Obamacare Health Exchanges Won’t Work

Posted by Jeff Carter
on November 28th, 2012

There is a debate right now about whether to establish a state run health care exchange, or let the federal government administer the exchange. It’s a poor Solomon’s choice. Neither will work.

What’s the concept of an exchange anyway? Two parties independently bargain for a good or service. They bid and offer prices for that good. The bids and offers are transparent, and seen by everyone, and recorded. Once a trade is made, the price is posted into the exchange record so everyone can see and contemplate what they would pay for that good. Prices fluctuate with the supply and demand forces that are pinned to them.

The headline price read in a newspaper is a mere fraction of what an exchange actually is. Additionally, exchanges are back offices. Trades are processed, money debited and credited to accounts and the full faith and credit of the exchange is put on the line to make sure the transaction occurs at the price it was made. Additionally, if delivery of a good is taken, an approved delivery facility handles the change of ownership of the good-and the exchange audits it to make sure it happens.

The advocates of government run healthcare have used capitalistic terms like “exchanges”, and “markets”, but they have failed to embrace the capitalistic principles that stand behind those terms to get an actual market started. Don’t get me wrong, we didn’t have a “market” based price prior to Obamacare, but we will be further away from anything resembling a market once these exchanges get going. America couldn’t continue down the health care path it was on, but Obamacare was the worst solution to the problem that could have been dreamed up.

Here are just a few reasons why health care exchanges as presently structured won’t work. First, they are concentrating on costs, not price. Because there are subsidies and price ceilings associated with health care, the market forces that normally would allow a market price to fluctuate can’t begin to work. The system as presently designed will only drive up both costs and prices higher and higher until they hit ceilings. At that point, health care will be rationed and a secondary cash market will develop for health care services. My supposition is a black market might eventually develop for pharmaceuticals too, since they also have price ceilings. Because market forces can’t work, individual behaviors won’t change. People respond to changing prices by changing their behavior.

Most of the initial money is being spent on technology to set up the guts of running the exchange. The state of Ohio estimates is will have to spend $63 million to set up the exchange, and have $43 million of annual costs just to operate it. I think that number is low. While it won’t have to be state of the art, recurring technology costs and research and development costs to keep the guts of the exchange operational and innovative will cost more than that. Anyone who tells you different is fooling themselves.

Another reason exchanges won’t work is they are so restrictive. There aren’t any arbitrage opportunities. If I am in Ohio and see a chance to buy a healthcare service at a cheaper price in Michigan, I can’t because it’s illegal to cross state lines. Artificial fences don’t work in exchange traded markets. The simple idea of a market is that everyone can participate. That’s just not the case when it comes to health exchanges. In the stock market, many of us decry the existence of dark pools of liquidity. No doubt, dark markets will be a response to restrictive exchanges. The government will spend millions of dollars trying to police them and snuff them out. If you think the US spends a lot on the war on drugs, wait until you see the cost of trying to smother a black market that everyone wants to access.

The other reason that this model won’t work is it’s supposed to be run at break even. Anyone that has run a business knows there has to be some profit margin in it. Invariably, problems occur and businesses burn through their working capital solving them. If you run at break even, you are guaranteed to go broke. For states and the federal government, it means exchanges will be yet another sinkhole in government budgets.

If they want to set up a true market in health care, they need to remove a lot of the restrictions, ceilings and rules set up to restrict profits and competition. Instead, they need to put the power into the hands of millions of individuals and let them bargain efficiently to set prices.

Today I was on CNBC with Rick Santelli speaking about this.

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