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.

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