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The Economic and Budget Outlook: Fiscal Years 1999-2008 January 1998

The Congressional Budget Office (CBO) estimates that calendar year 1997 will mark the fourth consecutive year in which national health spending grew no faster than the nation's gross domestic product (GDP).⁽¹⁾ By contrast, health spending's share of the economy grew from 9 percent to more than 12 percent between 1980 and 1990, and by another 1.5 percentage points between 1990 and 1993. Since 1993, however, health spending has stabilized at about 13.5 percent of GDP (see Table H-1). That is the longest period in which the health sector has grown no faster than the rest of the economy in at least 30 years.
 

The slowdown in the growth of health spending has been caused largely by changes in the nature and purchasing of private health insurance. Before the 1990s, health insurance was dominated by fee-for-service plans, which had only a limited ability to control health costs. In the mid-1990s, a wide variety of managed care plans, with greater potential to control costs, led a surge of competition in the marketplace. Managed care plans can reduce costs both by negotiating favorable prices with health providers and by controlling the volume of services provided. The new plans allow employers to search aggressively for lower premiums and richer benefit packages. Managed care plans and the competition they have spawned are helping to offset (rather than eliminate) some of the root problems that have historically weakened price competition in the health sector.⁽²⁾

CBO projects that the growth in health spending will soon accelerate, and that national health expenditures will reach 15.5 percent of GDP by 2008 (see Figure H-1 and Table H-2). That percentage is slightly lower than CBO's 1997 projection of 16 percent of GDP (in 2007). The downward revision stems from reductions in Medicare outlays resulting from the Balanced Budget Act of 1997 (explained in Appendix F of this report) and lowered projections of Medicaid spending (explained in Appendix G).
 

Figure H-1. National Health Spending as a Percentage of GDP (By calendar year)

SOURCE: Congressional Budget Office.

CBO's current projections of private health spending are generally similar to those described last year in The Economic and Budget Outlook: Fiscal Years 1998-2007 (January 1997). The current projections reflect updated figures on historical health spending through 1996 from the Health Care Financing Administration and an updated economic forecast (described in Chapter 1). Figure H-2 shows CBO's current and previous projections of the growth in private health insurance premiums and the excess of that growth over the growth of GDP.
 

Figure H-2. Private Health Insurance Premiums (By calendar year)

SOURCE: Congressional Budget Office.

Last year, CBO projected that the annual growth of private health insurance premiums would stabilize at about 1 percentage point higher than the rate of GDP growth--considerably faster than the rates observed in the mid-1990s, but well below the historical average of about 4 percentage points more than growth in GDP. CBO assumed that as the economy maintained full employment, workers and the employers who purchase health insurance on their behalf would focus less on costs and more on quality, resulting in higher growth in premiums. At the same time, CBO assumed that the new plans and competition in the 1990s were permanent features of the health market and that future growth in premiums was unlikely to return to its historical average.

Both assumptions still appear valid. CBO projects that the growth in health premiums will be 5.5 percent in 1998, up from 3.8 percent in 1997. That increase will stem from the predicted emphasis on quality, an economy that has been even stronger than expected, and a short-term profit cycle in the health insurance industry. CBO continues to project that premiums will grow about 1 percentage point faster than GDP in the longer run as pressures to restrain cost increases balance pressures for more services and higher quality.

CBO's health projections assume that current federal laws and key regulations continue unchanged. However, proposed changes in federal law could change private health spending. Laws to protect health consumers could raise private premiums. Laws intended to aid health providers in their dealings with insurance plans could raise the growth of health costs as well. Medicare expansions or other laws that would extend public coverage could substitute for private insurance, reducing private health spending.
 

Strong Economic Growth Will Help Boost Premiums in 1998

Pressures for more and higher-quality health services are always strong. In the current health market, however, pressure to restrain premium increases is determined mostly by the strength of the economy. In a period of strong growth and low unemployment, employers and employees may hesitate to switch to lower-cost health plans. In a weak economy, when the trade-off between health costs and wages is more apparent, low-cost health plans have more appeal.

The economy surged in 1997, with unemployment likely to average only 4.9 percent for the year. CBO estimates that nominal GDP grew by 5.8 percent, about 1.2 percentage points higher than projected last January. CBO currently expects GDP growth of 4.7 percent in 1998.

CBO's projection of health insurance premiums reflects adjustments in CBO's forecast of GDP growth, with faster GDP growth in 1997 leading to more rapid growth in premiums in 1998.

After several years of restraint, some large purchasing groups have announced increases in health premiums for 1998. The Federal Employees Health Benefits program, for example, which had held premiums virtually steady since 1993, announced that premiums would increase by about 8.5 percent in 1998 if enrollment selections were unchanged from 1997. Enrollees of Minnesota's state employees health plan face similar increases. CalPERS, a large California purchasing group, announced a 3 percent increase for 1998, after four years of declining premiums. Table H-3 shows premium trends for FEHB and CalPERS and other indicators of the growth in costs or premiums for health insurance over the past several years.
 

In part, the 1998 premium increases signal a profit cycle in the industry rather than a dramatic change in the costs of insurance. Historically, health premiums offered by competing plans have tended to grow in tandem. The industry as a whole has had years of high profits, when premiums collected exceeded benefits paid, and years of poor profitability, when the gap between premiums and costs diminished.

Based on recent data from the American Hospital Association and other sources, CBO estimates that the costs of health insurance continue to grow quite slowly, with the exception of benefits for prescription drugs. Many managed care plans offer generous prescription drug benefits, and while the growth in spending for hospital care and professional services has fallen significantly in recent years, drug expenditures have resumed a double-digit pace (see Figure H-3).
 

Figure H-3. Growth in Spending for Private Health Insurance Benefits (By calendar year)

SOURCE: Congressional Budget Office.

a. Includes the services of dentists and other health professionals.

CBO expects that growth in spending for benefits will lag the premium increases achieved by plans in 1998, improving health plans' profit margins in 1998 after two years of relatively weak profits. The profits of some large network plans, many of which had bid aggressively for market share in recent years, have faltered in 1996 and 1997. Pullbacks by those plans, which had formed networks quickly and had often led price wars, will probably yield higher 1998 premiums in some areas.
 

Projections of Private Health Insurance Through 2008

CBO's long-run projection for health insurance premiums is based on underlying growth in benefit costs and an assumption that profit and administration rates remain constant. Because benefit costs remain likely to grow at moderate rates, CBO has not changed its long-run projection for growth in premiums: about 1 percent above GDP growth.

CBO projects that the growth of nominal GDP will fall to 4.2 percent in 1999 and will average about 4.5 percent over the next 10 years. Therefore, CBO's projection of the rate of growth in private health insurance premiums averages about 5.5 percent a year.

The share of the under-65 population covered by employment-based health plans fell rapidly in the late 1980s and early 1990s, but then stabilized at about two-thirds after 1992 (see Figure H-4). The total number of people with employer plans actually began to rise in 1994. The combination of the solid economic growth and slowly growing premiums no doubt helped break the downward trend. CBO projects that with slower economic growth and faster growth in health premiums over the next 10 years, the share of people covered by employment-based plans will resume at its downward drift, although at slower rates than were seen in the early 1990s.
 

Figure H-4. Number of People with Employment-Based Health Insurance Coverage as a Percentage of the Population Under Age 65 (By calendar year)

SOURCE: Congressional Budget Office.

NOTE: Historical figures based on tabulations of the Current Population Surveys done by the Employee Benefit Research Institute. Data for 1996 are from the March 1997 Current Population Survey.

Table H-4 details CBO's projections of private health insurance spending in the 1997-2008 period. Those projections reflect the assumptions discussed above and also the impact of the State Children's Health Insurance Program enacted under the Balanced Budget Act of 1997. That program will fund state initiatives to provide health insurance for children. Because some children who are newly insured under the state programs would have been covered by private health insurance in the absence of those programs, CBO estimates that enactment of the Balanced Budget Act will slightly reduce spending on private health insurance and the number of people privately covered.
 

Future legislation, in states and the federal government, could affect the course of private health spending. CBO's health projections explicitly assume that current federal laws and key regulations continue unchanged. In addition, the current projections assume that there will be no major changes in state laws affecting private health spending.

Proposed consumer protection laws involving disclosure of information, appeals and grievances, and so on, could boost health spending slightly, but probably would not alter any longer-term trends. Similarly, most benefit or coverage mandates would cause a one-time jump in costs, but would not in most cases alter the trajectory of private spending growth.

Provider protection laws have greater potential to raise the growth of health spending in the longer run. Laws that would mandate coverage of the services of certain providers or change the financial relationships between health providers and plans could dull some of the tools that plans now use to hold down costs in a competitive market.

1. The appropriate benchmark for comparisons between health spending and the economy is nominal GDP. Growth in nominal GDP includes both price change and growth in real output.

2. CBO described some of the reasons for such a rapid change in the environment for health care purchases in The Economic and Budget Outlook: An Update (August 1995).

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