Ezra Savard

On Cost Disease

I’ve read some great articles around the idea that everything is getting more expensive for no good reason. They usually focus on education and healthcare when giving examples. The discussion showed up in my blogosphere in 2017 and then flared up again in mid 2019 when Alex Tabarrok and Eric Helland published their book Why Are the Prices So D*mn High?

Timeline:

The dominant hypotheses I’ve seen were that (1) cost increase is primarily driven by the Baumol Effect, and (2) cost increase is primarily caused by administrative/legal/regulatory bloat.

I was trying to make sense of all the arguments I had read over time and ended up coming to this conclusion:

What if we have increasing wealth and primarily spend it on things to extend our own lives and help make our children more competitive, because we value those things so highly?

I’m probably not the first person to suggest it, but I haven’t seen it yet in my own reading, so I get to feel original.

I totally missed that Robin Hanson wrote a response to Tabarrok’s book, putting forward the same idea, but I’m still going to go ahead and post this piece without major edits.

  • Spending into healthcare is uncapped because we don’t want to die prematurely (or at all) or to suffer from conditions we can partially mitigate
  • Spending into education is uncapped because its a competition to position our children sufficiently well to secure them a good life
  • There is a strong Red Queen Effect involved, more obviously in education, but also in healthcare, since the baseline rises in both cases

Other factors I’m thinking about but not writing about:

  • The high prices aren’t always directly paid by the buyers (e.g. insurance)
  • Supply-side subsidization exists (e.g. student loans, insurance)

Elaboration

Baumol Effect ELI5

Wiki: The Baumol Effect

The Baumol effect is, in a nutshell, a need to raise salaries in order to prevent an employee from retraining into a better paying career.

  • Consider two types of machinists, one who produces foobars, and the other who produces wakallixes
  • Each specialization requires a certain amount of training, but they have the same salaries at first
  • Imagine that wakallix production technology improves rapidly, and those machinists’ salaries rises five-fold
  • The Baumol effect would cause foobar-specialized machinists’ salaries to rise enough to prevent most of them from retraining

Scott Alexander argues against this extremely well in his follow-up post after the book review, so I’m not going to repeat it all here. Mostly, it looks like the salary data doesn’t definitively support the Baumol explanation for doctors or teachers.

Bloat Narratives ELI5

The idea that things are getting more expensive because beaurocracy begets beaurocracy, resulting in the creation of pointless administrative offices and driving up prices as a result.

This would be worth arguing this if the data supported it, but that doesn’t seem to be the case. For example, the administrative share of all salary spending in universities has been roughly constant since 1980 (Tabarrok discusses this as fact and cites the NCES as the data source, but I wasn’t able to find it).

I was surprised by this because universities seem to have an ever-increasing roster of services being offered, and I expected administrative costs to rise along with that.

Conclusions

I think I agree with Hanson on this one (that is rare!). Spending more on education and healthcare just fits baseline people-priorities, and a red queen effect can be blamed for making the average quality service less affordable over time, as the average gets dragged upward by total spending.