From Student Loans to Drug Prices to Health Care and Social Security, Guard the Pool
With so much going on, some important stories are flying just below the radar. I want to mention just two or three and then describe a common framework I’ve found useful when thinking about them.
First, the New York Times has been giving a lot of coverage to abuses of the federal student loan programs run by the Department of Education. DoE provides direct loans to students and parents, but it also allows private lending companies to share in the action. Like everything else in this Administration, under Bush’ Education Secretary, Margaret Spellings, the federal system has been abused to give preferential treatment to the private lenders.
One story from last week describes how the private lenders have improperly influenced the nation's colleges and universities, sometimes using favors and bribes to corrupt college loan officers to gain preferential access to student loan applicants. In some cases, the colleges allowed the private lenders to take over some functions of the college financial aid office, as in this story, forcing students to attend briefings that were little more than sales pitches by a lending company. I’ll return to Spellings in a minute. There have also been several NYT stories on the investigations by the NY State Attorney General's Office of lending company abuses. Other states are now following New York’s lead.
Second, last week Senate Democrats were trying to debate and vote on whether Medicare officials should be allowed/required to negotiate prices with drug companies. You'll recall that House Democrats passed negotiating authority as one of their six initiatives during the first 100 hours. The issue is stuck in the Senate, and last Wednesday, the Republicans successfully filibustered to prevent the Democrats from bringing up the matter.
The third topic is the huge policy question about whether and how the United States should provide universal health care and how we pay for it. A key issue here is whether we should expand the "single-payer" system to provide universal health coverage or instead expand insurance coverage for those currently without health insurance.
Rather than delve into the details of these policy areas, I want instead to offer a way of thinking about them that I've found helpful in understanding electricity markets, an area I deal with at work. Reduced to its simplest terms, the framework is this: When we are dealing with services seen as important to public welfare, there is often a governmental "pool" mechanism for providing the basic service, as well as private mechanisms based on private contracting. The two mechanisms are in constant tension, often in competition. But the public interest depends on assuring that the "pool" mechanism is open to everyone on a non-discriminatory basis and its pricing is fair (or efficient). And then you have to be ready to protect the pool, because the private interests, and their cronies in government, will do everything they can to cripple the pool’s ability to set a fair standard for private competitors to beat.
How This Works in Electricity.
This dual structure exists for electricity in more than half the country — New England and New York; the Mid-Atlantic region down into Virginia; most of the Midwest and parts of the Great Plains; most of Texas; and most of California. In each of these large interconnected regions there is a monopoly institution called an RTO (Regional Transmission Organization) that operates the electricity grid for that entire region (your utility doesn't do this any more). Although RTOs are nominally private, non-profit corporations, they in fact function as quasi-government entities with substantial government oversight.
Each RTO operates as an open-access "pool," which means that any seller (typically power plant owners) can sell electric power into the pool, and any buyer (usually your local utilitities, retailers or large industrial customers) can buy power from the pool. The RTO's pool is thus a centralized market (a concept that drives market purists and conseratives crazy), with prices set every hour via competitive bidding auctions.
In addition to using the RTO pool, all of the buyers and sellers are free to contract with each other outside the pool — via bilateral purchase/sell contracts. So your utility can use bilateral contracts to buy as much power as it needs to serve its customers — you and me, businesses, etc — and then only buy a little from the RTO's pool. Or the utility can buy all it's requirements from the pool. The rules give the buyers/sellers the choice to use either the pool or the contracts as much as they want, in any mix they want.
The pool is always there as a fallback. If a utility can't get the price or quantities it wants from contract sellers, the utility can always purchase all the power it needs from the RTO pool at the pool's competitive/auction price. That means the suppliers who offer contracts can never force the buyers/utilities to purchase power at prices significantly higher than what they expect pool prices to be, because the buyer can always purchase what it needs from the RTO pool. (The same protections apply to the sellers, who can always sell their power to the pool, if they think contract prices offered by buyers are too low.)
No matter what happens in the contract market, the RTO pool will make sure consumers always get the electricity they demand. If you flip on the switch, the lights go on, and it doesn't depend on whether your utility buys from the pool or buys through contracts or any combination of the two. The consumers' needs are always met by the pool operators, 24/7. In other words, we can guarantee this essential service to everyone and separate how the service is physically delivered from how we pay for it.
The Framework Applied to Other Policy Areas
We can analyze the three policy areas above with this common framework. A good system is one in which consumers get the services they need at a fair price. In a pool framework, every person gets health care; every person gets the prescription drugs they need. Whoever operates the "pool" takes on the responsibility to guarantee service for everyone, at a fair price. If the pool operates efficiently, and doesn't discriminate, then everything else works too. Buyers can contract with private suppliers if they want, but they don't have to. Consumers can purchase insurance contracts to protect them against price fluctuations or unexpected costs, but they don't have to. No matter what, consumers will get the essential service they need.
Whether it's student loans, or prescription drugs, or health care in general, if there is an effective, open pool mechanism available, and its pricing is fair, then the private contract providers can also exist too, giving consumers a choice and better assurance of decent services and fair prices. But if the pool mechanism is handicapped, or access to the pool is restricted, or it's pricing artificially manipulated, then there is strong likelihood that the private contract alternatives will not serve the public well either. The products or services will be limited, or the prices will be unfair, or both.
And here's a warning from my experiences with electricity markets. Private contract marketers have strong incentives to undermine the pool's effectiveness, because the pool is a competitor, or it at least defines the competitive standard. They may try to convince government to limit what services the pool can provide, or limit who can buy from the pool, or convince the pool to use pricing mechanisms that are inefficient. All of these tactics make it more likely that buyers — and consumers like us — will have to turn to private contract marketers and pay more for fewer choices, because the pool choice is either missing or unattractive.
In the policy areas above, the "pool" is a government mechanism that directly provides (or helps pay for) student loans, prescription drugs, or health care. A "single-payer" system is a type of pool. A program that offers loans directly from the Department of Education is a type of pool. And Social Security is another pool. The private contract market consists of banks and loan companies (for student loans) and insurance companies (for drugs and health care), or private retirement plans (401k, 457k etc). We can have both mechanisms, and both can work well together, but the key is to make sure that the pool mechanism is available to all as an effective, fairly priced choice. If it isn't, there is no reason to expect the private contract/insurance model will work well, and plenty of evidence to show it will be abused and more expensive.
You can go back and follow the stories above, and this framework will help explain what went wrong in each case. In the case of student loans, the lenders in the contract market deliberately tried to strangle the pool — direct loans from DoE — to restrict competition, and then corrupted the college loan offices, the gateway to the DoE loans. In the prescription drug case, the drug companies want to make sure the pool mechanism doesn't artificially depress prices or even establish competitive prices, because that prevents the drug suppliers from exercising market power to raise prices in the contract market. We see the same patterns in health care, where the insurance providers want to limit the government's ability, via single-payer pool mechanisms, to provide health care without insurance.
Today’s NYT editorial, The Medicare Privatization Scam, provides a perfect example of how the private insurance system gained an unwarranted subsidy from the government pool in order to draw consumers away from the pool (Medicare) and into private insurance schemes, while enriching the private companies and raising the total costs of health care. And remember the Social Security battle with Bush’s private accounts? It was exactly the same battle, as Paul Krugman reminds us in Friday’s op ed, The Plot Against Medicare (Times Select).
A final warning. If a well-functioning pool is the key to success, then we have to pay attention to how the pool is set up, managed and overseen. A badly managed pool, or one in which pricing rules are badly designed or manipulated (recall the California electricity prices back in 2001) can screw up both the pool and contracts, because contract prices tend to track expected pool prices. And the pool function is by definition a monopoly function — it has to be intelligently and carefully regulated to be efficient and pursue the public interest. We need good government run by people who believe in the government's mission.
If a government-regulated pool is not managed well, you get stories like this, in which the DoE recklessly gave private lending companies unfettered access to DoE's huge data base of the financial records, personal data and Social Security numbers of millions of us who took advantage of the federal student loan programs. And with Bush appointed overseers like Education Secretary Margaret Spellings, they waited too long to close the barn door. So if you received numerous solicitations from lenders to consolidate your school loans, and wondered how they knew your personal financial and loan history, that's why. Guard the pool.