is required here, as those actors call the shots and are the real actors in the liberalized market environment. Let it therefore also be clear upfront that this diversification will come at a cost.
  • Third, Europe has to step up its efforts to reduce energy demand by installing ambitious energy efficiency targets. It can also ramp up investments in renewable and domestic energy resources.
  • Fourth, because the U.S. is changing its role in the international arena, the Europeans need to reconsider their defense policies and improve collaboration on that front. The situation in Ukraine is part of a chain of turmoil in Europe’s periphery, including Algeria, Tunisia, Libya, Egypt, Syria, Iraq and Israel–Palestine. It resembles a large fireplace, and European member states are right in the middle. At some point in time, spillovers may happen, and Europe has to be prepared. Europe has to reposition itself in a global environment that seems less predictable and stable than it did before.

“Let MH17 be our 9/11,” several commentators wrote in light of recent events. Maybe, but a decade-long war and thousands of additional casualties are not the right response to this tragedy. In other words, a boot in the ass is unwise and, in any case, beyond the Dutch and European capability. But a wooden shoe can be painful as well. The Dutch have learned the hard way that as long as Putin runs Russia, business as usual cannot be an option.  

Categories: Blog

Modernizing U.S. Foreign Assistance: A Glass More Than Half Full

Brookings Institute Blog - Thu, 07/24/2014 - 09:19

Editor's Note: In this blog, George Ingram discusses the history and progress made in U.S. aid reform. For a more detailed look at aid reform over the last decade, read Ingram's latest paper, Adjusting Assistance to the 21st Century: A Revised Agenda for Foreign Assistance Reform.

Extending a helping hand to those outside our borders is as American as apple pie. The first documented case occurred within a decade of our birth as a nation, in 1794 when the Congress appropriated funds to aid refugees fleeing Haiti. Nearly every decade since the U.S. has extended aid to those in need and to advance our national interest. The Marshall Plan is remembered sixty years later as one of the great selfless and strategic actions by a world power.

It is because we as Americans understand that peace and prosperity in other countries and the world are vital to our interests as a nation—both the Bush and Obama administrations placed development as the co-equal of defense and diplomacy—that we care that our assistance programs are as effective as possible. An aid reform movement to reform our assistance policies and programs commenced around the turn of the century, built to a formal agenda by 2007, and is now entering a stage where assessment of what has been accomplished is possible. Administration initiatives that include reform elements extend from the Bush Administration’s creation of the Millennium Challenge Corporation (MCC) and President’s Emergency Plan for Aids Relief (PEPFAR) to the Obama Administration issuing a Presidential Policy Directive on Development and most recently creating the Innovation Lab at USAID. 

The aim of the aid reform agenda is to improve the effectiveness of U.S. assistance policies and programs. The assumption is, not that current programs are not useful or producing valuable results, but that they could be even more effective if better grounded in local realities, guided by a clear strategy and coherence, and more accountable to U.S. taxpayers and intended beneficiaries through greater transparency, evaluation, and learning. 

My recently published paper, “Adjusting Assistance to the 21st Century: A Revised Agenda for Foreign Assistance Reform” assesses the aid reform efforts of the past decade and suggests how that agenda can be moved forward in the last two years of the Obama administration. It identifies eight elements and judges how key Bush and Obama administration initiatives have advanced or impeded that agenda. While the reform agenda did not jell until the last years of the Bush administration, several of its initiatives did reflect key development lessons and jump-started the reform effort. The Obama administration has pursued the most comprehensive reform agenda of any administration and, while strong on policy commitment and initiatives, there is still work to be done on the implementation side. 

The degree of progress on aid reform is in the eye of the beholder. One’s assessment is a balance of expectations, objective measurements, and subjective observations. The graphic below depicts the eight elements of reform presented in the paper and makes an unscientific judgment of the status of each element and sub-component. I look forward to you making your own judgments after (or without) reading the paper and sharing them below.

Categories: Blog

Facing a Greek Exit from the Eurozone Again?

Brookings Institute Blog - Thu, 07/24/2014 - 08:52

According to BlackRock’s quarterly Sovereign Risk Index Greece is among the countries most likely to go bankrupt.[1] That follows the relatively recent statement of the German finance minister Wolfgang Schäuble that Greece “..would have to continue to meet the troika's demands for reforms or risk leaving the eurozone.”[2] The statement reflects disquiet among creditors to recent efforts by the Greek government to relax fiscal austerity measures to calm voter anger, following the defeat of the coalition government in the recent European elections (interpreted by many as increasing political/country risk--the radical left “Syriza” could possibly take power in the next elections). The use of such strong language is not just surprising; it also brings us back to the 2012 ‘Grexit talks’, a time in which the country was facing the real possibility of leaving the eurozone. Last week, Focus magazine reported that Nonperforming Loans (NPLs) in Greek Banks pose a serious threat to the “Grecovery” prospects, currently at the sky-high level of 33.5 percent, up from 31.9 percent at the end of 2013.

Much has been said about the results of the austerity program implemented in Greece by the ‘Troika’. Heavy taxation during 2010-2012 resulted in a cumulative inflation rate of almost 10 percent which substantially hit exports and competitiveness, undermining the internal devaluation target of increasing competitiveness at the same time.

In the meantime, the repeated postponement of hardcore structural reforms and privatizations let the burden fall almost entirely on the private sector through a storm of heavy taxation and huge wage cuts. As for the extraordinarily high level of wages in particular, these were mainly nested in the clientelistic, partitocratic state, notorious for excessive spending and corruption, and not in the productive sector of the economy. Wages were never the main problem of the productive private sector; red tape, legal ambiguity and state-sponsored monopolies were the problem.

But even for the sake of argument, we accept that one of the Greece’s deep-rooted problems was the extended malfunctioning of the labor market in the private economy: It is a textbook policy mistake to put labor market deregulation before any product–and professional–market liberalization. This is especially the case when all objective evidence suggests rent-seeking driven regulation, not wage costs, is the real drag on competitiveness. Otherwise, be prepared to see producer prices move downwards with a three year delay compared to costs, and then you will need a larger-than-planned reduction in real wages to compensate for loss in competitiveness. It is no coincidence that even today, after more than four years of austerity and 25 percent GDP decline, the creditors are asking for even greater reductions in real wages, despite a positive current account, and indeed underestimating once more the impact of falling demand to GDP and, thus to debt/GDP reduction prospects.

So, should one just put the blame on Minister Schäuble, the Troika and creditors for the mess? No, not really. The true story is that the creditors had, and still have, to deal with a very complex economic and political situation both in Greece (partly because of their policy mistakes) and in post-election Europe. However, there is still some room for maneuver to correct or recalibrate hugely misguided and lopsided policies. Furthermore, since Minister Schäuble is the master of the creditors still holding the power to put additional pressure on domestic politicians, it would be best to avoid a new round of “Grexit talk” that would only bring the productive base of the country, or whatever remains of it, back to the nightmare of 2012. Instead, he could use his power to help to bring, at last, some real structural reforms in product and professional markets and then let the markets do their job. That, in the end, will enable the country to pay back as much of its debt as possible.

[1] See more at:

[2] Focus magazine, June 1st,

Categories: Blog

The Slow Recovery Continues

IMF blog - Thu, 07/24/2014 - 08:30

By Olivier Blanchard

(Versions in Español中文,  日本語Русский )

The recovery continues, but it remains weak, indeed a bit weaker than we forecast in April.

We have revised our forecast for world growth in 2014 from 3.7 percent in April to 3.4 percent today. This headline number makes things look worse than they really are. To a large extent, it reflects something that has already happened, namely the large negative US growth rate in the first quarter. But it is not all due to that. It also reflects a number of small downward revisions, both in advanced and in emerging economies.

The overall story remains largely the same as before:

Advanced economies are still confronted with high levels of public and private debt, which act as brakes on the recovery. These brakes are coming off, but at different rates across countries.

Emerging markets are slowing down from pre-crisis growth rates. They have to address some of their underlying structural problems, and take on structural reforms. At the same time, they have to deal with the implications of monetary policy normalization in the US.

Let me take you on the usual tour of the world.

Advanced economies

The United States

First quarter growth in the US, as currently reported (I would not be surprised if the numbers were revised), was far worse than anybody had anticipated.  In retrospect, it seems to be largely due to one-off factors, ranging from an inventory correction to unusually bad weather.  Looking forward, US growth for the rest of the year is still forecast to be 3.25 percent and 3 percent in 2015.

The main policy issue, at this juncture, is the appropriate speed of monetary policy normalization.   Given the unusual behavior of labor participation, and uncertainty about the equilibrium rate of unemployment, assessing the amount of slack in the US is difficult.  The current plans, namely the end of tapering later this year and increases in the policy rate from the middle of next year, are appropriate.  But the timing of the increase in the policy rate may have to be adjusted, as a function of developments on the inflation and unemployment fronts.

A recent report by the BIS has drawn attention to the potential for excessive risk taking in financial markets coming from an extended period of low rates.   We agree that, in some financial markets, valuations appear perhaps optimistic.  But, overall, we do not see a systemic threat to financial stability, mainly because of lower leverage in both banks and, to the extent we can measure it, in non banks as well.  Were the risks to increase however, macro prudential tools should be the right first line of defense. Getting ready to use them should be a policy priority.

The Euro area

The recovery in the Euro area remains weak, and inflation remains too low.   Our forecasts for the Euro area remain roughly unchanged, 1.1 percent for 2014, and 1.5 percent for 2015.  These numbers hide, however, differences across countries.   In the core, we have revised our forecasts up for Germany, and down for France.  In the periphery, we have revised our forecasts up for Spain, down for Italy.

To strengthen the recovery, the Euro area clearly still needs strong action on both the demand and the supply side:

In most Euro countries, unemployment rates far exceed their equilibrium value, and Euro wide inflation is too low.  Thus, demand side policies are still of the essence.  As fiscal space is tight, monetary policy must continue to support activity.   The recent measures taken by the ECB are welcome.  It is too early to assess their effects, and if inflation continued to remain stubbornly low, more measures should be considered.

Monetary policy cannot do the job alone however.   The asset quality review currently under way in European banks is critical to reestablishing confidence in banks, and improving intermediation.  And looking beyond the demand constraints, structural measures must be taken to increase very low potential growth rates.  These measures differ across countries, ranging from reforms to re-enfranchise the unemployed youth, to measures that increase competition in non-tradable sectors, to infrastructure spending.


We have revised upwards our forecasts for Japan, to 1.6 percent in 2014.  This reflects the effects of Abenomics, and stronger domestic demand, including investment.  The fundamental challenge of Japan remains, how to decrease public debt and increase growth both in the short and the long run.  Our forecast for 2015 gives a glimpse of the difficulty.   Growth is forecast to be only 1.1 percent, reflecting in part the adverse effects on demand of the planned increase in consumption taxes later in the year.

Emerging market and developing economies

We forecast growth in emerging market and developing economies to run at 4.6 percent for 2014 (a revision down of 0.2 percent), and 5.2 percent for 2015 (a revision down of 0.1).

Our largest downward revision, relative to our WEO April forecast, is for Russia, where we have revised growth for 2014 from 1.3 percent to 0.2 percent, and for 2015 from 2.3 percent to 1 percent.  This reflects mainly a deterioration of business confidence, which has been aggravated by geopolitical tensions.  The result has led to large capital outflows, and a near freeze in investment decisions.

Housing investment has slowed down in China, and we expect this slowdown to continue. The government has counteracted this through a series of targeted stimulus measures directed at priority areas such as railway investment and social housing.  Recent months have also seen higher credit flows and increasing infrastructure spending, as well as improving exports. Thus our forecast for this year is broadly unchanged at around 7½ percent growth.  The main challenge for China remains however to achieve a more balanced growth, with less investment and more consumption.

Looking forward, emerging and developing economies face two challenges.

The first is to implement reforms to rebalance their economies and strengthen their growth.  Some of these countries, Mexico notably, but others as well, are indeed embarking on ambitious reforms, which should help lift investment and growth.

The second is to adapt to a changing world environment.   This change has already started.  The recovery in advanced economies implies increased demand for their exports.  The normalization of monetary policy in the United States, however, implies that some of the capital flows that went to emerging markets in search of higher returns will eventually return home. This in turn implies tighter financial conditions and a tougher financial environment. Foreign investors are less forgiving, macroeconomic weaknesses are more costly.   And financial bumps, such as those we saw in May 2013, may well happen again.

In short, the recovery continues.  But it remains weak, and is still in need of strong policy support, to strengthen both demand and supply.

Categories: Blog

The Beginner's Guide to New Health Care Payment Models

Brookings Institute Blog - Wed, 07/23/2014 - 10:57

Payment reform in health care is confusing, but the goal is simple: How can health care providers change their economic incentives to encourage value over volume? If you've wondered about how these new payment models work, we’re here to help. And if you want to see Dr. Patrick Conway, the head of the Center for Medicare and Medicaid Innovation, talk about it more in depth at our most recent MEDTalk event about oncology care reform, click here.

Where are we now?

Fee-for-Service. Traditionally, health care providers are paid in a "Fee-for-Service" (FFS) model. This is exactly what it sounds like: every time you have a blood test, a doctor's visit, a CT scan, or any other service, you (and your insurance company) pay separately for what you have received. Over the course of a long treatment or a chronic condition, that can add up to a huge expense.

The Fee-For-Service System

It is well known that FFS is draining the entire health care system. When paying for volume, a sick patient is worth more than a healthy patient , and this status quo results in uncoordinated care, duplication of services, and fragmentation. After all, the more doctors and providers do, the more they get paid.

Reformers hope to replace the traditional FFS model with something better, and they’ve come up with many different models of payment that could allow this to happen. (Note to reader:  these are simplified explanations; policy enthusiasts can learn much more about them through the Engelberg Center’s Merkin Initiative).

Here are four widely proposed and increasingly popular alternative payment models:

Accountable Care Organizations (ACOs) are groups of providers across different settings– primary care, specialty physicians, hospitals, clinics, and others – who chose to come together to jointly share responsibility for overall quality, cost, and care for a large patient population. These providers recognize that poorly coordinated care from these entities can lead to increased costs from things like redundant tests and overlapping care.

Accountable Care Organization Model

Here’s how it works in basic terms: the ACO physicians bill the way they always do, but the total costs get compared to an overall target. Plus, they have to measure some of their patient outcomes, to prove that they hit certain quality benchmarks. If costs are higher than the target, the ACO may get penalized. In the end, if they are under the cost target and satisfy their quality measures, they get a share of the savings.

By bringing all of these providers under the umbrella of an ACO, caregivers can all be on the same page, and the patients ideally receive coordinated care with a focus on prevention – since providers are encouraged to keep their patients healthy and not just earn more by doing more tests and procedures.

Bundles: A health care bundle estimates the total cost of all of the services a patient would receive per episode over a set time period for a certain problem, like a knee replacement or heart surgery. For example, a payer such as Medicare or an insurance company could calculate that a hypothetical 30-day bundle for a knee replacement surgery costs $10,000.

Without Bundled Payment...

The payer reduces the total cost of the episode by 2-3%, and hands the bundle over to the provider – in the knee surgery example, that becomes $10,000 minus 2%, so $9,800. The provider is then responsible for all costs of treatment – whether or not it exceeds the amount of money they were originally given. This encourages the provider (collaborating with the entire care team) to help the patient avoid preventable complications like a hospital readmission by better managing a patient’s care.

With a Bundled Payment...

If the provider keeps costs low, they can keep the margin on the bundle, while the insurance company already saved by reducing the cost of the episode by a small percentage when they created the bundle. So, in our example, if the provider was able to meet quality benchmarks and the total cost of the 30-day episode was $9,000, they get to keep the extra $800.

Patient-Centered Medical Homes set themselves apart by providing set monthly payments on top of existing funding models, in order to fund a highly coordinated team of primary care professionals, which may include, depending on the patient’s needs, physicians, nurse practitioners, medical assistants, nutritionists, psychologists, and possibly even specialists. The team works closely to build a strong relationship with each other,with their patients and their caregivers.

Patient-Centered Medical Home Model...

This extra money can be used to hire nurses or agencies to give special care and attention (by phone or home visits, for example) to high-risk patients, with the goals of reducing emergency room visits and other preventable problems in the long run. Other enhancements might include email communication with patients, more time to call and coordinate care between primary care doctors and specialists, and so on. In the end, the savings from better coordinated care make the extra monthly payments worthwhile.

Pathways, an idea which has gained traction in oncology care, provides a system of choices and decision making tools for providers and patients in order to prescribe the most effective and least costly treatment. For example, let’s say there are two cancer drugs proven to have the same effectiveness, with no differentiation in side effects, but one of them costs less than the other.

Same Effectiveness, Different Cost...

Like the medical home, the pathways model uses a “per-patient” add on fee (often much larger than for medical homes focused on primary care, since cancer patients need intensive treatment) that might encourage the provider to prescribe the less expensive of two equally effective treatments.

How Pathways Creat Savings...







When this is implemented on a broad scale, the savings could add up for payers, and defray the cost of the add-on fees.

Please feel free to use any of these images in your own work, presentations, or educational efforts, and to view and download the interactive versions here.  The images should be attributed to The Merkin Initiative on Clinical Leadership and Payment Reform at Brookings.


Categories: Blog

Gaza: No Safe Place for Civilians

Brookings Institute Blog - Tue, 07/22/2014 - 10:44

“There is literally no safe place for civilians in Gaza,” said the spokesperson for the UN’s Office for the Coordination of Humanitarian Affairs in this morning’s daily briefing following increased conflict between Israel and Hamas in the Gaza Strip.

While there have been many news reports on the number of people who have been killed (over 500) and wounded (over 3,000) in the Israeli offensive, far larger numbers of people are being forced from their homes. In fact, displacement may turn out to be the defining characteristic of this terrible conflict. As the United Nations Relief and Works Agency for Palestine Refugees (UNRWA) spokesperson Chris Gunness said today, “This is a watershed moment for UNRWA, now that the number of people seeking refuge with us is more than double the figure we saw in the 2009 Gaza conflict. We are seeing a huge wave of accelerated displacement because of the Israeli ground offensive.”

Gaza is one of the most densely populated areas on Earth, with 1.8 million people squeezed into a territory only 25 miles long and 7 miles wide. In comparison with some of the world’s major cities, it is very, very small. The Israeli ground offensive has led to an exponential increase in the number of people fleeing their homes. As of yesterday afternoon, 100,000 displaced persons were living in 69 UNRWA schools while tens of thousands of others had taken refuge elsewhere in Gaza. This equals almost 6% of the entire Gazan population and the figures are only likely to increase in the coming days. UNRWA planning figures are now at least 150,000 and today the agency launched an emergency appeal for $115 million in support.  

People are warned to evacuate by the Israeli forces, but there are not many places to go as Gaza’s borders are all but closed. Some have taken shelter with family or friends, some have even sought protection in a Greek Orthodox Church, but many have turned to U.N. facilities for protection.

Yet UNRWA’s facilities are close to capacity and, as numbers increase, conditions are likely to worsen.  According to Doctors Without Borders, unhygienic conditions and overcrowding at UNRWA facilities “are extremely worrying.” UNRWA also may not be able to provide the protection which internally displaced persons (IDPs) are seeking. In fact, the agency reports that 64 of its buildings have been damaged in the offensive. The revelations that rockets have been found in two abandoned UNRWA schools could also well jeopardize the safety of IDPs seeking shelter nearby.  In the second such case in a week, UNRWA today reported that its staff had discovered rockets which were hidden in a vacant school – a school located between two other UNRWA schools each currently housing 1,500 IDPs. When schools are used for military purposes, people’s lives are put at risk.  

The humanitarian needs in Gaza are many. Children are traumatized, 1.2 million Gazans have no or limited access to water, homes have been destroyed, medical supplies are scarce, there are reports of damaged sewage systems and the list goes on. The international community is being asked to provide immediate humanitarian assistance for those affected by the conflict in Gaza.

A few months ago, the Internal Displacement Monitoring Centre reported that the number of internally displaced persons had reached an all-time high of 33.3 million people in 2014. And since then, more people, many more people, have been displaced – in Syria, Iraq, Central African Republic, South Sudan – and now Gaza. One sad thing we’ve learned about internal displacement is that it can take far longer to resolve than anyone expects. 

Authors Image Source: © Finbarr O'Reilly / Reuters         
Categories: Blog

Euro Area: An Unbalanced Rebalancing?

IMF blog - Tue, 07/22/2014 - 08:05

By John Bluedorn and Shengzu Wang

Since the financial crisis, the euro area current account, made up mostly of the trade balances of the individual countries, has moved from rough balance into a clear surplus. But the underlying rebalancing across economies within the euro area has been highly asymmetric, with some debtors, like Greece, Ireland, and Spain, seeing large current account improvements (sometimes into surplus), while creditors, like Germany and the Netherlands, have basically maintained their surpluses (Chart 1). A set of new staff papers look at the drivers of the improvements in debtor current accounts and the persistence of creditor current accounts, and whether these developments are a cause for concern.

A turning point in competitiveness?

Many debtor economies have seen their unit labor costs decline, improving competitiveness and boosting their current accounts. We looked in detail at recent competitiveness gains in euro area debtor economies, finding them to be largely driven by declining unit labor costs (Tressel and others, 2014 and Tressel and Wang, 2014). But Greece and Ireland’s labor cost declines have been due to a roughly equal mix of declining wages and employment, while Spain’s has been due to declining employment (Chart 2). In other words, the bulk of competitiveness improvements in debtor economies has been accompanied by declining domestic demand and rising unemployment. This raises questions about the durability of the current account improvements in these economies: when domestic demand recovers in these economies, will current account deficits re-emerge?

Too much thrift?

At the same time, many creditor economies have had large and persistent surpluses, driven by both higher saving and lower investment. We looked at the composition of surpluses and deficits in the euro area (Bluedorn, Wang, and Wu, 2014). Both private (corporate and household) and public saving in Germany rose over the past decade, contributing to an overall saving rise of 4 percent of GDP (Chart 3).

Meanwhile, overall investment declined by about 3 percent of GDP, from 20 percent of GDP in 2001 to about 17 percent in 2012. The Netherlands (another large surplus economy) though has seen declines in both overall saving and investment, but the investment decline has been larger (from about 21 percent of GDP in 2001 to about 17 percent in 2012). Breaking it down by sectors, it becomes clear that the Netherlands’ larger surplus is entirely due to the corporate sector. Restrained domestic demand (high saving and low investment) is part of the story behind the persistent surpluses in the creditor economies.

Towards a more “balanced” rebalancing…

Large and persistent surpluses in creditor economies contribute to a stronger euro, making it tougher for euro area debtor economies to adjust. A stronger euro exacerbates the external competitiveness gap facing debtor economies and also contributes to weak euro area inflation (see blog on “lowflation” in the euro area).

Taken together, these features suggest an “unbalanced” rebalancing—it seems to largely rely on anemic domestic demand in debtor economies and restrained domestic demand in creditor economies. They also point to a truism: appropriate adjustment is about undertaking policies to achieve both internal (reducing output gap and unemployment) and external balance (a more sustainable current account).

To make the rebalancing more robust, policies are needed to boost investment in creditor economies and structural reforms to raise productivity in all euro area economies (through further liberalization of product and service markets and reforms to make labor markets more flexible). These would raise potential growth across the board and help output gaps close faster. Breaking out of the current “lowflation” environment would also ease adjustment, by opening up space for faster relative price changes within the euro area.


Categories: Blog

Asia’s Seismic Shift: How Can the Financial Sector Serve Better?

IMF blog - Mon, 07/21/2014 - 11:00

By Min Zhu

(Versions in  中文)

Asia is set to be the powerhouse for growth in the next decade, just as it was in the last one. The size of its economy is expected to expand more rapidly than the other regions of the world, and its share in the world output is expected to rise from 30 percent to more than 40 percent in the coming decade. The structure of the economy is expected to continue to transform from a narrower manufacturing hub to a group of vibrant, diverse and large markets with a rising middle-class population.

The role of the financial sector is critical in the success of this seismic transformation. Let me explain by focusing on three areas:

  1. Serving the real economy and structural change. With urbanization, growing trade, and rising demand for communications and travel, Asia needs to invest a lot to meet infrastructure needs—road networks need upgrading, and electricity generating capacity and telecommunications infrastructure lag other regions such as Latin America. Asia has a large pool of savings but—despite potential high returns in the region—most of these currently leave the region. And so a critical challenge is to ensure that there are no impediments to the healthy flow of capital across the region so that savers can find the best returns for their investment and infrastructure financing needs can be met. Securing small and medium sized enterprises access to finance would also support investment.
  1. Serving the demographic shift. Efficient financial systems recycle savings to where they are most needed—for example from aging populations who are typically saving for retirement to younger ones who have investment needs. For Asia this is particularly important as China, Korea, and Japan have rapidly aging populations, even more so than the rest of the world. Yet others, for example India and Indonesia, have younger working age populations and large investment needs. A growing middle class will also lead to demands for a greater range of financial services. Increasing access to basic financial services by households and firms can also help promote saving, enable investment by households in health and education, assist the market entry of new firms, help improve employment opportunities and so help to create the conditions to reduce income inequality.
  1. Managing interconnections and integration. As Asia’s financial systems become bigger they are also likely to become more complex and interconnected than they are today. Market development, including shadow banking, and increased complexity can also raise risks with a potential for problems to spread across borders with an impact beyond Asia.  At the same time big changes are being made to the global regulatory environment that are likely to  create a number of challenges for markets and regulators alike, affecting financial flows and the size of banks and shadow banks, as well as prudential ratios and resolution frameworks.

Navigating the transition

Achieving these objectives require careful planning and policy implementation. The good news is that there is rich experience and lessons we can bring from other regions. These experiences suggest a focus on the following areas: 

  • Broaden the investor base. To ensure economic and structural transformation Asia needs a more diversified financial system with deeper and more liquid markets, which will require a broader and more diverse investor base, greater involvement of long term investors.  Supporting social stability and meeting the financial service needs of a growing middle class in the region, including their retirement and real estate planning, requires longer-dated assets and an asset management industry with a longer horizon. Encouraging a long term investor base would also help build up a stable source of finance for infrastructure projects (for example through unlisted funds) and it would require the development of an appropriate back office support infrastructure.  With institutional investors relatively small in most countries, and barriers to investment across borders still high, this will be a long-term process.
  • Build more liquid markets. Local currency bond markets have grown since the Asian financial crisis in the late 1990s and have proved resilient even through recent bouts of financial market turbulence. Even deeper and more liquid bond markets would enhance financial stability, and could reduce the corporate and sovereign risk premia lowering the cost of capital and helping to support economic and structural transformation. A more active role for market makers, development of hedging instruments, including derivatives, and repo and securities lending markets would also help generate turnover and improve liquidity. Improvements in the regulation of securities markets could also enhance the role of equity markets as stable and reliance sources of financing in the future. Other impediments include an embryonic legal and regulatory framework for nonbank financial institutions— shadow banks—and a lack of information provision including pricing transparency. 
  • Enhance regional and global perspectives. Increasingly, a regional perspective will be key to address rising regulatory and supervisory challenges as financial systems deepen and become more integrated and complex.  Possibilities include forming and strengthening supervisory colleges. Looking more widely, the development of the Asian financial system is likely to increase the potential for impact beyond Asia. So regulators and supervisors, while encouraging innovation, will need to ensure they have good cross border cooperation, adequate regulatory powers to act and stay alert to the risks. And the IMF, with its increased focus on interconnections and global impact, can help to identify the risks including any emerging from changes in global regulatory policy.

There are many unknowns, and what we have learned from other regions need to be applied to Asia with care, recognizing many unique characteristics of the region. The IMF is seeking to help policymakers in the region navigate the transition, bringing our cross-country expertise to the table.  We hosted a joint IMF–Hong Kong Monetary Authority conference, The Future of Asia’s Finance, in February 2014, and now plan to publish a book.  We will drill down more deeply into these topics and  give them our continuing attention.

Categories: Blog

A New Tragedy in Ukraine: The Shootdown of Malaysian Airlines Flight 17

Brookings Institute Blog - Thu, 07/17/2014 - 15:26

The continued fighting in eastern Ukraine was marked today by a horrible new tragedy: the apparent shoot-down of Malaysian Airlines Flight 17 (MH-17) over eastern Ukraine near the town of Torez. MH-17 was Boeing 777 bound from Amsterdam to Kuala Lumpur with some 300 people on board. Vice President Biden, presumably on the basis of U.S. intelligence, has said that the MH-17 was shot down. Pending a thorough investigation, the details of what exactly happened are not yet known. But early indicators suggest that pro-Russian separatists fighting in eastern Ukraine shot the flight down by mistake.

The most damning evidence so far: shortly after MH-17 fell out of the sky, separatist leader Igor Strelkov wrote on his VKontakte page that “In Torez Raion [county], an Antonov-26 has just been shot down, crashing somewhere near the mine called ‘Progress.’ We have warned you—do not fly in ‘our airspace.’” The Ukrainian Air Force flies AN-26 transport aircraft and Strelkov’s VKontakte posting is consistent with the time and location of the MH-17 downing.

The Ukrainian Security Service has released audio tapes of intercepted phone calls reportedly of conversations between separatists. In the first, the separatists believe they have shot down an airplane of the kind they had downed before—an AN-26 aircraft. In the second, they discuss the fact that the downed aircraft is civilian, with Malaysian Air markings.

The situation in the Torez region has been increasingly fraught as the Ukrainian military has pushed hard against the pro-Russian separatists, including by using airpower. The separatists have stepped up their attempts to shoot down Ukrainian transport and fighter aircraft, as well as helicopters. Writes the Moscow Times:

“On Wednesday, the insurgents claimed to have hit two Su-25 attack jets near Horlovka in the Donetsk region. On Tuesday they claimed to have downed another Su-25 near Snezhnoye in the same area. On Monday, they shot down a transport plane that was carrying food and water for government troops fighting in the east… Earlier, insurgents claimed to have downed several other military and transport aircrafts, including at least seven Su-25 attack jets, three Su-24 attackers, one Su-27 fighter jet, an Il-76 military transport aircraft, and at least 17 Mi-8 and Mi-24 military helicopters.”

Only days earlier, Strelkov had bragged, again on VKontakte, that the separatists had a “Buk” surface-to-air missile (SAM) system. He said that gave the separatists the capability to shoot down planes at altitudes higher than the 4,000 meters (13,000 feet. MH-17 reportedly was flying at an altitude of more than 30,000 feet, out of reach of man-portable air defense systems (MANPADS) but well within the range of Buk SAMs.

Although the Ukrainian military does have SAMs, there have been no reported use of those SAMs as the separatists thus far have not operated military aircraft.

Media reports indicate that the separatists have already gained access to MH-17’s black boxes and intend to hand them over to Russian authorities. There needs to be an immediate international investigation as to what brought down MH-17. This means that the separatists should allow Ukrainian authorities and an international investigation team access to the crash site and give them the black boxes.

Right now, the finger points at the separatists as responsible for this tragedy, a fact they seem to confirm by removing Strelkov’s earlier social media postings about today’s presumed “AN-26” shootdown. If it is confirmed that separatists are responsible, the next question is: how did they get—or who gave them—a sophisticated Buk SAM system?

This tragedy also underscores the need to steer the conflict in eastern Ukraine toward a ceasefire and negotiated settlement. The Kremlin has continued to feed the conflict with a stream of supplies and arms across the Russian-Ukrainian border. If it really wants to help stop the conflict—which thus far appears to be questionable—Moscow must end this flow and use its considerable influence with the separatists to get them to stop fighting.

Authors Image Source: © MAXIM ZMEYEV / Reuters         
Categories: Blog

The BRICS Safety Net

Brookings Institute Blog - Thu, 07/17/2014 - 07:57

Editor’s note: Bruce Jones and Thomas Wright examine the BRICS strategy to diversify their relationships and the safety net they are developing against the risk of U.S. sanctions.

Foreign policy experts love the straw man. And over the past decade, the fattest and most inviting straw man has been the BRICS (Brazil, Russia, India, China and South Africa). Created by Goldman Sachs, the BRICS was an investment gimmick that somehow became a formal international grouping. At first glance, it is a geopolitical absurdity. Russia is a declining power while the others are rising. China and India are geopolitical rivals. All differ on fundamental issues. The most durable thing about the BRICS is the acronym, or so the joke goes.

No question of expelling Russia

However, after the BRICS Fortaleza Summit it may be time for a rethink. Remember that President Obama trumpeted his achievement in supposedly isolating Russia in the international community. Russian President Vladimir Putin should have been cowering in his Sochi villa, friendless and worried. The BRICS should have expelled their “R” and opened the era of the “BICS,” and inspired new jokes about how the BICS have no ink.

Instead, Putin was welcomed with open arms in Fortaleza by Modi, Xi, Rousseff and Zuma. There was no question of expelling Russia. The other BRICS seemed not to have raised concerns on Ukraine with Putin. The communique only referred to the crisis in a passing manner that contained no criticism whatsoever of Russia. Previously, Brazil, India, China and South Africa all abstained in the vote on the U.N. General Assembly resolution to condemn the annexation. This summit will be perceived as lending legitimacy to Russia’s actions and badly undermines U.S. claims to have successfully isolated Russia on Ukraine.

Has Russia gotten a free pass because the other BRICS support the annexation of Crimea? Not necessarily. Most of them viewed Russia's move on Crimea with concern—and China even refrained from voting with Russia in the U.N. Security Council vote on the issue. So why the silence?

Insurance against the risk of U.S. sanctions

The BRICS may not be allies but they all see a common interest in preventing the United States from calling the shots and isolating one of their own. All but one of the BRICS have been subjected to U.S. sanctions and others to strict IMF conditionality. Indeed, for some it is personal—Modi was barred from the United States up until his recent election. And, they see the U.S. sanctions on Russia as a test run for a strategy that may be used on others that incur Washington’s displeasure in the future.

Thus, the BRICS want to diversify their relationships beyond western dominated institutions and have a safety net if they get pushed out. The BRICS development bank, the currency swap arrangement aimed at reducing the dominance of the U.S. dollar and the recent China-Russia gas deal should be seen in this context. The BRICS are not looking to replace the western led order. They are purchasing an insurance policy against the risk of U.S. sanctions. This sentiment is amplified by the recurrent recalcitrance of the West in opening up the governance structure of key institutions. 

For its first decade, the BRICS lacked a compelling strategic rationale. It was a collection of countries that offered a significant return on investment. Today, the BRICS economies are much weaker and more troubled. Investors are fleeing, not flocking, to them. But they have acquired what they lacked before—a common diplomatic purpose. Ironically, they may be more geopolitically consequential as they struggle economically than they were as rapidly rising powers.

Impact on the international order

The BRICS embrace of Russia and its acquiescence to Putin’s goal of cushioning the cost of illegal annexations raises troubling questions, especially about the democracies in the group—Brazil, India and South Africa. These three nations have frequently criticized the United States and Europe for the use of military force, especially on the Iraq invasion which they all vigorously opposed as illegal, but they are disturbingly quiet in the most egregious violation of international law since Iraq’s annexation of Kuwait in 1990.

None of this makes the BRICS what some of its boosters and some scare-mongers would have it be: a strategic alliance against the United States, or a bloc dedicated to breaking the existing order. To varying degrees, all the members of the BRICS have an important stake in key planks of the international order remaining stable. They're looking to shape, not break, the international financial and economic rules of the game. On security and territorial questions, however, Russia and China are playing a dangerous game, pushing the boundaries, testing what they can get away with; and risking both military clashes and a wider breakdown of the international security order. The rest of the BRICS acquiesce to this at a cost. 

They may have incentives not to listen to the United States, but other democracies should make plain to Brazil, India and South Africa that they expect them to live up to their oft-touted commitment to the multilateral order—not just in Europe but also in the maritime disputes in the South China Sea. Those nations that facilitate modern day revisionism should at least pay a reputational cost for their position. Meanwhile, the United States and Europe should redouble their efforts to reform international institutions, like the IMF, so responsible emerging powers can have a greater say in global governance.

Authors Image Source: © Paulo Whitaker / Reuters         
Categories: Blog

Fiscal Policy’s Evolving Role

IMF blog - Thu, 07/17/2014 - 07:30

Fiscal policy makers have faced an extraordinarily challenging environment over the last few years. At the outset of the global financial crisis, the IMF for the first time advocated a fiscal expansion across all countries able to afford it, a seeming departure from the long-held consensus among economists that monetary policy rather than fiscal policy was the appropriate response to fluctuations in economic activity. Since then, the IMF has emphasized that the speed of fiscal adjustment should be determined by the specific circumstances in each country. Its recommendation that in general deficit reduction proceed steadily, but gradually, positions the IMF between the fiscal doves (who argue for postponing fiscal adjustment altogether) and the fiscal hawks (who argue for a front-loaded adjustment).

All this is highlighted in a  recently released book Post-Crisis Fiscal Policy, edited by Carlo Cottarelli, Philip Gerson and Abdelhak Senhadji,  that brings together the analysis underpinning the IMF’s position on the evolving role of fiscal policy.  The book underscores how the global financial crisis has reshaped our understanding of the role of fiscal policy with topics that include a historical view of debt accumulation; the timing, size, and composition of fiscal stimulus packages in advanced and emerging economies; the heated debate surrounding the size of fiscal multipliers and the effectiveness of fiscal policy as a countercyclical tool and more.

Check out this book, which is written for a wide audience, and watch the webcast of the book launch hosted by the Peterson Institute for International Economics on July 14 .

Categories: Blog

Liability insurance for climate change

Our response to climate change at the global level clearly needs improving. While some governments are managing to set and enforce limits on the emission of greenhouse gases, an international agreement that is both enforceable and meaningful remains elusive. Measures undertaken by private individuals and organizations, though plentiful, largely fail to connect to the political process and continue to fall short in aggregate. Is there a way to combine these public and private efforts? We think there is, as we’ve explored in a recent NZZ article and ETH blog post: a new type of liability insurance.

Looking to the insurance industry for addressing climate change is not new (see, for example, Nobel Laureate Robert Shiller’s column; the Geneva Association’s statement; and the climate change and insurance links discussed at the World Bank’s recent Understanding Risk conference). What has been lacking, however, are ideas for employing insurance instruments at scale, across national boundaries, and in a way that maximizes existing capacities and market mechanisms.

Categories: Asia, Blog

Health Spending 25 Years Out

Brookings Institute Blog - Tue, 07/15/2014 - 12:47

Health spending growth is one of the key drivers of the nation’s long-term fiscal outlook. It also is one of the most uncertain, a point emphasized in the Congressional Budget Office’s latest report on the long-term budget outlook.

Although the continuing slowdown in health care costs led CBO to mark down its estimate of underlying health cost growth a bit, other changes in methodology were offsetting. That left the 25-year projections of total federal health spending largely unchanged from last year.

Nonetheless, those projections are sharply lower than those CBO made just five years ago, despite the coverage expansions enacted in the Affordable Care Act (ACA). The most recent estimates show federal spending on the major health programs (Medicare, Medicaid, Children’s Health Insurance Program, and the subsidies for those eligible who buy insurance on the new exchanges ) rising from 4.9 percent of GDP in 2014 to 7.5 percent in 2035. That is about 2.2 percentage points lower in 2035 than CBO projected in 2009. The outlook for Medicare has improved even more, with projected Medicare expenditures in 2035 about 2.6 percentage points lower than projected in 2009.

Today’s CBO report puts great emphasis on the uncertainty surrounding the health care projections. Budget wonks will notice a change in CBO methodology: the long-term health spending projections are now more mechanical, and CBO no longer offers different scenarios based on whether future Congresses will overrule the ACA’s cost-cutting measures. Clearly, CBO is trying to signal how little is actually known about future health cost growth.

The critical importance of health spending to the long-run fiscal future is brought home by projections of federal imbalances under alternative assumptions about cost growth. Under the assumption that future per person health care costs rise only at the pace of potential GDP (zero excess cost growth), federal health spending reaches 6.8 percent of GDP in 2039, about 15 percent lower than in the baseline. Using CBO’s data, we calculated the federal health spending under an alternative assumption that health spending growth over the next 25 years rises at its recent historical rate (1.4 percentage points faster than potential GDP, according to CBO). Under this assumption, federal health spending reaches about 9 percent of GDP by 2039.

A key question for economists and policymakers is how to think about this uncertainty: how should recognizing how little we know about the future affect our policy choices today? Some analysts believe that we should take action now to insulate us against the risk of larger-than-expected budget imbalances in the future. Others—particularly those who are very hopeful about future health cost growth—prefer “watchful waiting.”

Categories: Blog
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