Content Editor, Dunham | 2025 ThinkAdvisor Luminary Award Winner | 2026 Wealthies Finalist — Thought Leader of the Year | Macroeconomics, markets, geopolitics & global trends
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Why does healthcare keep getting more expensive? Why does college tuition rise every year no matter what the government spends to fix it? The answer is structural - and it's been hiding in economic theory since 1966. It's called Baumol's Cost Disease. And once you see it, the entire affordability crisis looks different.
Key Takeaways:
The biggest cost increases in America have been in essentials like healthcare, education, housing, and childcare.
Over the past 25 years, those categories have risen much faster than wages and far above the Federal Reserve’s 2% inflation target.
Meanwhile, many consumer goods like TVs, toys, software, and electronics have gotten cheaper because productivity and global competition pushed prices down.
A major reason services keep getting more expensive is Baumol’s Disease: labor-heavy sectors cannot improve productivity the way manufacturing can.
Government subsidies and spending may have helped access in areas like healthcare and college, but they also appear to have pushed more money into supply-constrained sectors, which can drive prices even higher.
AI may be the first real tool with the potential to improve productivity in service sectors at scale, which could eventually help slow or reverse some of these long-term cost pressures.
Why the Affordability Crisis Feels So Different
I've been watching a specific pattern in U.S. economic data for years, and it's one of the most revealing things I've come across.
In fact, it could become far more prominent in political headlines and economic debates as affordability takes center stage.
For context, in the last 25 years, hospital services have risen 281%. College tuition is up 197%. Childcare is up 159%. Housing is up 111%. These are the costs that determine whether a family can actually afford to be middle class.
Now on the other side.
TV prices are down 98%. Toys are down 74%. Software is down 73%. New cars are up just 25% over 25 years.
And when we sit back to dig into this, there are serious implications.
Most political conversations about affordability stop at “life is more expensive, let’s make things more affordable.”
But what if it’s not that simple, and the remedy is actually the poison?
Take a closer look at the above chart.
The sectors suffering the worstinflation are the ones the government pours trillions into helping.
At first glance, it looks like the more the government helps, the worse it gets.
Now is that true? Yes and no.
Some of it is from government spending. But some of it is also from economics.
Thus, as the affordability crisis looks set to deepen, let’s take a closer look so we can keep a level head as the mainstream media starts spiraling, which they inevitably will.
Baumol’s Cost Disease: Why Services Don’t Get Cheaper
A big part of understanding why costs in these sectors keep rising is something called Baumol’s Cost Disease2.
Long story short, in 1966, economist William Baumol identified a problem everyone seemed to overlook.
He pointed out that the economy has two kinds of sectors - ones where productivity can improve over time, and ones where it structurally cannot.
Take manufacturing. You can automate the assembly line. You can move production to lower-cost countries. You can find a hundred ways to produce more output with fewer inputs. Productivity rises, costs fall, and living standards increase as prices fall.
But now let’s look at a dentist.
A dentist could see roughly 8 to 10 patients a day in 1966. And over 60 years later, they can still only see roughly 8 to 10 patients a day.
Sure, there are new tools and efficiencies that make outcomes better. But the actual procedure of a dental appointment hasn’t changed, and it can’t. He only has two hands.
Yet the dentist’s wages still have to compete with the broader economy. So they rise with everything else. Higher costs combined with the same output equals higher prices.
Figure 2: Dunham, 2026
That's Baumol's Disease. And it doesn't just apply to dentists.
A doctor can only see so many patients in a day. A teacher can only reach so many students in a classroom. A childcare worker can only watch so many children at once. You can pay them more - and we have - but you cannot change how much output one person can produce in a day.
In fact, multiple peer-reviewed3 studies have confirmed Baumol's Disease as a primary driver of rising healthcare and education costs across every developed economy.
Thus, this is a structural feature of labor-intensive services that can’t scale.
So yes, some of this inflation was always going to happen as more money sloshes around in the system and there’s not enough productivity to offset it.
The question now is whether government policies make it better - or worse.
When Government Subsidies Can Make Inflation Worse
Here’s the thing that makes this politically inconvenient.
Do rising costs trigger more government spending? Or did government spending trigger rising costs?
It’s likely somewhere between the two. But regardless of which came first, the data shows that government spending in these sectors made it worse.
Healthcare: More Spending, Higher Costs
Look at healthcare. The U.S. now spends $14,885 per person each year4, almost double the OECD average. Meanwhile, healthcare spending has risen from 13% of GDP in 2000 to 18% today.
Figure 3: Peter G. Peterson Foundation, October 2025
Another way to look at it is that the federal government spent about $1.9 trillion5 on health care programs and services in fiscal year 2024. That was 27% of all federal outlays (almost one of every three dollars) - making health care the largest category of federal spending.
So it’s not like the government hasn’t tried to make things easier. It stepped up Medicare expansions, Medicaid expansions, and subsidized insurance markets, pushing more money into the system to try to alleviate pressure.
But here’s what happens when you pump more money into a sector with Baumol’s Disease.
Prices absorb the cash. And the problem gets worse.
What we’ve been left with is the most expensive healthcare system on earth - delivering worse outcomes per dollar than most of its peers.
Figure 4: Peter G. Peterson Foundation, October 2025
Said another way, throwing money at it hasn’t helped. It only made things worse.
Of course, that isn’t to say the government caused these issues. There are many other variables. It’s just that the remedy they chose to try and help likely made things worse.
Education: Does More Federal Aid Amplify Student Debt?
Education follows the same logic.
Back in 2017, the Federal Reserve Bank of New York found6 that for every dollar of federal student aid, universities raised tuition by roughly 60 cents.
This created a vicious feedback loop.
Figure 5: Dunham, 2026
Governments want to make college more affordable –> subsidizes loans –> more federal aid pushes prices 60% higher –> bigger loans are now required to attend; repeat.
More aid didn't make college more affordable. It made it more expensive - because the number of accredited seats didn't grow to match the dollars chasing them.
Total federal student debt hit $1.58 trillion as of Q4/2025 – and private four-year tuition now averages $45,000 per year7 - more than double its 2000 level.
The explicit goal of federal student aid was to make college more accessible. Yet it made things worse (or at least didn’t help).
I doubt more money alone will yield different results.
Housing: Regulation, Scarcity, and Rising Prices
We all know how unaffordable housing has become.
But the constraint here isn't labor - it's regulation and commodities.
Previous research8 showed that the cities with thehighest home prices had the toughest laws on homebuilders (aka preventing new supply to reduce prices).
Meanwhile, a comprehensive 2021 report9 from the National Association of Home Builders (NAHB) found that about 25% of the cost of a new home came from just regulation (so on a $500k home that’s $125k). And by the latest estimates, that burden has grown. Government rules at all levels now make up roughly 30% of the final price of a newly built single-family home.
Figure 6: National Association of Home Builders, 2021
Adding to this is the fact that building homes requires heavy amounts of various commodities, from copper and lumber to steel and concrete.
So the increased money supply and large fiscal deficits have caused inflation, too much paper money chasing not enough commodities, which has further amplified costs.
Across all of these sectors, the pattern starts in the same place. Productivity can’t rise faster than wages or input costs, which creates steady price pressure over time.
From there, the cycle becomes familiar.
Prices become a problem. The government responds by sending in more money. That money flows into supply-constrained markets already suffering from Baumol’s disease. Prices rise to absorb the extra cash. The problem gets worse, policymakers identify an even bigger crisis, and the cycle starts again.
Imported Deflation — And the Risk Nobody's Pricing In
But here’s the other side of the table, where prices are falling.
Things like manufactured goods have gotten cheaper because of globalization. When manufacturing moved to lower-cost countries, the U.S. didn’t just import goods. It imported deflation.
A factory worker in Vietnam earning $300 a month produces the same t-shirt as one in Ohio earning $3,000 a month. That cost difference gets split somewhere between corporate profits and lower prices for Americans. TVs. Toys. Electronics. Clothing. All manufactured abroad. All dramatically cheaper in real terms than a generation ago.
This is why the recent trade wars and Trump tariffs are a big deal.
Sure, production will come back onshore, but at a higher domestic cost. In that case, the affordability crisis won’t stay limited to healthcare and education. It can spread to the one part of the economy that was still helping keep prices down.
If both start rising at the same time, that is a very different problem, and a much worse one, than what we have lived through over the past 25 years.
Now keep in mind, the BLS price data behind this argument has a methodological tweak. It tracks nominal prices using CPI data, and for electronics it applies strong hedonic quality adjustments.
Simply put, part of the decline in things like TVs reflects the fact that a 2025 television is a much better product than a 2000 model. So yes, the fall in some of the blue-line categories in the first chart is probably somewhat overstated.
But that caveat only softens the blue lines around the edges. It does not explain why the red-line sectors moved up together for 25 straight years.
But the data is hard to ignore. The sectors receiving the most government support have seen the worst price inflation. The sectors left to compete have seen the best price performance. That is not a coincidence.
AI and the First Real Challenge to Baumol’s Disease
There is one genuinely new development in this picture, and it’s the first compelling reason for optimism in a long time.
Manufacturing scaled through technology and mechanization. Factories that once needed 1,000 workers now need 100. That’s how goods got cheaper. Services couldn’t do the same thing - until now.
AI may be the first genuine cure for Baumol’s Disease.
If AI can meaningfully extend what a single physician, teacher, or care provider can produce, diagnosing more patients, personalizing more curricula, flagging more risks earlier, then it becomes the first real supply-side force these sectors have ever encountered.
That’s not guaranteed – and may be overhyped. Meanwhile, regulatory structures in healthcare and institutional inertia in education will slow adoption faster than the technology moves.
The affordability crisis isn’t one problem. It’s two, sitting on top of each other.
First, Baumol’s Disease. Labor-intensive services were always going to get more expensive relative to manufactured goods. That’s structural. That’s economics. You can’t print your way out of it.
Second, the subsidy paradox. Well-intentioned government money flowed into sectors that couldn’t expand supply to absorb it, and prices rose to match every dollar that came in. That part wasn’t inevitable – and but it’s a choice that keeps getting made.
And to keep this fair, this is not an argument that government support has never helped. Healthcare subsidies kept millions insured. And student aid helped millions attend college who otherwise could not have afforded it.
But the broader pattern is still hard to ignore.
The sectors with the most government support saw the worst price inflation vs. the sectors left to compete or import goods saw the most deflation.
Thus, as affordability debates heat up, this divergence may get even worse.
Politicians will be under enormous pressure to throw more money at these problems. But if the underlying supply constraints do not change - more money may only fuel even more inflation.
Einstein once said insanity is doing the same thing over and over and expecting a different result.
Maybe it’s worth keeping that in mind before we add trillions more expecting lower prices.
FAQ
What is Baumol’s cost disease? Baumol's cost disease is an economic theory explaining why labor-intensive services like healthcare, education, and childcare keep getting more expensive. These sectors cannot improve productivity the way manufacturing can. Wages still rise with the broader economy, but output per worker stays flat — so prices climb.
How does Baumol’s cost disease affect the affordability crisis? Baumol’s cost disease helps explain why essential services have become a major part of the affordability crisis. When wages and input costs rise but output per worker does not increase much, prices in those sectors tend to keep climbing.
Does government spending make the affordability crisis worse? Government spending can help expand access, but in supply-constrained sectors it can also put more money into markets that cannot quickly add capacity. When that happens, prices may rise instead of becoming more affordable.
Why are healthcare, housing, and education getting more expensive? Healthcare, housing, and education are getting more expensive for different reasons, but they share one common issue: limited supply. In healthcare and education, labor constraints matter. In housing, regulation, land-use restrictions, and construction costs all play a major role.
Could AI reduce Baumol’s cost disease? AI could help if it allows doctors, teachers, and other service providers to serve more people effectively. If that happens at scale, it may improve productivity in sectors that have historically struggled to control costs.
Sources
Human Progress — Rethinking the Cost of Living with Mark Perry’s Chart of the Century [humanprogress.org]
ScienceDirect — Baumol’s cost disease and growth of the service sector [sciencedirect.com]
PGPF — How does the U.S. healthcare system compare to other countries? [pgpf.org]
KFF — What does the federal government spend on health care? [kff.org]
Federal Reserve Bank of New York — The Tuition Pass-Through of Federal Aid [newyorkfed.org]
College Board — Trends in College Pricing Highlights [collegeboard.org]
MarketWatch — These Cities Have the Strictest Regulations for Building New Homes and the Highest Property Prices [marketwatch.com]
NAHB — Government Regulation in the Price of a New Home [nahb.org]
NBER — How China’s WTO Entry Led to Lower Prices for U.S. Consumers [nber.org]
Disclosures
This communication is general in nature and provided for educational and informational purposes only. It should not be considered or relied upon as legal, tax or investment advice or an investment recommendation, or as a substitute for legal or tax counsel. Any investment products or services named herein are for illustrative purposes only and should not be considered an offer to buy or sell, or an investment recommendation for, any specific security, strategy or investment product or service. Always consult a qualified professional or your own independent financial professional for personalized advice or investment recommendations tailored to your specific goals, individual situation, and risk tolerance. All examples are hypothetical and are for illustrative purposes only.
Information contained in the materials included is believed to be from reliable sources, but no representations or guarantees are made as to the accuracy or completeness of information. This document is provided for information purposes only and should not be considered as investment advice.
Dunham & Associates Investment Counsel, Inc. is a Registered Investment Adviser and Broker/Dealer. Member FINRA/SIPC. Advisory services and securities offered through Dunham & Associates Investment Counsel, Inc.
