The Aggregate and Relative Economic Effects of Government Financed Health Care

Abstract

Government-financed health care (GFHC) expenditures, through Medicare and Medicaid, have grown from roughly zero to over 7.6 percent of national personal income over the past 50 years. Recently, some analysts (e.g., the Council of Economics Advisers (2014)) have argued that an expansion of GFHC (in particular Medicaid) has large positive employment effects. Using quarterly data for 1978:Q2-2016:Q4, this paper estimates the impact of GFHC spending on prime-age employment using an instrumental variables strategy that exploits exogenous variation in Medicare spending. Our IV estimate of the multiplier suggests that an increase in GFHC spending equal to 1 percent of income over a two year horizon causes the employment-population ratio to increase by 58 basis points. This implies a job-creation cost of $84,900 per job year. Medicare spending changes by themselves yield a similar estimate of the employment multiplier (0.65). We then explore the dynamic employment response accumulated up to a four-year horizon and estimate a job-creation cost in the range of $406,000 to $467,000 per job-year. In other words, we find that an exogenous GFHC expansion has a moderate positive employment response in the short run and a muted cumulative response in the long run. We also show that the so-called relative (or local) multiplier approach based on the state-level panel provides similar estimates to those based on aggregate data. Although the employment effects using aggregate data are estimated imprecisely, they are considerably sharper when estimated using state-level data.