LTC Bullet:  Keynes vs. Hayek on LTC Insurance

Friday, August 15, 2014


LTC Comment:  Neither of these world-class economists ever said word one about LTC insurance.  But I have a pretty good idea what they would say today, after the ***news.***

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LTC Comment:  John Maynard Keynes never won the Nobel Prize, but his interventionist economics have dominated public policy for decades.  Richard Nixon surrendered “we’re all Keynesians now.”

Friedrich Hayek did win a Nobel (1974, shared with Gunnar Myrdal), but he’s the Rodney Dangerfield of economic theorists:  “Can’t get no respect.”

Who cares?  What do dead white men, much less economists, have to do with long-term care financing today?  A lot.  Keynes himself said . . .

The ideas of economists and political philosophers, both when they are right and when they are wrong are more powerful than is commonly understood.  Indeed, the world is ruled by little else.  Practical men, who believe themselves to be quite exempt from any intellectual influences, are usually slaves of some defunct economist.

So let’s take these two paragons of the economics profession seriously and see what they might have to say about long-term care insurance if they were still around today.

But let’s not take them too seriously.  Before you read on, have a look at these two hilarious rap videos pitting Keynes and Hayek in disputatious sing-offs.  They’ll give you everything you need to know to follow the rest of today’s Bullet.

“Fear the Boom and Bust”:

“Fight of the Century:  Keynes vs. Hayek”:

Keynes and Hayek agree that boom/bust business cycles are endemic to modern economies.  But that’s where their agreement ends.

Keynesian Economics

Keynes attributes the business cycle to “animal spirits” and “circular flow.”  Consumers need stuff; they buy it; businesses provide it and prosper.  But over time everyone over-extends, capital backs up in banks creating a “liquidity trap,” investment flags, the economy drags, people hoard money instead of spending.  This “paradox of thrift” starves the economy of capital. 


Encourage spending by consumers and government, discourage savings.  Borrow to spend more.  Run personal and public deficits.  Let debt grow.  Aggregate demand is all that matters because personal consumption is 70 percent of the economy.  Use the central bank to force interest rates as low as possible so that growing personal and public debt is serviceable.  Print any extra money needed to keep the party going. 

Won’t such fiscal and monetary irresponsibility catch up with families and the government sooner or later?  Yeah, but:  “In the long run, we’re all dead,” replies Keynes.

Sound familiar?

Keynesianism dominates the U.S. economy today.  Every time our economy runs into trouble, most recently the and housing bubbles bursting, the response is the same:  borrow and print money to stimulate the economy by putting more cash in the hands of consumers and government.  The Federal Reserve forces interest rates to near-zero creating the illusion that huge and growing debt is manageable.  But all that new money has to go somewhere.  Some of it backs up in banks too scared to loan.  Much, however, finds its way into investments that seem promising because of the phony-money-induced optimism.  Too often those speculations end up as mal-investment that an un-goosed market would never have financed. In time, economic reality sets in, the Fed removes the “punch bowl,” interest rates rise, the party ends, the recession begins, and the cycle starts all over again.

Austrian Economics

Friedrich Hayek and others of the “Austrian School” view the economy and the business cycle very differently.  Human action is purposive, they say.  Consumers respond to incentives.  Artificially low interest rates, not vague animal spirits, cause the business cycle.  Credit expansion creates the boom by making loanable cash more readily available than a free market would allow.  This extra easy money funds economically unjustifiable investments.  The resulting mal-investment causes an economic downturn.  Government fiscal and monetary (Keynesian) policy responds with more easy money, lower interest rates, bailouts, payoffs, and “stimulus” leading to increased spending, decreased saving, and bigger debt.  But such measures are like pushing on a thread.  They only deliver more of the toxic medicine that caused the economic malaise in the first place.


Hayek and the Austrians seek to free markets, not to steer them like Keynes.  Individual consumers, left to their own devices, without the misguided distorting incentives of artificially low interest rates and easy money, will behave responsibly.  They’ll buy what they can afford and save the rest.  Saving is good because it provides investment capital which makes production possible.  Without production generating jobs and incomes, no one has money to spend.  Therefore, supply trumps demand.  Free markets set interest rates by reflecting the preferences of consumers in the millions instead of economic bureaucrats in the thousands.  Everyone is better off without the forced interventions of government’s economic micro-managers.  The boom/bust business cycle is not inevitable.  If we just stop doing what we’ve always done, we’ll get a different result. 

LTC Insurance

So what does all this have to do with long-term care insurance?  Plenty.  Keynesian economics has wrought chaos in the LTCI market.

Keynesian borrow and spend policies have bloated spending on Medicaid long-term care, which, according to economists Brown and Finkelstein, crowds out up to 90% of the LTCI market. 

The Federal Reserve’s Keynesian-inspired near-zero interest rates have devastated the ability of private LTC insurance carriers to obtain returns on their reserves adequate to pay expected future claims.

The same artificially low interest rates prevent LTCI prospects and clients from obtaining enough cash flow from their investments to afford the increased premiums Fed policies have compelled LTCI carriers to charge.

Keynesian public policy has discouraged saving, encouraged spending and left an aging baby-boomer generation bereft of sufficient retirement funds at the very time that public debt and massive unfunded liabilities sow doubt about the social safety net’s viability.

Keynesian-inspired bailouts, payoffs, and buyouts created moral hazard that inspired banks and financial services firms to take crazy risks which led to the Great Recession. 

Likewise, eight decades of government promises regarding Social Security, Medicare and Medicaid have chipped away at aging Americans’ good judgment regarding financial risk and personal responsibility.  Hence their failure to embrace private savings, investment and insurance.

How would Hayek and the Austrians’ approach LTCI differently?

Stop trying to manage the economy.  Let free markets determine interest rates and distribute investment capital.  That will create jobs and raise incomes.  Don’t reward banks and brokers for irresponsible risk-taking by bailing them out.  Don’t reward consumers for failing to save, invest or insure by promising them benefits you cannot hope to deliver.  Stop printing money and forcing interest rates down.  Unleash the LTCI market by targeting Medicaid to the needy and letting everyone else pay for their own care.  Allow higher interest rates to relieve upward pressure on LTCI premiums and to enable consumers to afford coverage.  Escape the boom/bust, binge/hangover business cycle and the free market will take care of the rest.

In a nutshell . . .

What would Keynes say?  Eat, drink and be merry for tomorrow we die.

What would Hayek say?  Save, invest and insure because the long run is here.