Time for a Sensible Medicare Drug Benefit

Report Health Care Reform

Time for a Sensible Medicare Drug Benefit

July 23, 2002 14 min read

Authors: Robert Moffit, Joseph Antos and Grace-Marie Turner

Members of Congress are trying to outdo each other in offering senior citizens a prescription drug benefit under Medicare. The House of Representatives has already enacted the Medicare Modernization and Prescription Drug Act of 2002 (H.R. 4954). The House bill would create a new prescription drug benefit as a federal entitlement, estimated to cost $311 billion over a 10-year period.

Meanwhile, working at a feverish pace, some members of the Senate have been developing and offering a variety of complex legislative proposals. Senators, in particular, are drafting badly designed legislative proposals that lack the serious structural reform necessary to improve the Medicare program--thereby guaranteeing an explosion of new costs that will further jeopardize the program's future.

There is no congressional disagreement about the need to integrate prescription drug coverage into Medicare's benefit structure. Since Medicare's inception, the pace of medical innovation has been dramatic. There has been a revolution in the ability to diagnose and treat illnesses, and much of that improvement has come from the development of effective pharmaceuticals--true wonder drugs that can extend and improve the lives of millions of people. But Medicare's benefit structure has not kept pace with these improvements in modern health care.

The national debate, then, is over the best way to deliver the drug benefit. Instead of trying to craft a complicated and highly regulatory Medicare drug program, Congress could give direct and immediate assistance to those senior citizens most in need who do not now have access to drug coverage, primarily those with lower incomes. Congress could do this by combining a prescription drug discount card with a generous federal subsidy to cover senior citizens' routine drug costs, coupled with a plan to provide private financial protection against the high drug costs facing some seniors. This not only would solve the problem of senior access to drug coverage, but also would be a crucial first step toward Medicare modernization.

Members of the Senate should note that there is already a precedent for such a low-income assistance program in the House-passed bill. In Section 105 of H.R. 4954, the House enacted a Medicare prescription drug card discount program and added a section establishing a "transitional prescription drug assistance program" for low-income Medicare beneficiaries. The House proposal would provide immediate assistance in the form of subsidies to these seniors starting with a down payment of $300 million in fiscal year (FY) 2003.1


There is more at stake in the policy debate than simply making pharmaceuticals more affordable for seniors. Decisions about the way that a prescription drug benefit is financed and delivered can affect the nature of health care in this country. The concerns are as serious as they are broad.

Today, 135 biotechnology and pharmaceutical companies have over 800 medicines in the research and development pipeline to treat the most common diseases among the elderly, including Alzheimer's, arthritis, cancer, heart disease, stroke, and osteoporosis.2 Pharmaceutical innovations can dramatically improve the quality of life for millions of current and future retirees, and reduce hospitalization and other health care costs, resulting in tens of billions of dollars in annual savings in the health care sector of the economy.

Will patients and their doctors continue to have an ability to choose the best medical treatment? Will researchers continue to find new cures and develop new drugs with fewer side effects to treat patients more effectively? Can the Medicare program remain financially sound with the addition of an expensive new benefit? The challenge is to craft a Medicare drug benefit that answers these questions affirmatively.

The Graham-Miller-Kennedy Proposal

The prescription drug benefit proposed by Senators Bob Graham (D-FL), Zell Miller (D-GA), and Edward Kennedy (D-MA) raises precisely those questions. Their bill (S. 2625) has a politically attractive premium, set at $25 per month, but it creates a massive government-controlled drug benefit that is scheduled to end in 2010. Their program would set drug prices for seniors at $10, $40, or $60, and the federal government would pay all costs once a beneficiary has used $4,000 worth of drugs. Unlike other proposals, the stop-loss provision is triggered by a beneficiary's total drug spending, not just the amount spent out of pocket.

The proposed program would exacerbate Medicare's managerial inefficiency and waste, and could drive the price of prescription drugs to new heights. There would be little incentive for the benefit administrators to drive a hard bargain for discounts from pharmaceutical manufacturers, since the government would pay them dollar-for-dollar for the costs of the drugs. Drug prices are likely to increase under this plan, since every dollar saved by the administrators would reduce their payment by a dollar without adding to their profits.

According to the Congressional Budget Office, the Graham-Miller-Kennedy bill would cost taxpayers an estimated $421 billion from 2005 through 2010, or $594 billion through 2012.3 Even with the 2010 sunset provision, the bill would constitute the largest single benefit expansion in Medicare's history. The CBO estimates could, in fact, seriously understate the program's true costs.

And for this, a highly diverse class of Medicare beneficiaries would get a one-size-fits-all drug benefit. Premiums and benefits would be uniform nationally, and beneficiaries would not be able to select a less expensive drug plan. They would also have first-dollar coverage, which would blunt any incentives for efficient use of prescription drugs.

It is unlikely that the Senate could enact such a benefit without resorting to price controls. Price controls and burdensome regulation are virtually inevitable if--or when--Medicare's prescription drug costs spiral even higher under the Graham-Miller-Kennedy bill.

Congress was faced with just such a cost spiral 20 years ago in Medicare Part B, the part that pays physicians. So Congress established a complicated fee schedule, which sets prices for more than 7,000 individual physician services in all of the nation's local markets, and imposed a cap on physician charges. In implementing this system, the Medicare bureaucracy issued thousands of pages of directives to doctors to regulate what they do and how they do it as a condition for reimbursement.

Meanwhile, not only have Medicare physicians' payments been constrained under this system, but doctors are also facing Medicare payment reductions.4 And some newly retired seniors are having difficulty finding a doctor willing to see them.

Using this failed model in a financially troubled system for the drug benefit would be a serious mistake. Government price setting could distort market incentives, leading to shortages of particular drugs. As costs inevitably rose, access to the newest drugs could be restricted. Such policies would discourage pharmaceutical research and innovation to discover new cures and better medicines, with serious consequences for everyone's health.

Alternative Senate Proposals Fall Short

Two other proposals under discussion in the Senate represent more prudent approaches to a Medicare drug benefit. A so-called Tripartisan proposal offers a comprehensive drug benefit through competing private prescription drug plans. A less costly proposal, sponsored by Senators Chuck Hagel (R-NE), John Ensign (R-NV), and others, would provide drug discounts and federally sponsored catastrophic coverage. Both of those bills contain elements that are positive, but they also contain elements that are problematic and could lead to serious problems for Medicare in the long term.

The Tripartisan Proposal
The Tripartisan proposal--the 21st Century Medicare Act, sponsored by Senators John Breaux ( D-LA), Charles Grassley (R-ID), and James Jeffords (I-VT)--would require that beneficiaries pay a significant share of their prescription drug expenses, including a $250 deductible and half of the cost of their prescription drugs between $250 and $3,450. A benefit "hole" above $3,450 would keep federal costs down. Once a beneficiary had spent a total of $3,700 (counting only out-of-pocket expenses), the federal government would pay all costs. Like many other Medicare drug proposals, the Tripartisan approach is somewhat complicated and is not easily explained to seniors and other taxpayers.

The Tripartisan proposal (S.2) adopts many of the market principles of the recently enacted House bill (H.R. 4954), although it offers more generous coverage and a lower monthly premium. Under both plans, competing drug plans would have an incentive to manage costs and negotiate favorable prices with pharmaceutical manufacturers. Plans would be permitted to pass on the savings to beneficiaries through lower premiums, which are expected to average about $30 a month in 2005.

The Tripartisan proposal also would establish a new fee-for-service option that would give seniors both greater financial protection against high medical expenses and additional preventive care benefits. That new option would limit the total out-of-pocket costs paid by beneficiaries for all Medicare services to $6,000 a year. It would eliminate separate deductibles for hospital and physician services, replacing them with a combined deductible of $300, and adjust other cost-sharing requirements. Preventive services would be made available without any cost-sharing requirements. Such changes would improve the financial protection afforded to enrollees in the enhanced program.

In addition, beleaguered Medicare+Choice plans would be given somewhat greater flexibility than is now permitted. The administered pricing scheme for those plans would be replaced by a limited bidding system.

The Tripartisan bill's drug benefit would increase federal spending by about $340 billion over the next decade. Other enhancements to Medicare's benefits would require an additional $30 billion in federal spending.

The proposal would introduce some new elements of competition into Medicare and provide additional incentives for more efficient use of health care resources, but it does not go far enough toward Medicare modernization. Although it is less expansive and more economically efficient than the Graham-Miller-Kennedy proposal, the bill would still impose substantial new costs on an already overburdened program. This level of spending would compromise Medicare's long-term solvency without the aggressive new efforts needed to reform the program.

The Hagel-Ensign Proposal
Senators Hagel and Ensign, and others, have proposed a catastrophic drug benefit that combines a discount prescription drug card with catastrophic coverage. The bill, the Medicare Rx Drug Discount and Security Act of 2001 (S. 1239), estimated to cost $160 billion over 10 years, incorporates an idea similar to the President's discount drug card program to give seniors access to privately negotiated discounts.

This bill also would provide catastrophic coverage triggered by income and drug expenditures. For example, catastrophic coverage would begin when out-of-pocket drug expenditures hit $1,500 a year for those with incomes below 200 percent of poverty and $5,500 for those between 400 percent and 600 percent of poverty.

In the most prominent model for Medicare reform, the Federal Employees Health Benefits Program (FEHBP), competing health insurance plans all offer prescription drug coverage. In terms of catastrophic coverage, private plans in the FEHBP, not taxpayers, assume the risk. But in the Hagel-Ensign proposal, the taxpayers, not private entities, would bear the risk of the catastrophic coverage.

That means that the Hagel-Ensign bill is a government drug benefit program that simply triggers at a higher level. This is not Medicare reform. The proposal would not harness free-market forces to keep drug costs down in the same way the FEHBP does.


Independent analysts, including those with the U.S. General Accounting Office and the Congressional Budget Office, have repeatedly advised Congress that a drug benefit should be crafted within the context of serious Medicare reform. President George W. Bush also has repeatedly expressed the Administration's support for principles designed to inject competition and choice into the Medicare program, based on a reform plan developed by Senator John Breaux (D-LA) and Representative Bill Thomas (R-CA).5 That proposal would give seniors the freedom to choose from among competing private health plans, just as federal workers and retirees do in the FEHBP. Those plans would incorporate prescription drugs as an integral element of their medical benefit packages.

As an interim measure, the President has proposed offering Medicare-endorsed prescription drug discount cards to seniors. Discount cards are already available to consumers from pharmaceutical companies, retail pharmacies, drug benefit managers, and health plans. These cards often offer discounts of 10 percent to 20 percent (or more) off the retail price. Under the President's proposal, seniors would pay a fee to participate that is much like a buyers' club membership fee.

The President's discount card proposal, however, is flawed: It would hand-select a few players from a limited field, and it has predictably invited lawsuits by groups who say it is anti-competitive and by pharmacists who fear the entire discount will be drawn from their dispensing fees.

Creating a Drug Security Card
A new drug benefit must include elements of broader program reform or it will endanger the financial stability of Medicare. One innovative proposal called the Prescription Drug Security (PDS) Card plan offers meaningful drug coverage to seniors most in need while promoting efficiency, innovation, and consumer choice.6 It also provides a way of testing market-based reforms that are key to Medicare's long-term survival.

The PDS plan combines a drug discount card with a cash subsidy for low-income people, a tax-deferred saving option for others, and catastrophic insurance protection. The plan would target immediate financial assistance to low-income seniors to assist in purchasing routine medications while also providing private catastrophic coverage for large drug expenses.

Low-income seniors without drug coverage would get a PDS card with $600 a year from the federal government to help them with routine drug purchases and could roll over any balance to the next year when another deposit would be made. Seniors who did not qualify for a subsidy could make a tax-deductible contribution to a PDS account. All seniors enrolling in the program would be protected by catastrophic coverage that starts when their drug spending hits $2,000.

Seniors would be able to choose from among competing private plans that would track their card balances, negotiate discounts on their behalf, organize the catastrophic coverage, and provide other services to improve patient safety.

Efficient Administration
Administration of the PDS card program would be modeled after the FEHBP. The administering agency would provide broad direction to individual plans on required benefits and other policies, negotiate with plans on their premium offers, and provide information to Medicare beneficiaries on their options and the performance of individual plans. Price controls and overregulation would be replaced with flexibility and a consumer focus.

The PDS plan would allow Congress to focus on seniors who lack drug coverage and not disrupt the good coverage that millions of others have now. This plan also would allow seniors and their doctors to decide what drugs are best for them and would actually put in place a foundation for changes that could save Medicare in the long run.


Members of Congress want to enact a prescription drug benefit for senior citizens. There is no debate over the need to assure that all seniors should have access to prescription drug coverage.

Of course, most senior citizens today do have access to prescription drugs, either through their former employers or through supplemental coverage. The danger is that Congress will enact badly designed Medicare prescription drug benefits that end up dumping senior citizens out of the coverage they do have into a government program that will be plagued by explosive costs and constrained by regulatory restrictions on the availability of high-quality prescription drug coverage.

Congress should do the right thing for both senior citizens and young working families who finance the bulk of Medicare costs. President Bush has promoted a drug discount card without success, but Congress can put resources behind it to target needy seniors and make it work effectively. The Prescription Drug Security Card could provide meaningful help for low-income seniors who do not have access to drug coverage. These seniors should be the priority for Washington policymakers, who can--and should--provide this help while creating a framework for expanding drug coverage in tandem with overall Medicare reform.

Joseph Antos, Ph.D., is a resident scholar at the American Enterprise Institute and most recently served at the Congressional Budget Office, where he directed analyses of Medicare prescription drug benefits and other legislation. Grace-Marie Turner is President of the Galen Institute, a not-for-profit health policy research organization based in Alexandria, Virginia. Robert E. Moffit, Ph.D., is Director of Domestic Policy Studies at The Heritage Foundation.

1. See Section 105 of H.R. 4954, which inserts into the Social Security Act a new Section 1807A, "Transitional Prescription Drug Assistance program for Low Income Beneficiaries."

2. Pharmaceutical Research and Manufacturers Association, "Drug Companies Are Testing More Than 800 New Medicines for Diseases of Aging," 2002 Survey of New Medicines in Development for Older Americans, p. 1.

4. For an account of this problem, see Robert E. Moffit, Ph.D., "Why Doctors Are Abandoning Medicare and What Should Be Done About It," Heritage Foundation Backgrounder No. 1539, April 22, 2002.

5. For an account of how this could be accomplished, see Robert E. Moffit, Ph.D., "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 details on the Prescription Drug Security Card proposal, see http://www.galen.org.


Robert E. Moffit
Robert Moffit

Senior Research Fellow, Center for Health and Welfare Policy

Joseph Antos

Visiting Fellow

Grace-Marie Turner

President of the Galen Institute