As investors, we are always alert to the effects of government policy on the economy and on the markets. And the larger the policy, the larger those effects will probably be. People change their behavior in response to incentives, and any complex pie
When the law is as sweeping and influential as the Affordable Care Act (ACA), economists and market analysts immediately begin trying to figure out what those changes are going to be.There are many unknowns. In any law as complex as the ACA, we can bet that there will be a host of unpredictable consequences. Nevertheless, it’s important for investors to educate themselves with the most insightful analysis they can find. For example, since we have often been investors in pharma and biotech equities, we have been concerned about the potential effects of the ACA on research and development in those industries -- since reduced R & D today would lead to less innovation and lower profits in the future. By studying the law’s possible impacts, we are more likely to have a correct investment strategy as those impacts unfold.
New Forecasts From the Congressional Budget Office
The Congressional Budget Office (CBO) is a generally well-respected and non-partisan research body. Last week, it caused something of a furor when it published its broad, 10-year forward view of the U.S. economy. This is not normally a very exciting event. But this time, the CBO included an appendix to its forecast -- an appendix describing the likely effects of the ACA on the labor market. And those effects will be large -- several times larger than the last estimate the CBO made.
In essence, the CBO came to the conclusion that on balance, ten years from now there will be 2.5 million fewer people in the workforce than there would have been if the law had not been enacted. That is, over the decade, the labor force will shrink in size by 1.5 to 2 percent as a result of the ACA. In its previous estimate, the CBO had suggested the effect would be only a fraction of that size.
Why Will the ACA Shrink the Labor Force?
The change came because of the work of an economics professor from the University of Chicago, Casey Mulligan. (This is why we like to pay attention to the work of economists and analysts whose track records we’ve come to trust.) Mulligan testified before Congress last year and wrote several papers for the National Bureau of Economic Research -- and the CBO, after studying his work, decided they agreed with it.
Mulligan’s point is that the ACA offers subsidies that decline as people’s income rises. That means that at a certain point, a worker will find that the loss of their subsidy outweighs the additional income they’ll make from working, and decide either not to work, or to work less. He observed that the effect is exactly the same as one that the CBO already knows well -- direct taxes also have the overall effect of causing people to decide it’s not worth it to work more. He says, “When you pay people for being low-income you are going to have more low-income people.”
Mulligan’s analysis actually suggests a labor force contraction of 3 percent rather than 1.5 to 2. But it’s in the nature of complex systems that we will have to wait to see what really happens.
Why It Matters
A shrinking labor force will have many consequences for the American economy over the next decade. Many will be unpredictable. But we know that the overall productivity of the American workforce will grow more slowly than it would have otherwise -- which overall means lower GDP growth, and therefore, most likely, greater headwinds for corporate profits.
Will the new non-workers engage in enriching and beneficial activities outside the paid economy -- for example, raising their children or grandchildren? Or will they be free to take more entrepreneurial risks? Either of these outcomes might ultimately boost GDP. But perhaps those reducing their work hours will not do anything productive outside the labor market, and the workers who stay will be subsidizing others’ ability to live without contributing. And that would depress GDP still further. The CBO has nothing to say about this -- noting that it has no way to quantify the non-work activities to make a comparison of outcomes.
The Blind Leading the Blind
The fact that such a major effect of the law is only just now coming to light suggests to us that other surprises are also very likely to be waiting for us. We also note that the politicians who crafted this law are not economists, and are not qualified to evaluate the likely economic effects of the laws they make. Thanks to Professor Mulligan, we see that it’s likely the ACA will create headwinds for GDP growth as it unfolds. As for other effects, all we can say is that such massive programs are very likely to produce increased volatility in the economy and in the markets as more unintended consequences come to light. These will be interesting and challenging times.
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