Life Cycle Responses to Medicare

Abstract

Medicare provides subsidized health insurance access to U.S. elders whose responses to the program have been the subject of most research. Yet, changes in relative prices, net worth, as well as in exposure to morbidity and mortality risks induced by Medicare should also affect younger agents through a backward induction argument. We compute and simulate the optimal life cycle responses of consumption, leisure and health expenditures, under various insurance statuses, in a setting where health is a durable good that lowers both morbidity and mortality risks. We find that Medicare and private insurance are close substitutes, and that most effects of Medicare stem from coverage of otherwise uninsured elders, rather than financial net worth. Most of pre-entitlement effects of Medicare occur around middle age, when health issues become more important, and concern financial, more than health variables. We document a greater inter-temporal substitution of leisure which falls prior to Medicare entitlement and increases afterwards. Pre-entitlement wealth is also lower and motivated by less pressing precautionary savings.