Medicare Advantage Competitive Pricing: The Political Failure of a Good Idea
This is a re-post of my most recent Kaiser Health News column.
Few Americans should be satisfied with the way the government pays private health insurance plans that participate in the Medicare Advantage program. Taxpayers pay 14 percent more to insure a beneficiary through the Advantage program than through traditional, fee-for-service Medicare, the program’s “public option.” The new health reform law–the Affordable Care Act–will reduce, but not eliminate, the additional payments to Advantage plans. Medicare beneficiaries are concerned about the reductions in Advantage plan availability and generosity that will result from those payment cuts.
There should be a better way to pay Advantage plans, one less likely to be a taxpayer rip-off or to contribute to swings in plan availability and generosity. In fact there is, and Medicare’s prescription drug program uses it successfully: competitive pricing (also called competitive bidding). Under a competitive pricing system plans bid their price to provide a standard set of services. The amount the government pays a plan reflects bids offered by all competing plans (e.g. payments are set to the average bid).
The critical component missing from the Advantage program is payments related to bids. Instead, payments are based on a formula established by Congress. The differences between this “administrative pricing” system and competitive pricing are related to taxpayer and beneficiary dissatisfaction with the Advantage program.
The effort to bring price competition to the Advantage program is a long story of health plan opposition and political failure. Nevertheless, if it were allowed to function, a competitive payment system has the potential to take politics out of pricing and result in lower volatility in payments, Advantage plan participation and benefits.
Congressional meddling has become almost synonymous with Advantage administrative pricing. Payment rates are political tools used as means of compromise or to extract concessions. They’re also a source of revenue. Payments go up when it benefits certain members of Congress. Payments go down when money is tight and other expenses take priority. The system may benefit politicians, but it disadvantages the rest of us (insurance companies excepted).
Under a competitive bidding structure, changes in payments, plan participation and generosity of benefits would be related to changes in cost. Though costs increase, with bid-based payments the large and disruptive changes imposed by the congressional tinkering of administrative prices would be things of the past. The economic efficiency would benefit taxpayers, and the consistency would be a welcome relief to beneficiaries.
Politicians have tinkered with Advantage payments by increasing them for plans in historically underserved rural areas. The disproportionate power of senators from rural regions helped promote and maintain administrative pricing and the higher rates it can deliver to the areas they represent.
Thus, it was a great surprise when the Senate’s health reform bill included a provision for Advantage plan competitive pricing. Those of us who study Medicare and are close observers of the political process were stunned. Not only had 60 senators, including many from states with large rural regions, agreed to real price competition but they did so despite decades-long industry resistance to anything of the sort. The Senate bill then passed the House and was signed by President Obama. For a brief and glorious week a more sensible Advantage program payment system was the law of the land.
Then the budget reconciliation amendment was passed and signed, and with it administrative pricing returned. Why in the final hours of negotiation over health reform had the Democrats axed competitive pricing? Wasn’t the disproportionate representation of rural senators the big hurdle, one that it had already overcome? Sadly, in this case, the Senate’s judgment was not decisive.
There are three potential reasons why lawmakers purged competitive pricing at the last minute. First, the key difficulty in the final days and hours was not in satisfying rural senators but in satisfying reluctant representatives. And the House had already passed an update to the administrative pricing Advantage program payment scheme as part of its health reform bill.
Second, perhaps a few House holdouts wanted assurance that insurers and beneficiaries in their districts would be taken care of. When the problem is one of convincing fence-sitting politicians, one enters the conversations with money in hand, not a vague promise of an efficient market.
Finally, complying with the Congressional Budget Office’s criteria, in order to receive a favorable score, was paramount. Price competition is complex for CBO to score and more difficult to tweak to wring out the last few billion dollars to make the numbers. Administrative pricing, on the other hand, is relatively easy to score and to adjust to hit a budget target. Adjusting the administrative pricing system may have been a key element of conversations between the Democrats and CBO in the frantic final hours of negotiation.
Until the inside story of health reform politics is written we may not know the truth about how Advantage program competitive pricing passed the Senate or why it was overturned. But one thing is clear: the politics of Medicare is a cruel sport in which the failure of good ideas is common. The upshot of the rough-and-tumble, however, is that taxpayers and beneficiaries receive the hardest blows.
The Political Failure of a Good Idea
My Kaiser Health News opinion column is posted today. It begins,
Few Americans should be satisfied with the way the government pays private health insurance plans that participate in the Medicare Advantage program. Taxpayers pay 14 percent more to insure a beneficiary through the Advantage program than through traditional, fee-for-service Medicare, the program’s “public option.” The new health reform law–the Affordable Care Act–will reduce, but not eliminate, the additional payments to Advantage plans. Medicare beneficiaries are concerned about the reductions in Advantage plan availability and generosity that will result from those payment cuts.
It then continues to explain how a competitive pricing payment system–the one that would have been established by the Senate health reform bill–could address concerns of both taxpayers and beneficiaries. Sadly, such a system was only law for a week. The budget reconciliation amendment replaced it with administrative pricing, the very type of system that has caused so much trouble in the program.
Interested? Read the whole thing.
What Does Health Reform Do To Medicare Advantage Payments?
Co-blogger Steve and I, as well as some of our colleagues, were hoping that health reform would finally bring competitive pricing (or bidding) to Medicare Advantage (MA). It won’t, though it nearly did. That’s very disappointing and possibly not a good thing for beneficiaries, the program, or taxpayers.
Competitive pricing seemed a lock when the Senate bill appeared to be the only one that could pass both houses. Unlike the House bill, it called for MA plans to compete on price. Of course today it is the law of the land. But the budget reconciliation amendments will undo competitive bidding and replace it with a modified version of the existing administrative pricing system (which sets MA payments by fiat) <sigh>.
The new MA payment system is hard to understand from the legislative text. The various summaries on Nancy Pelosi’s website explain it succinctly, though leave out a few important details. Colleague Roger Feldman went to the trouble of producing a summary superior to these other source, which is the basis for the following.
In 2011 government payments to MA plans will be fixed at 2010 levels. In 2012 payments will be a 50/50 blend of the current levels and a “benchmark” obtained via a new formula. In subsequent years payments will also be a of blend current and new levels but one that gradually includes more of the latter so that by 2018 all plans are paid according to a new benchmark formula. That formula will be the product of local per beneficiary costs (those of fee for service (FFS) Medicare) and a percentage that varies by quartile of local costs:
- For areas in the highest quartile of all areas for the previous year the percentage is 95%;
- For areas in the 2nd highest quartile, 100%;
- For areas in the 3rd highest quartile , 107.5%;
- For areas in the lowest quartile, 115%.
Payments are also capped so that they are no higher than what they would be under the current system. Bonus payments would be offered for efficiency and quality. As convoluted as that may seem, it is (almost) simpler than the current payment system (except for the fact that the current system is actually embedded in the new one as a cap–ugh!).
Some immediate questions come to mind:
- Why are payments a higher percentage of costs where costs are low and a lower percentage of costs where they are high?
- What motivated the switch from the Senate’s planed competitive bidding to a continuation of administrative pricing?
- Why aren’t rates capped at 100% of FFS costs as advocated by MedPAC and written into the House bill?
- How will the new payments affect taxpayer costs and MA plans’ availability, benefits, and enrollment?
I can answer questions 1-3 and likely will in another post (unless co-blogger Steve gets to them first). Question 4 was studied by CBO, which scored the savings at $131.9 billion over 2010-2019. Their analysis showed that MA enrollment would be lower by 4.8 million relative to a projection of current law in 2019. On average they expect the value of benefits to decline by $67 per member per month in 2019. See the CBO document for additional analysis. So, taxpayers win and some beneficiaries lose, though it depends on county cost type (high vs. low). (A prior post explained that even though beneficiaries lose something with MA cuts, the economic value of that loss is very low.)
At the moment I can only add one thing to these findings. In a paper summarized on this blog Steve Pizer, Roger Feldman, and I published a graph (reproduced below) that illustrates the effects of different payment rates (relative to FFS costs) on market exit of private fee for service (PFFS) plans. PFFS is the highest cost MA plan type and is different from the MA HMO type in important ways that make it unreasonable to extrapolate PFFS findings to the entire program. So take all of the following with a sack of salt.
The figure shows the change in probability of a PFFS plan market entry for various levels of payment to FFS cost ratio (click to enlarge). The results are qualitatively illustrative of the relative degree of market exit by payment rate for MA plans but should not be interpreted to apply quantitatively to the non-PFFS part of the MA program. A payment of 115% of FFS cost results in about a 10% reduction in PFFS entry, while a payment of 95% of FFS cost would all but eliminate the PFFS plan type.
Change in PFFS Market Entry by Payment/FFS Cost Ratio
Based on these results, I would expect relatively small reductions in MA plan availability in high payment-to-cost areas (payment 115% of FFS cost). Areas with the lowest payment-to-cost ratio (95% of FFS cost) may see considerable reductions in MA offers. However, 95% of FFS cost was the prevailing rate prior to 1997 and plans did serve high cost areas then. So it is likely that some plans may remain in markets even if they’re paid 95% of costs. Also, efficiency and quality bonuses would increase payments for plans that qualify for them. To what extent markets that currently have plans will be left without any is not something about which I care to even hazard a guess.
So, this new administrative payment rate scheme could be pretty disruptive to the MA market and the beneficiaries it serves. I think a competitive bidding system would be less so. I’m also concerned that the new system won’t stick, that Congress will find an excuse to undo it, increase payments, and then, poof, there go the MA savings. Competitive bidding would be less prone to such political monkeying, though not immune. Such a competitive system is working very well in the Medicare Part D (drug benefit) market. Why not try it in the MA program? I could answer that but this post is long enough.
Administrative vs. Competitive Health Care Pricing
Administrative vs. competitive mechanisms constitute a fundamental dichotomy in health care pricing. For the former think Medicare, for which prices are largely set via political/administrative processes. For the latter think the private non-elderly market, for which prices are set via insurer-provider negotiation. In a recent paper in the American Journal of Managed Care, Chernew, Sabik, Chandra, Gibson, and Newhouse shed some light on the implications for health care prices of administrative vs. competitive pricing. The results are not surprising.
In a retrospective descriptive analysis of geographic variation the authors find that Medicare and large-firm commercial hospital utilization were positively correlated, but spending was not. The authors interpret these results with appropriate caution since they are correlations. However, they are consistent with other work that suggests Medicare and commercial insurers have different responses to hospital competition. Commercial insurers can exploit it to drive costs downward. In contrast, Medicare may be less influenced by the effects of provider competition since it doesn’t negotiate prices (or doesn’t do so in the same fashion as commercial insurers).
The authors conclude,
The potential susceptibility of private payers to provider market power has important implications when assessing the merits of private markets or public markets in setting prices. Administrative price systems have many flaws, which are fundamentally related to the difficulty in determining the appropriate price when costs are heterogeneous, are not known very precisely, are changing over time, and may reflect discretionary provider behavior.
… Yet despite all the concerns about administrative pricing, our analysis appears to suggest that administratively set prices seem to reduce purchaser vulnerability to provider market power. The challenge for policymakers interested in administered prices must be how to mitigate distortions in the price-setting process, although policymakers will never have enough information to establish perfect (economically efficient) prices (bundled or otherwise).
The analogous challenge for policymakers interested in market systems is how to avoid the pitfalls associated with provider market power. It is not clear whether concerns about market systems are more important or will be easier to mitigate than concerns about administered pricing. However, as the country moves forward with changing the healthcare system, these concerns will be paramount.
That’s an even-handed take on the two pricing systems. Neither is perfect from every perspective. Proponents of one can (and do) easily point to flaws in the other. However, given that our system is and will remain a mix of public and private payers, sound policy must attempt to address the issues raised by both.
Before concluding, I also want to highlight what Chernew, et al. say about cost shifting:
[O]ur analysis does not necessarily indicate cost shifting. The pattern of results we observed, particularly the association with market structure, may merely reflect differential market power as opposed to a causal relationship between prices in different sectors.
That market structure has an important impact on the degree of cost shifting has already been covered on this blog. Chernew, et al.’s paper is just one more in a large body of work that suggests that ignoring market structure when considering health care pricing and price dynamics misses the point.
Medicare’s Structure and Payment Systems Part II: Medicare Advantage
This post originally appeared on The Finance Buff.
This post is the second in a three part series on Medicare’s structure and payment systems. The first post is found here. I expect the final post to be released next week (link to final post).
In my first post on Medicare I summarized some of the elements of fee-for-service (FFS) Medicare. Beginning in the early 1970s and growing in fits and starts since then, Medicare has included other types of insurance plans offered through private carriers. This post will review some of these other Medicare products.
Medicare Advantage
The Medicare Advantage (MA) program (a.k.a., Medicare Part C) shifts the cost risk from the Medicare program to a private insurance company. For the moment think of an MA plan as an HMO or a PPO. Through an MA plan, beneficiaries receive the hospital (Part A) and outpatient (Part B) insurance they would otherwise get directly from FFS Medicare. Many MA plans offered a drug benefit before such benefits became available to all beneficiaries in 2006 (via Part D).
Medicare pays an MA plan a predetermined monthly rate for each beneficiary it covers, independent of the services used (the rate is adjusted to reflect the financial risk of the beneficiary to the plan). The plan may also charge enrollees a premium and other cost sharing. An MA plan may offer benefits more generous than FFS Medicare, covering more services at lower cost to the beneficiary. About 20% of Medicare beneficiaries are enrolled in an MA plan, and the program accounts for nearly the same proportion of Medicare spending.
Thus, an MA plan acts as a middleman between Medicare (the taxpayer) and the service provider (the doctor or hospital). The plans, not Congress, negotiate payments with service providers and are at risk for the cost of covering each enrolled beneficiary. Since MA plans are private entities bearing risk, negotiating with providers, and competing for beneficiaries the MA program has the patina of a “free market” solution to cost control.
But Congress sets the payment rates. The payment system uses terminology that sounds like competitive bidding. Plans “bid” against a “benchmark,” which is the payment rate cap (the most paid for an average-risk beneficiary). If the bid is below the benchmark, the plan receives 75% of the difference to fund additional benefits and/or lower cost sharing.
However, the benchmark has nothing to do with plan costs. It is set by Congress via a complex formula. Today, on average payments to MA plans are 14% higher than average FFS Medicare payments. This is not because MA plan enrollees are 14% more costly. In fact, evidence suggests that MA enrollees are, if anything, less costly than FFS beneficiaries. Besides, the payments are risk adjusted. No, MA plans are simply overpaid.
The History and Future of MA Payment Rates
Plans weren’t always overpaid. Prior to 1997, for each enrollee, Medicare HMOs were paid 95% of per beneficiary FFS cost. The logic was that private plans ought to be able to provide Medicare services more efficiently than FFS Medicare through a combination of controlling utilization and driving hard bargains with providers. So, Medicare took 5% off the top. Competition was supposed to ensure quality and the provision of services of value to beneficiaries. A consequence, however, was that insurers didn’t offer plans in rural areas where contracting and marketing were too costly relative to the payment.
To increase the role and availability of Medicare HMOs, payments were increased over the years and are now above FFS costs. In addition, a new plan type was introduced, Private Fee-for-Service (PFFS). These plans are exempt from many of the requirements other MA plans face but are paid just as generously. In particular they do not have to set up provider networks and can base their costs on the FFS physician payment schedule. They’re indemnity insurance just like traditional FFS Medicare, only offered through private insurers. In recent years PFFS plans have been the fastest growing and most costly MA plan type.
There have been numerous calls by Medicare and budget watchdog groups to reduce MA plan payments to 100% of FFS cost (the Medicare Payment Advisory Commission, the Congressional Budget Office). Another option likely to reduce payments would be to abandon the administrative pricing scheme altogether and shift to a competitive bidding model. Plans with lower bids for standard benefits would win contracts while higher bid plans would not. Or, in another variation, plans with bids above the average would simply charge the difference as premium, while those below the average might be able to offer a rebate or extra benefits with the difference.
President Obama’s budget proposal includes a plan for MA competitive bidding. I will be watching closely to see if Congress retains this idea as next year’s budget works its way through the legislative process.
In my next post on the basics of Medicare I will discuss the relatively new prescription drug program. It already has competitive bidding (for real). But it has other features which cause it to be more costly than it could be.
Medicare’s Structure and Payment Systems Part I: Traditional Medicare
This post originally appeared on The Finance Buff.
It makes sense to know at least a little bit about Medicare. For one, you pay for it through payroll and income taxes. Moreover, if you’re not on Medicare now someday you will be, provided you live long enough. Also, some issues and options under debate for national health reform have analogs in Medicare.
Part of my job is to study Medicare so I speak with some authority in saying that the program is a confusing mess. In this and two subsequent posts (one on Medicare Advantage and one on prescription drug plans) I will review the essential facts about the program, its payment systems, and the mechanisms and prospects for controlling its cost.
The Basics
Medicare is a federal health insurance program for the elderly (at least 65 years old), disabled, and a few other categories of individuals with specific diseases. Established in 1965, the program’s initial intent was to increase the welfare of the elderly, half of whom had no health insurance at that time. Today the program covers 45 million individuals (called “Medicare beneficiaries”), 84% elderly. Accounting for 13 percent of the federal budget and 19 percent of total national health expenditures (2009), in dollar terms Medicare is the largest federal health program. Medicare is financed by a 2.9% payroll tax, general revenue, state payments, taxation of Social Security benefits, and beneficiary premiums.
Medicare is an insurance program, not a health delivery system. That is, it pays for the cost of care but does not directly employ the providers of that care. (By way of contrast, the Veterans Health Administration and the Military Health System are financing and health care systems: the systems employ their own doctors.)
Some confuse Medicare with Medicaid, probably because of similarities in spelling. Medicaid is a joint federal-state program for low-income individuals who fall into certain eligibility categories (like aged, blind, disabled, and others). One way to remember which is which is as follows: Medicare is principally for retirees. The word “Medicare” ends in and the word “retirees” starts with “re”. Though not quite true, for mnemonic purposes one can think of Medicaid as a program for the disabled: “Medicaid” ends in and “disabled” starts with “di” (or “id”).
Traditional Medicare: The Essence of Simplicity
Originally, the only form of Medicare was fee-for-service indemnity insurance. A beneficiary saw a provider for a service, and the provider billed Medicare a fee for that service. This is called traditional Medicare or fee-for-service (FFS) Medicare. FFS Medicare still exists today and is the most popular form of Medicare. About 80% of Medicare beneficiaries are enrolled in FFS Medicare.
There are two parts to FFS Medicare: A and B. Together they account for 69% of Medicare spending (the remaining 31% of Medicare spending is not under FFS and will be discussed in subsequent posts). Part A is hospital insurance, which accounts for 41% of Medicare spending. It has no premium but has an over $1,000 deductible. Daily co-payments for hospital visits are $267 per day after 60 days and $534 per day after 90 days of care. To care for a patient, a hospital is paid by Medicare prospectively according to a schedule of payments tied to the expected resources required. If the hospital can care for a patient for less than the payment it keeps the difference. If the care costs more, the hospital, not Medicare, is at risk for the additional cost.
Part B is outpatient insurance, which accounts for 28% of Medicare spending. It has a nearly $100 per month premium and a $135 annual deductible. The doctor visit and medical equipment co-insurance is 20%. (All above figures are for 2009 and are summarized in this AARP document.)
Alone, FFS Medicare does not cover outpatient prescription drugs. It covers very little of what would be considered long-term care.
Controlling Spending under FFS Medicare
Since Congress sets the payment rates and fees for FFS Medicare they can be political footballs. For example, updates to the doctor fee schedule are usually accompanied by big fights in Congress. These fights are almost guaranteed by the way planned fee schedule updates are set to bring Medicare spending in line with a projected budget. The complicated update mechanism sometimes calls for a decrease in payments to physicians over time. Unless such updates are overridden by an act of Congress, fees would trend downward. You can imagine that doctors will not sit idly by and accept a lower payment from one year to the next. Beneficiaries and beneficiary advocacy groups would not react favorably if doctors refused to accept Medicare patients due to low reimbursement rates. Instead, these groups lobby Congress and get fee increases passed.
Price setting through legislation, such as the Medicare physician fee schedule, is known as “administrative” pricing (a misnomer, I know). The only way to control spending under an administrative pricing regime is for Congress to restrain payment increases, which is politically challenging, as evidenced by the fact that they override low or negative Medicare physician fee schedule updates regularly.
Administrative pricing is to be contrasted with “competitive pricing,” which relies on market signals to adjust prices. Competitive pricing can take some (but not all) of the politics out of the problem of restraining the growth of Medicare spending.
If I were describing Medicare in its first decade then I would be done. FFS Medicare was it back then. Today Medicare is much more complex. Completing the overview will require two more posts. In my next post on Medicare I will review some of the other components of the Medicare program that involve competitive pricing or have other “free market” characteristics.
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