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THE FUTURE OF MEDICARE: CONVERTING TO PREMIUM SUPPORT OR

CONTINUING AS A GUARANTEED BENEFIT PROGRAM

Karen Davis The Commonwealth Fund

One East 75th Street New York, NY 10021

[email protected] http://www.commonwealthfund.org

Invited Presentation House of Representatives Democratic Steering and Policy Committee

Forum on Saving Medicare for Seniors Today and in the Future October 2, 2012

This testimony benefitted from the work of Sara R. Collins and Stuart Guterman and the report by Sara R. Collins, Stuart Guterman, Rachel Nuzum, Mark A. Zezza, Tracy Garber, and Jennie Smith, Health Care in the 2012 Presidential Election: How the Obama and Romney Plans Stack Up, The Commonwealth Fund, October 2012; the research assistance of Kristof Stremikis; and the editorial assistance of Deborah Lorber of The Commonwealth Fund. The views presented here are those of the author and not necessarily those of The Commonwealth Fund or its directors, officers, or staff.

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THE FUTURE OF MEDICARE: CONVERTING TO PREMIUM SUPPORT OR

CONTINUING AS A GUARANTEED BENEFIT PROGRAM

Oral Statement Today, Medicare works to provide access to care and financial protection for 50 million seniors and disabled beneficiaries. These men and women contributed to the program throughout their working lives and continue to contribute substantially to their own medical expenses through premiums for supplemental coverage and out-of-pocket expenses. Although Medicare covers people who are poorer, sicker, and more expensive to care for than private insurance plans do, it is a better buy than private coverage. Medical and administrative costs are lower than those in private coverage because of administrative efficiencies and the leverage Medicare exercises as the largest purchaser of health care in our country.

The Affordable Care Act is projected to achieve estimated Medicare savings of $716 billion between 2013 and 2022. This will be achieved by phasing out the overpayments to private Medicare Advantage plans, reducing provider payment productivity updates (which has been accepted by the hospital industry in large part because covering the uninsured will reduce hospitals’ bad debts), and various provider payment changes and improvements. The Affordable Care Act’s major payment and delivery system reforms are projected to slow Medicare spending per beneficiary to 3.1 percent annually over 2012–2021, extending the solvency of the Medicare Hospital Insurance (Part A) Trust Fund to 2024.

A major concern, however, is that the retirement of the post-World War II generation will increase the numbers of beneficiaries at the same time that the decline in fertility rates in the 1970s and 1980s has lowered the number of active workers in the labor force. As a result, expenses are projected to grow faster than payroll tax revenues.

To bring the Trust Fund into balance, more revenues will be needed, spending growth will need to be further restrained, or beneficiaries will need to pay more of their own health care expenses either directly or through premiums.

Given this dilemma, a national debate on the future of Medicare, with careful consideration of the consequences of alternative strategies, is appropriate. Converting Medicare to a fixed sum of money capped at the growth of the economy, without effective health care cost control, would shift costs to beneficiaries who already struggle with out-of-pocket medical expenses and limited incomes. An alternative approach of continuing guaranteed benefits and rewarding hospitals and physicians for providing

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high-quality care in an efficient manner has the potential to achieve needed budgetary savings while reducing, not increasing, financial risk to beneficiaries. Premium Support and Repeal of the Affordable Care Act The philosophy behind premium support holds that patients are best positioned to eliminate overuse of services, shop for lower-cost care, and pick lower-cost health plans. Rather than guaranteeing that Medicare will pay the cost of a defined set of benefits, under the most recent Medicare premium proposal advanced by vice presidential candidate Rep. Paul Ryan, chair of the House budget committee, beneficiaries would receive an allowance based on their age, health status, and income to be applied toward the purchase of a health plan. Over time, the dollar allowance would be capped at the rate of gross domestic product (GDP) growth per person plus 0.5 percent.

Governor Mitt Romney endorses this Medicare premium support strategy. Because the federal government would cap future allowances by the rate of economic growth rather than the rising costs of health insurance premiums or medical care cost, this approach would result in the federal government spending less over time as beneficiaries spent more, assuming health care costs continued to rise at current rates. The value of the allowance or defined contribution for private insurance would erode over time, resulting in higher premiums for beneficiaries and/or reductions in benefits.

The Congressional Budget Office (CBO), in fact, estimated that the latest Ryan premium support proposal, which shaped the 2012 House Budget Resolution, will raise costs for beneficiaries, with beneficiary cost rising over time. Our estimate is that average private health insurance premiums would exceed the allowance by $4,250 in 2030.

It is also important to weigh the merits of choosing among competing private plans. As previously noted, private health insurance is more costly than public coverage given its larger administrative costs, higher provider payments, and less-efficient risk pooling. CBO estimates that utilizing private coverage for a set of benefits similar to what is currently covered by traditional Medicare would be 12 percent more expensive than traditional Medicare in 2022. By 2030, private coverage of the same benefits would be about 40 percent more expensive than traditional Medicare.

The nation’s experience with the Medicare Advantage program suggests that beneficiaries would be less satisfied and more likely to experience access problems when opting for a private plan. Thirty-two percent of Medicare Advantage beneficiaries report at least one access problem because of cost, compared with 23 percent of those with traditional coverage.

The widespread use of competing private plans under a premium support scenario has the potential to undermine the stability and effectiveness of Medicare by fragmenting the risk pool. Even if Medicare beneficiaries retained a choice of enrolling in traditional

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Medicare as called for in the latest Ryan proposal, physicians and hospitals could receive substantially higher payment from private plans and would be likely to opt out of participation in traditional Medicare, nullifying it as a genuine choice for beneficiaries. Dividing Medicare beneficiaries across multiple private plans would undermine the leverage the program currently has to drive efficiency among providers and widespread change across the entire U.S. health system.

Moreover, while the premium support proposal contained in the latest House budget resolution included some protections against risk selection (or “cream- skimming”) by private insurance companies, officials would need to be particularly vigilant about plans covering a relatively low number of beneficiaries with complex health care needs.

Along with premium support, Governor Romney endorses increasing the age of eligibility for Medicare by two months per year starting in 2022 until it reached 67 in 2033. Romney also calls for the full repeal of the Affordable Care Act, including the coverage and Medicare benefit improvement provisions as well as repeal of the Medicare savings provisions. Repeal of the ACA would increase the federal budget deficit by $109 billion over the next decade and shorten the time until the Medicare Part A Trust Fund becomes insolvent from 2024 to 2016. Romney would also replace Medicaid with a block grant to states, which could put long-term care benefits for Medicare and Medicaid beneficiaries at risk, and sharply restrict the growth in the federal budgetary commitment to Medicare and Medicaid over time. Continuing Medicare as an Essential Benefit by Building on the Affordable Care Act A different approach to preserve Medicare’s guaranteed benefits would be to retain and build on the innovations in the Affordable Care Act. Instead of shifting financial costs onto beneficiaries, this approach would hold health care providers accountable for achieving high-quality care, excellent outcomes for patients, and ensuring that the total cost of health care is in line with what the nation can afford. It puts the accountability in the hands of those directly responsible for providing care.

The Affordable Care Act permits physician-led accountable care organizations to share in savings if they hold costs below a target rate of growth. The Center for Medicare and Medicaid Innovation is testing a variety of pilot payment innovations to reward providers for lowering cost while improving quality. It also gives the Secretary of Health and Human Services authority to spread successful innovation throughout the Medicare program if innovations lower cost, improve quality, or both, without being to the detriment of either.

President Obama, in continuing to implement the Affordable Care Act, would expand Medicare beneficiaries’ access to preventive care, reduce the cost of prescription

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drugs, provide more help for low-income beneficiaries, provide better information for beneficiaries to make more informed health care choices, and encourage more coordinated care. The Affordable Care Act also places payments to private Medicare Advantage plans on an equal footing with traditional Medicare, slows the increase in provider charges, and raises premiums for high-income beneficiaries, extending the solvency of the Medicare Hospital Insurance Trust Fund.

President Obama’s continued implementation of the Affordable Care Act would change how care is organized, delivered, and paid for. Many of the law’s provisions are focused on Medicare, as well as Medicaid and the Children’s Health Insurance Program, but it encourages the participation of multipayer initiatives that include both the public and private sectors. Models that emphasize the role of primary care and the need to coordinate care across providers and settings, like the patient-centered medical home and the accountable care organization, are being developed to improve care and stabilize costs.

The Affordable Care Act would give physicians, hospitals, and other health care providers an incentive to reduce the rate of growth in Medicare outlays by creating opportunities for them to share in savings. President Obama has further stated that through these reforms he would attempt to hold the rate of growth in health care spending to GDP plus 0.5 percent, the same goal as under the premium support proposal. However, under the premium support strategy, the beneficiary is at financial risk when private insurance premiums exceed the Medicare spending target (Exhibit ES-1). Under the shared savings strategy, providers have the opportunity to reap benefits when costs are below the target for Medicare spending. Beneficiaries also gain from lower Medicare costs, as their premiums and out-of-pocket expenses are reduced by the slower growth in Medicare spending.

As policymakers and the nation confront the urgent need to control health spending while continuing to improve the quality and efficiency of care delivered, these activities provide a foundation on which to build, with the potential to control health spending while moving toward a high performance health system.

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Exhibit ES-1. Medicare Spending per Beneficiary Under Premium Support and Shared Savings Scenarios, 2012–2050

Source: Commonwealth Fund calculations based on Congressional Budget Office, The Long-Term Budgetary Impact of Paths for Federal Revenues and Spending Specified by Chairman Ryan, (Washington: Congressional Budget Office, March 2012), and Congressional Budget Office, The 2012 Long-Term Budget Outlook (Washington, D.C.: Congressional Budget Office, June 2012).

$0

$10,000

$20,000

$30,000

$40,000

$50,000

$60,000

$70,000

12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 50

Private Insurance

Medicare Spending Goal of GDP per capita + 0.5%

Shared savings opportunity for

providers

Beneficiary at financial risk under premium support

$4,250

Nominal $

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THE FUTURE OF MEDICARE: CONVERTING TO PREMIUM SUPPORT OR

CONTINUING AS A GUARANTEED BENEFIT PROGRAM

Karen Davis For almost 50 years, Medicare has provided access to health care and protection against ruinous medical bills to millions of elderly and disabled beneficiaries. Medicare was enacted in 1965 because half of seniors lost their private insurance when they retired at age 65. Middle-class families were at great financial risk when an elderly parent needed life-saving care. Guaranteeing that Medicare continues to meet its basic goal of providing health and economic security to 50 million current beneficiaries, as well as the post- World War II generation as it reaches retirement, is an essential priority for the nation. Starkly different choices have been proposed for the future of the program: namely, converting it to a fixed dollar premium support system or continuing Medicare as a guaranteed benefit program.

As it is currently structured, Medicare works to provide access to care and financial protection for millions of vulnerable seniors and disabled individuals who have contributed to the program throughout their working lives and continue to contribute substantially to their own medical expenses through premiums for supplemental coverage and out-of-pocket expenses for noncovered services. Medicare is a good buy: medical and administrative costs are lower than those in private insurance plans because of administrative efficiencies and the leverage Medicare exercises as the largest purchaser of health care in our country.

Converting Medicare to a fixed sum of money capped at the growth of the economy without effective health care cost control would shift cost to beneficiaries who already struggle with out-of-pocket medical expenses and limited incomes. An alternative approach of continuing guaranteed benefits and rewarding hospitals and physicians for providing high-quality care in an efficient manner has the potential to achieve needed budgetary savings while reducing, not increasing, financial risk to beneficiaries. Medicare Works Medicare is a critical public program that works for beneficiaries far poorer, sicker, and more expensive to care for than those typically covered by private insurance (Exhibit 1).1 Nearly half of all Medicare beneficiaries report incomes of less than 200 percent of the

1 Henry J. Kaiser Family Foundation, Medicare at a Glance (Washington, D.C.: Henry J. Kaiser

Family Foundation, Nov. 2011).

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federal poverty level—$21,780 in 2011. Forty-five percent report living with three or more chronic conditions, and more than a quarter of all beneficiaries have a cognitive or mental impairment (29%) or consider themselves in fair or poor health (28%). A significant proportion of the Medicare population has functional impairments—this includes disabled individuals under age 65 (17%) or those reporting two or more limitations in daily living (15%).

Despite these challenges, decades of research demonstrate that Medicare is working to fulfill the two main purposes of health insurance—ensuring access to needed care and providing adequate financial protection from burdensome medical expenses. Medicare achieves these goals better than employer coverage and particularly better than individual coverage sold on the private insurance market. Elderly Americans are significantly more likely to report better outcomes on a host of questions related to affordability, access, and coordination relative to the under-65 insured population in the United States (Exhibit 2).

A recent Commonwealth Fund study found that only 8 percent of elderly Medicare beneficiaries rated their insurance as fair or poor, compared with 20 percent of adults with employer insurance and 33 percent of those who purchased insurance on their own (Exhibit 3).2 Adults with employer-based insurance or individual insurance reported medical bill problems at almost twice the rate of Medicare beneficiaries. And about 37 percent of adults with employer coverage and 39 percent of those with individual coverage went without needed care because of costs, compared with less than one-fourth of Medicare beneficiaries.

Within the Medicare program, traditional Medicare outperforms private Medicare Advantage plans. Six percent of beneficiaries enrolled in traditional Medicare rate the coverage as fair or poor, compared with 15 percent in Medicare Advantage plans (Exhibit 4). Further, those beneficiaries enrolled in Medicare Advantage plans were more likely to report access problems because of cost (32% vs. 23% in traditional Medicare).

Medicare is a good buy for beneficiaries and taxpayers. Costs in Medicare are lower than those in private coverage because of administrative efficiencies and leverage the program exercises as the largest purchaser of health care in our country. Administrative costs in Medicare average less than 3 percent of expenditures, compared with 5 percent to 15 percent of premiums in large employer plans and 25 percent to 35 percent of premiums in the pre-reform, small-group market, and 41 percent in the

2 K. Davis, K. Stremikis, M. M. Doty, and M. A. Zezza, “Medicare Beneficiaries Less Likely to

Experience Cost- and Access-Related Problems than Adults with Private Coverage,” Health Affairs Web First, published online July 18, 2012.

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individual market (Exhibit 5).3 Traditional Medicare administrative expenses are 2 percent, compared with 11 percent in Medicare Advantage, and 20 percent in Medigap (Exhibit 6).

Costs are also lower in Medicare because the program pays hospitals, physicians, and other health care providers lower prices than those offered by private insurance (Exhibit 7). Even so, Medicare continues to experience high provider participation rates. According to a recent survey of physicians, almost three-quarters (74%) of providers are accepting all or most new patients with Medicare.4

While beneficiaries are highly satisfied with Medicare, many elderly and disabled Americans still report significant financial burdens related to health care. The Medicare benefit package contains substantial cost-sharing, inducing many enrollees to purchase costly supplemental Medigap coverage. On average, Medicare picks up 74 percent of the medical expenses of beneficiaries, compared with 85 percent in large employer preferred provider organization (PPO) plans and 83 percent in the Federal Employees Health Benefit Program Standard Option (Exhibit 8).

In fact, Medicare households devote a much larger share of their more limited incomes to health care. Median health expenses in 2009 accounted for almost 15 percent of the average Medicare household’s income, three times the rate of non-Medicare households (Exhibit 9).5 This is projected to rise to 26 percent in 2020 (Exhibit 10). Beneficiaries with serious health problems or low incomes often report significant out-of- pocket spending burdens.6 In 2006, beneficiaries in poor health reported out-of-pocket health care spending at 20 percent of income (Exhibit 11).

Even premiums are a major expense for Medicare beneficiaries. The elements— $177 a month for Medigap supplemental coverage, $33 a month for Part D premiums, and $100 a month for Part B premiums—add up to $3,720 a year.7 That does not include out-of-pocket costs for prescription drugs and uncovered services such as dental care, eye care, and hearing aids. These are major expenses for a household living on Social Security income, which averaged $14,760 in 2012.

3 The Commonwealth Fund Commission on a High Performance Health System, The Path to a High

Performance U.S. Health System: A 2020 Vision and the Policies to Pave the Way (New York: The Commonwealth Fund, Feb. 2009).

4 Center for Studying Health Systems Change, HSC 2008 Health Tracking Physician Survey, Sept. 2009. 5 J. Cubanski, A. Damico, L. Dawson et al., Health Care on a Budget: The Financial Burden of Health

Spending by Medicare Households, Kaiser Family Foundation Program on Medicare Policy Data Spotlight, June 2011.

6 D. Yamamoto, T. Neuman, and M. K. Strollo, How Does the Benefit Value of Medicare Compare to the Benefit Value of Typical Large Employer Plans? (Menlo Park, Calif.: Henry J. Kaiser Family Foundation, Sept. 2008).

7 R. Rabin, “Grappling with Details of Medicare Proposals,” The New York Times, Sept. 17, 2012.

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Medicare and the Federal Budget In many ways, Medicare is a low-cost program. Its actuarial value is less than typical employer plans and the Federal Employees Health Benefits Program standard option plan, it has lower administrative costs, and it uses its leverage as a major purchaser to get good rates from hospitals and physicians while still enjoying widespread provider participation.

Further, the Affordable Care Act of 2010 (ACA) is projected to achieve savings estimated at $716 billion between 2013 and 2022. This will include $156 billion in savings from phasing out the overpayments to private Medicare Advantage plans, $415 billion in savings from provider payment productivity updates (which have been accepted by the hospital industry because covering the uninsured will reduce hospitals’ bad debts), and the remaining from various provider payment changes and improvements.8

As a result of these provisions, Medicare is now projected to grow more slowly on a per capita basis than the gross domestic product (GDP) per capita (Exhibit 12). Between 2012 and 2021, per capita Medicare spending will grow at an annual rate of 3.1 percent, below that of GDP per capita at 4.1 percent. Even if Medicare physician fees grow with inflation, Medicare spending will grow at 3.8 percent over the decade, and between 3.1 percent and 3.8 percent if fees are frozen or offsetting savings to modifying the sustainable growth rate formula is achieved.9

Medicare is the largest payer for health care. The program will spend almost $600 billion in 2012 for its more than 50 million beneficiaries, accounting for more than 20 percent of U.S. national health expenditures.10 Like the rest of the health care system, Medicare faces rising health care costs. Private health spending per person is projected to increase 5.0 percent annually over the period 2012 to 2021, well in excess of projected Medicare spending.

There is encouraging early evidence that overall health system spending is slowing and that Medicare spending in particular is slowing. CBO and the HHS Office of the Actuary substantially overestimated growth in health spending and Medicare spending pre-reform. In 2020, Medicare spending is now projected to be $935 billion, 12.7 percent below pre-reform estimates of $1.1 trillion for a cumulative reduction of $689 billion over 2011–2020 (Exhibit 13).

This lower spending rate has improved the fiscal outlook for Medicare. Prior to the enactment of ACA, the Medicare Hospital Insurance (Part A) Trust Fund, which pays

8 Congressional Budget Office, “Letter to the Honorable John Boehner providing an estimate for H.R. 6079, the Repeal of Obamacare Act” (Washington, D.C.: Congressional Budget Office, July 2012).

9 J. Holahan and S. McMorrow, “Medicare and Medicaid Spending Trends and the Deficit Debate,” New England Journal of Medicine, Aug. 2, 2012 367(5):393–95.

10 Centers for Medicare and Medicaid Services, Office of the Actuary, National Health Expenditure Data, accessed July 2012 at http://www.cms.gov/Research-Statistics-Data-and-Systems/Statistics-Trends- and-Reports/NationalHealthExpendData/index.html.

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for hospital and other facility-based services and is financed by an earmarked payroll tax, was projected to become insolvent by 2017.11 Immediately after enactment, it was estimated to be solvent to 2029. Now—even with the economic contraction in 2008 that reduced payroll tax revenues—it is projected to be solvent until 2024.

One major reason for this improved outlook is the ACA itself—particularly the freeze on Medicare Advantage plan payments and the productivity update adjustment in provider payments. But it also may reflect more fundamental changes in the health care delivery system as a result of a decade-long focus on quality improvement and efforts by the industry to position itself to take advantage of new payment and delivery system innovations. David Cutler of Harvard University and I argued, at the time of ACA enactment, that CBO was not giving sufficient weight to the impact of provider payment and delivery system innovations.12 Projected trends in our report suggest that the ACA will achieve Medicare savings of $686 billion over 2011-2020, compared to $510 billion estimated by CBO (Exhibit 14). Now CMS projections for Medicare spending over this period are $689 billion lower than their pre-reform estimate—in large part attributable to ACA as well as savings occurring as a result of changes in the pharmaceutical and health care services industry and positioning of the industry to take advantage of future changes in Medicare.

There is concern, however, that the retirement of the post-World War II generation will increase the numbers of beneficiaries at the same time that the decline in fertility rates in the 1970s and 1980s has lowered the number of active workers in the labor force. The number of Medicare beneficiaries is projected to grow to 80 million in 2030 while the number of workers per beneficiary has dropped from 4:1 in 2000 to 3.4:1 in 2010 and is projected to drop further to 2.3:1 in 2030 (Exhibit 15). As a result, expenses—or outflow from the Part A Trust Fund—is projected to grow faster than payroll tax revenues, or inflow to the Part A Trust Fund.

To bring the Trust Fund into balance, more revenues will be needed, spending growth will need to be further restrained, or beneficiaries will need to pay more of their own health care expenses either directly or through premiums. Requiring current beneficiaries to pay more premiums or out-of-pocket costs is a difficult choice, given that beneficiaries are already paying significant shares of their incomes on health care and have limited retirement savings.

Very few beneficiaries have high incomes. Only 3 percent have incomes over $100,000 in 2006, and only one-fifth have incomes over $40,000 (Exhibit 16). Higher-

11 Both Supplementary Medical Insurance (Part B), which pays for physician and other ambulatory care and medical supplies, and Prescription Drug Coverage (Part D) are financed by beneficiaries’ monthly premiums and open-ended draws on general revenues, so they are fully financed by definition, but they represent a progressively greater burden on both beneficiaries’ resources and the federal government’s budget.

12 D. M. Cutler, K. Davis, and K. Stremikis, The Impact of Health Reform on Health System Spending (Washington, D.C. and New York: Center for American Progress and The Commonwealth Fund, May 2010).

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income beneficiaries already pay higher income-related Part D and Part B premiums. Since the early 1990s, workers with higher incomes have paid Medicare payroll taxes on their entire incomes, which are not subject to an earnings ceiling like Social Security. So high-income beneficiaries have contributed significantly to Medicare over their working lifetimes and continue to do so in retirement.

Additional revenues may well need to be part of the solution. The Medicare trustees estimate that increasing the payroll tax 1.35 percentage points from 2.90 to 4.35 percent would balance the Part A Trust Fund for the next 75 years.13 Alternatively, immediately reducing expenditures by 26 percent would achieve long-run stability, but would do so only at the risk of suppressing spending faster than hospitals and other providers can innovate to improve productivity and efficiency.

Given this dilemma, it is appropriate to have a national debate on the future of Medicare with careful consideration of the consequences of alternative strategies. One strategy would limit the government’s fiscal liability by converting Medicare to a premium support program and capping the rate of growth of government contributions. Another strategy is to transform the health care deliver

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