Beneath the Surface

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Chapter 6 of Donald Barr’s Introduction to U.S. Health Policy analyzes Medicare, the federal health insurance program for the elderly. The good news about Medicare is that it is “the most efficient medical payment system in the country,” costing much less in administrative costs and other non-care expenses than private insurance. The bad news is that Medicare has not succeeded in controlling the rising costs of care. The Medicare Trustees’ Report of 2009, before the passage of the Affordable Care Act, projected that the trust fund covering hospitalization would be exhausted by 2017.

Citizens 65 and over are eligible to enroll in Medicare. Medicare Part A is a service plan covering hospital care without charging a premium. After a deductible payment roughly equal to one day of hospitalization, Medicare pays the entire cost up to 60 days per illness, and part of the cost for up to an additional 90 days. Part A also covers the entire cost for up to 20 days in a skilled nursing facility following hospitalization, and part of the cost for up to an additional 80 days. It also covers the cost of hospice care for the terminally ill. Part A is financed by a 1.45% tax on employers and employees. In theory, the taxes paid by a large generation as workers can generate a trust fund surplus to help cover their benefits as retirees, but in practice, the rising cost of care has created an impending shortfall for the Baby Boom generation.

Medicare Part B is an optional, premium-based insurance plan covering physicians’ bills and other outpatient medical costs. Almost all seniors choose to participate in the plan, usually by having the premium deducted from their Social Security payment. The premiums cover only about one-fourth of the government’s cost, with the rest coming from general tax revenues.  Medical providers can decide whether they will “accept Medicare assignment,” meaning that they limit their fee to Medicare’s standard rate for the particular service provided. If so, Medicare will pay them 80% of that fee, and the patient will pay the remaining 20%. If they do not accept assignment, they can charge the patient up to 115% of Medicare’s standard rate, and the patient can obtain reimbursement from Medicare for 80% of the standard rate (which may be as little as 70% of the fees charged). About half of doctors prefer not to accept assignment, since the Medicare standard rates are generally less than what they would otherwise charge. This is one reason why the Medicare system has only limited control over the cost of care.

Since Medicare covers only 70-80% of outpatient costs, about 90% of recipients have some sort of “Medigap” policy, a supplemental policy to cover the remaining costs. They get that policy in a number of different ways: purchasing from a private insurance company, receiving coverage from a former employer as a retirement benefit, being eligible for Medicaid due to income below the federal poverty level, or participating in a Medicare managed care plan. In the 1970s, the government has encouraged the participation of Medicare recipients in Health Maintenance Organizations, on the assumption that HMOs would be good at keeping people healthy and reducing medical expenses. The Balanced Budget Act of 1997 expanded managed care options through the “Medicare + Choice” program, later renamed “Medicare Advantage.”

The financing of managed care through Medicare has proven to be tricky. On the one hand, the government wanted to support managed care organizations at a high enough level to make them attractive to providers and recipients alike, but on the other hand, it wanted to contain the overall cost of the Medicare system. Before 1997, Medicare paid HMOs 95% of the average cost of caring for fee-for-service Medicare patients. But this appeared to be too generous, since HMOs tended to serve the younger and healthier Medicare population. The Balanced Budget Act of 1997 required that Medicare develop a risk-adjusted payment model, taking into account the health status of the recipient. Payments per recipient to managed care organizations dropped, with the unexpected result that many HMOs stopped covering seniors. In 2003, the Bush administration got Congress to pass the Medicare Prescription Drug, Improvement, and Modernization Act. In addition to adding costly prescription drug coverage, the act greatly increased the funding for the managed care options, now called “Medicare Advantage.” It guaranteed these plans 100% of the average cost of covering traditional Medicare patients, plus annual increases in their payment rates. Over the next few years, participation in these plans doubled to 24% of all beneficiaries, and the average cost rose to 114% of traditional Medicare. What had originally been advocated as a way of reducing costs actually ended up increasing them.

The Balanced Budget Act of 1997 also tried to control costs by establishing a formula for a “sustainable growth rate” (SGR), above which Medicare payments to providers wouldn’t be allowed to rise. What has generally happened is that medical fees go up anyway; providers threaten to stop serving Medicare patients if the SGR is enforced; and Congress gives in and authorizes higher payments. Barr concludes, “The SGR was modeled largely on the historically successful efforts in Canada to constrain the costs of physicians’ services. The difference, of course, is the political will to permit the mechanism to work.”

The Patient Protection and Affordable Care Act of 2010 affects Medicare by adding some new benefits, imposing some additional taxes, and making some new efforts to control costs. Seniors can now receive mammograms, colorectal cancer screening, and annual preventive exams with no co-payments or deductibles. Medicare payroll taxes and Part B premiums will be higher for high-income seniors, and new taxes will apply to pharmaceutical companies, medical device companies and certain health insurance companies. The act establishes an Independent Payment Advisory Board with the responsibility to devise plans for keeping Medicare spending from exceeding targets. (Such plans cannot, however, include increases in Medicare taxes or premiums, or restrictions on benefits.) The Act reduces the payments to Medicare Advantage plans so that they do not exceed those of traditional Medicare.

The Medicare Trustees reached a somewhat ambiguous conclusion regarding the future of Medicare under ACA. Based on the provisions of the law, it projected that the Part A trust fund would remain viable until 2029, instead of 2017 as earlier estimated. However, they expressed some doubt about their own projections, suggesting that the cost reductions called for by the act might prove impossible to implement in practice.

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Donald Barr begins his discussion of health insurance by saying that health care doesn’t fit very well into the traditional model of how insurance is supposed to work:

Insurance is based on the concept of the random hazard: houses will burn down somewhat at random, people will get into car accidents somewhat at random. It is possible to separate people into risk categories, but within a risk category, hazards are assumed to occur somewhat randomly. One can predict the average rate at which hazards will occur within a certain risk group, estimate the aggregate cost of these hazards, add on a certain percentage for profit and administrative costs, and divide the total by the number of people to be insured. This gives the insurance premium to be charged.

A medical treatment is not a random event, but a human decision made by doctors and patients. The treatment that will occur within a particular doctor-patient relationship is very hard to predict. Also, the very fact that an insurer is paying the cost may lead the patient to seek or accept more treatment, with little regard for expense. Health insurance can actually add to the cost of the health care system, unless insurers can place limits on utilization. On the other hand, such limits have to be carefully designed to discourage unnecessary care without denying patients treatments they really need. The quality of care is a prime consideration, but judgments of quality reflect underlying values, such as the value Americans place on high-tech treatments. Barr says, “Unless the institutions and belief systems inherent in our society change regarding what constitutes high-quality care, any success managed care achieves in holding down the cost of care is at risk of being seen as a decrease in the quality of care.”

Three trends have transformed the role of private health insurance in the American health care system. The first is the expansion of health insurance coverage provided by employers since the 1940s. Wartime wage and price controls kept unions from bargaining for higher wages, but not from bargaining for health insurance. In 1954, the federal government exempted fringe benefits from taxation, making them more valuable to workers than equivalent wages.

The second trend is the managed care revolution encouraged by the Health Maintenance Organization Act of 1973. Based on the success of a few forerunners like Kaiser Permanente, this law subsidized the formation of HMOs and required employers offering health insurance to provide an HMO option. “Over a period of thirty years, the United States shifted from a health care system organized almost exclusively on a fee-for-service basis to one organized around HMOs and other forms of capitated, managed care delivery.” Capitation refers to a payment system in which doctors are paid according to the number of patients they contract with the HMO to serve, instead of according to the specific services they provide. The original HMO was a nonprofit entity, but soon insurance companies developed competing models, especially the “preferred provider organization” (PPO), which does pay providers for specific services, but at a discounted rate.

The third trend is the increasing role of for-profit insurers since the 1980s. With the encouragement of the free-market-oriented Reagan administration, Congress deregulated HMOs, eliminating the requirement that they operate on a nonprofit basis, and also ended federal funding for new HMOs. Those changes, along with the spread of alternative plans like PPOs, shifted health insurance to a primarily for-profit system. Insurers use the term “medical loss ratio” (MLR) to refer to the percentage of each premium dollar that actually goes toward medical care. (It’s a loss in the sense that the money is lost to profit.) Not surprisingly, the need to make a profit reduced that percentage:

Historically, the MLR of nonprofit HMOs such as Kaiser Permanente has been in the range of 95 percent. The MLR for the Medicaid program is also typically about 95 percent, and for Medicare about 98 percent. Nearly all of the money in these traditional programs goes to pay for care. In the world of for-profit managed care, MLRs typically range from 70 to 85 percent.

In general, less was spent on patients in managed care than on patients in traditional fee-for-service arrangements. As a result, the transition to managed care initially flattened the cost curve: health care costs as a percentage of GDP rose less than they had been rising before. However, once most of the patient population had made that transition, costs started rising again at about the previous rate. In the 1990s, managed care organizations initiated a number of utilization-control mechanisms, such as requiring doctors to obtain permission from a utilization review department before ordering an expensive test or hospitalization. Media accounts of denials of care seriously undermined support for managed care and generated a popular backlash. Many HMOs then relaxed their controls somewhat, and costs continued to rise.

In theory, the profit motive should encourage insurers to compete on price and quality, resulting in good coverage at an affordable price. In practice, many consumers find either that they have little choice among plans where they work or live, or that all the plans are too expensive for them. The people who can’t afford insurance are primarily young adults working in low-wage jobs, often working for small employers who don’t offer a company plan, or at least not one these employees can afford. They need private insurance because they aren’t old enough to qualify for Medicare or poor enough to qualify for Medicaid. Not only has the for-profit health insurance system failed to make insurance affordable for millions of Americans; it may also have had some negative effects on quality. Barr cites research using the Healthcare Effectiveness Data and Information Set. HEDIS doesn’t measure health outcomes such as death rates, but it does measure how well health plans follow recommended treatment guidelines.

In 1999, Himmelstein et al. published a major study that compared average HEDIS scores for 248 for-profit and 81 nonprofit HMOs. Combined, these 329 HMOs represented 56 percent of the total HMO enrollment in the country. Using data from 1996, they compared the plans on fourteen quality-of-care measures included in HEDIS. They found statistically significant differences in thirteen of the fourteen measures; in each case, for-profit HMOs scored lower than nonprofit HMOs.

The Patient Protection and Affordable Care Act of 2010 relies on a combination of public and private insurance to increase access to health care. It extends Medicaid coverage to those with incomes below 133% of the federal poverty level (FPL). (After Barr’s book went to press, the Supreme Court ruled that states are free not to participate in this Medicaid expansion.) Those with incomes above 133% of the FPL without coverage through their employment must obtain health insurance or pay a tax penalty (the “individual mandate”). Those with incomes between 133% and 400% of FPL will receive a tax credit to help them purchase private insurance. Employers with over 50 employees must provide health insurance or pay a penalty for each worker who obtains it elsewhere. To provide that “elsewhere,” the law requires each state to have a “health benefit exchange” (HBE) through which the uninsured can shop for coverage. Each exchange will offer at least two different insurance options, one of which must be offered by a nonprofit. The act also requires that for-profit insurers either spend at least 80% of premiums on health care (85% if they serve the large employer market), or rebate to their participants the shortfall in what they do spend.

Although the Affordable Care Act should reduce the cost of insurance for many consumers, it is not expected to reduce the total cost of health care to the country. In fact, the federal Center for Medicare and Medicaid Services projects that total costs will rise a little faster with the new law, since more people will have access to treatment. Again, that points to the challenges involved in increasing access, maintaining quality, and controlling costs all at once.

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A major theme running through Donald Barr’s Introduction to U.S. Health Policy is the challenge of developing a health care system with care that is accessible and affordable as well as of high quality. The United States has a long way to go in this respect, given that our system is the most costly in the world but less than optimal in accessibility or health outcomes. Barr’s discussion of doctors, hospitals and pharmaceutical companies provides many clues as to why this is the case. The role of health insurance–public and private–will be the topic of the following post.

Barr describes the professionalization of the medical profession in the twentieth century, a movement led by the American Medical Association. Medicine became more science-based; doctors had to be licensed; medical schools were certified and became centers for medical research. The number of people who could call themselves physicians went down, but their pay and prestige went up, especially for specialists.

Today the US has about one physician for every 400 people, but service is uneven in a number of ways. Specialists outnumber primary-care physicians by over two-to-one. Wealthy suburbs of metropolitan areas are better served than inner-city or rural populations. African Americans are underrepresented in the medical profession, making up 13% of the population but only 4-5% of the doctors. On the other hand, international medical graduates (IMGs) have become a substantial segment of the profession. US hospitals offer more residency training positions than US medical school graduates can fill, partly because Medicare reimburses hospitals for the costs of such programs. “Adding a residency program (or expanding an existing one) not only adds to the prestige of the hospital, but also provides a source of inexpensive labor. In many hospitals, especially inner-city hospitals providing care to large number of poor patients, residents provide the bulk of direct patient care….U.S. medical graduates tend not to choose many of the inner-city hospitals for their training, leaving numerous unfilled training slots at these hospitals. To have sufficient personnel to take care of patients, these hospitals turn to international graduates to fill the residency programs.” Ultimately, IMG’s are especially likely to become medical specialists themselves.

In a perfectly competitive free market, an oversupply of services in a specialty or a region could be expected to bring prices down. But because doctors have so much authority to prescribe treatment, more doctors usually means more procedures at the same high prices. “Instead of reducing the price of care, the rising number of specialist physicians has contributed to the increasing cost of care.”

The Affordable Care Act aims to expand the delivery of primary care in several ways: by directing more funding for graduate medical education toward programs for primary care training, rather than more specialized training; by increasing reimbursements for primary services; and by increasing support for a new way of organizing primary care, the patient-centered medical home. The PCMH is a “team of providers, including physicians, allied professionals such as nurse practitioners or physician’s assistants, as well as support personnel with a range of professional skills.”

American hospitals are generally more expensive than those in Europe or Canada. Up until the 1980s, hospitals had little incentive to limit the care they offered, since they often received public money to expand and full reimbursement for patient care. “The payment system encouraged the acquisition of new facilities and technology, even if they duplicated facilities and services readily available elsewhere in the country.” More recently, cost controls have been imposed, most notably the Medicare prospective payment system (PPS), which pays only a fixed amount per admission, based on the patient’s diagnosis-related group (DRG). That has resulted in shorter hospital stays and more outpatient procedures. However, if the hospital has to spread its fixed costs across a smaller number of occupants because a lot if its beds are empty, that is also an inefficiency that contributes to high systemic costs.

Although American hospitals have traditionally operated on a nonprofit basis–and most still do–the balance has been shifting as some older hospitals close and new for-profit ones appear. The research cited by Barr suggests that “rather than reducing hospital costs, for-profit hospitals increase costs compared to nonprofit hospitals, without corresponding increases in quality or improvements in outcome.” In many cases, physicians have become owners or managers of for-profit operations to which they refer their own patients, such as kidney dialysis centers. There the research shows that “compared to treatment in nonprofit kidney dialysis centers, the treatment of patients with kidney failure in for-profit centers is associated with higher death rates and lower rates of referral for kidney transplantation.” Because of the conflicts of interest involved, the Affordable Care Act prohibits any new physician-owned hospitals.

Prescription drugs are also more expensive in the United States than in many other countries. They amount to about 10% of all national health expenditures. The US grants manufacturers a twenty-year patent on new drugs, in order to provide an incentive to engage in the process of research and development. Why incur the costs of a medical breakthrough, so the argument goes, if someone else can come along and copy your discovery? Critics suggest, however, that a lot of drugs are getting more patent protection than they deserve. “Less than 10 percent of new drug applications approved by the U.S. Food and Drug Administration are for new compounds that represent a significant improvement in therapy. Most new drugs are chemical modifications of existing drugs.” Once one company has developed a profitable drug, another company produces one that’s just different enough to get its own patent. The new drug doesn’t compete so much on the basis of superior quality or lower price, but primarily on aggressive marketing to doctors (and increasingly, directly to patients, thanks to relaxed regulation by the FDA). Gifts such as “educational” travel to doctors have resulted in several highly critical reports, such as by the National Academy of Science and the Association of American Medical Colleges. US policies obviously help keep drug prices high, but they may not have the intended effect of fostering innovation. Barr cites research by Keyhani concluding that “the United States did not contribute disproportionately to innovation in the development of new types of drugs when compared to countries that had adopted price regulation for pharmaceuticals.” But the Kaiser Family Foundation found that for every year they studied, “pharmaceutical manufacturers enjoyed the highest profit margin of any industry in the United States.”

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Donald A. Barr, M.D., Ph.D. Introduction to U.S. Health Policy: The Organization, Financing, and Delivery of Health Care in America. Third Edition (Baltimore: Johns Hopkins University Press, 2011)

The author is a professor in the Stanford University Department of Pediatrics. The book lives up to its title, providing a comprehensive overview of how health care is organized, financed and delivered in the United States. It places the Patient Protection and Affordable Care Act of 2010 in the context of existing health policy, discussing how the new law would affect each of the topics discussed in the book. Although it is intended as a textbook, it is far more than a recitation of facts. Barr is interested in getting at the underlying principles and institutionalized practices that have shaped our health care system, and the organizational strengths and weaknesses that result from them. He recognizes that the system affects different people in different ways: “From one perspective, we have the best health care available anywhere. From another, equally valid perspective, we are close to worst among developed countries in the way we structure our health care system. Which perspective one adopts depends on the measure of quality one selects.” The system looks very different to a family unable to afford health insurance than to a wealthy family with access to the most technologically sophisticated treatments.

Barr describes four basic principles on which the US health care system has traditionally been based. The first is that “health care is a market commodity to be distributed according to ability to pay.” In a free market, sellers are free to offer any service they can provide, and buyers are free to buy any service they can afford. In theory, competition among sellers on price and quality should enable buyers to obtain good service at a reasonable price. How well this model applies to health care has been the focus of considerable debate. The computer on which I am writing this post is clearly a market commodity. Each time I buy a new computer I can shop around among many sellers, and the information I need to comparison shop (prices, features, product reviews) is readily available. By and large, I feel I get good value at a reasonable price. In contrast, recipients of health care do not generally shop around for treatment on each occasion of illness. They usually establish relationships with insurance plans and doctors, trusting that they will receive appropriate treatment at modest out-of-pocket cost. They have little information with which to evaluate the quality of treatment or its cost before they receive it, especially since different providers may charge very different fees for the same procedure. Buyers in this market are uniquely vulnerable, needing to receive care (sometimes desperately), but in a weak position to bargain over its quality or affordability. Expecting patients to obtain health care on a private market alone would be like abolishing public schools and expecting children to buy their own educations.

The second principle is that “power over the organization and delivery of health care has historically been concentrated in the medical profession.” When Franklin Roosevelt proposed including national health insurance in the Social Security system, the American Medical Association passed a resolution stating that “all features of medical service in any method of medical practice should be under the control of the medical profession.” Doctors are often idealized as scientifically informed, technically skilled and altruistic figures who act in the best interests of their patients. But the market model also makes doctors into self-interested entrepreneurs whose treatment decisions affect their own incomes. (Imagine how much money computer dealers could make if they had similar power to tell me what machine I must purchase.) “Each physician strikes his or her own balance between the needs of the patient and economic self-interest.” When he was editor of JAMA, Dr. George Lundberg suggested that doctors are distributed along a bell-shaped curve with a few “altruistic missionaries” on one end, a few “money grubbers” on the other, and most somewhere in between. He warned, “Caveat aeger–let the patient beware.”

The third principle is that “government has historically had a relatively minimal role in guiding our system of health care.” While most industrial democracies have adopted universal health insurance, “the United States has historically pursued a policy of incrementalism: establishing government-funded programs for specific populations felt to be most vulnerable,” notably the elderly and the very poor. We have stopped short of defining health care as the right of every citizen.

The fourth principle is that “there is no uniform standard of care.” Patients can receive very different care for the same disease, as a result of a provider’s decisions regarding treatment or a patient’s ability to pay. One study found that appendicitis patients with Medicaid or no health insurance had about a 50% greater risk of developing a ruptured appendix than patients in HMOs.

Basing health care on these principles has limited the system’s ability to accomplish three objectives: access to care, high quality of care, and cost-effectiveness of care. The United States has the world’ most expensive health care system, spending 17.3% of GDP in 2009. The closest countries to us were France and Switzerland, with 11.2% and 10.7% respectively. That percentage keeps going up, since health care costs have been rising at a faster rate than GDP itself. More expensive treatments have become available, and American doctors are largely free to adopt them even when their cost-effectiveness is questionable. With regard to quality, the U.S. system has some advantage in extending the lives of people over 80; Barr says that “this is understandable, because the common causes of death for people in this age group–heart disease, cancer, and strokes–are often amenable to high-tech treatment.” Aside from that, the U.S. ranks low on most measures of quality. For example, “the World Health Organization (WHO) combined eight different measures to create a single measure of the overall quality of a nation’s health system. Using this combined measure, the United States ranked thirty-seventh in the world.” The increasing cost of health care, in combination with the reliance on the private market, has limited access to care by making health insurance unaffordable for many families. In the non-elderly population, at least one person out of six was uninsured when the Affordable Care Act was passed.

Chapter 3 of Barr’s book goes deeper into the cultural values and institutions underlying health care, especially by comparing the United States and Canada. While the 18th-century liberal values associated with the American Revolution, especially individualism and distrust of the state, shaped the tradition that appears conservative today, the greater respect for state authority in the Canadian tradition laid the foundation for a larger government role in health care. Canada adopted a system of national hospital insurance in 1957, and a more comprehensive system of health insurance in 1968. The national government shares the cost with the provinces, whose health programs have to meet national standards. The private market for health insurance has been eliminated, but hospitals remain privately owned and most physicians remain independent practitioners. In contrast to the principles underlying the US system, Canadians regard health care as a basic right; the medical profession has more limited power and greater social obligation; government is the “single payer”; and “there is one standard of health care for all Canadians.” Costs are about 9-10% of GDP, and increases in the federal contribution are limited to increases in GDP.

The Canadian system is not without problems. One is “queuing”: Patients may need to go onto a waiting list before they can get certain treatments. (The US has less of a formal queue but more of an informal, income-based distinction between who does or does not receive treatment, especially for non-acute conditions.) Another problem is “churning”: Doctors may encourage more appointments or treatments to compensate for restrictions on the fees they can charge for each service. Doctors in Quebec have won in court the right to sell services outside the publicly funded system, although most Canadians oppose a two-tiered system in which the wealthy can buy services they can’t get–or can’t get as quickly–through the public system.

Another difference that may reflect cultural values is the greater use of costly medical technology in the United States:

In Canada, technology such as MRI is applied sparingly, because it is felt that the added benefit to society overall does not justify the added cost of making it more widely available. In the United States, we typically expect technology to be available to us, despite its position on the marginal cost/marginal benefit curves. It is not fair to the individual, we believe, to deprive her or him of the possible benefits of the test even though they are small compared to the cost.

Not only do US doctors charge over twice as much for their services as Canadian doctors do, but they order more tests, medications and treatments. Part of the explanation is that US patients are over three times as likely to file a malpractice suit, so “physicians have added billions of dollars to our health care budget by ordering extra tests and procedures that add little care but present a stronger defense in the case of a malpractice suit.” But a strong faith in technological fixes and considerable freedom of doctors to seek them are contributing factors as well.

One provision of the Affordable Care Act encourages more comparative effective research (CER) to identify treatments that are most effective. It establishes an independent, nonprofit organization, the Patient-Centered Outcomes Research Institute. The institute is not intended, however, to evaluate alternative treatments based on costs as well as benefits, and to discourage treatments with poor cost-benefit ratios. Many Americans have more access than Canadians to expensive treatments with limited benefits, while some Americans have limited access to even the most cost-effective measures, such as preventive care.

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