Won't Higher Health Care Spending Mean More Profits for Innovators?

Ezra Klein thinks he spots a contradiction in my thinking on prescription drug innovation, and medical innovation more broadly:

As far as I can tell, these two positions are in direct contradiction. If health-care reform increases total health-care spending -- which is McArdle's first contention -- then it should also increase profits for pharmaceutical companies, thus juicing innovation. This is what research by MIT's Amy Finkelstein suggested happened after Medicare was formed. In that world, McArdle's concerns that lost profits will lead to less innovation are moot. Profits are going to go up because spending is going to go up. The mechanism here -- increased coverage leads to increased usage of health care by people who otherwise would be priced out of the system -- assures it.

That is one possible scenario, but hardly the only one.  It's absolutely true that provider and health manufacturer profits went up dramatically after Medicare was passed--but we've been trying to put a stop to that ever since.  Being a Medicare supplier is no longer the license to print money it once was.  (That's not a bad thing--but evidence from the founding of Medicare just isn't very relevant to a debate about today's prescription drug path).

In other words, higher health care spending doesn't necessarily mean higher profits--increased spending could end up mostly as more health care providers, possibly drawing higher wages.  And even if it does go up, those profits will be distributed in a lumpy fashion--it's not like everyone gets a 5% raise.  If the enhanced profitability accrues primarily to labor intensive sectors, then enhanced health care profitability will not mean enhanced innovation; it will probably mean that powerful unions draw out a lot of that profitability as wages, and the rest goes to doctors and hospitals with bargaining power.

Nor is it unlikely that the biggest benefits will go to those labor intensive sectors; they are, after all, the sectors that can mobilize powerful lobbying by groups with huge numbers of constituents in many, many districts.  And so far, unions seem to be the biggest beneficiary of the end to restrictions on corporate political speech.

So while it is certainly possible that higher health care spending will end up as more money for innovation, it's hardly a necessary corollary of the higher spending.  My worry is that as costs rise, the sectors that aren't full of frontline health care workers become the easiest to squeeze--which is why you've heard a lot of bashing of Pharma and the insurance industry, and virtually nothing about hospitals, doctors, or powerful health care unions that have squeezed about a squintillion dollars from places like New York State.  If that's the case, then higher profitability in the broader health care sector is the opposite of good news for pharma and medical device manufacturers--because they're the folks who will have their margins squeezed in order to pay for nurses and hospital beds.

Finally, it's worth noting that health care spending doesn't actually have to be higher in order to cause a crisis; it just has to be differently distributed.  If more employers than expected terminate their employee health insurance plans, then we'll probably have a substantial fiscal problem, as this program quickly zooms into fourth or fifth largest spending committment we have.  That would be true even if the government actually spent less than the companies, because it would be politically extremely difficult to raise the revenue to pay for all the new subsidies, and just as politically difficult to alter the subsidies.