Health cooperatives: a fast lane to nationalized health care

Of the 1,990 pages in the healthcare reform bill passed by Congress Saturday night, page 206 is especially touted – and little understood.

That's the page that creates a federal Consumer Operated and Oriented Plan (CO-OP) to establish not-for-profit, member-run health insurance cooperatives.

Supporters say these health cooperatives, or HCs, will reduce costs by giving smaller buyers of insurance (such as small businesses) the ability to act as a large buyer. HCs will level the playing field, giving the "little guy" much more leverage to negotiate lower prices.

They won't. What they will do is put the United States on a track toward nationalized healthcare even faster than the government-run insurance plan called the public option.

The reason HCs won't lower costs has nothing to do with politics or economics but a simple error of logic called the "fallacy of composition." Senators should take a refresher course in logic before they review page 206 and the rest of the legislation in coming weeks.

What, exactly, is a fallacy of composition? The basic idea is that if something is true for the part, it is not necessarily true for the whole. For example, if the Red Sox improve their batting average next year, they'll probably win more games. But if all major-league baseball teams improve their batting average next year, will all teams win more games? Of course not.

Yet proponents of HCs are making a similar mistake in judgment. Their fallacy results because market power is a relative concept. The advantage of being a large buyer comes at the expense of small buyers, so it is a fallacy to expect that any benefit currently derived from large buyers can be enjoyed by everyone if everyone becomes a large buyer.

Suppose, for example, that a pencilmaker sells one pencil per month to 10 separate buyers. Each pencil costs $1 to make and overhead is $10. The pencilmaker needs at least $20 in revenue per month to stay in business, so the average price per pencil must be at least $2.

Now suppose some buyers form a cooperative and use their newfound market power to negotiate a price below $2. To continue generating $20 in revenue, the pencilmaker must now charge the remaining buyers more than $2 because overhead has to be paid by someone.

If the remaining buyers also form a cooperative they may to able to negotiate the pencil price back down to $2, but only if pencil buyers in the first cooperative experience a price increase. Once everyone is large, the advantage of being large disappears.

Similarly, if "Jane" switches from a non-HC plan to a HC plan, she will probably get to pay a lower premium because the HC plan can negotiate lower reimbursement rates. But that also means that she will now be contributing less to her healthcare providers' overhead expenses than before. This forces them to make up the difference by charging non-HC plan patients more.

So if we reform the system to make small buyers large ones, then as the number of small plans declines, the large plans will run out of small plans to shift costs to, so the benefit of being large will disappear.

Some liberals find HCs appealing because they believe them to be a first step toward nationalized healthcare. Most conservatives oppose them for that very same reason. Some conservatives, however, find them appealing because they appear to be less risky than having a government-run public option that competes with private policies.

It is true that a public option carries the risk of driving all private insurance out of existence because it can set terms and rates that no private plan can actually compete with. But if a public option plan began to drive private insurers out of business, then it is at least conceivable that political pressure could emerge to correct course.

Once government-supported HCs take effect, however, they would almost certainly mean the end of private plans, because forthcoming insurance regulations will leave non-HC consumers with added costs and subtracted benefits – nudging everyone into HCs. So by establishing HCs as the centerpiece of reform and then regulating them directly, lawmakers may end up providing a faster path to de facto nationalized healthcare than a public option, which is also included in the House bill.

Indeed, what makes the House bill especially galling is that it has both HCs and a public option. Either provision, on its own, would overwhelm private healthcare. That's why voters shouldn't take much comfort in the speculation that the Senate might exclude a public option. If the Senate's version of the bill includes a provision for HCs, then reform would ultimately nationalize healthcare in America.

Those who are serious about making sure everyone has health insurance need to stop adding more layers of complexity to an already complex system.

The solution is to abolish Medicare and Medicaid, abolish the favorable tax treatment of employer-provided insurance, impose a one-price rule on procedures, and issue a voucher to every single American citizen. The creation of a voucher program would certainly take less than 1,990 pages of legislative language. This will solve the problem of the uninsured completely, immediately, and permanently in a transparent way that works with, rather than against, competition. The big losers will be special interest groups because a transparent voucher system will rob them of their ability to manipulate the system. They know this all too well, which is why they oppose it.

David C. Rose is a professor of economics at the University of Missouri-St. Louis.