March 10, 2003
By Stuart M. Butler, Ph.D.
Testimony given March 10, 2003 before the Special Committee
on Aging, United States Senate.
My name is Stuart Butler. I am Vice President of Domestic and
Economic Policy Studies at The Heritage Foundation. The views I
express in this testimony are my own, and should not be construed
as representing any official position of The Heritage
Mr. Chairman, any observer of the American health care system is
immediately struck by two of its central features.
Gaps and unevenness in coverage. Despite the huge
expenditures devoted to the system, there are enormous gaps in the
degree in to which it covers Americans and there are wide
difference in the level and type of benefits available to people of
Millions of Americans lack any insurance protection at all, and
many of these are middle class. Many poor and non-working Americans
are eligible for a wide range of benefits, while others struggle to
keep their families just out of poverty yet lack any insurance. A
worker may have coverage one week, arranged by his employer, yet
lose it the following week because he switched jobs to a firm
without coverage. Similarly, workers who are perhaps forced in to
early retirement by economic conditions, or their health, are not
eligible for Medicare or any other program and can find themselves
suddenly in dire straits for lack of affordable coverage.
The level of
benefits available also can widely differ. An elderly person who
happens to qualify for veteran's benefits can obtain general
support for their outpatient pharmaceutical needs. Yet an otherwise
identical retiree in Medicare has no such coverage.
So our "system" is
a system in name only. It is really a patchwork of public and
private programs with widely differing eligibility criteria. And
many people end up falling between the eligibility requirements of
the programs and many others have benefits only loosely connected
to their needs.
systems of health care. The second distinctive feature of
the American system is that different parts of it are run on
totally different principles of design and economics. The Veterans
Administration health system, for example, has similarities to
single payer systems in other countries, in that the VA maintains
its own hospitals, pays its own staff, and decides centrally on the
distribution of medical resources. Meanwhile another government
program, Medicare, runs on other principles, with private providers
reimbursed by government for the services they render to eligible
beneficiaries. In Medicare, the primary package of benefits is
decided in detail by Congress. Moreover, Medicare is actually two
separate programs. The hospital insurance system functions as a
traditional mandatory social insurance program. The other part of
Medicare, principally covering physician costs, is a voluntary
system with a subsidy for government-sponsored insurance.
government program, The Federal Employees Health Benefits Program
(FEHBP), covers over nine million federal employees, their families
and federal retirees, and operates on yet another approach. The
FEHBP provides a direct subsidy which is used by eligible families
to reduce the premium cost of the private plan of their choice,
providing that plan meets basic requirements laid down by the
government. The benefits in FEHBP plans vary significantly.
Congress sets down only a very basic set of benefit
classifications, and the actual content of each plan is determined
by consumer demand in the competitive market place.
In parallel to
these widely differing government-sponsored programs is the
extensive private insurance system that covers most working age
Americans. The primary component of this system is insurance
sponsored by employers to cover their employees and families. The
families obtaining health coverage in this manner enjoy an often
very large tax benefit since the value of the employer sponsored
component of there compensation is free of all taxes. Other
individuals obtain private insurance by purchasing it directly from
insurance companies, often because their employers do not provide
such coverage. While some tax benefits are available for this form
of purchased insurance the criteria for tax relief are so
restricted that many in this market have no tax subsidy at all.
with this fragmented patchwork of programs should lead us to draw
some important lessons as we ponder ways to achieve universal
coverage in America. Among these lessons:
Lesson 1: The employment-based system, while successful for certain
families, has severe weaknesses as the basis for universal
system is often pointed to as a success story, despite the current
concerns about escalating costs. In the case of coverage offered
through larger firms, employment-based coverage does have
advantages. For instance:
Pooling.A company with a large
workforce obviously also has a large pool for insurance purposes. A
large number of individuals can be grouped together and insured as
a group for a standard premium, despite possibly wide variations in
medical risks among employees. Large companies also have the
economies of scale and the sophistication to provide insurance at a
low administrative cost per employee.
Advantages for bargaining
and administration.Larger companies also can
bargain very effectively with insurers and providers, and so are
able to deliver cost-effective coverage that is often tailored
specifically for their work force.
Employment-based insurance is very
When an employer provides coverage, it
is normally very easy for an employee to take part in the plan.
Premiums are paid directly by the employer, and the worker does not
have to apply for a tax exclusion; the W-2 form, indicating the
worker's income for tax purposes, simply makes no mention of the
value of the employer's contribution to his health insurance.
Moreover, if the worker has to pay something toward the cost of his
plan, this is usually done in the form of a convenient payroll
deduction during each pay period.
Problems for Small
Firms Sponsoring Health Insurance
While these advantages of
employer-sponsored coverage certainly apply to workers in many
firms, they are less likely to apply to certain specific categories
of workers, especially those employed in small firms. Among the reasons for
These obstacles to
employment-based coverage in the small-business sector help to
explain the high level of uninsurance among families with workers
in that sector. According to a recent survey by the Kaiser
Foundation, 74 percent of the uninsured are in families with at
least one full-time worker, and while 99 percent of large firms
offer insurance, only 55 of firms with fewer than 10 employees do
so. Among low-wage workers (defined as those who earned less than
$7 an hour in 1996), 45 percent are not even offered insurance.
Lesson 2: The primary method for subsidizing insurance
for working families is inequitable, inefficient and fundamentally
exclusion is highly inequitable. Sheils and Hogan estimated the
average annual tax benefit at just $71 for families with incomes of
less than $15,000. Thus the exclusion provides little help to
lower-paid workers, who often face hardship in paying for family
coverage or out-of-pocket costs, and it is not available to workers
lacking an employer-sponsored plan. It is hard to imagine a less
efficient system of subsidies for helping people to obtain
The Medicare program does not represent a sound structure for
The trust fund woes
of the Medicare program indicate the financing dangers of a social
insurance approach to health care. Similar to the experience of
maturing social insurance programs around the world, Medicare is
plagued with huge unfunded liabilities as political pressure for
ever-larger defined benefits today mean ever-larger obligations on
future generations. The 2002 report of the Medicare trustees
provided a dire picture of the program's finances, with
expenditures rapidly outstripping dedicated revenues in future
But the structural
problems of Medicare are not confined to its financing. When
Medicare was created in 1965, its benefit package was based on the
prevailing Blue Cross/ Blue Shield package for working Americans in
large firms. As such, it was seen as state-of-the-art coverage.
Since that time, however, the benefits for Medicare recipients
gradually slipped further behind the benefits routinely available
to working Americans. For example, Medicare provides no outpatient
prescription drug benefit. It would be virtually unthinkable for a
large corporation today to offer its workers a plan without at
least some coverage for outpatient pharmaceuticals, or, for that
matter, protection against catastrophic medical costs.
The main reason that
Medicare's benefits package is out of date-despite the general
awareness that it needs to be updated-is that all major benefit
changes require an act of Congress. Consequently, discussions about
changing benefits (especially about introducing new benefits by
reducing coverage for less important ones) are necessarily
entangled in the political process. Providers included in the
package fight diligently-and usually effectively-to block serious
attempts to scale back outdated coverage for their specialties.
Meanwhile, talk of upgrading the Medicare benefits package
unleashes an intense lobbying battle among other specialties that
seek to be included in the Medicare benefits package. Invariably,
the result depends as much (if not more) on shrewd lobbying than on
good medical practice. The understandable reluctance of most
lawmakers to subject themselves to this pressure further slows the
process of modernizing benefits.
Payments. Medicare today uses complex formulas to
determine its payments to managed care plans serving beneficiaries
and payments to physicians and hospitals under the traditional
fee-for-service program. Through legislation and regulation, the
government tries to create a payment schedule that will work in all
parts of the country and that takes into account local conditions.
But as is typical of attempts by government to set payments by
formula, these schedules rarely match the actual market, which
constantly changes. As a result, policymakers and health care
providers grumble constantly that the formulas systematically and
wastefully overpay some plans and underpay others, and that many
payments to physicians and hospital are far out of line with the
cost and difficulty of providing specific services.
Decisionmaking. Just as arcane and problematic the
complex administrative process used by the Centers for Medicare and
Medicaid Services (CMS) to modify benefits, to determine whether
certain medical treatments or procedures are to be covered under
Medicare, and to define under what conditions or circumstances
servicesare to be delivered and paid for. This byzantine process is
marked by intense pleading by medical specialty societies, and a
degree of congressional micromanagement that makes efficient
management of the program impossible.
If we are to
construct a health care system in this country that focuses
resources efficiently to help those who need assistance to obtain
health coverage, we need to take the following important steps:
there is a legal and moral obligation on society to provide some
level of health care to those who become ill. Under federal law
almost all hospitals must provide immediate health services to
individuals entering the emergency room. In addition, physicians
and hospitals routinely provide services to individuals unable to
pay for these. A recent study by Jack Hadley and John Holahan
estimates that as much as $38 billion is spent each year in public
and private resources on health care services for the uninsured.
implicit "social contract" is both inefficient and unfair. It is
inefficient because the method of providing services often means
they are delivered in the most expensive setting. And because the
services are not part of a comprehensive plan they are inefficient
from a medical point of view. The contract is unfair because it
discourages many families with the means to obtain adequate
coverage from doing so.
The current social contract should be replaced with a more rational
one. In a civilized and rich country like the United States, it is
reasonable for society to accept an obligation to ensure that all
residents have affordable access to at least basic health care -
much as we accept the same obligation to assure a reasonable level
of housing, education and nutrition.
But as part of
that contract, it is also reasonable to expect residents of the
society who can do so to contribute an appropriate amount to their
own health care. This translates into a requirement on individuals
to enroll themselves and their dependents in at least a basic
health plan - one that at the minimum should protect the rest of
society from large and unexpected medical costs incurred by the
family. And as any social contract, there would also be an
obligation on society. To the extent that the family cannot
reasonably afford reasonable basic coverage, the rest of society,
via government, should take responsibility for financing that
The obligations on individuals does not have to be a "hard"
mandate, in the sense that failure to obtain coverage would be
illegal. It could be a "soft" mandate, meaning that failure to
obtain coverage could result in the loss of tax benefits and other
government entitlements. In addition, if federal tax benefits or
other assistance accompanied the requirement, states and localities
could receive the value of the assistance forgone by the person
failing to obtain coverage, in order to compensate providers who
deliver services to the uninsured family.
The central public
policy objective of a health care system is to use public funds in
an efficient and economical way to enable every household to obtain
at least an acceptable level of health care services and protection
from large financial burdens associated with ill health. Whether a
US resident is able to count on that commitment should not depend
on their current circumstances. Moreover, resources should be used
as efficiently as possible to provide help those who need it most
to obtain coverage. That requires us to overhaul current subsidy
methods to target funds more efficiently and to achieve horizontal
equity between similar people.
An important step towards that would be to overhaul the tax
treatment of health care, gradually ending the regressive tax
exclusion for employer-sponsored health insurance and replacing it
with a more progressive subsidy. That is the logic behind the
various refundable tax credit proposals in numerous proposals for
addressing uninsurance. These proposals would increase the subsidy
to lower-income households relative to upper-income
The same rationale lies behind various approaches designed to alter
the Medicare program to target a higher proportion of benefits on
lower-income seniors, in contrast with the traditional social
insurance vision of equal benefits regardless of income. And while
there is fairly universal support for a residual safety net public
program for indigent or dysfunctional households, replacing part of
the Medicaid program with a refundable tax credit or voucher-like
assistance is in line with the same goal.
It is also important to de-link financial support from household
work status. In other words assistance for health care coverage
should not be based on employment or retirement status, and it
should be available for the cost of coverage from any reasonable
source. Thus an unemployed person and his or her family should have
the same degree of assistance as an employed household of similar
income with employer-sponsored coverage. A worker with
employer-sponsored coverage should get the same tax break or direct
subsidy for coverage as a similar worker whose firm does not
provide insurance. A 60 year-old early retiree should be able to
count on the same help as a similar person who is still in the
The value of the assistance should also not differ according on the
source of coverage. Thus a household should receive the same
subsidy value were it to obtain coverage through an employment
based insurance plan or by buying into a public program. On the
other side of the same coin, an individual or household should be
able to continue the same form of coverage throughout their life if
they wish. Thus a worker with a private insurance plan should be
able to continue that coverage into retirement, receiving
"Medicare" benefits in the form of assistance towards the cost of
continued insurance coverage.
Most people in
America pay their taxes through a place of work. This is a very
convenient system under which employers withhold income and Social
Security taxes and send the money to the government. In addition,
employees typically adjust their withholdings to take advantage of
any tax breaks for which they may be eligible (for example, the
mortgage interest deduction). This means that employers actually
operate the basic income tax system; but they do not in any sense
design the tax code for their employees or "sponsor" the tax
system. They could more appropriately be considered a clearinghouse
for tax payments.
The place of
employment is likewise particularly convenient and efficient for
handling health insurance enrolment and payments. Workers with
employer-sponsored health insurance benefits typically sign up for
the firm's plan when they take a job and arrange for a payroll
deduction to cover premium costs for them or their family. With
individual tax credits or other forms of subsidy discussed above,
employers could carry out the critical clearinghouse role for plan
choices, tax adjustments, and premium payments. Such employers
would not required to organize or sponsor a plan for their
employees to obtain tax relief or other subsidies for the cost of
In other words,
smaller employers could handle the mechanical aspects of arranging
for payroll deductions and premium payments (similar to their role
in the tax collection system) without having to sponsor a plan.
Thus, the employer could play a very important role in facilitating
coverage without having to organize coverage. In this way the place
of employment could be the "point of service" for selection and
payment decisions, and for the receipt of subsidies, without the
employee being restricted to coverage decisions made by the
federalism" to discover the best arrangements for organizing health
Any approach designed to secure universal coverage, and
perhaps especially one which seeks to encourage greater equity and
freedom of choice in coverage, has to confront the challenge of
organizing the system of coverage. There is no consensus on which
structures are best to deliver health care. Some argue for
government-sponsored plans. Others for individual insurance. Others
still argue for various group arrangements. In addition, allowing
people to make choices in health care, even within
government-sponsored programs, raises such issues as risk
selection. Moreover, views differ on how to achieve the right
combination of subsidy and insurance regulation to secure
affordable and efficient coverage for people of differing health
Perhaps the fastest way to discover the best methods of
organizing health coverage under a universal system would be to
institute a modified form of the idea of "creative federalism."
Under this approach, federal-state covenants would be instituted to
test comprehensive and internally consistent strategies at the
state level designed to move towards universal coverage. Congress
would provide federal funds to assist states to experiment with a
chosen strategy for arranging health insurance and services. In
contrast to a simple system of block grants, these federal-state
covenants would operate within policy constraints designed to
achieve national goals for achieving universal coverage.
The Institute of Medicine (IOM), one of the national academies,
recently proposed a limited version of this strategy designed to
stimulate and test creative methods of expanding coverage for the
The IOM proposed that the federal government create a number of
statewide 10-year demonstrations based on combinations of
proposals, including federal and state tax credits, as well as
Medicaid and SCHIP expansions partly financed by the federal
Congress should consider the IOM recommendations. But it could also
pursue a more comprehensive strategy to trigger state
experimentation. Under such a more comprehensive "creative
federalism" approach the federal government would do four
Congress would establish goals for universal coverage. The
goals could include a certain percentage reduction in uninsurance
rates in each state over a period, and steps towards ending
multiple programs and eligibility criteria. Congress would also
establish boundaries in policies that could be adopted in reaching
the goals (e.g. that no person could face unreasonable coverage
costs as a result of their medical condition)
Congress would enact a number of changes to provide an "a la
carte menu" of federal policy options that would be available
to states to help achieve the goals. These options might
include making a version of the FEHBP available within the state,
allowing some Medicaid/SCHIP money to be used in creative ways,
removing regulatory/tax obstacles to churches, unions, and other
organizations providing health insurance plans, and the creation of
association plans and other innovative health organizations that
would then be available to states.
Congress would provide an amount of funding. This
would be fortwo purposes. Part of the money would help states fund
certain approaches. The other part would "reward" states according
to how successful they were in meeting the goals.
The federal government would enter into agreements, or
covenants, with states to achieve the goals. States would
propose some combination of modifications of their current
programs, initiatives with their federal allocation, and a
selection from the federal menu. The states could also negotiate
regulatory waivers to the extent allowed by law. The federal
agreement would have to agree to the covenant before it could
proceed and evaluation procedures would have to be
The goal of universal coverage is likely
to remain elusive under our current health care system. Today we
provide help to people to afford coverage in such an inefficient
and inequitable way that it is impossible to help all those who
need it to afford coverage. In addition, we have a patchwork of
programs and subsidy systems with a multitude of complex
eligibility requirements that guarantees people will fall through
the cracks. Reaching the goal of universal coverage will be
difficult. But it will be much easier if we rationalize subsidies
for health coverage, enable people to pick the form of coverage
that is best for them, and encourage state-federal experiments to
explore innovative ways of organizing health care
Heritage Foundation is the most broadly supported think tank in the
United States. During 2002, it had more than 200,000 individual,
foundation, and corporate supporters representing every state in
the U.S. Its 2002 contributions came from the following
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Foundation upon request.
Members of The
Heritage Foundation staff testify as individuals discussing their
own independent research. The views expressed are their own, and do
not reflect an institutional position for The Heritage Foundation
or its board of trustees.
Show references in this report
For a summary of the pros and cons of
employer-sponsored coverage, see Uwe E. Reinhardt, "Employer-Based
Insurance: A Balance Sheet," Health Affairs, Vol. 18, No. 6
(November/December 1999), pp. 124-132.
Congressional Budget Office, The Tax
Treatment of Employment-Based Health Insurance, 1994, p.
Kaiser Family Foundation and Health Research
and Educational Trust, Employer Health Benefits, 2000 (Menlo
Park, Cal.: Kaiser Family Foundation, 2000), p. 57.
Kaiser Commission on Medicaid and the
Uninsured, Uninsured in America: Key Facts (Washington,
D.C.: Kaiser Family Foundation, 2000).
 John Sheils and Paul
Hogan, "Cost Of Tax-Exempt Health Benefits In 1998," Health
Affairs, vol. 18, no. 2, March-April 1999, pp. 176-181.
 The 2002 Annual Report
of the Boards of Trustees of the Federal Hospital Insurance and
Federal Supplementary Insurance Trust Funds (Government Printing
Office, Washington, D.C., 2002), p.10.
 For a recent review of
management problems arising from congressional micromanagement, see
Sheila Burke et. al., Improving Medicare's Governance and
Management, (Washington, DC.: National Academy of Social
Insurance, 2002), pp. 39-42.
Jack Hadley and John
How Much Medical Care Do The Uninsured Use, And Who Pays For
It?" Health Affairs web exclusive, February 12, 2003,
A recent study found that automatic enrollment
for 401(k) plans boosted participation rates from 37 percent to 86
percent for such voluntary pensions, with even sharper increases
for young and lower-paid employees. See Brigitte Madrian and Dennis
Shea, The Power of Suggestion: Inertia in 401(k) Participation
and Savings Behavior, National Bureau of Economic Research
Working Paper No. 7682, May 2000, p. 51.
Janet M. Corrigan, Ann Greiner, Shari
M. Erickson, Editors, Fostering Rapid Advances
in Health Care: Learning from System Demonstrations
(Washington, D.C.: Institute of
Suggest what actions need to be taken in order to begin a difficultpath toward Universal Health Care.
Stuart M. Butler, Ph.D.
Distinguished Fellow and Director, Center for Policy Innovation
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