Obamacare explained

By Luke Freedman

23 April 2012


In February I did a summary of the lengthy journey from bill to law of the Affordable Care Act also informally know as Obamacare. Here, I’m going to explore what the law actually does. This is not intended to be a comprehensive analysis of the nearly 1 000 pages of legislation, but rather a foundation for understanding the major aspects of the ACA.

If you’re looking for a more in depth look at the American health care system, I’d highly recommend Introduction to U.S. Health Care Policy by Donald A. Barr. I frequently cite the 2011 edition of the book in this post. If you have any questions about this post or health care policy in general, feel free to post them in the comment section or under the Ask Uncle Sam feature of the Election Watch website.

As its name suggests, the Affordable Care Act was designed to extend health insurance to 32 million Americans by making coverage more affordable. The ACA doesn’t get rid of the private health insurance market, but it does implement changes in the way it operates and also allows more people to obtain coverage through the government run Medicaid program. The law can be divided into three major parts: 1. Regulations on the insurance market intended to increase the availability of health insurance plans; 2. An individual mandate designed to make these regulations work; 3. Subsidies to help people with “lower incomes” afford the cost of insurance premiums. I’ll deal with these topics one at a time.

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The Affordable Care Act seeks to expand private health insurance coverage in several ways.  Most notably, all insurance companies must “offer the same premiums to all applicants of the same age and geographical location,” regardless of their health status. This is a dramatic departure from the previous system in which insurers would often charge those with pre-existing conditions substantially higher rates, or in many cases deny them coverage altogether. 

Beginning in 2014, companies with over 50 employees will be required to offer health insurance coverage to their workers or else pay a tax penalty . To facilitate access to insurance for those who do not receive it through work, states are required to set up health insurance exchanges in which consumers can compare plans.  Plans offered through these exchanges must provide a baseline set of benefits, and each exchange must offer at least two competing plans, one of which is provided by a non-profit organisation.  These plans must also offer four “predefined level of benefits".

The goal of the exchanges is to create a transparent one stop destination for small businesses and individuals who don’t obtain coverage through their employer to shop for health insurance, and to encourage market competition between insurance companies within a regulatory framework that ensures that they offer coverage to anyone who needs it.

The ACA also expands the scope of Medicaid, the government run health insurance program that is financed by a combination of federal and state funds and administered by the individual states.  Traditionally, Medicaid has been available to all children (and some parents) whose family income is below the poverty line, some pregnant women, the disabled, and seniors at a designated level below the poverty line. Citizens over 65 already receive health benefits through Medicare. Under the new law, all individuals and families with incomes below 133 per cent of the poverty line will be eligible for Medicaid. These changes are expected to extend coverage to 16 million previously uninsured Americans.

Prohibiting private insurers from discriminating against high risk applicants poses challenges though. Charging healthy and unhealthy individuals the same insurance rates creates an adverse selection problem; the sick will rush into the system while the healthy will choose to opt out. If I can purchase insurance at the same price once I get sick, it is rational to wait until I fall ill to buy it. Insurance works by pooling together the risk of individuals, but under the given rules, the pool will be flooded with high risk and expensive consumers. Since the per capita health expenditures within pools will be high, so too will the premiums that consumers pay. In order for these new regulations to work, there needs to be a way of bringing younger and healthier individuals into the risk pool.

This is where the individual mandate comes in. Under the ACA the uninsured -with the exception of select groups such as religious objectors-will be required to purchase a baseline level of health insurance coverage or pay an annual penalty of $695, or 2.5 per cent of annual income, whichever is greater. The penalty is not high enough to create de facto compliance, so it is anticipated that even with the mandate a fair number individuals will choose to opt out of coverage.

The federal government will also offer new subsidies to help offset the cost of purchasing health care.  People who are above the cut off line for Medicaid but whose income is less than four times the poverty level will be eligible for subsidies. Federal funding is provided on a sliding scale. Individuals and families with incomes 3 to 4 times the poverty level would not have to pay more than 9.5 per cent of their income for insurance, while those closer to the federal poverty level would not pay more than 3 to 4 per cent.  

Additionally, some small businesses that pay over 50 per cent of their workers health insurance costs will be eligible for tax credits.

In sum, the ACA attempts to address the affordability of health care by increasing the number of people eligible for Medicaid, preventing insurers from discriminating against those with pre-existing conditions, and increasing federal subsidies to low and middle income Americans.

The costs of the new healthcare program are financed in a number of ways. Most notably, is an additional 0.9 per cent payroll tax on individuals with an annual income over $200 000. Similarly, there is a 3.8 per cent tax on passive income, such as investments or royalties, that totals over $200 000 in a year. These taxes fund the Medicare program that provides health coverage to Americans over 65.

There is also a new excise tax on “group insurers with annual premium payments in excess of $10 200 for individual coverage and $27 500 for families.” The tax rate is “40 percent on the amount of premiums above the thresholds”

Additionally, the ACA imposes a variety of smaller fees on the “health care industry.” Among these are a 2.3 per cent tax on infrequently purchased medical devices , taxes on pay for health care executives whose companies fail to meet given government guidelines,  and an annual tax on “certain manufacturers and importers of brand name pharmaceuticals.” You can peruse the links I've provided if you’re interested in a fully comprehensive list of the funding mechanisms for the ACA. And here’s a good pie chart on how the bill is financed.

Estimating the total costs of the bill is not exactly a straightforward task because individuals disagree over the mechanisms used and in part because politically motivated individuals on both sides are excellent at obfuscating the issue. The Wikipedia article on the ACA provides a good summary of these areas of disagreement.

The nonpartisan Congressional Budget Office which is responsible for scoring the costs of legislation estimated in March 2011 that the act will bring in $813 billion from 2012 to2021 and cost $613 billion to implement, resulting in a deficit reduction of $210 billion dollars. At the time it was passed into law the CBO projected that the ACA will cause “national health... expenditures to rise to 19.6 percent of GDP (by 2019) as compared to 19.3 percent had ACA not been enacted.”

There’s also a final point aspect of the health care bill worth touching on. As Sarah Kliff explains:

“much of the law’s 905 pages are dedicated to... an overhaul of America’s business model for medicine. It includes 45 changes to how doctors deliver health care — and how patients pay for it. These reforms, if successful, will move the country’s health system away from one that pays for volume and toward one that pays for value. "

I’d like to tackle the issue of cost controls on health expenditures in a later post. It’s an extremely important topic, but also a pretty wonky one.   A lot of the new regulations focus on incentivizing efficiency and encouraging health care providers and insurers to keep costs down (such as the previously mentioned tax on expensive health care plans.  Ezra Klein points out that the bill implants a wide variety of potential cost control mechanisms attempting to make “reform a continuous, rather than occasional, process.”

One area of agreement amongst both defenders and critics is that, even if the ACA is upheld by the Supreme Court, this will not be the end of the health care reform process. While the law makes significant attempts to address rising medical costs, it probably doesn't contain the sort of large scale cost-control mechanisms that will curb continuously increasing  health care expenditures. The ACA is not the cure-all for a troubled health care system, but is it an important step in the right direction or a journey down the wrong path?



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