February 14, 2003

February 14, 2003 | WebMemo on Health Care

Getting The Details Right:  The Key Do's And Don'ts OfMedicare Reform


The President of the United States is proposing a major reform of the ailing Medicare program and favors committing $400 billion to that formidable effort over the next 10 years. Moreover, the President has indicated clearly, both in his 2003 State of the Union address and in his previous statements on the subject,[1] that his preferred model for Medicare reform is the 43-year-old Federal Employees Health Benefits Program (FEHBP). This is the model proposed by leading members of both political parties, as well as a majority of the membership of the National Bipartisan Commission on the Future of Medicare in 1999.[2] There is also ample research on the validity of this model for Medicare reform.[3]


Though the President has broadly outlined the general direction of Medicare reform, it now appears that fine-tuning the details rests with Members of Congress.[4]


While the broad themes of Medicare reform are easily couched in the attractive terms of consumer choice and competition, and "giving seniors the same kind of choices that are enjoyed by Members of Congress," the crucial issues will be addressed in the complex and detailed legislative texts.Members of Congress are discussing the development of their own reform proposals; but reform could mean very different things to different members of Congress.Ordinary Americans should realize that the actual legislative reality could turn out to be very different from the rhetoric accompanying the positions on either side of the Medicare debate. This is precisely what has happened in congressional debate on the future of Medicare and attempts to craft various Medicare reform proposals since 1995.[5]


Crafting the Fine Print.
The key task for pro-reform Members of Congress and Administration officials is to match their rhetoric with the reality of the legislative text that they are preparing for congressional consideration and enactment. While using the language of patient-centered care and the primacy of patient choice and free-market competition in the financing of medical services, it is crucial for Members of Congress and staff, as well as ordinary citizens, to make sure that the fine print of the legislative text matches the political rhetoric. This is especially the case when Members of Congress are proposing to change the dynamics of a government program, moving from a government model based on central planning and price regulation to a government model based on consumer choice and market competition. As government programs, Medicare and FEHBP have very different structures; they function very differently; and they have very different dynamics.


What Not to Do in Drafting Medicare Legislation


In drafting legislative language, there are key Don'ts that will make the task easier for reform-minded members of the House and Senate to achieve a new system based on patient choice and control and free-market competition. Specifically:


  • DON'T create a restrictive system of government purchasing for health plans, medical goods, devices, or medical services. In the procurement of goods and services on behalf of the taxpayers, government agencies, such as the Department of Defense, the Department of Energy, or the General Services Administration, often announce the specifics of what they want and choose a limited number of contractors (one or two or three) to provide those goods or services. This federal procurement process is often called "competitive bidding."

    The objective of this process is to satisfy the stated requirements of government officials for goods and services purchased by the government and for the government. While this process may work very well for the procurement of government automobiles, aircraft, tanks, desks, file cabinets, or the provision of certain commodities or services, it is logically incompatible with a health care reform program that is supposed to be based on the widest possible patient choice and a robust free-market competition among health plans and providers. Such a process not only will become an engine designed to restrict patient choice, but also will threaten quality care by encouraging the acceptance of "low bids" to save money. Drafters of Medicare legislation should not design a system that will end up ignoring the particular wants and needs of patients and insulate the new system from dynamic changes, including improvements in quality, that routinely emerge in the health care sector of the economy.

    The federal procurement model of health care purchasing, even sole-source contracting, is a recurrent policy objective among government officials. There are several disturbing examples. In the 1990s, Office of Personnel Management (OPM) officials proposed government bulk purchasing and pricing of prescription drugs for enrollees in the FEHBP, but it was not enacted.[6] In 1999, the Clinton Administration proposed the creation of government-sponsored, geographically defined, and highly regulated private monopolies for the management of prescription drug coverage for senior citizens.[7] Last year, leading House and Senate Medicare bills included provisions that would have established a government system of "competitive bidding" for durable medical equipment in the Medicare program.[8]


  • DON"T establish a comprehensive standardized health benefits package, with federal officials determining all of the details of medical services, treatments, and procedures that will be available to retirees. One of the central weaknesses of the current Medicare program is that Congress and the Medicare bureaucracy standardize health benefits and medical services in law and regulation, specifying in detail what is or is not available to Medicare patients. This standardization includes health benefits, as well as any co-payments, deductibles, or co-insurance requirements.

    This is inflexible. In practice, the government's standardized benefits package stays fixed unless and until Congress changes the law or authorizes the Medicare bureaucracy to make politically acceptable changes. This means that any change in Medicare's benefit package becomes a major political event, requiring an act of Congress accompanied by extensive hearings and often-turbulent floor debate, or else a major Administration initiative published for review and comment by the health care experts who have the time to read the Federal Register.

    This can hurt Medicare patients. Regardless of their personal needs, they are locked in a bureaucratic system in which change comes very slowly, and the benefits available to them are available only on the terms and conditions set forth either by Congress or by the Medicare bureaucracy. Under current law and regulation, reaffirmed in the federal courts, they cannot even go out and spend their own money on a Medicare benefit or service provided by a doctor of choice without government restriction.

    This is incompatible with medical progress. Government standardized benefits are largely insulated from the variety of changes and innovations that can quickly take place in benefit design or in the application of biomedical science or technology.


  • DON'T expand the power of the Medicare bureaucracy and replicate the mistakes of the flawed "Medicare+Choice" experiment, impose a rigid system of administrative pricing, and add reams of new regulation. In the traditional Medicare "fee-for-service" system, doctors, hospitals, and other medical professionals labor under literally tens of thousands of pages of rules, regulations, guidelines, and related Medicare paperwork. Indeed, Medicare "fee for service," governed by a complex and cumbersome system of price controls and extensive regulation is fee-for-service in name only; it is the most rigorously managed system of managed care in America.

    With the establishment of the Medicare+Choice program under the Balanced Budget Act of 1997, the Congress also created another system of administrative pricing for the payment of private plans. That system did not, and does not reflect the changing conditions of supply and demand in the health insurance market. Thus, while health care costs have been growing at a double-digit pace, the administrative payment system has reimbursed health plans at no more than 2 percent.

    Even worse, Congress simply expanded the power of the Medicare bureaucracy by imposing even more detailed rules on private plans participating in the Medicare+Choice program. This regulatory regime increases costs, stifles innovation, and encourages health plans to leave the program. Virtually no aspect of plan operations in Medicare+Choice escapes the Medicare bureaucracy's regulatory control.[9]


  • DON'T simply add a prescription drug benefit of unknown cost to Medicare without creating a new Medicare structure for the future. Responsible officials from respected agencies such as the Congressional Budget Office (CBO) and the General Accounting Office (GAO) have warned Members of Congress of the need to address serious, long-term financial and structural problems in the existing Medicare program before adding a Medicare prescription drug benefit. In the new Congress, this advice should be heeded.

What To Do in Crafting Medicare Legislation

Members of Congress can build directly on the experience of the FEHBP and created a superior system for America's retirees. Specifically:


  • DO create an open and pluralistic system of free-market competition among health plans and providers. While not a perfect market model, the FEHBP is a remarkably open system. Plans must meet basic statutory and regulatory standards, including basic benefit requirements, fiscal solvency, and consumer protection standards. All plans that meet basic standards have the right to compete directly for consumers' dollars in the FEHBP. They are not excluded either because they are high-cost health plans or low-cost health plans. They are not excluded because they have a rich or a lean benefits package. OPM negotiates the rates and benefits, and makes sure that there is a reasonable relationship between the benefits package and the premiums being charged. Otherwise, plans are largely free to innovate.

    With regard to specific benefits, services, and medical devices or medical technology, the FEHBP health plans largely develop their own benefit packages. They determine the combination of benefits and premiums, co-payments and deductibles and offer them to the FEHBP enrollees each year. The decision to accept or reject these benefit offerings is a decision of the enrollees; in other words, it is a decision largely governed by the free-market forces of supply and demand. As the GAO, the investigative arm of Congress, notes in a recent report: "As long as plans continue to meet the minimum standards, OPM does not exclude them from the program."[10]
  • DO establish a core benefit requirement coupled with a policy to maximize flexibility, innovation, and variety in benefit design. In trying to secure basic protection of Medicare beneficiaries while encouraging access to the best that modern medical science and technology has to offer, Administration officials and Members of Congress should look at the positive experience of the FEHBP. In that program, the OPM officials have made sure that all health plans meet basic core benefit requirements. These core requirements are set forth in statute and include categories of benefits that plans must offer, such as physicians' services, hospitalization, and catastrophic coverage requirements.

    Again, as the GAO notes, in response to OPM's annual solicitation to participate in the program, health plans propose "their own" benefit packages.[11] Beyond the core statutory requirements, OPM officials negotiate with plans on benefits and medical services. In the course of those negotiations, they expect and encourage health plans to innovate, developing different benefit offerings; combinations of benefits, services, and medical procedures; and combinations of co-payments, deductibles, and premium payments.

    In drafting Medicare reform, Members of Congress should likewise make sure that the text of their legislative handiwork ensures that the choice of health plans, benefits, doctors, and medical treatments and procedures should be the choice of patients, ideally in consultation with family members, caregivers, or physicians.
  • DO make sure that Medicare enrollees have access to consumer-directed care options, such as medical savings accounts or other health care account options. Seniors who wish to pay physicians directly for routine medical services out of tax-favored accounts should have the right to do so. Likewise, any newly retired persons who wish to carry unused balances in health care accounts into retirement, to be rolled over tax-free and used for payment of medical services in retirement, should be free to do so.
  • DO create a new administrative agency, which would function as the U.S. Office of Personnel Management functions in administering the FEHBP: with a small bureaucracy and little red tape. Once again, the best model is the FEHBP. In this program, OPM administers a pluralistic system of competing private plans. In FY 2000, only 176 civil servants ran the FEHBP, serving roughly 9 million enrollees, including federal retirees and their spouses. The 43-year-old law that governs the FEHBP is only dozens of pages in length, and the applicable federal regulations are comparatively few in number.

    In sharp contrast to Medicare, there is little congressional micromanagement of the FEHBP. According to a comparative analysis of Budget Reconciliation Acts alone, between 1990 and 2000, there were only four amendments that pertained to the FEHBP; in Medicare, there were 578.[12] The heavy lifting in the program is done through consumer choice and market competition, and not through government regulation or congressional micromanagement.

    Under its statutory authority, OPM is free to negotiate rates and benefits and admit health plans to compete in the program. The basic rules are simple: Plans must be licensed by the states in which they do business; they must meet the basic benefit, fiscal solvency, and consumer protection requirements; they must be reinsured and have ample reserve funds; they must offer statements of benefits couched in plain English, with definitions of limitations and exclusions that OPM considers "necessary or desirable"; they must charge rates that "reasonably and equitably" reflect the costs of the health benefits; and they must agree to provide benefits or services to enrollees under the terms of their contracts with the federal government.
  • DO make sure that future Medicare beneficiaries have a multiple choice of a variety of health plans in every area of the country. Again, the best model is the FEHBP. This year, every FEHBP enrollee, whether rural or urban, has a multiple choice of health plans. There are at least twelve national health plan options available to all enrollees nationwide.[13] Normally, these national plans are fee-for-service or preferred provider organizations (PPOs). Health maintenance organizations (HMOs) participate under different rules, and the number of participating HMOs, which today cover roughly 30 percent of all FEHBP enrollees, varies from year to year. Those charged with drafting Medicare reform should establish a similar structure for plan options for Medicare enrollees.
  • DO establish a mechanism, administered by the new Medicare agency, to cope with adverse selection. One of the persistent problems of the FEHBP is that there is not now, and never has been, a government policy to cope with adverse selection: the congregation of older and sicker high-risk individuals in certain plans who drive up costs and thereby encourage younger and healthier individuals to exit these plans.

    Adverse selection has been a continuing irritant in the program; it has not proven to be an impossible problem in the FEHBP because competing plans have been able to manage and price risk fairly well over the years. Moreover, there is some evidence that the size of the subsidies to enrollees has also mitigated the impact of adverse selection. Nonetheless, the problem does exist and needs to be addressed. In the creation of a new Medicare program, there are several ways to ameliorate the impact of adverse selection. Allowing limited underwriting while varying government contributions to enrollees based on age or risk, or requiring participation in a reinsurance pool for competing plans could do this, for example.
  • DO make sure that any Medicare prescription drug benefit is compatible with a new Medicare program based on personal choice, competition, and quality care. Those who draft a Medicare drug benefit should recognize that, to be successful, it should not displace the existing drug coverage that beneficiaries want or need. The best way to accomplish this is to make sure that drug coverage is integrated into a competitive system of private health plans, just as the FEHBP is today. For low-income seniors, drafters should provide subsidies to offset their drug costs.

    Short of a fully integrated system, the next best option is to target direct assistance to low-income seniors who do not have access to drug coverage through former employers, or who cannot afford private health coverage or are ineligible for Medicaid coverage. The best proposal yet unveiled to accomplish this is the proposed prescription drug discount card tied to a generous federal subsidy. These funds, between $600 and $800, could be deposited in a Medicare drug account for these senior citizens. Health policy analysts at the American Enterprise Institute and the Galen Institute have developed such a proposal, and PricewaterhouseCoopers, a prominent firm, has estimated its overall costs.[14] 


At the end of this Medicare reform drafting process, the legislative text should guarantee that retirees and their doctors should be the key decision makers in the system. To be specific, retirees should be the key decision makers in all matters that relate to the flow of dollars in the new system. This means that they should be the persons who are picking and choosing the health plans, medical benefits, treatments, therapies, and procedures that are best for them. Their doctors, caregivers, and family members can and should play a key role in making these decisions.


In addition, doctors should have the professional independence to make the key decisions over the prescription and delivery of legal medical therapies, treatments, and procedures to their patients without complying with reams of government regulations or paperwork, the threat of fines or penalties for clerical errors, or constant fears of career-ruining government audits and investigations for fraud and abuse because of disagreements with Medicare officials or their contractors.


Government should serve as a referee among competing health plans, operating on a level playing field. Government officials should be in the business of promoting the widest possible access to health care services, including innovative benefit designs and certifying health plans for approval in accordance with basic benefit standards, consumer protection, and fiscal solvency rules. There should be a minimum of bureaucracy and regulation in the new system.


That official commitment to innovation, flexibility, and quality will serve Medicare patients best. After all, it has served Members of Congress and the federal workforce well for over 43 years.


[1]The President unveiled his principles for Medicare reform in July 2001, stating that Medicare beneficiaries should have the same kinds of choices available to federal employees and retirees enrolled in the FEHBP.

[2]See Stuart M. Butler, "Principles for a Bipartisan Reform of Medicare," Heritage Foundation Backgrounder No. 1247, January 20, 1999.

[3]See in particular Harry P. Cain, " Moving Medicare to the FEHBP Model, Or, How to Make an Elephant Fly," Health Affairs, Vol. 18, No. 4 (July/August 1999), pp. 25-39; Walton J. Francis, "The FEHBP as a Model for Medicare Reform," in Robert B. Helms, ed., Medicare in The Twenty First Century: Seeking Fair and Efficient Reform (Washington, D.C.: AEI Press, 1999), pp. 147-168; and Stuart M. Butler and Robert E. Moffit, "The FEHBP as a Model for a New Medicare Program," Health Affairs, Vol. 14, No. 4 (Winter 1995), pp. 47-61.

[4]Sarah Leuk, "White House Alters Tack on Mapping Medicare Overhaul," The Wall Street Journal, February 12, 2003, p. A4.

[5]On this point, see Robert E. Moffit, "Improving and Preserving Medicare for Tomorrow's Seniors," in Stuart M. Butler and Kim R. Holmes, eds., Priorities for the President, A Mandate for Leadership Project (Washington, D.C.: The Heritage Foundation , 2001), pp. 31-52.

[6]For background on this failed OPM proposal, see Robert E. Moffit, "How Washington Can Improve Health Care Coverage for Federal Workers and Their Families," Heritage Foundation Backgrounder No. 1504, November 19, 2001, pp. 5-6.

[7]See James Frogue and Robert E. Moffit, "A Closer Look at Clinton's Medicare Plan," Heritage Foundation Backgrounder No. 1346, February 17, 2000.

[8]In the House of Representatives, the durable medical equipment (DME) procurement provisions would have been created under Section 511 of the Medicare Modernization and Prescription Drug Act (H.R. 4954), which was passed by the House last year.

[9]On this point, see Robert E. Moffit, "Regulated to Death: How Medicare's Bureaucracy Is Killing Seniors' Choices," Heritage Foundation Executive Memorandum, No. 687, June 29, 2000.

[10]U.S. General Accounting Office, Federal Employees' Health Plans: Premium Growth and OPM's Role in Negotiating Benefits, GAO-03-236, December 2002, p. 17.

[11]Ibid., p. 6.

[12]Based on a 2001 Heritage research staff analysis.

[13]Information supplied by Jonathan Blyth, Office of Congressional Relations, U.S. Office of Personnel management, February 13, 2003. 

[14]See Joseph R. Antos, Ph.D., et al., "Time for a Sensible Medicare Drug Benefit," Heritage Foundation Backgrounder No. 1573, July 23, 2002.

About the Author

Robert E. Moffit, Ph.D. Senior Fellow
Center for Health Policy Studies