FROM THE OFFICE OF PUBLIC AFFAIRS

October 14, 2004
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Remarks of Assistant Secretary for Economic Policy Mark J. Warshawsky
The Ownership Society: Health Care and Retirement
before the John Locke Foundation of North Carolina

The Administration's efforts to reduce the tax burden on millions of American families and businesses is well known. I realize the John Locke Foundation shares our views on the important benefits of tax relief.

Today, however, I would like to focus on the challenges of health care and retirement reform. In particular, I will discuss health savings accounts (HSAs), social security personal savings accounts, and employer-sponsored pensions. I would like to put these reforms in an economic context and in the context of the President's vision of an "ownership society."

The President's concept of "ownership" embraces, at its very core, principles that the John Locke Foundation embodies: individual rights, limited government, free markets, and a free society. The President has said that "when people have solid assets to call their own, they gain independence and security and dignity, and more control over their future."

Treasury Secretary John Snow has stated that "people often refer to health care as a social issue…it is also an economic issue of staggering proportions." Health care affects the financial security of households and collectively affects the economics of our country. As health care costs rise for individuals and families, so too do the overall costs of Medicare, Medicaid, and the employee compensation costs of businesses both large and small.

For these reasons, President Bush is committed to health care reform that provides all Americans with access to affordable, high-quality health care. He believes, however, that reform must address the systemic, root causes of our national health care problems rather than simply ameliorating its symptoms. To this end he has proposed a plan that increases the power of individuals by allowing them to participate in health savings accounts (HSAs). These HSAs became law last December with the enactment of the 2003 Medicare bill.

Health savings accounts permit anyone who has qualifying high deductible health insurance coverage to save tax-free dollars, earn tax-free interest, and withdraw these dollars tax-free to pay for an array of qualifying medical expenses. Perhaps most importantly, they are owned by the individual and not the employer. Secretary Snow has described them as super-charged IRAs that put patients back in charge of their health care. "You own it, you control it, you can leave it to your heirs," he's said.

HSAs help control costs in a number of ways and can have greater positive ramifications on the economy as a whole. Health Savings Accounts can help reduce overall health care costs as Americans become more aware of how much they spend on health care. Currently, insurance companies do put pressure on providers to reduce unit costs. However, the current system can make actual service costs elusive to the individual. Because they are handled almost entirely through a third party administrator, we may know our copay or our deductible, but not necessarily our overall health costs.

The intuition that the HSA-high deductible health plan combination reduces costs is supported by rigorous research. The RAND Corporation conducted a "Health Insurance Experiment" from 1974 through 1982. The experiment measured both use and health outcomes in populations carefully selected to be representative of the U.S. population under the age of 65. Participants were enrolled in a range of insurance plans requiring different levels of copayment for medical care, from zero to 95 percent (with maximum dollar out-of-pocket expenditures set at $1,000). The researchers found that those who paid nothing used 40 percent more services than those required to pay a high deductible, but the effect on the health status of the average person was negligible.

HSAs help control costs because owners are allowed the freedom to shop around for the most economical health care services. Furthermore, as Americans become more aware of their personal health care costs they may take more ownership of their health. HSAs can push Americans to maintain better personal heath care – such as an individual who changes their diet to avoid heart disease in the future.

By taking this step to offer HSAs we are helping to transform health care in the United States. By making production of health care services more efficient, we lower the costs of health care. By containing skyrocketing increases in health care costs, we return to families more control over their budget, and we give our country a better chance at maintaining balanced budgets at the levels of state and local governments as well as the federal government.

Having discussed ways HSAs help control costs and stated their possible societal effects, let me briefly explain how HSAs work.

HSAs can be easily set up along with the purchase of a low-cost, high-deductible insurance policy to cover major medical expenses. They can be established through any bank, credit union, insurance company or financial services firm that is handling IRAs.

Pre-tax dollars (up to the amount of the major medical policy's annual deductible, with a cap of $2,600 for individuals and $5,150 for families) are acceptable contributions. Individuals over age 55 can make extra contributions to their accounts and still enjoy the same tax advantages.

Money from the HSA can be withdrawn tax-free when it is used to pay routine medical bills, such as doctor visits or for medicine. The money can also be saved in the account and carried over into the next year, earning interest tax-free. It is the choice of the account owners to consult with their doctors to determine which medical goods and services they need, without undue interference from an insurance company.

The President has also proposed allowing for the deduction of the cost of the premiums paid for a high deductible health plan, thus reducing the cost of these policies. This above-the-line deduction would be available whether deductions are itemized on tax returns. The cost is already excluded from taxable income if it is provided by an employer.

The high deductible health insurance policy of an HSA can protect against big medical expenses, such as hospital stays, and provide peace of mind by limiting total out-of-pocket medical costs in the event of serious illness.

It may be possible to save money with an HSA when compared to traditional health insurance plans. This is because if expenses are not covered under the high deductible health plan but are paid for from HSA funds they are, in essence, excludable from taxable income. Out-of-pocket expenses under a traditional health insurance plan are not deductible until they exceed 7.5 percent of an individual's adjusted gross income.

Employers can contribute to these accounts, and their contributions are tax-free.

HSAs are portable. You can keep your HSA when you change jobs.

You can pass HSAs to your spouse tax-free. (If you leave money to a beneficiary other than your spouse, it is taxed, but then is passed on.)

HSAs give consumers the opportunity to budget for their health expenses over many years.

Finally, to ensure that more Americans have access to these accounts President Bush proposes giving direct help to low-income Americans to purchase these accounts. The President proposes giving families a $1,000 direct, subsidized contribution along with a $2,000 refundable tax credit to help purchase a policy to cover major medical expenses. Individuals would receive a comparable $300 HSA contribution and $700 refundable tax credit.

To give you an idea of current HSA activity and accomplishments, the Treasury Department has fielded thousands of emails and phone calls related to HSAs and the number one page on the Treasury's Web site, in terms of "hits," is the HSA page.

While the specific number of accounts established to date is unknown, we know that many national and regional insurance companies, third-party health plan administrators and financial institutions are offering them. The federal government, additionally, will offer these as an option to its employees in 2005.

I've given you an overview of the specific mechanics and accomplishments of HSAs. Let's talk about the criticisms. After all, criticisms can be expected of any new plan.

First, there is concern that HSAs may bifurcate the risk pool by attracting the young, rich, and healthy while the sick, poor, and elderly are left paying higher premiums on their traditional plans. The evidence thus far indicates that the benefits outweigh any potential costs. Indeed, the most recent HSA statistics indicate that people consisting of a variety of ages, incomes, and insurance needs are successfully purchasing HSAs. According to one provider, 70 percent of HSA purchasers are over age 40. Twenty-nine percent of HSA purchasers have family incomes of less than $50,000. And 77 percent of purchasers are families with children.

Furthermore, this bifurcation could only occur where you have choices among health plan types. Today, too many people don't have any choices. In fact, according to one provider, 43 percent of HSA applicants did not have prior health insurance coverage. Small business owners, in particular, are a group looking for any cost effective option in health care plans. Currently, small business owners are oftentimes not able to offer their employees any health insurance at all. In this case, HSAs are an important option to provide low-cost health care and increase employee participation.

Additionally, critics have also claimed that these accounts may encourage people to skimp on needed medical benefits in order to build up their savings. The health plan allows for first dollar coverage for preventative care. It's in the regulations. More generally, HSAs allow for rational and reasonable spending trade-offs. Again, we can cite here the Health Insurance Experiment results.

The President's health care initiative, in addition to HSAs, includes a proposal to give $4 billion in grants to support state-run insurance pools to help low-income and high-risk Americans to get the most out of their health insurance tax credits. This should encourage states to create purchasing pools that will help reduce the cost of buying insurance and make it easier and faster to shop for coverage.

The President also proposes allowing local groups to band together through their national or regional organizations to purchase insurance. Through these Associated Health Plans small business owners, civic groups and other community organizations will receive the economies of scale needed to negotiate lower-priced insurance coverage.

Additionally, we are determined to address the legal reform needed to curb frivolous and unnecessary lawsuits.

Moving on to the topic of retirement income security, I am aware that any such discussion must feature Social Security. Economically speaking, the system as it is currently structured is unsustainable.

In 1950, there were 16 workers to support every one beneficiary of Social Security. Today, there are only 3.3 workers supporting every Social Security beneficiary. By the time our youngest workers – those just entering the workforce today – turn 65, there will only be 2 workers supporting each beneficiary.

As a result of these demographic changes, as well as increases in longevity, the current system will not be able to afford to pay the benefits scheduled for our children and grandchildren without enormous payroll tax increases. The President believes we can implement real reform to avoid these terrible outcomes.

He believes this untenable situation is fixable and that "Social Security is one of the greatest achievements of the American government, and one of the deepest commitments to the American people." Because of his deep commitment to the Social Security program, President Bush supports Social Security reform that increases the power of the individual, does not increase the tax burden, and provides economic opportunity for more Americans. The President has issued specific guiding principles for reforming Social Security.

One very important principle is that we must protect seniors by ensuring there will not be any reductions in near-retiree or retiree benefits. And we must not raise payroll taxes.

Another principle is that personal savings accounts (PSAs) should be made available in order for younger workers to build a nest egg for retirement that they own and control, and which they can pass on to their children and grandchildren.

Additionally, we must pursue the goal of a permanently sustainable system. As I previously mentioned, the President stresses the need to treat the systemic dysfunction within the Social Security system as opposed to treating only the symptoms.

To further demonstrate our concept of an "ownership society," I would like to focus on PSAs. President Bush talked about Social Security in his State of the Union speech. He remarked, "We should make the Social Security system a source of ownership for the American people."

PSAs provide individual control, ownership, and the opportunity for individuals to receive the benefits of long-term investing in private-sector markets. They are important because the retirement security of our current young and future workers depends on them. Personal accounts allow us to save now to help fund our retirement incomes. In theory, that could be done with reforms that save tax revenues in the Trust Fund. But such "saving" would almost certainly be undone by political pressures to increase government spending and, hence, produce larger deficits outside of the Social Security budget.

Social Security was designed in 1935 amid a very different economic environment. There was a perception that there were too many workers, so the government wanted to encourage retirement. There was concern that Americans were saving too much money and not spending enough. Today we are a society with entirely different needs. We need to continue to make use of the talents of our most productive workers. We need to save more money and we have an abundance of sensible investment opportunities. This is why we have proposed PSAs. This is the only way to truly save for our retirement and give our children and grandchildren a fair deal.

Social Security and personal savings are just two legs of a three-legged stool that supports retirees. The third leg of support is employer-sponsored pensions, both defined contribution and defined benefit types. There are well-known problems in these areas. Recent examples of corporate malfeasance by some executives have served as a dramatic example of why we must have pension protection measures. For some employees, a lifetime of savings was gone in an instant.

In response, the Administration proposed specific defined contribution protection measures. The following two have been signed into law: every worker gets 30 days advance notice before any blackout period--the time when they cannot sell, buy or borrow from their 401(k)s; and corporate executives must follow the same rules that every other employee follows during blackout periods.

We are addressing other reform principles as well. The President believes workers should be able to sell their company stock after holding it for three years so that no one's nest egg is tied up in the stock of a single company. Investors should have access to better information, including quarterly--not just yearly--reports on how their 401(k)s are performing. And, workers should have more access to professional investment advice so they can make more informed decisions about their savings.

We felt it was important to make positive changes in the pension system without burdening employees with investment restrictions. For this reason, we did not propose to place limits on the amount of an employee's account balance that can be invested in company stock.

Let me next discuss some defined benefit pension issues and provide reasons, through an example of airline pensions, of why reform is needed there. Before I do, let me briefly give you an overview of how the U.S. defined benefit system works. The ERISA of 1974 created the Pension Benefit Guaranty Corporation (PBGC). This body was created to encourage the growth of defined benefit pension plans, provide timely and uninterrupted payment of benefits, and keep pension insurance premiums paid by plan sponsors at a minimum. The Secretaries of Labor, Commerce and the Treasury sit on its board. The PBGC collects insurance premiums from employers that sponsor defined benefit pension plans and it pays monthly retirement benefits. Currently, PBGC insures the pensions of 44 million workers and retirees and pays benefits to about 930,000 people from failed plans.

Some basic facts about the defined benefit system and PBGC's financial health suggest that we need to be concerned about the current set of minimum required funding rules for plan sponsors and the long-term solvency of the system.

For example, PBGC's single employer plan program ended 2003 with a record deficit of $11.2 billion. This deficit is the result of two consecutive years of staggering net losses. The net loss for 2002 was $11.2 billion. The net loss for 2003 was $7.6 billion.

The PBGC deficit will be increasing significantly for this fiscal year as a result of problems with airline company pensions. The PBGC does have sufficient resources to pay benefits for a number of years. Nevertheless, the Administration knows we must act now to ensure the longer-term solvency of the pension insurance program.

Indeed, problems exist on a more fundamental level that are symptomatic of a broader and deeper set of problems. These issues can be distilled into two central themes--corporate responsibility and retirement security. Simply put, companies should be held accountable to make good on the pension promises they have made to their workers and retirees. The consequences of not honoring these commitments are unacceptable--the retirement security of millions of current and future retirees is put at risk.

When underfunded pension plans terminate, three groups can lose: workers face the prospect of benefit reductions; other companies, including those that are healthy and have well funded plans, may face higher PBGC premiums; and, ultimately, taxpayers may be called upon by Congress to bail out the pension insurance fund, just as was the case more than a decade ago with the savings and loan bailout. This is the unfortunate result of a system that allows--and, one might even argue, sometimes encourages--companies to avoid paying for the promises they have made.

In July of 2003, we released the Administration's Proposal to Improve the Accuracy and Transparency of Pension Information. We designed this proposal to correct fundamental and structural flaws such as inadequate funding rules, a lack of transparency of funding disclosure and the moral hazards that result from a lack of checks and balances.

First, we proposed that pension liabilities must be accurately measured to ensure that pension plans are adequately funded to protect workers' and retirees' benefits and to ensure that minimum funding rules do not impose unnecessary financial burdens on plan sponsors. Liability estimates that are too low will lead to plan underfunding, potentially undermining benefit security. Pension plan liability estimates that are too high lead to higher than necessary minimum contributions, reducing the likelihood that sponsors will continue to operate defined benefit plans. We therefore proposed that a corporate bond yield curve be used to measure pension liabilities that accurately reflects the demographic composition of the plan participants.

Second, the transparency of information pertaining to pension plan funding needs to be increased.

We proposed requiring that each year sponsors disclose to participants the value of their defined benefit pension plan assets and liabilities measured on both a current on-going liability and a termination liability basis.

Third, the Administration proposed to restrict benefit increases for certain underfunded plans whose sponsors are financially troubled. When firms with below investment grade credit ratings increase pension benefit promises, the costs of these added benefits stand a good chance of being passed on to the pension insurance system, frustrating the benefit expectations of workers and retirees and penalizing employers who have adequately funded their plans.

When a plan sponsor files for bankruptcy the PBGC's guarantee limits would also be frozen.

We felt this was a constructive, forward looking set of proposals that would help ensure PBGC and plan solvency. Moreover, these proposals are consistent with the President's views on an ownership society. We have made clear that employers are responsible for ("they own") the pension promises that they make, and that, by using benefit restrictions and enhancing disclosure, employees take more ownership of their pensions, acting as watchdogs.

But clearly more is needed. At this point, I'd like to discuss some further fundamental principles that the Bush Administration believes should be part of any proposed, more comprehensive, future reforms.

First, we must protect the pensions of the 44 million workers and retirees covered by the PBGC.

Second, American companies must responsibly fund the pension benefits promised to workers.

Third, shifting the costs of pension obligations that companies have made to their workers to taxpayers is not acceptable.

The Administration, therefore, strongly believes that for any future reforms to be comprehensive they must include the following tenets:

They must create greater opportunity and incentive for employers to fund up in good times to ensure against economic shocks, and reduce the volatility of minimum required sponsor contributions.

Reforms must improve the PBGC's ability to deal with firms that fail to make contributions while in bankruptcy.

Finally, comprehensive reform must include a premium structure for the PBGC that meets its long-term revenue needs and reflects the risks that it covers.

To briefly conclude, I hope I have given you a better idea of the health care and retirement challenges facing us and that I have imparted an appropriate understanding of the President's vision of an "ownership society." Despite the challenges we face, I believe the policies I have mentioned today show that the Administration is committed to addressing these issues while preserving the very liberties to which John Locke was so brilliantly dedicated.

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