Prefunding Health and Long-term Care Insurance *

Transcription

1 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November Prefunding Health and Long-term Care Insurance * Yasushi Iwamoto Professor, University of Tokyo Tadashi Fukui Associate Professor, Kyoto Sangyo University Abstract Social security costs increased against the aging population and low fertility rate is a major issue to consider. Fukui and Iwamoto (2006) projected health care and long-term care costs through 2100 in order to look into the social security finance problems from a longer-term perspective, which the MHLW projection does not cover. They also estimated lifetime premium and tax contributions by generation to show that the future generations will have to pay fast-increasing contributions if the pay-as-you-go scheme is maintained for the health and long-term care insurance system. Furthermore, the authors provide a simulation for the introduction of funded health and long-term care insurance systems. Fukui and Iwamoto (2006) refrained from simulating a policy to curb social insurance benefits. This paper first analyzes how the 2005 long-term care insurance reform and the 2006 health care system reform affect discussions in Fukui and Iwamoto (2006). A simulation is provided based on updated population projections as released by National Institute of Population and Social Security Research in December 2005 to consider how changes in demographic factors would affect the health and long-term care insurance finances. A difficult problem at the time of the introduction of the funded insurance systems is an increase of premium rates which may have to be levied to accumulate reserves during the transition period. The combination of health and long-term care insurance premiums during a transition to the funded systems was estimated to decline by 2.13 percentage points or 16.8% from 12.7% before the reforms to 10.51%. Although the transition to the funded systems is expected to require an increase in burdens, the reforms are estimated to reduce the increase considerably. A decline in fertility rate estimated in the updated projections should contribute to raise a peak premium rate by 3.12 percentage points under the current balanced-budget scheme for the health and long-term care insurance systems. A premium hike during the transition to the funded systems is estimated to be limited to 1.23 percentage * This article is based on a study first reported in Iryou Kaigo Hoken eno Tsumitate Hoshiki no Donyu, Financial Review, No.87, pp (in Japanese) Iwamoto and Fukui (2007),. We would like to thank participants in Conference on Financial Review No.82 and IPP Seminar (Osaka School of International Public Policy, Osaka University) for useful comments. A part of the research of this paper is also financially supported by Research Center for the Relationship between Market Economy and Non-market Institutions (21st Century COE Program), Program of Gerontological Research (Organization for Interdisciplinary Research, University of Tokyo), and the Grant-in-aid for Scientific Research (B)

2 256 Y. Iwamoto, T. Fukui / Public Policy Review points, indicating the funded systems may absorb some of demographic fluctuation risks. In a comparison of lifetime burden rates under the balanced-budget and funded systems indicated that a decline in burdens on future generations through the transition to the funded systems, the difference may be greater under the latest population projections. We considered three alternatives for prefunding accounts individual savings accounts, program-by-program group savings accounts and a single savings account which would cover all programs. Since the objective of the policy is to secure equal access to health care and long-term care services, the system must include an income redistribution mechanism to realize compulsory participation and flat benefits. It is difficult for individual or group accounts to provide such income redistribution. If funded individual accounts are adopted, it may be difficult to change premiums in line with future projection revisions. The creation of a single savings account for a new system to integrate all existing health insurance programs may require high transition costs. A conceivable reform with less costs is created as a financial adjustment account as proposed in Iwamoto (1996). The account may be designed to perform both risk management and prefunding. I. Introduction Social security costs increased against the aging population and low fertility rate is a major issue to consider. The successive social insurance system reforms the 2004 pension reform, the 2005 long-term care insurance reform and the 2006 health care system reform were designed to reduce future social security benefits. Table 1 indicates Future Prospect of Social Security Expenditure and Contributions (Shakai-hoshou no Kyufu to Futan no Mitooshi) as released by the Ministry of Health, Labor and Welfare (MHLW) in May 2004 and May The 2004 projection estimated pension benefits as a percentage of national income to remain in a range of 12-13%. This reflected the 2004 pension reform to curb future pension benefits. In contrast, the projection estimated health care benefits as a percentage of national income to rise from 7.1% in 2004 to 11.2% in Long-term care benefits were estimated to rise from 1.4% in 2004 to 3.6% in 2025.

3 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November Table 1: Projections of Social Security Benefits Projection in May 2006 Social Security Benefits (24.2) (25.3) (27.4) (30.0) Pension (12.6) (12.9) (13.8) (13.8) Health care (7.6) (8.0) (8.7) (10.3) Welfare and others (4.1) (4.5) (4.9) (5.8) Long-term care (1.8) (2.3) (2.7) (3.7) Projection in May 2004 Social Security Benefits Pension Health care Welfare and others Long-term care Source: "Future Prospect of Social Secuirty Expenditure and Contributions" (Shakai-hoshou no Kyufu to Futan no Mitooshi) released by the Ministry of Health, Labor and Welfare (MHLW) in May 2004 and May Note: Figures are percentages of the national income at facor costs. Figures of Projection in May 2006 are based on average economic premises (Case A). Figures in parentheses represent the hypothetical values on the assumption that a series of social security system reforms were not enforced which are released in the 2006 projection.

4 258 Y. Iwamoto, T. Fukui / Public Policy Review Fukui and Iwamoto (2006) projected health care and long-term care costs through 2100 in order to look into the social security finance problem from a longer-term perspective. Their projection indicates health care and long-term care costs will continue to increase in a period that the MHLW projection does not cover. Other contributions of the Fukui and Iwamoto (2006) projection include the following. First, their projection took into account an alternative scenario to consider the reasonability of assumptions for the MHLW projection. They also estimated the lifetime premium and tax contributions for each generation to show that the future generations will have to pay fast-increasing contributions if the pay-as-you-go scheme is maintained for the health and long-term care insurance system. Finally, a simulation is provided for the introduction of funded health and long-term care insurance systems. Fukui and Iwamoto (2006) explains based on the assumptions for the MHLW projection as released in May It was followed by that the long-term care and health care system reforms were implemented to curb the future health care and long-term care costs. The new MHLW projection as released in May 2006 covered the effects of these reforms. Projected health care benefits as a ratio of national income for 2025 declined by about 20% from 11.2% in the 2004 to 8.8% in the 2006 projections. Similarly, the projected long-term care benefits for 2025 fell by about 15% from 3.6% to 3.1%. Fukui and Iwamoto (2006) refrained from simulating any policy to curb social insurance benefits because the absence of definite policy assumptions could make any simulation a simple desk calculation leading to cost curbs and budgetary effects. However, an analysis of these reforms effects on the introduction of funded health and long-term care insurance systems was found to be meaningful since the recent reforms have been taken into account the government projection. Therefore, we first analyze how the series of health and long-term care insurance reforms affect discussions in Fukui and Iwamoto (2006). The Fukui and Iwamoto (2006) simulation applied "Population Projections for Japan: " released by the National Institute of Population and Social Security Research in January However, new projections as published in December 2006 revised the total fertility rate forecast downward, predicting a faster-than-earlier-projected decline in young and overall population. The "Direction and Strategy for the Japanese Economy", as adopted in January 2007, projected higher nominal economic growth. In line with these updated predictions, the MHLW released a future pension finance projection. The analysis of financial conditions for funded health care and long-term care systems under the updated demographic and economic assumptions is the second challenge of this paper. This paper is organized as follows. Section 2 describes how Fukui and Iwamoto (2006) projected health care and long-term care benefits. The section then presents policy simulations based on the MHLW 2004 projection and the new economic assumptions. A comparison of simulation results based on the older projection and the updates after the institutional reforms may specify the effects of the reforms. Section 3 looks into the impacts that some reforms would exert on health care and long-term care benefits first. Then, it analyzes the impacts that these reforms would exert on the funded health and long-time care insurance. Section 4 presents a policy simulation based on the updated demographic projection and economic assumptions. Section 5 discusses key points for designing specific funded health and long-term care insurance systems. Section 6 summarizes the conclusion of this paper.

5 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November II. Projection of Future Health Care and Long-term Care Costs The following are four types of simulations: (1) The first simulation adopts the same approach as that of Fukui and Iwamoto (2006), projecting future health care and long-term care costs in line with the MHLW 2004 projection. Data are updated from Fukui and Iwamoto (2006) to adopt the FY 2005 data as the starting point. Therefore, numerical values given here are somewhat different from Fukui and Iwamoto (2006). (2) The second simulation projects future health care and long-term care costs in line with the MHLW 2006 projection that took into account the 2005 long-term care insurance system reform and the 2006 health care system reform. A comparison of the first and second simulation results can indicate the effects of these institutional reforms. (3) The third simulation is based on the updated population projections as released in The above two simulations are based on the labor force participation rates by age group in the 2000 National Census and the January 2002 population projections. A comparison of the second and third simulation results indicates the effects of changes in population projections. (4) The fourth simulation is based on wage growth and interest rate assumptions updated by the MHLW s Impacts of Population and Other Changes on Pension Finance (tentative estimation) published in February Other assumptions are the same as the third simulation. A comparison of the third and fourth simulation results indicates the effects of the recent changes in government economic perspectives. II.1. Projection Methodology in Fukui and Iwamoto (2006) This section describes the methodology of projection of health care and long-term care costs in line with the MHLW 2004 projection. (1) Health Care Costs The almost-biyearly MHLW Projections have assumed different inflation rates each to each. Therefore, projected nominal values shows a significant difference among the projections, while social security benefits as percentages of national income have not differed much. This indicates that growth in real health care costs is more stable than that in terms of nominal costs. The reasons are follows. Future health care costs are projected by extrapolating the latest actual values of nominal health care costs. This means that assumptions of nominal health care cost growth rates are not related to those of inflation and economic growth rates. For example, the MHLW 2004 and 2006 projections assumed growth in per capita nominal health care costs at 2.1% for people aged 69 or younger and at 3.2% for those aged 70 or older. These growth rates represent average growth between 1995 and The extrapolation of nominal health care costs 1 The MHLW has occasionally released health care cost growth rate estimates in which the impact of aging is excluded. These estimates indicate that growth in per capita health care costs had remained slower than that in per capita GDP before becoming faster in the 1990s.

6 260 Y. Iwamoto, T. Fukui / Public Policy Review without taking into account the effects of inflation could be problematic from the viewpoint of economic theory. Economists generally make projections based on real values. Following a methodology established by existing studies, Fukui and Iwamoto (2006) projected future real health care costs based on real economic growth excluding inflation. Per capita health care costs by age group (see Table 2), as given in the FY 2004 National Medical Expenditure (by the MHLW), were used as a starting point data for the projection. Being used as demographic data was a medium-variant projection in Population Projections for Japan" released by the National Institute of Population and Social Security Research in January Table 2: Per Capita Costs by Age Group (FY 2005) Age Group Health care Long-term care , , , , , , , , ,790 6,000 (40-64) , , , , ,653 43, ,292 97, ,823 (75-) 203, , , ,286, ,799,488 Note: The table presents the sum of benefits from insurers and out-of-pocket payments from patients for each age group. Health care costs by age group are calculated by prorortionally adjusting the categorized health care costs reported in FY2004 National Medical Expenditure (MHLW) so that the national aggregate of them matches the medical expenditure reported in FY2005 MEDIAS. National Medical Expenditure categraizes those who are 75 years old and above as one age group. Long-term care costs are calculated by multiplying the actual costs in September 2005 reported in "Monthly Reports of Long-Term Care Benefits" (Kaigo Kyufu-hi Jittai Chosa) (MHLW) by 12. Those who 40 years old and over have beneficiary right of Long-term care. The Reports categorizes years old as one age group. 2 Fukui and Iwamoto (2006) provided a sensitivity analysis on health care and long-term care benefit cost, labor supply and interest rate assumptions. This paper introduces only the scenarios where health care and long-term care benefits, and labor supply assumptions are close to the government estimates.

7 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November Although the latest available data by age group is for FY 2004, Fukui and Iwamoto (2006) which set the starting point at FY 2005 for the simulation. Therefore, health care costs by age group must be standardized based on the FY 2005 income level. First, per capita health care costs by age group were proportionally adjusted so that the national aggregate of the costs matches the figure reported in the Medical Information Analysis System (MEDIAS) (Actuarial Research Division, Health Insurance Bureau, MHLW). The national aggregate of the health care costs was calculated as the product of population and per capita costs by age group. Similarly, the rescaled age-cost profile was used to project future health care costs. For an analysis of benefits, the overall medical expenditure must be divided into benefits from the social insurance and out-of-pocket payment (co-payment) of patients. MEDIAS does not provide such division. Therefore, Fukui and Iwamoto (2006) used categorized health care costs in the National Medical Expenditure (Kokumin Iryohi) to exclude co-payments from the medical expenditure 3. Then, Fukui and Iwamoto (2006) allocated social insurance benefits across age groups, assuming that the statutory co-payment rate in FY 2005 would be maintained 4. The above discussions have not taken into account real health care cost growth. But it is easy to include assumptions on real health care cost growth into the above methodology. If health care cost growth is the same as income growth, health care costs as a percentage of income may not change. As discussed later, we did not base our projection on the assumed health care cost and income growth rates but on its gap. (2) Long-term Care Costs As Table 1 indicates, the MHLW 2004 projection predicts long-term care costs as a percentage of national income in FY 2025 to increase 2.7-fold from FY This means that long-term care costs are projected to increase faster than health care costs. Although details of assumptions for this projection have not been published, the assumed rate of growth in per capita long-term care costs can be suspected as it would be higher than the assumed wage growth rate. The long-term care finance has been reviewed every three years. Prior to the first review in FY 2003, the MHLW provided the Projection of Demand for Long-term Care (Kaigo Sahbisuryou tou no Mitooshi, June 2002), estimating the demand for long-term care services to continue expanding over five years from FY For example, the demand for home-visit services was projected to increase 39.3% from 142,194 visits in FY 2003 to 198,033 visits in FY This projection did not provide any estimated aggregate of long-term care costs. Fukui and Iwamoto (2006) calculated the sum of actual long-term care services weighted by their actual costs to estimate the aggregate 3 The National Medical Expenditure (NME) lags one year behind MEDIAS in terms of the release of data. We estimated the FY 2004 NME costs by multiplying the growth rate of a comparable MEDIAS variable from FY 2003 to 2004 by the FY 2003 NME data. Since out-of-pocket payments for the NME also include payments for medical treatments that are not covered by the social security programs, we identified the out-of-pocket payments (co-payment) as the difference between the overall medical expenditure and the benefits from social insurance. 4 Since April 2003, the out-of-pocket cost rate in principle has been set at 20% for patients aged 2 years or younger, at 30% for those aged between 3 and 69 and at 10% for those aged 70 or older (20% for those with income above a certain level). Health care costs from the NME and estimates based on the statutory co-payment rate are slightly more than health care benefits as estimated for FY This is attributable to medical treatment costs which the social security benefits do not cover, as well as the high-cost medical care benefit system. 5 The Projection of Demand for Long-term Care estimated the number of people certified as a subject to long-term care in FY 2003 at 3,279,000 against the actual number of 2,983,000 at the end of the year.

8 262 Y. Iwamoto, T. Fukui / Public Policy Review long-term care costs. As a result, the total long-term care costs were estimated to increase 26.4% from FY 2003 to FY Fukui and Iwamoto (2006) projected the future long-term care benefits by adopting a methodology similar to that used for projecting health care benefits 6. When this paper was written, the latest available data for annual costs by age group were for FY Then, long-term care costs by age group in September 2005, as specified in the Long-term Care Benefits Survey (Kaigo Kyufuhi Jittai Chousa) by the MHLW, were multiplied by 12 to estimate annual long-term care costs 7. Fukui and Iwamoto (2006) projected three different scenarios of long-term care costs and decomposed the total long-term care costs into co-payments of users and benefits from social insurance by assuming that the ratio of co-payments to the total long-term care costs in FY 2002 (8.99% 8 )would be sustained in the future. Our projection of future long-term care costs is based on a scenario that per capita long-term care costs by age group would increase 1.2% faster than wages. This projection provides values close to long-term care costs as a percentage of income in the MHLW 2004 projection. (3) Economic Assumptions Economic assumptions for Fukui and Iwamoto (2006) were as follows: Following discussions in Iwamoto (2004), the rate of growth in real national income was assumed equal to the sum of wage and labor force growth rates. This framework can be justified in the following situation: A production function is homogeneous of degree one with labor K and capital L. This function witnesses a labor-augmenting technological progress. It is represented as: Y F, ( K AL) =, (1) Here, Y and A represent output and efficiency, respectively. Equation (1) is differentiated with respect to time yields: Y& Y F K K& K Y K A& L& + A L A& L& + A L =. (2) When the growth rates of capital and the efficiency unit of labor are equal, the first term in the right-hand side of Equation (2) becomes zero. The economic growth rate then equals the sum of the labor-augmenting technological change growth rate (the wage growth rate) and the labor input growth rate. The MHLW 2006 projection assumes the growth rate of labor input at -0.2% until FY 2008, -3% in FY 2009, 6 Earlier studies projecting future long-term care costs include Mitchell, Pigott and Shimizutani (2004), Shimizutani and Noguchi (2004), Suzuki (2002), and Tajika and Kikuchi (2004). 7 The Long-term Care Benefits Survey does not directly report long-term care costs by age group. The available cross tables indicate (a) costs by severity of disability and (b) the number of beneficiaries by severity of disability and age group. Assuming that the long-term care costs by severity of disability would be the same across all age groups, Fukui and Iwamoto (2006) estimated the total costs by age group by using these two cross tables. 8 This percentage is slightly less than the statutory co-payment rate (10%) because there are some measures to lighten the burden of out-of-pocket expenses.

9 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November % in FY 2010, 0% in FY 2011 and -0.5% in and after FY The labor force is assumed to decline 7.24% from FY 2004 to million in FY The assumption of labor force are based on a detailed projection of the labor force titled Forecast of Labor Force Participation Rates (Rodoryokuritsu no Mitooshi), which was released by the MHLW Employment Security Bureau in May This projection assumes labor force participation rates to increase for the elderly and women in the future. However, the labor force in FY 2025 is calculated at million, slightly more than predicted in the MHLW 2004 projection based on the product of the labor force participation rates as reported by the Employment Security Bureau and population by age group in the "Population Projections for Japan (medium-variant projection). The starting point of the Forecast of Labor Force Participation Rates was 2000 when the total labor force was million. Due to the decline in the labor force to million in 2004, the MHLW 2004 projection starts with the smaller number at the initial level with a similar growth rate adopted, thus estimating a smaller labor force in the future. We may interpret that the MHLW projections regard the labor force as labor input into the production function. Since the labor efficiency may vary from age to age, the labor force and labor input may show different patterns of changes. An efficiency unit of labor implied by the two MHLW projections was estimated under the assumption that efficiency is directly proportional to wages. The age-wage profile by age group and sex was collected from the published cross-tables of the 2005 Basic Survey on Wages Structure (Chingin Kozo Kihon Chosa, MHLW). For each age group, the efficiency unit of labor input is calculated as the product of the total wage per worker and the projected labor force. As the aggregated efficiency unit of labor in 2005 was rescaled, it equaled the total labor force in that year. II.2. Policy Simulation Methodology Section 2.2 describes the methodology for simulation of the policies for introducing the funding scheme for the health and long-term care insurance. Both health care and long-term care costs will increase substantially with the aging of population 9. In the policy simulation, we pay attention to how the funded scheme could change the intergenerational imbalance of burdens that has resulted from the present pay-as-you-go scheme. While an analysis on public pension plans must cover the problem of benefit inequality, the one for health and long-term care insurance does not necessarily have to deal with the problem. Since health care and long-term care services are required for sick or disabled people regardless of generations, any intergenerational imbalance in consumption of such services is not the issue to consider. Therefore, we focus on the burden of the health care and long-term care costs. Our analysis updates the Fukui and Iwamoto (2006) methodology in the following way. First, data for determining initial values for the simulation are updated for this paper, as compiled in Table 3. 9 Many studies have been conducted in Japan regarding the introduction of the funding scheme for public pension plans. However, the number of studies on the introduction of the scheme for health care and long-term care insurance were limited, including Nishimura (1997) and Suzuki (2000) for health care insurance and Fukui and Iwamoto (2006) for long-term care insurance.

10 264 Y. Iwamoto, T. Fukui / Public Policy Review Table 3: Initial Values for the Simulation Fukui and Iwamoto This Paper Economic Growth rate "Structual Reform and Medium-Term Economic and Fiscal Perspectives -FY2004 Revision" (January 2005) Referencial Calculation attaching to "Derection and Strategy for Japanese Economy" (Janurary 2007) Assumtions on Social Security Benefits "Projection of Social Security Benefits and Contributions" "Projection of Social Security Benefits and Contributions" (May 2004) (May 2006) GDP Quarterly Estimates of GDP Jan.-Mar (The First Preliminary) Annual Report on National Accounts of 2007 (All Data of National Accounts for FY2005) National Medical Expenditure FY2002 FY2004 MEDIAS FY2003 FY2005 Long-term care costs October 2004 September 2005 An assumption for our simulation is that social insurance premiums and taxes for social insurance benefits are paid from the same income base (covering the compensation of employees and mixed income in terms of national accounts). In order to make it simple, we also assume that these incomes will grow at the same rate as GDP (and labor input) and that there are no administrative costs involved in the implementation of such social insurance programs 10. Until October 2002, only 30% of health care costs for the elderly aged 70 or older had been financed with government subsidies. The eligible age and the share for government subsidies had been gradually raised until October 2007, when 50% of health care costs for people aged 75 or older were covered with the government subsidies. The government subsidies also cover 50% of long-term care benefits, 50% of benefits for the National Health Insurance scheme (Kokuho) and 13% of the Government-Managed Health Insurance for Employees (Seikan Kenpo). The simulation starts from FY 2005 and covers the period through FY 2100, which the population projection by the National Institute of Population and Social Security Research is available. We consider the following two policy scenarios: 10 The business cost in the statement of settlements for the welfare insurance special account is divided into two components one for health care benefits and the other for pension benefits and transfers to the national pension special account. The former is assumed as the administrative cost for government-managed health insurance. Then, the administrative cost for government-managed health insurance in FY 2005 is estimated at about 0.4% of health care benefits.

11 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November Policy A: A balanced budget scheme in which benefits in each year are financed by taxes and insurance premiums for the year (pay-as-you-go scheme) Policy B: A scheme to prefund future health care and long-term care costs for the elderly to reduce the intergenerational inequality (details will be described in Section 2.4). The results of the baseline simulation covering no institutional reform are compared with those in Fukui and Iwamoto (2006) below. The comparison indicates the effects that annual social security and economic environment changes exert on the simulation. II.3. Balanced Budget Scheme This Section describes the definition of the burden rate before discussing the simulation methodology for Policy A (the balanced budget scheme). This is to define the burden rate as the ratio of burdens (coverage of insurance premiums and government subsidies financed by taxes) to 90% of the sum of the compensation of employees and mixed income. We adopt 90% of the income base as the denominator in order to produce a value close to the actual premium rate. Fukui and Iwamoto (2006) applied the estimated health insurance premium rate (excluding government subsidies to the Health Services System for the Elderly [Roujin Hoken Seido] and including other government subsidies) for FY 2004 at 8.21%. The actual health insurance premium rate for the enrollees of the Government-Managed Health Insurance for Employees is calculated at 8.2%. Since the enrollees of the Government-Managed Health Insurance for Employees are employed by small companies, their average salary is lower than that for all employees. The government subsidies are designed to make up for the salary gap. Since our simulation does not take into account such salary gaps, we set the burden rate to represent the actual insurance premium rate. As for the long-term care insurance, the estimated premium rate for FY 2004 is 1.11% matching the actual insurance premium rate for the enrollees of the Government-Managed Health Insurance for Employees. Under the balanced budget scheme, the burdens are equal to social insurance benefits. Therefore, the estimated burden rate is a benefit as the percentage of income. Figure 1 presents the burden rates (including government subsidies covered by taxes) for the health insurance, the long-term care insurance and the total under the above definition. The dotted line indicates values for Fukui and Iwamoto (2006) and the solid line represents values for this paper. The burden rate for the health insurance is projected to reach 19.94% in FY The burden rate for the long-term care insurance is estimated to peak later at 10.97% in Although the paths followed by these two burden rates appear to be parallel to each other, the burden rate for the long-term care insurance is predicted to grow faster than that for the health insurance. This is because the absolute level of the burden rate for the long-term care insurance is lower.

12 266 Y. Iwamoto, T. Fukui / Public Policy Review Figure 2 presents the lifetime burden rate of each generation (the simulation results for the prefunding scheme are described below). The lifetime burdens are the sum of the present discounted values of the burdens during the period between the initial and terminal points of the simulation. The lifetime income is calculated in the same way. To estimate the lifetime income, we adopted the age-wage profile which was used to calculate the labor input in Section 2.1. The interest rate is assumed to be 1 percentage point higher than the wage growth rate. The horizontal axis of Figure 2 represents the birth year of each generation. Since the estimated lifetime burdens do not include the past burdens, the lifetime burden rate is lower for generations that had paid premiums in the past. This does not necessarily indicate any intergenerational inequality. The lifetime burden rates for generations born in and after 1990 are comparable because their lifetime burdens cover all burdens since their employment started. Figure 2 indicates the lifetime burden rate is higher for later generations.

13 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November II.4. Prefunding to Equalize Burdens The increase in burdens on future generations may be circumvented through a transition to a policy that levies constant burdens over time as indicated in Figure 2. As a matter of course, insurance premiums must be set at higher levels to accumulate sufficient funds to cover increasing costs. Suzuki (2000) has analyzed the prefunding procedure. We consider the following policy to introduce the prefunding scheme for Japan s health and long-term care insurance. As for the health insurance, prefunding is designed to cover a premium-financed portion of benefits for the elderly aged 65 or older. Premiums are assumed to be paid by workers at all ages 11. Benefits for those who are aged 64 or younger are assumed to be subject to the balanced budget system. As for the long-term care insurance, prefunding is designed to cover a premium-financed portion of benefits, with government subsidies being financed by the balanced budget system. As under the present system, workers aged 40 or older are assumed to pay long-term care insurance premiums. The setting of the interest rate is a key factor that could greatly affect the management of a prefunding scheme. When we focus on the ratio of burdens to income, a gap between the interest rate and the wage growth rate is more crucial than the absolute level of the interest rate. The MHLW projection of public pension finance in May 2006 assumed the nominal interest rate at 3.2% and the nominal wage growth rate at 2.1%. We assume the gap between the interest rate and the wage growth rate at 1 percentage point 12. We estimate the premium rates under the funded system during the transitional period before the completion of funded system in the following manner. We first calculate the premium rate that is sufficient for the entire cohort born in FY 2001 to finance the expected value of lifetime health care benefits at and after the age of 65. The rate is estimated as 4.96% under the MHLW health care cost projection and the assumed gap between the interest rate and wage growth rate. Next, we estimate the total accumulated funds in FY 2100 for the case where the cohorts born in and after FY 2001 pay the premium at this rate. Under the same assumptions, the accumulated funds would amount to % of GDP. Finally, a premium rate is set at a level for the transition process to allow this amount of funds to be accumulated by the completion of the transition in FY Since the current generations have not prefunded their health care costs, the premium rate of 4.96% is not sufficient to meet the target in FY If the required amount of funds is to be accumulated by FY 2100, the premium rate will have to be set at 8.52% for the transition process. If health care costs (excluding government subsidies) are financed by a pay-as-you-go scheme in FY 2004, the premium rate will be 4.32% for individuals aged 64 or younger and 3.89% for those aged 65 or older. The premium rate for the elderly will rise to 8.53% during the transition process until FY 2100 and shrink to 4.96% under the 11 Since people aged 15 or older are subject to labor force participation data, workers aged 15 or older are assumed to pay premiums in the simulation. 12 The simulation by Feldstein and Samwick (1997) for the introduction of a prefunded social security system in the United States assumed the real interest rate at 9%, considerably higher than ours. It was followed by Feldstein and Samwick (1998) lowered the rate to 5.5%, which was still higher than ours. Following are the reasons for the difference. First, Feldstein and Samwick (1997) based the interest rate on the rate of return on risk assets, while we are based on the rate of return on risk-free assets. We believe that the investment strategies pertaining to the funded health care and long-term care insurance should be conservative because the insurance aims to finance health care and long-term care services that cannot be easily substituted. Second, our simulation process does not incorporate the general equilibrium effect, in which an accumulated social insurance fund tends to lower the interest rate of a large open economy. We therefore attempt to infer the consequences of this effect by looking at a particular case in which the interest rate is maintained at a low level from the beginning. Third, given the recent poor performance of Japanese assets prices, a high rate of return does not appear plausible.

14 268 Y. Iwamoto, T. Fukui / Public Policy Review complete funded system after FY We also estimated the premium rates of long-term care insurance in the similar way. Table 4 compares the burden rates estimated for Policies A and B with those estimated in Fukui and Iwamoto (2006). We have estimated the total burden rate for FY 2004 at 12.51%, higher than 12.01% as estimated by Fukui and Iwamoto (2006). Other estimated variables for this paper are generally larger than that said in the previous paper. This is mainly because we used GDP data that have been lowered somewhat through the benchmark revision of National Accounts. Since our simulation aims to consider changes in the burden rate after the commencement of the reform, the benchmark year revision of GDP to change all estimates proportionally may not essentially affect our conclusion. The lifetime burden rates by the birth years are given in Figure 2. The burden rates for all generations are almost uniformly higher than the Fukui and Iwamoto (2006) values indicated by the dotted line. The burden rate for the prefunding scheme rises slightly slower than that for the balanced-budget scheme, indicating that the prefunding scheme is effective to reduce the intergenerational inequality in burdens. The lifetime burden rate may fluctuate despite the constant premium rate for the prefunding scheme because the tax burden changes year by year. Table 4: Contribution Rates under Two Schemes Note: Figures are percentages of income (90 percent of the sum of compensation of employees and mixed income). We assume the gap between the interest rate and the wage growth rate at 1 percentage point. Other parameters are based on the MHLW 2006 projection. 13 Fukui and Iwamoto (2006) discussed a comparison of the results with those from Suzuki (2000) adopting a similar transition process.

15 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November III. Effects of Social Security System Reforms Section 3 analyzes how the recent long-term care and health care system reforms have curbed social security benefits. For the reforms whose quantitative effects are released by the MHLW, our simulation is based on the published data as much as possible. For some reasons for simulation, however, our estimates do not necessarily meet published data 14. Section 3.1 looks into the effects of the series of reforms on health care and long-term care benefits by age group. Section 3.2 analyzes the effects that the series of reforms would exert on the finance of the funded health and long-term care insurance. III.1. Effects on Health Care and Long-term Care Benefits by Age Group Figure 3 indicates health care benefits (100% before the reform) by age group after each reform. If effects are projected to emerge gradually over several years, a decline after the emergence of all the effects is indicated. 14 For details of the methodology to estimate quantitative effects of each reform, see a supplement information to Iwamoto and Fukui (2007).

16 270 Y. Iwamoto, T. Fukui / Public Policy Review Since the effects of the medical fee revision are assumed to uniformly affect all age groups, the April 2006 revision is estimated to reduce benefits by 3.2% uniformly. If the demand is price elastic, health care service consumption is expected to increase in response to a price drop. However, our projection does not take this effect into account. The hike in the co-payment rate for the elderly is projected to reduce benefits by 11.1% for the age group of 70 to 74. The reform to exclude meal and residence costs from the coverage by benefits is estimated to cut benefits for the elderly by nearly 1%. As hospitalized patients for sanatorium-type wards are assumed to be distributed across all the age groups, the realignment of sanatorium-type wards is projected to affect all age groups. Among all the reforms, the realignment has the largest effect. This reform is projected to cut benefits by 5% or older for most of age groups. The cut of some 8% is projected for those aged 75 or older. Since patients in sanatorium-type wards are supposed to receive services subject to long-term care benefits after the realignment, this reform is expected to expand long-term care benefits, as described later. We assume the prevention of lifestyle diseases to reduce health care costs for the elderly aged 65 or older proportionately 15. Under this assumption, the lifestyle disease prevention is projected to reduce benefits by more than 5%. A cut in the co-payment rate for infants, which is not indicated in Figure 3, is expected to expand benefits by around 10% for the group aged 10 or younger. The combination of all the reforms is projected to cut benefits by 25% for the age group of 70 to 74 affected by the curb on elderly health care costs and the hike in the co-payment rate, by 15% for other elderly people and by nearly 10% for younger groups. Since average health care costs vary between age groups, the same rate of change in benefits can bring about different amounts of changes. Figure 4 indicates the combination of all health care cost changes caused by all the reforms. Benefits for individuals aged 70 or older are projected to decline by some 150,000 yen in FY 2005 prices. A decline for the age group of 10 to 49 would be limited to less than 10,000 yen. 15 If the effects of the lifestyle disease prevention are to be projected more strictly, disease incidence differences between age groups will have to be taken into account.

17 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November Figure 5 indicates rates of changes in long-term care benefits caused by the reforms. Since the long-term care fee revision is assumed to affect all the age groups, the April 2006 revision is projected to reduce benefits by 0.5%. The realignment of sanatorium-type wards is expected to expand long-care benefits. Preventive care services are assumed to affect all the age groups. Therefore, preventive care services are projected to reduce benefits by about 17%. The rate of benefit cost changes caused by all the reforms is projected at around 15%. Health care and long-term care costs for latter-stage elderly people tend to be higher than that for other age groups. The tendency is higher for long-term care costs. A change in long-term care benefits under the reforms would be greater for latter-stage elderly people. Figure 6 indicates amounts of changes in long-term care costs by age group. The combination of all the reforms is projected to bring about larger cuts in long-term care benefits for older people. Benefits are estimated to decline by some 300,000 yen (in FY 2005 prices) annually for elderly people aged 90 or older.

18 272 Y. Iwamoto, T. Fukui / Public Policy Review III.2. Effects on Social Security Finance Let s turn to the effects of these institutional reforms on the health and long-term care insurance finance. The solid line in Figure 7 indicates the changes in annual premiums under the pay-as-you-go scheme, while the dotted line represents the pre-reform premium rates (the same as represented by the solid line in Figure 1). This figure indicates how institutional reforms contributed to reduce health and long-term care insurance premium rates. It is interesting that the total premium rate is projected to level off over the first 10 years when effects of health care reforms emerge. The rate is projected to turn up later, though it is standing below the pre-reform level. The solid line in Figure 8 indicates the rate of tax burdens to finance government subsidies related to the benefits. The dotted line represents the tax rate before the reforms. The series of reforms should lower the tax burden. However, the growing trend of the tax rate will remain unchanged. In the first ten years when the premium rate will level off, the government subsidies tend to increase to help cover health care benefits. While government subsidies for health care benefits are projected to increase along with that for long-term care benefits, their gaps are estimated to narrow gradually. This means that long-term care benefits would account for a growing share of the government subsidies.

19 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November Some reforms such as preventive care might fail to indicate any substantial effect on health care and long-term care costs. Nevertheless, any measures to bring about some reductions in social security benefits may affect discussions on how to design future social insurance systems. Here, we would like to consider the feasibility of funded health and long-term care insurance systems for the cases which the series of institutional reforms are taken into account. Table 5 indicates how the premium rate under the funding scheme will decline on each reform. Table 5 finds that the premium rate will be curbed during the transition process as institutional reforms restrict benefits. After all the institutional reforms are implemented, the premium rate during the transition process will be 7.09% for the health insurance system and 3.49% for the long-term care insurance system. Without these reforms, the premium rate will be 8.58% for the health insurance and 4.13% for the long-term care insurance. The combination of effects of all the reforms will lower the premium rate by 2.13 percentage points or 16.8%. Burdens may increase even if the reforms are implemented. However, the series of reforms are expected to curb burden growth considerably. Table 5: Effects of a Series of Reforms on the Premium Rate under the Prefunding Scheme Health care insurance Before the reforms (1)Revision of medical fees (3)Raising co-payment rate for the elderly (5)Excluding meal and residence costs from insurance coverage (6)Realignment of sanatorium-type wards (7)Prevension against lifestyle deseases After all reforms Long-term care insurance Before the reforms (2)Revison of long-term care fees (6)Realignmnet of sanatorium-type wards (8)Prevention against long-term care After all reforms

20 274 Y. Iwamoto, T. Fukui / Public Policy Review The solid line in Figure 9 indicates the lifetime burden rate after the institutional reforms, while the dotted line represents the rate before the reforms. The lifetime burden rates under the pay-as-you-go and prefunding schemes are projected to shift downward in parallel with institutional reforms. Therefore, the findings given in Fukui and Iwamoto (2006) and discussed again in Section 2.4 of this paper may remain even after the institutional reforms. In almost the same generation, the relationship between the lifetime burden rates under the two schemes would be reversed.

21 Policy Research Institute, Ministry of Finance, Japan, Public Policy Review, Vol.5, No.2, November IV. IV.1. Simulation under Updated Population Projections and Economic Perspectives Effects of Updated Population Projections Based on the updated population projections as released in December 2005 and the labor force data in the 2005 National Census, Section 4 considers how changes in demographic factors would affect the results of Fukui and Iwamoto (2006). The updated population projections assume a fall in the birthrate, which would be faster than the previous projections, indicating a larger population share for elderly people who have great effects on the social security finance under the pay-as-you-go scheme. Therefore, the peak of the burden rate under the pay-as-you-go scheme will rise to bring about a wider intergenerational inequality in burdens than indicated by the estimation based on the previous population projections. It is expected to boost the need for a switch to the funded scheme that would be less vulnerable to population fluctuations than the present pay-as-you-go system. Based on the 2005 National Census, the new projections include a main population projection through 2055 and a reference projection through The previous projections classified population for each age up to 99, and 100 years or older. However, the new ones classify population for each age up to 104, and 105 years or older. The Section 4 simulation is based on the new projection period and the age classification. It adopts the medium-fertility (medium-mortality) projection among the new projections. For this simulation, future labor force estimates are also updated. The 2005 National Census has been used to calculate the labor force participation rate for each age and the rates have been adjusted proportionally for each age group to meet the average FY 2005 labor force by age group according to the Labor Force Survey. The future labor force estimates have been updated according to the labor force participation rates by age group as published by the MHLW Employment Security Bureau in July Based on the updated population and labor force projections, we have simulated the health and long-term care insurance finance for the two schemes. Figure 10 compares annual premium rates for the pay-as-you-go scheme. The solid line indicates estimates under the updated population projections and the dotted line represents the estimates in Section 3.2. Under the updated population projections, the peak premium rate is 1.57 percentage points higher for the health insurance and 1.5 points higher for the long-term care insurance. The combined premium rate is estimated to increase to 19.85% from 16.73% under the old population projections. A comparison of the results with the Section 2 simulation results indicate that a curb on the premium burden under the pay-as-you-go scheme after institutional reforms has been offset by an increase in the burden resulting from the accelerated aging of population as estimated in the updated population projections. 16 Details of the labor force projection are provided in Labor Force Supply/Demand Estimates: Estimation with Labor Force Supply/Demand Model (2004), Japan Institute for Labor Policy and Training Data Series No. 6 (August 2005).