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William J. Baumol

The Cost Disease: Why Computers Get Cheaper and Health Care Doesn't Paperback – September 24, 2013

by William J. Baumol (Author), David de Ferranti (Contributor), Monte Malach (Contributor),

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Why are the costs of health care and higher education rising so dramatically? How can we keep them affordable for lower- and middle-income American families?

The exploding cost of health care in the United States is a source of widespread alarm. Similarly, the upward spiral of college tuition fees is cause for serious concern. In this concise and illuminating book, the well-known economist William J. Baumol explores the causes of these seemingly intractable problems and offers a surprisingly simple explanation. Baumol identifies the "cost disease" as a major source of rapidly rising costs in service sectors of the economy. Once we understand that disease, he explains, effective responses become apparent.

Baumol presents his analysis with characteristic clarity, tracing the fast-rising prices of health care and education in the United States and other major industrial nations, then examining the underlying causes, which have to do with the nature of providing labor-intensive services. The news is good, Baumol reassures us, because the nature of the disease is such that society will be able to afford the rising costs.

Print length

272 pages
Language

English
Publisher

Yale University Press
Publication date

September 24, 2013
Dimensions

5.1 x 0.7 x 7.8 inches
ISBN-10

0300198159
ISBN-13

978-0300198157
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Michael E. Porter
192
Hardcover
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Editorial Reviews

Review

"A provocative and timely critique of the fallacies in the conventional wisdom that we can no longer afford good education and decent health care."—Sir Harold Evans, author of They Made America -- Sir Harold Evans Published On: 2012-02-06

“It’s a testament to Professor Baumol’s lucid prose, though, that economists and noneconomists alike will find it easy to grasp his surprisingly comforting argument for why we shouldn’t panic. . . .This book is a quick read, packed with charts and case studies. But it is the author’s command of storytelling that makes it not just digestible but also enjoyable.”—Amy Wallace, The New York Times -- Amy Wallace ― The New York Times

“Health-care costs are huge, and still rising. Based on current trends, in 2105 US health care will consume 62% of our national income. And this is nothing to worry about. How can this be? Relying primarily on simple logic and storytelling, NYU economist William J. Baumol lays out the answer in his new book.”—Kyle Smith, New York Post -- Kyle Smith ― New York Post Published On: 2012-09-24

About the Author

William J. Baumol is professor of economics and academic director of the Berkley Center for Entrepreneurship and Innovation, New York University, and professor emeritus, Princeton University. He lives in New York City.

Product details

Publisher ‏ : ‎ Yale University Press; Illustrated edition (September 24, 2013)
Language ‏ : ‎ English
Paperback ‏ : ‎ 272 pages
ISBN-10 ‏ : ‎ 0300198159
ISBN-13 ‏ : ‎ 978-0300198157
Item Weight ‏ : ‎ 10.5 ounces
Dimensions ‏ : ‎ 5.1 x 0.7 x 7.8 inches

Best Sellers Rank: #435,885 in Books (See Top 100 in Books)
- #516 in Theory of Economics
- #775 in Economic Conditions (Books)
- #820 in Health Care Delivery (Books)

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Bak Jin-sing

Feeling overwhelmed by the rising cost of healthcare? Read this.

Reviewed in the United States 🇺🇸 on January 23, 2013

Verified Purchase

We are constantly informed that our aging societies and spiraling health care costs, eating up ever increasing percentages of GDP, will end in disaster unless we trim the costs of healthcare.
Not true, according to Princeton Economics Professor Emeritus William J Baumol and his contributing authors.
This is a short easy read, but important to all involved in the debates about healthcare, and especially to journalists and doctors, who have an urgent duty to advocate sensible healthcare economics because of the economic illiteracy of politicians and their electorate.
Baumol described his ‘cost disease’ in the 1960’s in the performing arts – arguing that it is difficult to achieve significant labour productivity increases when it takes as many musicians just as long to perform a Mozart symphony today as when it was composed.
Nearly fifty years of data have borne out the predictions he made in the sixties, and the same argument applies to all ‘stagnant’ sectors of the economy, such as healthcare and education, because of the large component of human input.
It doesn’t particularly matter that a modern hip replacement – or any given medical intervention - is better and longer lasting than an earlier one (ie the quality-adjusted cost has fallen) the quality-unadjusted bill is the same.
Meanwhile ‘progressive’ sectors, mostly computing and manufacturing, make impressive productivity gains, with two effects:
1. Stagnant sector prices must rise more rapidly than the Consumer Price Index;
2. Because of the large increase in the overall wealth of society generated by the excellent work of the progressive sectors, we can still, and will always be able to afford, the healthcare (and other labour intensive services) we want.
If we invest in education to continue the productivity and wealth gains.
That’s a big ‘if’ – and this is where informed doctor-advocates are needed.
This is the main thesis of the book, which is written for the general reader.
Doctors may argue that Baumol overlooks some factors which drive up cost, for example the role of third party payers (the patient wants the very best, because the insurer will pay), but he also debunks some myths by means of studying actual data – for example the cost of malpractice lawsuits.
As a doctor, I found some of the discussions of, for example, the economic multiplier effect of developing medical software a little too detailed given that they are not part of the main theme - they felt a little like contributing authors' papers dropped in as chapters without enough editing, but this is a relatively minor criticism and does not really detract from the overall argument.
Many of the examples are from the US, but are applicable internationally, and Baumol makes a cogent argument for broad and deep medical insurance markets in poor societies where it is even more important to pool risk.
Given that the First Law of Healthcare Economics states that healthcare spending in any society will rise as its GDP rises, and that there is no satiety in healthcare (No society has ever said, ‘No more, thank you, that’s enough healthcare…’) the fear of society collapsing under the healthcare bill will not disappear. Baumol argues that if governments cannot be led to understand his ideas, their citizens may be denied vital health, education and other benefits because they appear to be unaffordable, when, in fact, they are not.
His answer to ‘Can’t afford healthcare?’ is ‘Invest in education.…’
I will be giving a few copies to journalists and politicians in my town.

6 people found this helpful

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Abacus

The danger of 100 year extrapolations

Reviewed in the United States 🇺🇸 on December 14, 2012

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The basic premise of the book seemed so intriguing. In a nutshell, US healthcare spending is virtually uncontrollable and will go through the roof; but, we will very easily be able to afford those costs.

Baumol projects healthcare spending to rise from 15% of US GDP in 2005 to 62% in 2105. But, not to worry because overall we will be over 8 times wealthier as our GDP per capita will rise from $41,800 to $343,000. Given that, it will be so easy to spend nearly 2/3 of every dollar on healthcare.

However, Baumol's extrapolations 100 years down the road are meaningless if not completely wrong. To understand how he derived his 2105 projections you have to read carefully note 13 on page 187.

For healthcare spending as a % of GDP, Baumol observed that they grew by 1.41% per year over the 1995-2005 decade. So, here is how he got the healthcare spending of 62% of GDP: 15%(1 + 1.41%)^100 = 60.8% (I got a different figure because of decimal figures). This same logic suggests that by 2140 or just 35 years later, healthcare will account for 100% of GDP. This does not make any sense. The 62% by 2105 does not make any more sense than the 100% by 2140. Taxes, housing, other consumptions of goods and services, business investments, Government spending can't so readily be squeezed into our remaining 38 cents on the dollar (1 - 62% allocated to healthcare).

When it comes to real GDP per capita, Baumol took the 2005 level of $41,800 and used the 2.13% average annual growth rate in this measure over the 1950 to 2001 period. His calculation: $41,800(1 + 2.13%)^100 = $343,000. Now do you believe that in 2105 we could possibly be over 8 times wealthier than we are currently? This entails that our prospective economy will be far greater than 2 times the current World economy (when you factor US population growth). If we grasp what that entails in terms of World's resources and industrial capacity, this extrapolation does not make sense. So, what went wrong? It is simple. Baumol used a 2.13% GDP per capita growth rate that captured the post WWII economic boom. And, this growth rate does not resemble at all the relevant current trend. When looking at this same measure over the 1990 - 2011 period, this growth rate plummets to 1.38%. If we focus on the 2000 - 2011 period it further drops to only 0.70%. Using this last growth rate and current GDP per capita level ($42,906 in 2011), you get a GDP per capita of $82,658 in 2105 only 24% of Baumol's level. Instead of predicting we will be over 8 times wealthier; this more realistic projection suggests we will be less than twice as wealthy as currently. And, even this level may be taken with a grain of salt. What will it truly mean in terms of resource constraint, living standard, and purchasing power parity with other countries?

Where Baumol's Cost Disease theory go astray? His basic rational is that labor productivity in the "progressive sectors" (industries with fast labor productivity such as high tech) drive overall wage earnings including the ones within the "stagnant sectors" (sectors with no labor productivity increase such as healthcare and education). This perfectly explains "why computers get cheaper and healthcare doesn't" (subtitle of the book). But, this certainly does not mean that one specific single stagnant sector (healthcare) will inevitably take over the economy. This proposition is absurd in itself given that there are so many other stagnant sectors to begin with. For healthcare to take over, it would need to squeeze out not only all the progressive sectors but also all the other stagnant sectors into this minuscule 38 cents on the dollar slice of the economy.

There is another reason that even all stagnant sectors combined will not take over the economy relative to the progressive ones. That reason is the famous Jevons Paradox. The latter states that increase in efficiency do not lead to increase in savings; they lead instead to increase consumption.

The Jevons Paradox contradicts the Cost Disease theory. Computers indeed got cheaper as the Cost Disease suggests. But, spending on computers and related hi tech appliances has gone way up (think not only of PCs but laptop, tablets, smartphones that did not exist just a few years ago) as Jevons Paradox suggests. So contrary to what Baumol thinks there is no reason for the stagnant sectors to gain share of the economy relative to the progressive sectors. In fact, the opposite is not unlikely.

The Cost Disease theory embeds many other contradictions besides the Jevons Paradox. Regarding healthcare spending, how could our wages be depressed by the rising cost of healthcare benefits since it is our own wage rate increases that supposedly set the cost increase of such healthcare prices?

Baumol's proposition that we can readily afford rapidly rising healthcare cost is laughable. Those costs are bankrupting the US fragile fiscal position as any CBO projections show. They are much reducing the competitiveness of US domestic manufacturers and have lead to off shoring manufacturing capacity. Municipalities, corporations, and household budgets have all felt the crippling impact of rising in healthcare costs.

The rising costs of healthcare and college education are indeed problems. But, it is not so much because of the Cost Disease (which primarily addresses the rising wages of employees within those industries). And, Baumol's own data proves that.

Regarding healthcare, Baumol discloses a graph (pg. 13) that shows that medical employees (doctors, nurses) salaries have grown at nearly exactly the same pace as inflation (3% to 4%). But hospital costs have grown far faster by 8% a year (graph pg. 7). Thus, the staggering rise in healthcare costs is related to factors outside the Cost Disease domain.

Turning to college education, Baumol shows that college tuition and fees have risen at 7% a year or far faster than inflation (graph on page 8). Meanwhile, wages of professors and other employees have risen a lot slower than inflation (graph pg. 13). Thus, college education costs have risen very fast for reasons outside the Cost Disease.

Given that his analytical framework is so off, Baumol's policy recommendations are of little interest. The chapters written by his coauthors in part 2 of the book regarding how to reduce the growth of healthcare costs and other stagnant services are reasonably good and interesting. But, they are lost in Baumol's book whose main thesis is wrong.

35 people found this helpful

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William mcgreevey

Great, but...

Reviewed in the United States 🇺🇸 on October 15, 2012

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William J. Baumol has written yet another path breaking book, this time with a host of able collaborators. He looks into the future with a vision informed by the past. He suggests that differences in productivity expansion between manufacturing and health care may lead to an explosion of health spending but one well within our capacity to accommodate. in 2005, the USA spent a bit less than a fifth of its income on health; a century later, the share rises above sixty percent. We can accommodate higher health spending because aggregate income will be so much higher -- $350,000 per person v. about $42,000 now.

He suggests a number of barriers that might block that century-long shift, perhaps most importantly resistance to large and essential growth of public spending on health. Voters in the USA block expansion of public taxes despite continuing preference for public-supported services of health, education, and basic infrastructure (roads, transport and the like). The result could be overall stagnation.

This reader also found it difficult to imagine sixty percent spending on health. How about education; is it not also be to funded? The highly-productive manufacturing sector is already down to ten percent of the labor force. How can so small a vibrant productive sector carry forward the stagnant component? But leave such caveats aside: We are enriched by such a book.

3 people found this helpful

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Top reviews from other countries

Sam Watson

Well written analysis but lacking real depth

Reviewed in the United Kingdom 🇬🇧 on November 22, 2012

Verified Purchase

This book is a well crafted summary of Baumol's work over the last few decades on the 'Cost Disease'. The authors provide a clear and succinct description of their analysis - basically, that industries that experience slower than average productivity growth, which Baumol calls the stagnant sector, still keep their wages in line with at least the average firms. Industries with higher than average productivity growth can raise wages and maintain the same price and profit but in the stagnant sector maintaining wages either means lowering profits or raising prices. This has the effect of lowering the price of e.g. computers relative to the wage rate but increasing the price of e.g. healthcare with the wage rate. The authors expand on this argument and identify a range of potential issues, such as misunderstanding the cost disease, such as by setting ill advised cost control measures in the healthcare sector, could lead to greater problems.

To support their analysis the authors use evidence from a number of different countries and industries, although their main focus is healthcare, probably to capitalise on the well publicised fear that healthcare costs will rise and consume and ever greater share of GDP. What the authors point out here is that this doesn't really matter as GDP will grow at least as fast so we can still buy at least as much of everything with a smaller share of it.

The book does feel fairly shallow and the evidence partly superficial. There isn't much of an attempt by the authors to rebut their own arguments and provide counter argument nor is there any in depth economic analysis. The book seems to have been aimed at the non-economic audience, but even for this group there is nothing particularly challenging. The book is also quite short and so the price tag may seem a little steep. Overall, the book presents an interesting and clear analysis of a topic that should definitely by more widely known but readers may be left wanting more.

5 people found this helpful

MANOEL CARLOS CASTRO PIR

nothing new

Reviewed in Brazil 🇧🇷 on October 25, 2014

Verified Purchase

Very poor ideas on the cost disease issue. It does add nothing new to our knowledge. I am very frustrated..

leopold larouche

Five Stars

Reviewed in Canada 🇨🇦 on September 11, 2017

Verified Purchase