The Federal Reserve is an example of an argument between two viewpoints, better left unresolved than settled in favor of either extreme. In that particular 1913 case, it was a question whether the national currency should be a total government function or a totally private one, and we finally settled on a hybrid institution. It searches for the merits of both viewpoints, continuously and permanently. Healthcare seems another example of a vital function best managed by continuous tension, not by anybody's victory. Look at the question of the uninsured, which quite naturally many insurance companies describe as a disgrace. It was however soon discovered that many people didn't want health insurance enough to pay for it. In the background, a small group of insurance actuaries began to mutter that it gets to be a problem if no one is left uninsured since insurance depends on market prices to establish their premiums. Insurance was never designed to set prices, it was designed to pay them.
Furthermore, there is that thing called Moral Hazard. There are reasons to believe the medical cost is already 30% too high, just because nobody spends his own money as freely as somebody else's money. A large pool of uninsured medical transactions establishes a standard that invisibly constrains people with insurance from spending recklessly. Remove that, and spending volume will increase, followed by prices.
And finally, if everybody could buy insurance at the same price no matter when they bought it ("Community Rating"), you would find that people will hold back until they are in the ambulance before they sign an application. It's like buying fire insurance when the building is already burning. Healthy people won't buy it, so again the price has to go up.
For these reasons-- prices, the volume of service, and Moral Hazard -- universal health insurance at Community rates is a bad idea. Because no one likes to be pushed around, compulsory universal health insurance is an even worse political idea. The Republicans convinced themselves it was such a bad idea, that they could just let the Liberals go ahead with getting badly punished when the public came to its senses. It is not the function of this book to explore why things didn't work out their way or didn't work out that way, soon enough. We did have a problem, misleadingly called the uninsured problem, of thirty million people presenting themselves at hospitals without the money to pay. It wasn't their fault, it wasn't the fault of the insurance, it was just a problem. Somehow, it was decided to go ahead with compulsory universal health insurance to solve it.
Obamacare began with a stirring call to help the forty million uninsured Americans obtain healthcare insurance, by subsidizing them if necessary. When an enormous proposal was finally laid out in detail, the Congressional Budget Office estimated that after spending a trillion dollars, thirty million people would still remain uninsured. In rough figures, there would be eight million in jail, another eight million too mentally impaired to support themselves, and twelve million illegal aliens.
If I had been faced with this problem, and given a trillion dollars to deal with it in ten years, there is no doubt I would have deep-sixed the insurance proposal, and proposed three programs, a program for Prison Inmates, a program for the Mentally Impaired, and a medical program for Illegal Immigrants. After that, I would have turned my attention to a devastating stock market crash, several wars, and the struggling inner-city school systems. If I handled all that, there wouldn't have been time for much else, so I would probably have left everything else to my successor in office.
But unfortunately that isn't the way things turned out, so I devoted my retirement years to health care reform, real health care reform, instead of to improving my golf handicap. Most of what I have to say is drawn from sixty years of practicing Medicine, in eleven hospitals, in three neighboring states as a consultant, and thirty years in AMA medical economics activity. I am still more or less on the faculty of two medical schools and have been elected to my share of positions of honor in the profession.
In 1980, I wrote a book called The Hospital That Ate Chicago , was invited to White House functions, and together with John McClaughry, devised the concept of Health Savings Accounts.
As to this book itself, it was very hard work for almost a year. I apologize to Leopold von Ranke, the father of historical documentation, for not living up to his standards. But it has been too much of a scramble to keep up with breaking events in the Compulsory Health Insurance field to worry about that; there are undoubtedly some unintentional mistakes, no harm intended. I wish I could live long enough to look back on this perplexing episode with more balance and write a sequel that would satisfy my critics. At my age, it probably isn't in the cards.
-------------------------
No matter how it is accomplished, a program designed to solve these three problems would contain three different approaches, which have very little to do with each other. The other three hundred million citizens are right to be concerned about disrupting the program which addresses their needs fairly well, even though it is not denied that thirty million others fall through the cracks. The dominant healthcare system has many defects, but they remain mostly unaddressed. The thirty million do not have their problems addressed at all, because the sources of the deficiency are not primarily financial. It certainly seems we needed three programs to address three specific problems, and we needed a fourth searching examination of the program design for the remaining three hundred million. Because medical care is constantly changing, mostly for the better, single pieces of legislation are surely destined for obsolescence as soon as they are written. One big law, or even forty little laws, cannot possibly anticipate the discovery of a cure for cancer, or the appearance of a new epidemic like HIV, capable of killing millions of people in every walk of life. We need an institution, not a political victory, or defeat. Nor do we need another century of legislative turmoil.
The components of this institution should include an appropriate voice for government with links to the oversight committees in Congress and the judiciary. It should include a voice for persons trained in the science of medical care, with links to organized medicine. And it should have the power to investigate the scientific and economic issues, utilizing the resources of the National Institutes of Health, the Food and Drug Administration. No doubt, other power centers will demand representation. At first, this organization should be given time to sort itself out, investigating and reporting, but leaving regulatory action to existing institutions until the new organization can persuade the nation it is ready for enforcement powers. Even then, it might be better to create new agencies with enforcement power, leaving a national medical advisory Institution whose power derives from its demonstrated ability to suggest the right approach. If it does not quickly acquire such prestige, it has been poorly designed.
Perhaps it should be left vague and sketchy. Why don't we begin with a Medical Constitutional Convention, allowing them to battle it out behind closed doors for a few months? And reminding them from the outset, that the 1787 Constitutional Convention achieved its best design features after it had been returned to the people for ratification.
In 1981 at what was then called the Executive Office Building of the Reagan White House, John McClaughry and I conceived the Medical Savings Account, later known as the Health Savings Account. John was at that time Senior Policy Advisor for Food and Agriculture, but he had read my book The Hospital That Ate Chicago, and it inspired him to think about a better way of financing health care. He asked me to come down to Washington to discuss the issue. We met and fleshed out the idea. Little did we then suspect how many delightful features would pour out of the simple little invention with only two moving parts.
It was patterned after the tax-deductible IRA (Individual Retirement Account) which Senator Bill Roth of Delaware was bringing out the following year. But with two major variations: our account contained the unique feature of a second tax exemption, given on condition the withdrawal was spent on health care. Otherwise, a regular IRA subscriber pays the usual income tax on withdrawals and gets only one tax deduction, the one he gets when he deposits money into the account. Bill Roth later produced his second kind, the Roth IRA, which allowed a tax-exempt withdrawal but took away the tax-exempt deposit. Only the Health Savings Account gives you both. In Canada, by the way, they do allow both deductions in their IRA, but in America only the HSA offers it.
Garlands of Unexpected Good Features. So the first part of a Health Savings Account is just that, a tax-exempt savings account, obtainable in the same way you get an IRA or a Roth IRA, although a few eligible outlets were slow to take ours up. And the second combined feature was to require a high-deductible, "catastrophic", stop-loss health insurance policy -- the higher the deductible, the cheaper the premium gets.
Further, the more you deposit in the account, the higher is the deductible you can afford, so you save money going either way and get extra benefit in your account for having a tailor-made insurance program. The industry term for this kind of insurance is "excess major medical", which the two of us wanted to avoid because of its implication it was somehow frivolous or unnecessary, when in fact it is central to the whole idea. Linked together, the two parts enhanced each other and produced results beyond the power of either, alone. The savings account was first envisioned to cover the deductible, but nowadays it also commonly attaches a special debit card to purchase relatively inexpensive outpatient and prescription costs. That led to further administrative savings to the subscriber if he shopped frugally for optimum proportions of deductible insurance. Right now, it's a little uncertain what the current Administration will permit in the way of catastrophic health insurance, so, unfortunately, it is just about impossible to give concrete examples of what the ultimate cost will prove to be. But we do know that in the old days, a $25,000 deductible was available for $100 a year. Nowadays, a $1000 premium is more likely. When we get to explaining first year and last year of life insurance, it will become clear that this premium can be appreciably reduced.
But while the savings account allowed someone to keep personal savings for himself, the insurance spreads the risk of an occasional heavy medical expense at what ought to be a bargain price for bare-bones insurance. You needn't spread any risk for small expenses because you control them yourself, but no one can afford some of those occasional whopper expenses. There's no reason why you couldn't set the deductible level yourself, weighing your own ability to withstand bigger risks. In practice, the actual savings were reported to approach 30% (compared with "First-dollar" health insurance), quite a pleasant surprise. But because of the younger age group of the early adopters, much of this saving was achieved in the out-patient area.
(Let's start using the present tense to talk about it, although right now it's hard to know what politics will permit.) So, hidden in this bland dual package are lower premiums, less administrative red tape, less moral hazard, but complete coverage. Right now, that's somewhat subject to change. It provides complete coverage in the sense that the insurance deductible can be covered by the savings account, but contains the option to be saved, invested or used for small outpatient expenses. Furthermore, the account carries over from year to year and employer to employer. So it eliminates job-lock, use-it-or-lose annoyances, and allows a healthy young person to save for his sickly old age. Curiously, many of the subscribers have elected to pay small expenses out of pocket, in order to make the tax deduction stretch farther.
In one deceptively simple feature, many of the drawbacks of conventional health insurance have been removed. The bank statement from the debit card can even do the bookkeeping. The first part of the two-part package, the savings account, creates portability between employers, opens up the possibility of compound interest on unused premiums, eliminates pre-existing conditions even as a concept, and creates a vehicle for transferring the value of being a "young invincible" forward into age ranges when the money really is likely to be needed for healthcare. Maybe some other features can be added later, but introducing an unfamiliar product is always greatly assisted by having it all appear so simple. The HSA only has two features, but they solve a dozen pre-existing problems.
To return to its history, nearly 15 million accounts have been opened, containing $24 billion. John McClaughry and I (neither of us received a penny for any part of this) were seeking a way to provide a tax exemption to match the one which employees of big business get when the employer buys insurance for them. That is, Henry Kaiser inspired us to do it. Although we got the general tax-free savings idea from Bill Roth, we did him one better by giving a deduction at both ends, provided only -- you must spend the money on healthcare to get the second tax relief. An additional novelty at that time was a high deductible, which permits a "share the risk" feature unique to all insurance, but invisibly limits it too expensive items. It wasn't the original idea, but it turns out you get spread-the-risk and limits to out-of-pocket patient costs in the same package. Who could have guessed?
Volume control versus Price Control in Helpless Patients.We did know a third automatic advantage, not fully exploited so far: it seems possible the hateful DRG system (with its codes restructured) could become a useful tool for dealing with a major flaw in the Medicare system. Professional peer review has become pretty good at controlling the volume of services, but prices still escape effective control. No amount of volume control can, alone, address the price issue. Controlling vital services for helpless people is a delicate matter.
Quite a few of those services match (or contain) identical items in the outpatient area. The outpatient area faces outside competition from other hospitals, drugstores or vendors. Instead of letting helpless inpatients generate unlimited prices for the outpatients, why not let competition in the outpatient area define standards of prices for inpatient captives? Outpatients and inpatients overlap in the ingredient components, considerably more than most people suppose. Inpatients may have higher overhead because of the need to supply their needs at all hours, but a standard extra markup around 10% ought to take care of that. No doubt some services are unique to the inpatient area, but a relative value scale is then easily constructed, thereby linking unique costs to other services which are exposed to competition. Ultimately, provable relationships to market prices might even discipline big payers demanding unwarranted discounts. This last is a deal breaker, provoking suspicions of abused power by a fiduciary. The government in the form of Medicaid is often the worst offender, so we need not imagine laws will prevent discounts so long as law enforcement remains crippled. Every business school teaches that discounts below cost are a path to bankruptcy, but business schools have apparently not had enough experience with governments to suggest an effective remedy.
Other than two variations (double tax deductions, and incentives if used for health care), a Roth IRA would be nearly the same as an HSA, with independently purchased Catastrophic backup. But the assured presence of low-cost, high-deductible insurance provides security for another needed feature: Using individual accounts
with year-to-year rollover , we could introduce the notion of frugal young people pre-paying the healthcare costs of their own old age. For all we knew, there weren't any frugal young people, but we were certainly pleasantly surprised. And catastrophic insurance added the ability to share the opportunity of that feature -- subsidizing the poor at bearable prices. As we will shortly see, it also offers an incentive to save for retirement. Think of it: almost nobody can afford a million-dollar medical bill, but almost everybody welcomes low premiums. Catastrophic coverage offers the only chance I know, of approaching both goals at once. And it offers the fall-back, that if you are lucky and don't get sick, you can use it for your retirement.
As the only physician in the room, I also pointed out another pretty gruesome fact: either people end their lives have a lot of sicknesses, or they end up paying for a protracted old age. Only infrequently, do real people encounter both problems. It can happen of course; breaking a hip after long confinement in bed would be an example.
People end their lives with sickness, or else they must pay for protracted old age.
|
|
|
Still More Good Features. Including these self-canceling needs in a single package allowed some flexibility between them -- something badly needed for a century. We cannot go on passing a new regulation for every quirk of fate; a good program must allow some latitude. Extended longevity tends to be hereditary, and so separate policies (sickness care and long-term care) are more expensive individually than the two combined because the patient can out-guess an insurance company. Health Savings Accounts balance an incentive to save for
one's own future health costs "at the front end" with reasonable cost limitations "at the time of later service", even though two time periods are decades apart. That's obviously superior to increasing the sickness subsidy at the back end, because, among other things, the patient will later have even more clues about his impending future. If cost reduction goes too far at either end, it amounts to an incentive to spend carelessly. Saving becomes fruitless.
A tax deduction is a tax deduction, but this one has two: An incentive to save, and a later option to spend the savings on either healthcare or retirement. That's nearly specific enough. Furthermore, it offers a choice between saving preferences -- you can have interest-bearing savings accounts, or you can invest in the stock market, or a mixture of both. The HSA automatically converts to a regular IRA (for retirement) at age 66 when Medicare appears; that should be optional for all health insurance, but isn't. The IRA up in Canada includes both front and back features, but in the United States the HSA is the only savings vehicle to have dual deductions, so it's more flexible. As the finances of Medicare become shaky, it may be time to provide additional alternatives. At least, we ought to consider extending age 66 to a lifetime coverage option.
This harnessing of two familiar approaches makes a deceptively simple package which ought to be considered in other environments, unconnected with medical care. In most public policy proposals, the deeper you dig, the more problems you turn up. In this one, we found the proposal already had hidden answers to most concerns we could discover. It's possible to fall in love with an idea that does that for you. It lets you sleep at night, secure in the knowledge you aren't mucking things up for people.
Another surprise. Overall, the Affordable Care Act has probably helped sales of HSAs, since all four "metal" plans of the ACA contain high deductibles, serving in a (rather over-priced) Catastrophic role. This may be a way of covering the bets in a confusing situation. The ACA is a needlessly expensive way to get high-deductible coverage because it pays for so many subsidies. Frankly, it baffles me why subsidies swamp the costs of Obamacare but are made unworkable for HSAs. Many of the details of the subsidies are obscure, including their constitutionality, so we have to set this aside for the moment.
One good motto is don't knock the competition, but we must comment on a few things. The Bronze plan is the cheapest, therefore the best choice for those who choose to go this way. But uncomplicated, plain, indemnity high-deductible, would be even cheaper if its status got clarified. The good part is, the current rapid spread of high deductibles suggests mandatory-coverage laws may, in time, slowly go away. At first, the ACA looked like a bundle of mandatory coverages, all made mandatory at once. But they may be learning a few basic lessons as they go. Mandatory benefits are an example of mixing fixed indemnity with service benefits, with the usual dangerous outcome. Like many dual-option systems, they create loopholes. The HSA seems to avoid this issue by effectively being two semi-independent plans, for two separate constituencies -- who are the same people at different ages. Once more, we didn't think of it, the features just emerged from the plan.
That's about as concise a summary of Health Savings Accounts as can be made without getting short of breath. But of course, there is more to it, particularly as it affects the poor. For example, there is an annual limit to deposits in the Health Savings Account of $3350 per person, and further deposits may not be added after age 65. They can be "rolled over" into regular HSAs when the individual gets Medicare coverage, and supposedly has no further financial needs. So plenty of people have health care, but can barely support their retirement. These plans are absolutely not exclusively attractive to rich people, but it must be admitted, poor people start with such small accounts that companies can't operate profitably unless the client sticks with them for a long time. If people possibly can, they should scrape together one $3300 maximum payment to get a running start.
The problems of poor people can nevertheless be eased, within the limits of the plan's design. Since people will be of different ages when they start an HSA, it might be better to set lifetime limits, or possibly five-year limits, to deposits, rather than yearly ones. Some occupations have great volatility in earnings, and sometimes a health problem is the cause of it. To reduce gaming the system, perhaps the individual should be permitted to choose between yearly and multi-year limits, but not use both simultaneously. As long as the self-employed are discriminated against in tax exemptions, that point could certainly be modified. There remains only one major flaw, which we propose should be fixed:
Proposal 6: Congress should permit the individual's HSA-associated Catastrophic health insurance premiums to be paid, tax-exempt, by Health Savings Accounts, until such time as elimination of the present tax exemption for employer-based insurance is accomplished by other means.
Subsidies for the Poor? Here's my position. If poor people could get subsidies for HSA to the same degree the Affordable Care Act subsidizes them, Health Savings Accounts should prove at least as popular with poor people as the Administration plan. Mixing the private sector with the public one is always difficult. Why not make subsidies independent of the health programs? There is no point in having the poor suffer because someone prefers a different health system. Quite often, a subsidy program is mixed with a public program, in order to make its passage more attractive; that's not necessary.
Proposal 7:That health care subsidies be assigned to patients who need them, rather than attached specifically to one or another health system that happens to serve them.
Let's just skip away from all those digressions, and return to the poor in other sections. If the concern is, health care is too expensive, why in the world wouldn't everyone favor the cheapest plan around? Part of the answer, politics aside, is that young people have comparatively little illness cost, while old folks have a lot. Since Medicare, therefore, skims off the most expensive healthcare segment of the population, the fairness of any health subsidy program is difficult to assess. Evening out the tax deduction for the catastrophic portion equalizes the unfair tax deduction for self-employed and unemployed people. Perhaps the equality issue should be re-examined after each major revision since many moving parts get jostled, every time.
The government is going to have trouble affording the existing subsidy, so it may not endure, particularly at 400% of the current poverty level. But if we can subsidize one plan, we can subsidize the other, instead. The government would then be seen, and given credit for, saving a great deal -- by inducing destitute people to use HSA as an alternative option, equally subsidized by an independent subsidy agency. As for single-payer, the government for fifty years borrowed to continue Medicare deficit financing and got it to 50% universal subsidy without much notice. That's like boiling the frog too gradually to be noticed until it is too late. But suddenly expanding the 50% subsidy to the whole country at once, would definitely be noticed. Extending such levels to the whole country should anyway be buttressed with accurate cost data. Administrative cost savings are just a smoke screen. Total costs are the real cost. Other people also point out Medicare was financed after we had won some wars, but now we seem to be losing wars.
INTRODUCTION
Medicare faces staggering financial problems. The Hospital Insurance (HI) portion of the program is projected to run short of funds by the end of the decade. By the time today's young workers retire, currently scheduled tax rates will pay for only one-fourth to one-third of promised benefits. If these benefits are to be paid, the total HI payroll tax rate may have to be raised from today's 2.6 percent to 11 percent. Expenditures for the Medicare program are projected to soar to $103.3 billion by the fiscal year 1989. The program is also plagued with waste and inefficiency, a pay-as-you-go method of financing that imposes unnecessary cost burdens on today's young workers, and a benefit structure that discriminates against minorities while failing to meet the greatest needs and concerns of the elderly.
Fundamental reform of Medicare is needed. Such reform should be based on the concept of Health Bank IRAs. Workers and their employers under such a program would be allowed dollar for dollar tax credits for contributions to these new individual Retirement Accounts (IRAs), where the funds would accumulate tax-free investment returns until retirement. The funds would then be used to pay for medical insurance and health expenses during retirement years. Workers who did not opt for the Health Bank IRAs would instead receive vouchers in retirement to meet these expenses. The government would also provide means-tested supple-mental benefits for those who were unable to meet their retirement medical expenses from any of these or other sources. This new system phased in over several years, eventually would completely replace the current Medicare system.
This reform would eliminate both the short-term and long-term financing problems of the current system, without any benefit cuts for the elderly or payroll tax increases for workers. It would reduce waste and inefficiency by increasing competition and improving incentives. It would also allow workers to pay for their retirement medical insurance coverage with substantially lower payroll contributions, thanks to the investment returns that workers would earn on such contributions over the years through the Health Bank IRAs. Retirees would have increased control and choices over their retirement coverage, dis crimination against minorities would be ended, the poor would be protected, and the catastrophic coverage included in the program would address the greatest needs and fears of the elderly. In short, the Health Bank IRA plan would enable the country to avert the growing threat of Medicare bankruptcy by using the tried and tested private-sector IRA system to provide retirees with the means for their hospital bills ending their dependency on the political climate in Congress.
THE CURRENT MEDICARE SYSTEM
The Structure of the System
Medicare comprises two components Hospital Insurance (HI) and Supplemental Medical Insurance (SMI). I primarily cover persons over 65 receiving Social Security benefits, and those under 65 receiving Social Security disability benefits. It pays for up to 90 days of in-patient hospital care for each illness, and a total 60 additional days during the retiree's lifetime (known as "lifetime reserve days"). This coverage is currently subject to a deductible of $356 for each hospital stay, plus co-insurance fees of $89 per day for the 61st to 90 the days of hospital stay, and $178 for each lifetime reserve day. These deductible and co-insurance fees are indexed so that they increase each year with hospital costs. I also pay for up to 100 days of skilled nursing facility care per illness (currently with a daily co-insurance fee of $44.50 after 20 days), a total of 100 home health care visits per illness, and hospice care.
HI is financed by part of the Society Security payroll tax. This consists of an earmarked portion of the payroll tax amounting to 1.3 percent each on the employer and employee, which is applied to wages up to the maximum Social Security taxable income (37,800 in 1984 and indexed to increase each year with average wages). In 1986, the HI tax rate is scheduled to rise to 1.45 percent, for a combined employee total of 2.9 percent, and to remain at that level thereafter.
SMI is available on a voluntary basis, primarily to those eligible for HI. SMI pays for physician services, outpatient hospital services, home health care services, and other non-hospital services. Coverage is subject to a statutorily fixed annual deductible of $75 and a co-insurance fee equal to 20 percent of claims. Those who choose coverage are charged a monthly premium, currently $14.60 and indexed to increase in medical costs. These premiums cover about one-fourth of expenses, with general revenues financing the remainder. Virtually all of the elderly eligible for SMI have opted for coverage, and the program covers over 90 percent of the elderly population.
The Need for Reform
Medicare faces a disastrous financial future. The Social Security Administration (SSA) projects that I will probably run short of funds to pay promised benefits by the end of this decade. 1. By 1995, HI under current law will likely have run a cumulative deficit of $200 to $400 billion. 2. Over the next 75 years, SSA projects that, under its widely used (Alternative IIB) assumptions, HI alone faces a deficit twice as large as the long-term financial gap for all the other parts of Social Security addressed by the legislation passed in 1983 in an effort to save the system from bankruptcy. 3.
By the time those now entering the workforce reach retirement, HI revenues under current law will only cover one-third of expenditures, based on Alternatives IIB assumptions. 4. Under the so-called
1. See 1984 Annual Report of the Board of Trustees of the Federal Hospital Insurance Trust Funds (Washington, D.C.; April5, 1984), (hereinafter referred to as 1984 Trustees Reports(HI)). Under the report's supposedly intermediate Alternatives IIA and IIB projections, HI runs short of funds in 1991. Under the so-called pessimistic but probably more realistic Alternative III assumptions, HI runs short of funds in 1991. Under the so-called pessimistic but probably more realistic Alternative III assumptions, HI runs short of funds in 1989. Under the optimistic, and truly unrealistic, Alternative I assumptions, I still run short of funds by 1995.
2. Calculated from 1984 Trustees Report(HI); Harry C. Ballantyne, Chief Actuary, Social Security Administration, "Long-Range Projections of Social Security Trust Fund Operations in Dollars," Actuarial Note 120, Social Security Administration, (May 1984). The cumulate deficits for HI by 1995 would be about $200 billion under Alternatives IIB projections and over $400 billion under Alternative III projections.
3. The 1983 legislation reduced the financing gap over the next 75 years by about 2 percent of taxable payroll under the Alternative IIB assumptions in the 1983 Social Security Trustees reports, which are basically the same as the Alternative IIB assumptions in the 1984 Trustees reports. Yet the 75- years HI deficit under the 1984 Alternative IIB assumptions is 4 percent of taxable payroll. See 1984 Annual Report of the Board of Trustees of the Federal Old-Age and Survivors Insurance and Disability Insurance Trust Funds (Washington D.C.: April 5, 1984), (referred to hereafter as 1984 Trustees Report (OASDI)), especially Appendix F of the report.
4. By 2030, HI expenditures under Alternatives IIB projections will equal 8.65 percent of taxable payroll, while revenues will equal only 2.9 percent. See 1984 Trustees Report (HI), Appendix B. pessimistic, but more plausible, Alternative III assumptions, 5. HI revenues would cover only one-fourth of HI expenditures. 6. In order to pay all the HI benefits promised to these young workers, the total HI payroll tax rate under Alternative IIB assumptions, would have to be raised to 8.65 percent, more than three times the current 2.6 percent. 7. Under Alternative III assumptions, the rate would probably have to be raised to II percent four times today's HI rate, and about the same as that now levied to finance all the other elements of Society Security such as retirement income, spousal benefits, and disability insurance. 8.
The cost of SMI is out of control. The annual general revenue contribution to supplemental insurance is projected by the Office of Management and Budget (OBM) to double from $14.20 billion in fiscal 1983 to $28.2 billion in fiscal 1989. The total annual cost of Medicare for Fiscal Year 1985, including HI and SMI, is estimated by OMB at $69.7 billion (net of SMI premium payments), rising to $103.3 billion net in Fiscal Year 1989. In that year, Medicare alone will account for 9 percent of all federal expenditures.
Contributing to this cost explosion is the substantial waste and inefficiency built into the current system. With the government paying medical bills through Medicare, both doctors and patients cease to pay close attention to costs. Consequently, hospital stays tend to be extended, repetitive, or unnecessary; tests and procedures are conducted with little or no thought given to how treatment . could be provided in the least costly manner. Patients have little incentive to seek out the lowest cost providers of quality medical services, and this weakens competitive pressures for efficiency and the development of low-cost medical services alternatives. Doctors and hospitals, in turn, need not worry about whether their patients can afford the charges, and consequently, there is little pressure on them to keep costs down.
5. For a comparative discussion of the Alternative IIB and Alternative III sets of assumptions used by SSA, see Peter J. Ferrara, "Rebuilding Social Security: Part 1, The Crisis Continues, "Heritage Backgrounder No. 345, April 25, 1984; Peter J. Ferrara, Social Security: The Inherent Contradiction (Washington, D.C.: Cato Institute, 1980), Chapter 5; Peter J. Ferrara, Social Security: Averting the Crisis (Washington, D.C.: Cato Institute, 1982), Chapter 5.
6. Though Alternative III projections for HI are not published past 2005, in that year HI expenditures for Alternative III are already running 2.53 percent of taxable payroll higher than under Alternative IIB. If we assume that at least this margin is present in 2030, and it would surely be greater, then in that year expenditures under Alternative III projections will equal 2.53 percent of payroll plus the 8.65 percent under Alternative IIB in that year, for a total of 11.18 percent, compared to tax revenues of 2.9 percent. See 1984 Trustees Report (HI).
7. See discussion in footnote 4.
8. See discussion in footnote 6.
The government has recently attempted to address this problem by adopting the "Diagnostic Related Group" (DRG) system of payment for hospital services under Medicare. Under this new system, the government has established almost 500 categories of illness requiring hospital treatment, setting the amount it will pay under Medicare in each locality for hospital care to treat each illness. These figures are based on an average of hospital costs for each illness in the local area. If treatment costs for a particular patient turn out to be less than the set amount for that patient's illness, the treating hospital can keep the difference. If the treatment costs more, however, the hospital cannot collect the extra charges from the patient and must absorb the loss.
This system may improve incentives for hospitals to keep costs down, and reduce opportunities for overcharging, but it contains many loopholes, such as the hospital's discretion in deciding illness categories, which may eventually undermine its effectiveness. At best it will touch only the surface of the problem and disincentives permeating the Medicare system. Updating the categories and payments will be subject to bureaucratic politicking, ultimately leading to a regulatory morass. in those hospitals whose legitimate costs are above the government-set payments, the system will, in effect, operate like price controls, leading to a reduction in doctors and hospitals willing to provide service under Medicare and possibly to shortages and rationing of hospital services to Medicare beneficiaries.
Still another major problem with Medicare stems from the act that workers must pay for their retirement HI coverage throughout their careers, yet their payments are not saved and invested to finance their future coverage. Rather, the money is paid out immediately to current beneficiaries. Workers consequently lose the market returns on investments they would receive each year if their payments were saved instead in an IRA-type vehicle to finance retirement health benefits. This loss is not significant for those now retired, who paid low HI taxes for only part of their careers (since the program began in 1966). But those who will have to pay the full HI tax for their entire careers could purchase far better coverage and medical services for their money or the same coverage and service for much less money if they could receive full capital investment returns on the payments into the system.9.
9. In a steady state, money paid into HI would receive a return equal to the rate of growth in payroll tax revenues, which would be equal to the rate of growth in wages and population. But this is not likely to be nearly as large as the return on capital investment, particularly with the unfavorable population trends of today. See Ferrara, Social Security: The Inherent Contradiction, Chapter 4 and 9; Ferrara, Social Security: Averting the Crisis, Chapter4 and 9.
The Medicare benefit structure is also not well designed to meet the chief threat to the financial security of the elderly the possibility of an illness that is life-threatening and requires enormous medical expenses. Medicare does not ensure against such "catastrophic" illnesses. Indeed, Medicare co-payment fees increase the longer the patient stays in the hospital or skilled nursing facility, and coverage eventually ceases altogether. Instead, Medicare covers the more routine and less threatening medical costs, which could be met by most of the elderly out of their own resources. The priorities of the Medicare benefit structure, in other words, are the inverse of those required to deal with the principal concern of the elderly.
The Medicare benefit structure also discriminates against blacks and other minorities. Although everyone has to pay the same HI payroll taxes while working, many minority group members receive less in benefits because, on average, they have lower life expectancies and therefore live fewer years in retirement receiving benefits. A black male born today, for instance, has a life expectancy of 64.8 years, and so typically will not live long enough to receive Medicare coverage for a single day. 10 A Hispanic male at birth has a life expectancy of 66.6 years, compared to 71 years for white males. Consequently, other white males can expect to receive up to 5 times the Medicare benefits received by Hispanic males. 11
FUNDAMENTAL REFORM OF MEDICARE: THE HEALTH BANK IRA
Solving the problems discussed above requires fundamental reform of the Medicare system. Such reform could be structured around the concept of a "Health Bank IRA." A similar proposal was first advanced in a paper published by the National Center for Policy Analysis in Dallas, Texas, written by this author, U.S. Chamber of Commerce Chief Economist Richard Rahn, Dallas University Professor John Goodman, and University of Michigan Professor Gerald Musgrave. 12
Under this plan, workers would be allowed to establish a special tax-free savings account, called a Health Bank IRA, analogous to today's Individual Retirement Accounts. They would be allowed to Contribute each year to their Health Bank IRAs an amount equal to one percent of their Social Security taxable income (currently wage earnings up to $37,8000). Workers could also direct their employers to match these contributions.
10. Peter J. Ferrara, John C. Goodman, Gerald Musgrave, and Richard Rahn, Solving the Problem of Medicare (Dallas, Texas: National Center for Policy Analysis, 1984).
11. Ibid.
12. Ibid.
Both employee and employer would receive a dollar-for-dollar income tax credit for such contributions. In effect, this option would allow workers to withdraw up to 2 percent points of the 2.9 percent HI tax, scheduled for 1986, to save instead in a Health Bank IRA. But since workers receive full credit for these IRA payments against income taxes, rather than payroll taxes, revenues flowing into Social Security would not be reduced. The tax revenues would continue to be fully and exclusively available to pay the benefits for today's elderly. The Health Bank IRA funds would be invested an accumulate tax-free income until retirement.
Under the reform plan, all workers would also be covered by catastrophic health insurance provided by the federal government, paid for by the 0.9 percent payroll tax they would not be allowed, in effect, to place in the IRA (that is, 2.9 percent minus the 2 percent they could withdraw). The catastrophic coverage would pay for medical expenses beyond a high deductible limit with a modest co-payment fee simply to ensure the integrity of claims. The deductible and co-payment fees would be set based on the amounts workers could be expected to accumulate in their Health Bank IRAs over their working careers, and would be lower for Americans with lower lifetime incomes. 13
Workers in retirement would then use their Health Bank IRA funds to purchase private medical insurance to cover expenses below the catastrophic limits. They could also "self insure" by paying their medical expenses directly out of the Health Bank funds. Or they could choose any combination of these options. In order to register to sell insurance purchases by any workers at uniform premiums within a year after their retirement, or upon reaching the age of 70, and continue to ensure those people for the rest of their lives as long as premiums continue to be paid. Any funds remaining in a Health Bank IRA upon the death of the worker, during his career or in retirement, would pass to the worker's designated heirs.
To the extent a worker did not utilize the Health Bank IRA option during his working years, he would receive upon retirement a voucher from the government for the purchase of private medical insurance or the direct payment of medical expenses whichever the workers preferred. The amount the worker and his employer paid in HI payroll taxes over the course of his career, minus the 0.9 percentage points paid each year for the catastrophic coverage, would be added together with an imputed interest equal to the average Treasury bill rate each year. The government would calculate the annuity such a lump sum could pay, and the worker's voucher would be set at that amount. Workers who had used the Health Bank IRA option to some extent, but not completely, over their working years would have a combination of Health Bank funds and government vouchers to provide for their medical expenses below the catastrophic limits.
13.
The deductible could be a lifetime deductible, say the first $50,000 or $100,000 in post-retirement medical costs, set roughly equal to the amount a worker could expect to accumulate in his Health Bank IRA or to the maximum amount he could insure for with the annual premiums which could be financed by his expected Health Bank IRA assets.
Strictly means-tested medical benefits would be paid by the government to cover expenses below the catastrophic limits that Health Bank funds and /or government vouchers could not meet for some reason. Before relying on such government benefits, workers would be expected to use any of their personal assets not essential to daily living and any of their income beyond that needed to maintain a minimum decent standard of living.
Workers could declare their retirement and be eligible to use their Health Bank funds and receive their government vouchers at any time after age 59 1/2. But the government-funded catastrophic coverage and means-tested supplements would not start until the normal Social Security retirement age, as in the case of the existing Medicare system.
This new system of coverage would replace totally the current Medicare system. The catastrophic insurance and government vouchers would be financed exclusively out of payroll tax revenues, which would continue at 2.9 percent of taxable payroll. The means-tested supplemental benefits would be financed out of general revenues, utilizing the general revenue funds now used to subsidize SMI. Under the new system, the elderly would not have to pay monthly premiums to the government for their Medicare coverage, as they do today. These funds would be considered available for the purchase of private medical insurance, or for the direct payment of medical bills, and taken into account in setting the catastrophic insurance deductible and co-payment fees.
Under the new system, the government would provide the benefits that most Americans want the catastrophic coverage perhaps the most difficult to deliver through the private sector. Thus workers and the elderly would be freed of their greatest fear of overwhelming medical expenses arising from a life-threatening illness or accident. The government would also provide means-tested benefits as a last resort for those who lacked the resources to purchase insurance. But the great bulk of medical expenses between these two extremes would be financed through the private sector, under a system that enabled Americans to accumulate the resources necessary to purchase adequate insurance.
GETTING FROM HERE TO THERE
the first step in the transition to such a system requires a solution to the short-term financing problem of Medicare. As noted above, HI is now projected to run out of funds to pay all the promised benefits by 1990. If this looming crisis is ignored, another major payroll tax increase is virtually inevitable. The reason: It is politically impossible to solve an imminent financial crisis in any part of Social Security with benefits cuts because they would have to be precipitous and would fall harshly on those already retired, leaving them without time to make up for the cuts through others means.
Fortunately, there is another alternative for solving the short-term HI problem, The rest of Social Security is now projected to start accumulating a significant surplus by the end of the decade. These surplus funds could be used to finance the projected HI shortfall, simply by providing that any surplus in the rest of Social Security's trust funds could be used to pay for HI benefits. Under the SSA's Alternative IIB assumptions, this would allow HI benefits to continue to be paid in full for the next 35 years. 14 Under the more pessimistic Alternative III assumptions, I will be able to continue paying benefits until 1995. 15 But even under these assumptions, only modest additional adjustments would be necessary to permit full benefits to be paid until the new systems described above could be phased in. 16
Phasing In the Health Bank IRA
To begin phasing in the new Health Bank IRA system, all workers would be allowed to establish such IRAs and take the accompanying tax credits starting on a specified date, say January 1, 1988. Benefits would not be changed in any way or those already retired. But for new retirees, the Medicare deductible would be increased slowly each year. These new retirees, however, would also start receiving benefits from accumulated Health Bank IRA assets or government vouchers. The yearly deductible increase would be geared to the amount of such IRA benefits retiring workers would receive in their remaining years to avoid net benefit reductions.
Benefits for catastrophic illness would also be increased gradually each year for new retirees, while monthly SMI coverage in effect resulting from the deductible increase. These shifts would continue steadily until today's young workers reached retirement age, at which point the new system would be completely phased in. The means-tested supplemental benefits would be fully available from the beginning of the phase-in period, to ensure that no one suffered hardship during the transition, but the demand for these benefits by retirees would grow only slowly over time as the current system was phased out.
Cost of the Reform
If the Health Bank IRA option were in effect in the current fiscal year (FY 1985), and workings utilized it at twice the rate they currently utilize IRAs, there would be an income tax revenue loss from the Health Bank tax credit for the year equal to about $12.5 billion. 17 Over time, this loss of revenue would be offset by reduced Medicare expenditures as workers began relying more and more on their Health Bank IRA funds. Long before this point, however, the tax revenue loss would be significantly offset by new tax revenues paid by businesses resulting from the increased investment in the Health Bank IRA.
During the period of net tax revenue loss, there would also be an increase in savings, thanks to the Health Bank IRAs. This would be equal to the amount of the tax loss since the credit would only be allowed for such specialized IRA savings. 18 Consequently, even if the government has to increase its borrowing by the full amount of the loss, there would be no net increase in the government's borrowing drain on private savings.
BENEFITS OF THE REFORM
The benefits of the reform would be considerable. Both the short-term and long-term financing problems of the current HI system would be eliminated. The surplus funds from the other components of Social Security, plus net savings from the increased deductible, over time, would bridge the short-term HI problem. Over the long term, an entirely new system would be phased in to eliminate the HI deficit that will occur under current law. This would be accomplished, moreover, without any payroll tax increases for workers or cuts in benefits for today's elderly. At the same time, today's young workers would have their future medical security protected through the establishment of an improved and soundly based system.
17. Calculated from 1984 Annual Trustees Report (OASDI); 1984 Annual Trustees Report (HI).
18.Workers would not be allowed to withdraw Health Bank IRA funds for any purpose except the payments of medical expense in retirement. This would avoid the danger of any shifting of existing sayings into such IRAs since the savings could not be used for any other purpose, and new savings would in fact be needed by the worker to replace lost Medicare benefits.
Lower Cost: Young workers would be able to obtain retirement medical coverage under the new system for much less than under the current system. This is because the contributions of workers and employers to their Health Bank IRAs would earn the market return to capital over the worker's lives adding to the funds available for their retirement years. No such market returns are earned under the current system since the taxes paid are not saved and invested but immediately paid out to finance the benefits of current beneficiaries. With a lifetime of accumulated capital returns under the new system, workers and their employers could pay much less each year than they do under the current system to have sufficient funds in retirement to purchase health care coverage that is superior to Medicare.
Workers and their employers would enjoy further substantial savings because the new system would sharply reduce the waste and inefficiency of the current system. One reason for this is that the Health Bank IRA system would dramatically increase competition in the healthcare industry by allowing private insurers to compete for coverage of retirees, thereby displacing the current Medicare monopoly. Private providers would likely develop new medical institutions with better cost controls, similar to Health Maintenance Organizations (HMOs), and offer retirees the option of purchasing their insurance and medical coverage through such institutions. Private insurers would also have to compete to keep their own costs down by monitoring health providers closely and rooting out wasteful, unnecessary expenditures.
Consumer Incentives: Complementing this increased competition would be improved incentives for consumers under the new system. They would be purchasing coverage with their own Health Bank IRA funds, and consequently, they would seek out the lowest cost insurers and service providers that met their quality and service requirements. Workers who chose to self-insure by paying medical costs directly out of their Health Bank IRA assets would have the most powerful incentives to question charges and the greatest potential for obtaining substantial cost savings. This desire to economize would lead to general reductions in medical prices and costs by reducing unnecessary demand.
Rather than HI payroll tax rates of 9 to 11 percent that would eventually be required under the current system, the cost saving resulting from this new approach would require no increase in the scheduled "permanent" tax rate of 2.9 percent. Indeed, even lower tax rates eventually could be required. Since workers could accumulate substantial sums in their Health Bank IRAs, the need for federal catastrophic insurance could be quite limited. And if virtually all workers opted for the Health Bank IRAs, as seems likely, the tax revenue needed to finance government vouchers would also be modest.
The new system would expand the role of the private sector by enabling most workers to place funds in Health Bank IRAs, which would, in turn, be invested in private industry. This enhanced role would sharply reduce projected government spending. Not only would HI costs financed by payroll taxes be reduced dramatically, but the new general revenue-financed and means-tested supplemental program likely would cost far less than the existing SMI program. This is because even minimum wage workers should be able to develop enough resources in their Health Bank IRAs to avoid the need for such means-tested supplements.
Catastrophic Coverage: Many of the inadequacies of the benefit structure under the current system would be corrected under the new system. Unlike Medicare, the government would protect retirees against the potentially devastating expenses of catastrophic illness, which is precisely the protection the elderly most need and want.
A Better Deal for Minorities and the Poor: All workers would earn approximately the same market returns on their Health Bank IRA contributions. If a minority worker died earlier than most workers, as is statistically likely, the worker would be able to leave more of his Health Bank IRA funds to his heirs. Medicare's discrimination against minorities, in other words, would be eliminated under the IRA plan. In addition, the poor would be thoroughly protected under the new system through the means-tested supplements. But those workers who wished to continue to rely completely on the government for retirement healthcare financing would be free to do so by opting for the government vouchers rather than the Health Bank IRAs.
Control and Choice:: Under the new system, workers would have much greater control and choice over their retirement medical coverage. The new system would be diverse and flexible, allowing workers to choose from the myriad of options in the private marketplace the coverage best suited to their needs. They would be free to choose their retirement age with no benefit penalties for late retirement.
Boost to Saving: The new system potentially could increase national savings by tens of billions of dollars . each year, through the new funds saved in Health Bank IRAs each year. Such increased savings would result in increased capital investment, jobs and economic growth.
CONCLUSION
Everyone recognizes that Medicare is in deep trouble. Congress should act now to address the system's problem before the crisis becomes acute. Experience with the latest Social Security crisis in 1982-1983 shows that, if Congress waits until the last minute to act, the options available to solve the problem become limited to benefit cuts and tax increases. Public hysteria makes rational consideration of meaningful long-term reform impossible by that stage of a crisis.
The proposed Health Bank IRA system gives Congress a plan to enact now, which will solve Medicare's enormous structural problems without benefit cuts for the elderly or tax increases for workers. Instead, the proposed reform would serve both the elderly and workers far better than Medicare. The new system would enable workers to develop their own resources to meet their retirement medical service needs, but it would retain the option of government-financed medical service vouchers for retirement if the worker so desired. The government would also retain its crucial role in providing catastrophic medical insurance for all elderly Americans and supplemental medical benefits for those retirees who were otherwise unable to develop adequate private resources for their retirement medical expenses.
The proposed new system would meet the major concerns of Americans regarding their retirement health care. Instead of waiting until the Medicare problem becomes a major crisis, Congress should move quickly to consider the Health Bank IRA.
Prepared for The Heritage Foundation by
Peter J. Ferrara
a Washington attorney
Originally the "lower counties" of Pennsylvania, and thus one of three Quaker colonies founded by William Penn, Delaware has developed its own set of traditions and history.
Start in Philadelphia, take two days to tour around Delaware Bay. Down the New Jersey side to Cape May, ferry over to Lewes, tour up to Dover and New Castle, visit Winterthur, Longwood Gardens, Brandywine Battlefield and art museum, then back to Philadelphia. Try it!
Millions of eye patients have been asked to read the passage from Franklin's autobiography, "I walked up Market Street, etc." which is commonly printed on eye-test cards. Here's your chance to do it.
In 1751, the Pennsylvania Hospital at 8th and Spruce was 'way out in the country. Now it is in the center of a city, but the area still remains dominated by medical institutions.
Grievances provoking the American Revolutionary War left many Philadelphians unprovoked. Loyalists often fled to Canada, especially Kingston, Ontario. Decades later the flow of dissidents reversed, Canadian anti-royalists taking refuge south of the border.
