Reforming Medicare
Reform Alternatives
While adding prescription drug coverage is a costly proposition, prescription drugs have an important place in any reformed Medicare program. Because Medicare beneficiaries pay for drugs out of pocket, but pay for physician visits and surgical procedures with Medicare money, they perceive the former to be more expensive than the latter. This encourages too much spending on physician therapies and hospital therapies and too little on drug therapies. Covering prescription drugs and doctor visits the same way could reduce total treatment cost. But without broader reforms that reduce the federal government's role in retiree health payments or reduce the growth of Medicare costs, a new benefit represents additional burdens for future taxpayers.
What reforms would reduce the federal government's role? To begin, we must reconsider all of Medicare. Beneficiaries must have incentives to control their own spending. In addition, beneficiaries must have a health care package that meets the market test - that provides coverage comparable to that available in the marketplace. Private sector health insurance contains two elements that Medicare lacks: prescription drug benefits and catastrophic coverage.
Short-term Reforms. One option is to combine Medicare Part A and Part B and add prescription drug benefits and catastrophic coverage to the package. As with conventional private health insurance, one overall premium would be paid to one plan.13 Deductibles and copayments would be limited to a maximum out-of-pocket amount. A Medical Savings Account (MSA) owned by the beneficiary could cover this larger cost sharing. The beneficiary could use unspent funds on nonmedical needs. This would give users of the health care system an incentive to monitor providers, services and bills in order to reduce Medicare's monitoring cost.
The greater level of cost sharing we recommend raises legitimate concerns about lower-income retirees' access to health care. These retirees could get a subsidized MSA, just as Medicaid now covers low-income retirees' medigap insurance costs.
Another concern about greater cost sharing is that retirees will forgo care below the deductible. The Rand Health Insurance Experiment found that increased use of "free" medical care had little effect on health outcomes.14 In a free society, individuals must make their own choices. Medicare should provide retirees with access to health care that is affordable not only for them but for taxpayers as well.
"Medicare was modeled on a Blue Cross plan popular in 1965; Blue Cross has since changed, but Medicare has not."
Under the current system, Medicare is publicly funded but privately administered - in most places by Blue Cross Blue Shield. The BCBS role is strictly administrative, however. The federal government determines the Medicare benefit package. When Medicare was created in 1965, Congress largely followed the design of a Blue Cross plan popular at the time. In the years since, medical science and medical economics have changed. So have Blue Cross and other private plans. But the Medicare program has remained static due to political pressures. This stasis has caused many of the problems our paper considers.
To allow Medicare to evolve through time, competing private sector insurers must be allowed to offer different types of benefits and prices to attract different enrollees.
The Bipartisan Commission and the president's recent proposal suggest that the Federal Employee Health Benefits Program (FEHBP) could become a model for Medicare reform. Under FEHBP, individuals enroll annually in competing health plans and all enrollees in a plan pay the same premium. There are problems associated with competitors receiving premiums that are unrelated to expected costs, such as altering the quality of care or screening out sicker potential enrollees. To overcome these problems, payments must be risk adjusted. That means competing health plans will have to be paid different premiums for different patients, based on their risk class.
An alternative is to encourage lifetime enrollment in health plans at risk-adjusted premiums. In such a system, the initial premium paid to a plan would reflect expected health care costs. Any movement among plans would require one plan or the other to make compensating payments. These issues are addressed more fully below.
Long-term Reforms. Even with successful cost-reducing reforms, Medicare's burden on future taxpayers will continue to grow with the size of the retired population. Prepaying health care spending is one way to shift the future burden to current taxpayers. In this way, each generation would pay its own way. In a previous work, we analyzed prepaid retirement health insurance accounts.15 Prepayment not only transfers some of the future burden to current workers, but it also increases the savings rate and thereby the country's future productive capacity and income.
In our proposal, we envisioned that all new retirees would have a prepaid account sufficient to pay remaining lifetime health care spending. We suggested that retirees would be able to choose from a menu of health care plans and sign lifetime contracts. Long-term contracting can potentially address cost growth by giving health plans the incentive to manage care over beneficiaries' lifetimes.