Imagine you decide to replace the engine of a car. You have two goals: To make the car go faster, you put in a more powerful engine, say eight cylinders rather than six. But you also want to make it more fuel-efficient, so you add some sophisticated new technologies to cut back on its gas guzzling.
But this is untested technology, so you don’t have any idea which of these changes will prove to have a greater impact. Will the car consume more fuel because it is has become more powerful? Or will the fuel-efficiency improvements be effective enough that it uses less fuel despite the bigger engine? You won’t find out until you take the car for a drive.
And that, in a nutshell, is why we have no idea how quickly the U.S. economy is growing this year.
The United States has overhauled its health care system, which accounts for one-sixth of the engine of the economy. But President Obama’s health reform legislation has two sets of goals. It aims to expand health coverage to millions of Americans without insurance. And it aims to make the U.S. health care system more efficient, to force doctors and hospitals to deliver care in a more cost-effective way.
As it turns out, the question of which of those efforts is more successful will have an outsize impact on the overall growth rate of the economy. That was one of the big lessons from new revisions to gross domestic product data earlier this week, which showed a surprise drop in health care spending; earlier releases of the first-quarter data showed a large gain. That swing was a major reason the economy shrank at a 2.9 percent annual rate in the first three months of the year, its worst performance in five years.
But what it really shows is how the execution of health reform is going to cloud our understanding of the economy for some time to come.
In normal times, health spending is the boring part of the GDP report. It almost always grows: The first-quarter contraction was only the fourth quarterly decline in the last 80 quarters (that’s going back to 1994). Health spending reduced overall GDP growth by only 0.16 of a percentage point. That isn’t that much in the scheme of things, but it was the most the health sector had subtracted from overall growth since the start of 1982.
In other words, when economy-watchers — analysts, journalists and others — parse the quarterly economic reports, health care is usually part of the boring backdrop while we focus on sexier sectors that show more volatility, like capital expenditures by businesses.
But until the dust settles from the adoption of Obamacare, that has changed. The uncertainty around how the health law will affect spending patterns means that we may be in a period where quarter-to-quarter volatility in economic growth is driven by the micro details of how the health insurance law is working on the ground, rather than any broad momentum (or lack thereof) in the economy.
What should we be rooting for? This is an area where what is good for the country in the short run is at odds with what is good in the long run. It would be great to see a stronger recovery from the last recession, the kind of 4 or 5 percent growth that would put Americans back to work in a big way.
But the United States also has the most expensive health care system in the world, without producing better health outcomes. If the nation succeeds at reducing health care costs while also getting coverage for more people, it would be a huge win for the country’s long-term competitiveness. Over time, the dollars that aren’t being spent on overpriced or unneeded health services can go to other stuff that makes lives better: houses, college education, restaurant meals and the like.
The frustrating thing is that if that adjustment continues, it will do so while the economy is still far from full employment. That’s what happened in the first quarter: Health spending fell, but nothing else rose to take its place. It implies that we need to start seeing stronger growth in everything else to achieve robust growth even as the adjustment in the health care sector plays out.