Big Gaps in Cost Sharing
Traditional Medicare’s cost-sharing structure has remained virtually unchanged since 1965, and seniors face unlimited out-of-pocket costs. In sharp contrast to private insurance, the greater Medicare patients’ medical needs and the longer the duration of their care, the more they pay. For example, Medicare Part A’s hospital deductible is very high: $1,184 for each “spell of illness” (60 days) in a hospital. Beyond this initial deductible, Medicare patients also pay a “co-insurance” of $296 per day for hospital days 61 to 90, which is increased to $592 per day for hospital days 91 to 150. For skilled nursing care, Medicare patients must pay $148 per day for days 21 to 100. While Medicare Part B, the part of the program that pays physicians and outpatient Medicare costs, is subject to a modest annual deductible of $147, most Part B services require a 20 percent co-insurance.
Insurance Overkill. These complex payment arrangements, plus gaps in coverage—particularly the lack of catastrophic protection—encourage millions of seniors, more than nine out of 10, to enroll in supplemental coverage. Among Medicare beneficiaries, 31.3 percent have employer-sponsored supplemental coverage; 21.3 percent are enrolled in Medigap plans; and Medicaid, which is a welfare program, accounts for 12 percent Employer-based retiree coverage is declining: between 1997 and 2010, such coverage for persons over the age of 65 fell from 20 percent to 16 percent
Beyond providing the missing catastrophic protection, these plans plug other gaps in coverage. More important, many cover Medicare’s co-payments, ensuring “first dollar” coverage, and making Medicare “free” or “nearly free” at the point of service. This drives up utilization. As the Medicare Payment Advisory Commission (MedPAC), the panel that advises Congress on Medicare reimbursement, observes, “By effectively eliminating FFS [fee for service], Medicare’s price signals at the point of service, supplemental coverage generally masks the financial consequences of beneficiaries’ choices about whether to seek care and which types of providers and therapies to use.” Writing in 2009, Walton Francis, a prominent Washington health care economist, summarized the state of the research at that time:
The literature on the effects of Medigap on Medicare spending generally agrees that excess utilization of medical care is on the order of 15 to 25 percent, or at today’s per capita spending levels, from $1,500 to perhaps over $2,500 a year per enrollee in costs to original Medicare, and (as a “ballpark” estimate) in the range of $45 billion to $75 billion a year in total original Medicare spending
More Spending and Higher Premiums. While such coverage appeals to seniors, it guarantees higher costs for both them and the taxpayers. While effectively insulating Medicare enrollees from bearing the direct cost of their care, the systemic result is higher overall Medicare spending, which contributes directly to higher Medicare beneficiary premiums. Recent research confirms the relationship between supplemental coverage and higher Medicare spending growth. Researchers found that between 1992 and 2005 Medicare beneficiaries without supplemental coverage experienced an average annual spending growth of 6.08 percent, compared to an average annual rate of 7.17 percent for beneficiaries with employer-sponsored supplemental plans, and 7.18 percent with individually purchased coverage
Likewise, MedPAC reports that total Medicare spending was 17 percent higher for beneficiaries enrolled in employer-sponsored coverage, and was 33 percent higher for beneficiaries with Medigap than those with no supplemental coverage A major study, commissioned by MedPAC, concludes that “[a]ll of the available evidence suggests that secondary insurance raises Medicare spending substantially.” Medicare beneficiaries’ premiums are inflated primarily as a result of higher Part B spending. This increased spending, according to MedPAC, is almost solely from beneficiaries with supplemental coverage who pay less than 5 percent of Part B costs out of pocket.
Supplemental coverage, particularly Medigap, thus results in a hidden cost shift to seniors. Part B premiums (fixed at 25 percent of the total premium cost for beneficiaries) are designed to cover the cost of Part B benefits. But the excess utilization also contributes to a higher dollar amount for those premiums. A recent analysis of the MedPAC data by The Heritage Foundation’s Center for Data Analysis (CDA) estimates that all beneficiaries pay roughly 5 percent more in higher Part B premiums because of the higher spending generated by Medigap’s “first dollar” coverage. This amounts to a total increase of beneficiaries’ out-of-pocket Part B spending of $70.1 billion by 2023, according to CDA estimates
Beyond its impact on total Part B spending, Medigap enrollees’ presumed insulation from cost is less than it appears. Says Glenn Hackbarth, chairman of MedPAC, “For most beneficiaries who purchase Medigap policies, the amount they pay in premiums is often well above the amount they would have incurred in cost sharing in the absence of supplemental coverage.” Medigap insurance itself is not a cheap product for beneficiaries Beneficiaries who have a Medigap plan will pay a total of $334 billion in premiums by 2023, according to CDA estimates.
A Better Policy
With the enactment of the Medicare Modernization Act of 2003, Congress created the Medicare Advantage program of competing private health plans. While the Medicare Advantage payment system is flawed precisely because it is rooted in Medicare’s administrative payment system rather than real market-based competitive bidding, patients are nonetheless protected from unlimited out-of-pocket costs.
Following Medicare Advantage, all major Medicare reform (“premium support”) proposals—ranging from the Heritage plan to the bipartisan 2011 Wyden–Ryan pla—would require catastrophic coverage. Likewise, in a true competitive market, there would be a variety of premiums and deductibles, reflecting different levels of coverage of the enrollees’ choice. As a first step toward a comprehensive reform of Medicare, Congress should do two things:
First, rationalize traditional Medicare’s complex and perverse co-payment arrangements. Congress should create a single deductible for Parts A and B, and provide uniform co-insurance and limit supplemental coverage of Medicare’s cost sharing. While the central policy is the same—ending first dollar coverage—there can be variations on this approach. Thomas Miller, a resident fellow at the American Enterprise Institute, suggests revisiting the 1994 proposal developed by economists Martin Feldstein and Jonathan Gruber: increasing co-insurance to 50 percent, while limiting patients’ out-of-pocket spending to 10 percent of their income The Congressional Budget Office has also suggested an annual catastrophic cap ($5,500), plus a single Medicare deductible and uniform co-insurance. If Congress also restricted Medigap coverage of cost sharing by exempting just the first $550 of enrollee payment from that coverage, the 10-year savings would amount to $92.5 billion
By contrast, President Obama proposes a new tax on newly retiring seniors who buy generous supplemental coverage. In his fiscal year 2014 budget, the President proposes a Medicare Part B premium “surcharge” for new enrollees who buy “near first dollar” Medigap coverage. Beginning in 2017, the surcharge would be equivalent to 15 percent of the average Medigap premium, adding even more to seniors’ out-of-pocket costs. The President’s proposal, however, would yield a 10-year savings of only $2.9 billion
Realigning economic incentives—as proposed by the Congressional Budget Office—is a much better policy than simply leaving them in place and clawing back excess Medicare spending through a premium tax on Medicare beneficiaries. Eliminating perverse incentives is clearly preferable both on economic and budgetary grounds.
Second, add a catastrophic benefit in combination with these Part A and Part B cost-sharing reforms. The whole point of insurance is to guarantee patient protection against the unforeseen and financially devastating costs of catastrophic illness. But, as noted, traditional Medicare does no such thing.
The level at which a catastrophic threshold should be set is a prudential question. The Heritage proposal, for example, would initially set the catastrophic coverage level on the average that is obtained in the Medicare Advantage program, and subsequently allow that cap to be set by free-market forces of consumer choice and competition, as is the case today in the Federal Employees Health Benefits Program The Bipartisan Policy Center has proposed an annual out-of-pocket cap of $5,250, and the National Commission on Fiscal Responsibility and Reform (Bowles–Simpson Commission) has recommended an annual catastrophic cap of $7,500 Economist Walton Francis proposes implementing a Medicare catastrophic benefit only for those who do not have such coverage, or would be willing to switch from more expensive supplemental coverage to the less expensive catastrophic benefit. If structured properly, this policy change would also yield budget savings In any case, the higher the catastrophic benefit threshold, the lower the beneficiaries’ premium cost.
The bottom line: Congress can control Medicare costs and reduce seniors’ premium increases.
—Robert E. Moffit, PhD, is Senior Fellow in the Center for Health Policy Studies at The Heritage Foundation, and Drew Gonshorowski is Policy Analyst in the Center for Data Analysis at The Heritage Foundation.