While many complain about the continuing rise of health care costs which far exceeds the overall rate of inflation, in a New York Times op-ed piece Marginal Revolution blogger and economist Tyler Cowen argues high US health care costs accelerate the rate of medical research and development and saves many lives in the longer run.

But the American health care system may be performing better than it seems at first glance. When it comes to medical innovation, the United States is the world leader. In the last 10 years, for instance, 12 Nobel Prizes in medicine have gone to American-born scientists working in the United States, 3 have gone to foreign-born scientists working in the United States, and just 7 have gone to researchers outside the country.

Tyler says European-style government cost controls would save money in the short run but slow innovation and therefore shorten lives and cost more in the long run. I agree.

Europeans fund a small fraction of the medical research that Americans fund.

In real terms, spending on American biomedical research has doubled since 1994. By 2003, spending was up to $94.3 billion (there is no comparable number for Europe), with 57 percent of that coming from private industry. The National Institutes of Health’s current annual research budget is $28 billion, All European Union governments, in contrast, spent $3.7 billion in 2000, and since that time, Europe has not narrowed the research and development gap. America spends more on research and development over all and on drugs in particular, even though the United States has a smaller population than the core European Union countries. From 1989 to 2002, four times as much money was invested in private biotechnology companies in America than in Europe.

Dr. Thomas Boehm of Jerini, a biomedical research company in Berlin, titled his article in The Journal of Medical Marketing in 2005 “How Can We Explain the American Dominance in Biomedical Research and Development?” (ostina.org/downloads/pdfs/bridgesvol7_BoehmArticle.pdf) Dr. Boehm argues that the research environment in the United States, compared with Europe, is wealthier, more competitive, more meritocratic and more tolerant of waste and chaos. He argues that these features lead to more medical discoveries. About 400,000 European researchers are living in the United States, usually for superior financial compensation and research facilities.

Americans do not live longer than people in other countries in part because the innovations that get funded in America get used around the world. In Canada and some European countries drugs are sold for lower prices than in the US. So drug companies make most of their profits and therefore get most of their revenue to fund research by selling products in the United States. Effectively the United States is subsidizing medical research for the rest of the world.

What I'd like to see: Policies should be aimed at automating the delivery of care. The large armies of nurses, technicians, office workers, and other deliverers of health care rarely innovate. Automation of their work would increase the rate of innovation by freeing up money and labor to do more research and development.

The problem we have is that the high price of medical care funds both innovation and waste. The number of dollars that goes to innovation is relatively small as compared to the dollars that go to delivering care using existing technology with lots of labor. High prices of drugs provide an incentive for drug companies to develop new drugs and other better treatments. But high costs for labor do not provide as much of an equivalent incentive to innovate to improve medical industry labor productivity. The demand for medical care is too inelastic due to the ways medical care is paid for.

I'd like to see much larger budgets for government-funded medical research. Currently the US federal and state governments are increasing their medical care spending faster than the rate of inflation while increasing medical research spending is growing more slowly than the rate of inflation (one of the unappreciated costs of the very expensive Iraq war btw). 18 out of 19 NIH institutes were proposed for budget cuts for fiscal year 2007. Note that if their budgets were maintained at the same level of nominal dollars they'd get cut about 3% due to inflation. This is exactly the wrong direction. The $2 billion per week burn rate of the Iraq war would more than quadruple federal research spending if the war was ended and the money shifted to research. That would save many lives.

Government funded research spending is a small fraction of government funded health care. Medicaid alone was projected at $338 billion in costs for 2006. Add in Medicare which is projected to be $450 billion in fiscal year 2007 and the total cost of just those two health programs (i.e. not including costs of federal employee health insurance, VA hospitals, etc) is about $800 billion. That's about 27 times the amount spent on federally funded medical research and the ratio is rising.

Medicare costs are projected to grow at 9% per year while government medical research funding declines.

Right now, one of the reasons why we have a long-term fiscal problem is that health care costs, themselves, are projected to grow way above the rate of inflation. We're projecting Medicare costs will grow out over the course of the budget window about 9 percent per year.

This points to a problem in Tyler's analysis: Yes, huge medical funding has accelerated medical research, past tense. But the costs are getting so huge that cost controls are getting placed on medical expenditures and those cost controls will cut into the profits for new drugs and treatments far more than they cut into care delivered with existing technology. At the same time, government funding of research is dropping. We are therefore at risk of a gradual decrease in both public and private funding of medical research and development.

Seems to me we need policies that will make research and development a rising fraction of total money spent on health care. One idea: Make NIH spending a fixed percentage of Medicare spending. When Medicare spending rises 9% then the far smaller NIH spending should rise as well. How about making NIH spending 10% of Medicare spending?

Another suggestion: How about big prizes for achievements that increase labor productivity in health care? For example, how about a multimillion dollar prize for the first surgical team that removes 10 gall bladders in a record setting time and then another prize for the next time that bests the previous record time? Also, how about multimillion dollar prizes for the first totally robotic surgery for each of several popular types of surgery? $10 million and $20 million dollar prizes are very small potatoes compared to the trillions spent on health care. But the innovations that the prizes would spur would pay back in the tens and hundreds of billions of dollars.