How Medicaid's mission creep is undermining real health care

Medicare is key to fixing health care and the federal budget

Many failed political candidates can attest to the risks of supporting changes to Medicare. It’s an easy problem to exploit in the heat of the moment. At the same time, there is no avoiding the centrality of the program to two serious challenges: rising medical care spending and the sharp increase in the projected federal debt over the next 30 years. Neither can be adequately addressed without health insurance reform.

What connects the two issues is the burden that unruly medical spending places on American society. Widespread waste, excessive administrative costs and irrationally high prices force households to pay higher premiums and taxes than necessary. They also contribute to government borrowing and debt.

Although Medicare pays lower rates for most medical services compared to commercial insurance due to strict regulations, the program does not have costs fully under control. Medicare’s detailed rules influence how hospitals, doctors’ offices and other service providers organize themselves to care for patients. In general, Medicare’s fee-for-service billing system has encouraged fragmentation rather than coordination, resulting in higher costs. Medicare is not exempt from the resulting lack of discipline.

A major problem today is that patients receive many services that do not improve their health. Medicare payments are low compared to private plans, but some of the services beneficiaries receive are unnecessary. Moreover, even with regulation, Medicare payments are likely too high in some cases, in part because program rules implicitly fund the high administrative expenses built into hospital and physician billing systems.

There are two potential paths to reform. It would rely on stricter government payment regulations and new federal efforts to improve value through bonuses and other incentives. The other would use market incentives to help consumers switch to coverage and service providers that offer the best combination of high quality and low prices.

The market option requires rules that structure competition because medical care is not like most other services or products. Patients know far less about the care they need than their doctors, and most consumers want insurance protection so they don’t have to weigh the value of individual services against their costs.

However, with the right rules and incentives, Medicare beneficiaries will opt for cheaper options if they are confident they will still receive the care they need to stay healthy or get better. To achieve this, the government should standardize choices for Medicare beneficiaries to allow for easy apples-to-apples comparisons and ensure savings are directed to those who decide to save.

There are private coverage options in Medicare today — called Medicare Advantage plans — but the payment system doesn’t reward lower costs. A significant reform would tie payments in each market to a weighted average of these plans’ offerings and the measured per capita costs of traditional health insurance. The coverage offered would be the same for all options. Beneficiaries would keep the premium savings when they enroll in plans with lower than average premiums (and pay more when they opt for higher priced coverage). The Congressional Budget Office (CBO) estimated that this reform would reduce total government and Medicare beneficiary spending by 7%.

Similarly, for certain high-volume and schedulable services, such as joint replacement surgery, Medicare should require those involved in the care of affected patients to coordinate to post the “all-inclusive” prices they will charge, with the definition of the bundle standardized by the regulations. Medicare patients could then see price differences between those providing the service in their markets. If they were allowed to split the savings, it’s likely that many would opt for the surgery teams offering below-average prices.

Medicare is the largest payer of medical services in the United States. He writes the rules that others must follow. If the program changed to encourage cost reduction through competition and consumer choice, the entire system would benefit from a renewed focus on efficiency in the delivery of services to patients.

James C. Capretta is a Principal Investigator and Milton Friedman Chair at the American Institute of Enterprise.

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