Wednesday, May 14, 2008

Taking Sides 

CBO’s misguided Medicare advice

Here is a key but subtle question in the health care debate: Is Medicare a passive victim of rapid health care cost inflation, or a primary cause of it?

To some, Medicare is just one car among many attached to the runaway cost train. From this perspective, slowing Medicare spending will require slowing down the engine which is pulling all of the cars too quickly down the tracks. And what is this engine? Most often, those sympathetic to this point of view suggest the problem is lack of discernment in the adoption of expensive new medical technologies. The implication is that what is needed most is not Medicare reform but health care reform which puts up more governmental barriers to innovative products and new technology on behalf of all payers, public and private.

But there is an alternative view. Medicare’s design — fee-for-service insurance, with virtually no cost-sharing at the point of service for most beneficiaries — is the most important source of financing for today’s fragmented and uncoordinated delivery system. In most markets, Medicare is the dominant insurer, and other private payers follow the program’s lead. As currently run, Medicare beneficiaries have strong incentives to use emerging technology more intensively with each passing year. Moreover, Medicare’s payment rules are set so that providers — hospitals, physician practices, labs, and others — can remain financially viable without effective integration or coordination. The resulting fragmentation in health care delivery makes it nearly impossible to reward efforts at improved efficiency and cost-effective care.

Looked at from this perspective, what is needed most desperately is a Medicare reform which changes the financial incentives so that insurers and providers themselves are rewarded for weeding out low value or ineffective use of services, including unnecessary use of high-tech medicine.

Normally, the Congressional Budget Office (CBO) is not supposed to take sides in these kinds of debates. But in recent months, there has been an unmistakable shift in emphasis in the agency’s health care work. This was particularly evident in a recent publication on the role of new technology in rising health care costs (available in PDF format here), in which CBO said the following:

Straightforward changes to the Medicare and Medicaid programs, such as more stringent eligibility criteria, greater cost-sharing, or changes in provider payments, could reduce federal spending in part by shifting costs from the federal government to households. Ultimately, however, such cost-shifting approaches are unlikely to be sustainable, and controlling federal spending on health care while maintaining broad access to care under these programs will therefore almost certainly need to be associated with slower cost growth in the health care sector as a whole.

The implication is clear: CBO is siding with those who say Medicare reform won’t solve the problem; what is really needed is a broader effort to impose more governmental control over the use of health care services, system-wide.

CBO based this conclusion on its finding that technological change accounted for about half of the real spending increase in health care over the last four decades, for public and private payers. This was anything but a straightforward calculation. CBO assigned cost inflation to other factors first, and then assumed that any unexplained residual was due to technological advances. But, although mentioned in passing, CBO underplayed the potential dynamic role of the various factors. For instance, CBO suggested that only about 10 percent of the real cost increase was due to the spread of expansive third-party payments, such as Medicare. But disentangling the effect of insurance coverage from new technology is not so easy. Indeed, other researchers have argued persuasively that it was the spread of third-party insurance that essentially paved the way for rapid technological advancement.

Medicare reform, properly understood and constructed, should be thought of as the indispensable first step of an effective approach to health care reform, necessary to get the financial incentives right for providers to pursue on their own new arrangements oriented toward high quality and cost-effective care. Introducing more governmental control over health care delivery is just as likely to lead to bad bureaucratic decision-making as to more efficient care.

CBO’s professional staff is highly productive and professional. But the agency’s mission is to provide objective analysis, not policy advice. And for good reason.

posted by James C. Capretta | 4:34 pm
File As: Health Care

Wednesday, April 30, 2008

McCain's Confidence 

Republicans have been on the defensive on health care for many years. Public opinion polls show more voters trust Democratic candidates on health issues than trust Republicans. On the campaign trail, that generally means Democratic candidates look for opportunities to bring up health care, while Republicans tend to avoid the subject unless pressed. When it comes to health care, think of Republicans as the visiting team in a sport that rewards home field advantage.

That may begin to change this year, however. On the central public policy question in health care — what can be done to slow cost escalation? — Republicans are far more confident than Democrats that they have an answer that will work and that the public will support.

That was apparent in Senator John McCain’s important health care speech yesterday. The presumptive Republican nominee for president discussed his vision for American health care, and, once again, he came down strongly on the side of a market-based solution. His presentation was forceful and persuasive.

McCain’s core argument is that conversion of today’s tax preference for employer-paid premiums into a tax credit flowing to households and individuals would spark much more intensive price- and quality-competition in health care. That kind of competition would, in turn, force insurers and those delivering care to improve productivity and the quality of care they provide.

McCain is far from alone in holding this view; conservative economists have been saying effective health care reform requires a tax fix since the 1970s. But this is the first time a Republican presidential candidate has made a market-based reform one of the central themes in his campaign for the presidency.

The Democratic candidates, Senators Hillary Clinton and Barack Obama, still enjoy the advantages on health care. Voters are of course attracted to their promises of lavish new insurance subsidies.

But on cost control, the Democrats are on shaky ground. Their health care plans will only work if they embrace the kinds of government-imposed budgets employed by Canada and Europe — price-setting by the government, and other measures which limit the supply of services. But their health care talking points make no mention of these steps because the candidates know they would be attacked, accurately, for supporting government-enforced rationing of care, which would not be popular with voters.

Senator McCain’s confidence on health care is clearly increasing, as it should be. He has the better argument on what should be done to slow health care inflation, and he can at least neutralize the health care issue if he makes the case repeatedly in the coming months.

posted by James C. Capretta | 6:22 pm
File As: Health Care

Friday, April 25, 2008

“Sweeping Change Will Be Difficult” 

On Wednesday, The Hill ran this very interesting story on the prospects for health care reform if either Senator Hillary Clinton or Senator Barack Obama were to win the presidential election in November.

Both Democratic candidates, of course, have spent months telling voters they are just the leaders the country needs to swiftly pass a major health care overhaul. Both have offered somewhat sketchy proposals that nonetheless promise the moon to voters — new subsidies to buy insurance, a publicly-run insurance option, and a federally-administered “exchange” where people can get private insurance.

But, now, it seems some in Congress are beginning to realize — perhaps after reading the candidates’ plans — that it won’t be so easy to pass them.

They’re right. The Democratic proposals, as described to voters so far, could never pass because they will not stand up to the kind of analytic scrutiny needed for realistic legislation. They would completely disrupt employer-based insurance pools, which would mean forcing millions of people to switch out of coverage they generally like today. And neither Democratic candidate has described anything resembling a plausible cost-control strategy. Consequently, their new subsidy promises will be “scored” as escalating at well above the rate of economic growth, which means ever higher tax rates or deficits.

Senators Jay Rockefeller and Charles Schumer are quoted in the story, and they clearly want to throw some cold water on the over-heated expectations of Democratic activists. But it might be too late for that. The Democratic presidential candidates themselves have raised expectations, and they are unlikely to say anything before November to take air out of the health care balloon. That will have to wait until late this year or early next year (if they are elected), at which point they will run the risk of alienating many voters who took them at their word.

posted by James C. Capretta | 3:57 pm
File As: Health Care

Monday, April 21, 2008

Passing the Market Test 

The Medicare drug benefit

In the latest Weekly Standard, my EPPC colleague Pete Wehner and I have an article examining the success of the Medicare prescription drug benefit to date. As we point out:

Now in its third year, the drug benefit is working better than predicted. More than 1,800 private plans are competing for enrollment. More important, Medicare beneficiaries like the program. Recent independent surveys show 85 percent are satisfied with their coverage. And little wonder: In 2008, the average beneficiary premium is just $25 per month, well below the original estimate of $41.

The program's competitive design is holding down costs for the government as well. The Centers for Medicare and Medicaid Services announced earlier this year the new drug benefit's costs will be 40 percent--or $244 billion--less over ten years than originally projected. This is an unprecedented achievement in health care policy.

As we note in the article, the continued success of the drug benefit has important implications for the broader health care debate. Advocates for market-based reforms have long argued that the best way to improve the quality of services provided, and improve efficiency in health care too, is with public policies which promote strong price and quality competition. Now the drug benefit, even at this early stage, is beginning to demonstrate this argument has merit.

posted by James C. Capretta | 11:46 am
File As: Health Care

Wednesday, April 16, 2008

No One Ever Said Health Care Policy Would Be Easy 

Paying for Drugs; The Cost of Prevention

On Monday, the New York Times ran this front page story on private insurers moving more high cost prescriptions onto a “fourth tier” for purposes of insurance reimbursement. Insurers typically sort prescriptions into various tiers on a “formulary” to help steer patients toward lower cost and preferred (from the insurers’ perspective) medications. Tier 1 drugs tend to have very low patient cost-sharing requirements, while tier three drugs, often brand-name products, are more expensive for the patient to use. Now, some insurers have created a Tier 4 which requires patients to pay as much as 25 to 33 percent of the costs for drugs placed on it. That can translate into hundreds of dollars a month for some expensive therapies treating chronic conditions like multiple sclerosis. Importantly, while patients can use clinical alternatives for other brand-name drugs, most of the drugs moved into this new Tier 4 are so new and cutting-edge that no alternatives to them exist yet. These patients with incurable chronic illnesses are thus facing a lifetime of hundreds of dollars each month in drug costs, when they had been expecting to pay perhaps $20 or $30 a month.

And last week the Washington Post ran this story which suggests that many prevention efforts are not cost-savers. The article examines previous studies showing that prevention measures must frequently be administered to many more people at possible risk of a health problem than the number who would actually face the health problem many years down the road. Even if the prevention intervention is not very expensive, the cost of providing it to many more people who would never develop a problem adds up quickly.

These articles remind us that health care policy is indeed a complex undertaking. What’s needed is a framework that can help policymakers sort through competing and conflicting priorities. For instance, some may be tempted to impose price controls on high-priced therapies, but such controls would undermine the incentive for companies to find new breakthroughs. Finding a sensible balance of patient responsibility and socialization of costs for chronic illnesses will be difficult, but surely we are all better off when chronic conditions can be treated successfully with these new products, which many currently healthy people will develop as they age. It seems likely that private insurers and employers, facing competing pressures from their healthy and sick enrollees, are already working to find the right balance.

Regarding prevention, the Post story is a good reminder that the landscape is not quite as simple as some suggest. The key to successfully promoting cost-effective prevention in public policy is better targeting the people who will likely benefit from those efforts. That should be the focus of much new research and data analysis.

posted by James C. Capretta | 1:28 pm
File As: Health Care

Thursday, April 10, 2008

Thinking About Cost Escalation 

The main question to answer in health care policy is what, if anything, should be done to slow cost escalation.

Of course, rising costs are not a problem per se. It should not be surprising that a wealthy country would want to devote an ever larger share of its resources to improved health. But it is widely recognized that much spending for health care in the United States is for low-quality and inefficiently-provided care. Moreover, we finance health care mainly with third-party insurance, and for the working age population, the premiums for this insurance are paid by households. Thus, cost growth in excess of wage gains puts great financial pressure on middle and low income families trying to maintain coverage and pay their other bills too.

The most common way to discuss cost escalation among health policy analysts is to blame the “system.” That is, health care costs are rising because we have inadequate health information technology, insufficient investment in prevention, feeble management of care for those with expensive chronic illnesses, too few primary care physicians, too much new technology, etc. When the cost problem is framed this way, the proposed policy solutions tend to be new government programs aimed at correcting these deficiencies and other “centralized” efforts to change the “system” uniformly for everyone.

But there is another, entirely different way to look at the issue. Current federal policy subsidizes health insurance in three important ways, all of which are “open-ended” in that the amount of the subsidy per person is driven by decisions made outside of the federal government. First, current federal tax law exempts employer-paid health insurance premiums from income and payroll taxation, no matter how costly the employer plan. Second, Medicare provides seniors with government-run and subsidized insurance, the cost of which is driven in large part by usage outside of the government’s control. And third, the federal government provides matching funds for Medicaid, which the states run.

The vast majority of Americans get health coverage that is subsidized by one of these three sources of taxpayer funds. On the margins, these subsidies encourage more expansive and expensive coverage. Why should consumers get less expensive insurance if the federal government is effectively paying for a third or more of the premium charged by more expensive plans?

The way to get started on slowing cost escalation is to reform health care entitlements and the tax law so that consumers have stronger incentives to enroll in less expensive coverage.

Would this kind of reform actually slow cost growth? A 2006 study by Amy Finkelstein at MIT may help answer the question. (It’s available in PDF format here.) She found that the enactment of Medicare had a dramatic impact on the supply of services in regions with low levels of insurance coverage pre-1966. When Medicare started paying the bills, hospitals were built and other providers opened up offices to provide services to the elderly. In effect, the Medicare program facilitated the development of a new and more robust infrastructure for health care. This was, of course, a good development in many ways. But it is also fair to note that, if health care delivery is fragmented and inefficient in the United States, it is allowed to remain so in part because Medicare continues to pay the bills, much as it has since 1966. Finkelstein offers the back-of-the-envelope estimate that about half of the real increase in health spending between 1950 and 1990 is due to the spread of third-party insurance, particularly employer-sponsored plans and Medicare.

Instead of new federal programs, policymakers in Washington should take a hard look at what’s already on the books. If they do so honestly, they will see that in order to slow cost escalation in health care, we will have to start with sensible reforms of our existing health entitlements and tax policy.

posted by James C. Capretta | 4:33 pm
File As: Health Care

Friday, April 4, 2008

Financial Incentives and Health Care 

Health care policy debates can be frustrating because they seem at times to assume the health sector operates without regard to financial incentives.

For instance, proponents of an expanded governmental role in cost control seldom acknowledge the obvious: economic theory, with abundant empirical evidence from around the world backing it up, indicates that such cost controls will invariably lead to waiting lists and reduced access to care — in other words, some form of rationing by the government. This should not be surprising. Price controls and other regulations aimed at holding down costs are effective only to the extent that they suppress supply. Consumer demand, which isn’t altered by such policies, cannot be fully satisfied because there aren’t enough willing suppliers. The predictable result is non-price rationing of services.

Financial incentives, driven by tax policy, play a particularly important role in the organization of private health insurance in today’s marketplace, as highlighted in a recent and interesting academic study. Today, when an employer pays health insurance premiums on behalf of a worker, the premiums are not counted as income to the employee, no matter how much the employer contributes. This open-ended exclusion applies both to income and payroll taxes.

Economists have long argued that this favorable tax treatment has important implications for private health insurance and health spending. First, current tax policy creates a bias toward employer-sponsored coverage, as opposed to individually-owned and -selected insurance. Second, it encourages compensation in the form of health insurance as opposed to cash wages. Employees tend to opt for low deductible and low cost-sharing health coverage because their employers pay the higher premiums associated with such plans, and the premiums are tax-free to them. Third, with expansive insurance, workers tend to over-consume health services, as each additional test or visit to a physician costs them very little.

A new study by economists John F. Cogan, R. Glenn Hubbard, and Daniel P. Kessler —available online here — makes it clear just how important this open-ended tax subsidy is in today’s marketplace.

The authors approached the question from a novel perspective. Employer-paid premiums are excluded from income and payroll taxes, but some workers earn above the maximum amount subject to the Social Security payroll tax. (In 2008, earnings above $102,000 are not subject to the payroll tax rate of 12.4 percent. See this press release from the Social Security Administration.) The authors tested the hypotheses that workers with incomes just above this threshold would consume less health insurance, and less health services, than those just below it because workers just above the threshold do not enjoy the tax break associated with the exclusion of health insurance from the payroll tax.

The data presented by the authors are striking. Households with incomes just below the Social Security tax threshold consumed, on average, $2,406 of health care per year, in constant 2004 dollars. All other things being equal, one would assume that health spending would rise with income. But, as the authors predicted, households with annual incomes of between 100% and 110% of the Social Security threshold spent only $1,836 per year in 2004 dollars, or 24% less than those with incomes just under the threshold. The conclusion here is simple: the exclusion of employer-paid premiums from taxes provides a powerful incentive for more expensive insurance and higher health care spending.

This study is just one more piece in a long line of evidence that fixing health care will require getting the financial incentives right. As matters stand, federal tax law is slowing the move toward more efficient systems for delivering health care services. That needs to change.

Of course, good health care policy needs to weigh more than financial considerations. Public policy must assure that services are widely accessible too, including by households unable to pay for coverage and services on their own. What’s needed is a policy framework within which financial incentives encourage high quality care, innovation, and medical breakthroughs, even as access to care is equitable and based on health need, not income.

posted by James C. Capretta | 3:21 pm
File As: Health Care