Most Americans don’t realize it, but America’s status as the world’s primary source of medical innovation is heavily government-subsidized. During the healthcare reform debate, many pointed out that America spends over 17% of its GDP on health care, far higher than any other nation, and almost double the average for OECD nations. This high rate of spending on health care has fostered the growth of high technology health care, from pharmaceuticals to biotech, medical devices, imaging equipment and even surgical robots. What would happen if the government were no longer able to spend at such a rate?

Imagine for a moment that America had a purely free-market health care system, with no Medicare, Medicaid, and without tax breaks for health care. The government currently pays for 62% of all health care spending, and without this support, our healthcare system would be much smaller. If a free-market approach to healthcare brought spending down to the OECD average, the US would spend $1.2 Trillion (48%) less on healthcare than it does today [1]. Without Medicare to pay for costly end-of-life care, it’s doubtful that $200,000 per year chemotherapy drugs would find a market, or that anyone would pay full price for replacements on hips implants. In short, a free market health care system would deliver less health care technology to America – though it would still deliver technology that proved itself worthy and affordable to patients.

Of course in the real world government-subsidized innovation isn’t going away – or is it? America’s long term budget problems are driven chiefly by health care spending, as acknowledged by the trustees of Medicare. The Soviet Union eventually went bankrupt by spending 40% of its GDP on defense. The United States is on track to spend 40% of its GDP on healthcare by 2050 [2], with much of that on high tech gadgetry with low marginal benefit, and with virtually all of that money coming from taxpayers. This is obviously not sustainable.

The newly enacted healthcare reform law begins cutting Medicare in earnest, but deeper cuts will be needed to prevent Medicare’s insolvency. These cuts will inevitably mean less spending, and less revenue opportunities for big pharma, biotech, and medical equipment companies. While many other countries already have highly regulated healthcare markets with lower profit margins, pharmaceutical and medical equipment companies have been able to achieve consistent growth by tapping the US market and US taxpayers. Regardless of how healthcare reform plays out, America’s huge and growing debt mean that this situation will come to an end. The golden age of subsidized medical innovation is drawing to a close.

[1] CMS estimates that 2009 health care expenditures were $2.5 Trillion, or 17.3% of GDP. If this were reduced to 8.9%, the OECD average, health care expenditures would be $1.29 Trillion, almost half of what they are today. While we don’t know exactly what US health care spending would be without government subsidies and programs, we do know that government spending and subsidies would drop by roughly $1.3 Trillion ($1.1 Trillion in direct spending plus $200 Billion in subsidies), leaving a number very similar to the OECD average.

[2] See Figure 4 of this CBO Report for long term health care spending projections.