Bend the Revenue Curve: Health Reform Alone Won’t End Deficits

Henry J. Aaron and
Henry J. Aaron The Bruce and Virginia MacLaury Chair, Senior Fellow Emeritus - Economic Studies

Isabel V. Sawhill

October 13, 2009

Anyone who thinks that health care reform alone is going to close the massive current—and even larger projected—U.S. budget deficit is deluded. President Obama has pledged that health care reform will not make matters worse. But that isn’t good enough. There is no way to restore this nation to fiscal health without higher taxes—for the middle class as well as for the rich. The only question is when. Those increases should be enacted now, phased in gradually after the recovery is well established, and tied to the increased spending that health care reform will generate.

Budget analysts recognize that mushrooming future deficits are traceable largely to growth in health care spending. That is why so much emphasis is being placed on “bending” the health care “cost curve.” But there is a problem with that slogan. Slowing the growth of health care spending will take many years. Extending coverage raises spending now. The president has sworn not to sign health care reform that boosts the deficit. Something has to fill the gap.

The bills before Congress rely largely on slowing the growth of Medicare spending. But Medicare will require increased revenue as the baby boomers retire, even if the program’s structure is materially changed. In addition, science will keep churning out new and better medical interventions that will improve our lives. Patients will insist on having them, and they won’t be cheap. As the baby boomers retire over the next quarter-century, they will age into heavy use of health care. So as improved efficiency “bends” the curve, the best we will be able to do is slow the growth of health care spending.

It would be a miracle if that slowdown were sufficient to both pay for expanded coverage and balance the budget. The dirty secret, known to responsible fiscal experts of both parties, is that the revenue generated under current tax laws cannot pay for the government services—health care and everything else—that Americans want for their children, their parents and themselves.

So here is what we propose: Congress should enact a value-added tax, the equivalent of a broad-based sales tax on all goods and services. It should take effect only after unemployment has fallen to a predetermined level or in, say, five years, whichever comes first. Congress should link revenue from the new tax and other sources directly to public health care spending through a newly created health care trust fund. The trust fund would pay for all federal health care spending. This framework would mean that Americans would get the health care they are willing to pay for. If spending outpaces projections, Congress will have to choose between raising taxes and finding ways to slow the growth of spending.

By balancing revenue and health care spending, such a reform would help solve America’s long-term fiscal problems. In the near term, it would also support and sustain the economic recovery. Consumers would be encouraged to buy now, before the tax takes effect. And by showing financial markets that Congress is determined to put our fiscal household in order, it would help keep interest rates low and encourage investment. The trust fund mechanism would strengthen incentives to institute reforms that will actually bend the health care cost curve, because measures to slow the growth of health care spending would avoid unpopular future tax increases that would otherwise be necessary.

Yes, the United States needs to control its health care spending. Yes, it is important to curtail low-priority government spending. But the inescapable truth is that deficits will grow unless taxes increase. The bottom line is that an earmarked tax to pay for health care would solve a lot of problems. It may be true that a crisis is a terrible thing to waste. But the failure to prevent a massive future crisis would be a regrettable failure of leadership.