By Austin Frakt, PhD
In January, Richard Kronick and Rosa Po published a policy brief on projected Medicare growth for the Office of the Assistant Secretary for Planning and Evaluation (ASPE), which advises the US Secretary for Health and Human Services. Their findings are either encouraging or troubling, depending on one’s confidence in some aspects of the Affordable Care Act (ACA).
Kronick and Po summarized the key points of their brief in the graph below:
This graph breaks projected Medicare spending into 3 components for each year, under a scenario created by the US Social Security Administration’s Office of the Chief Actuary (OACT). The vertical axis is percentage of gross domestic product (GDP). The green bars show spending in the absence of any demographic change (aging) or in the absence of changes in cost of care above that of the growth in the economy (excess cost growth). Because those are the only 2 components of growth in Medicare spending as a proportion of GDP, the green bars are necessarily constant in size for all years. The effect of aging alone on the Medicare budget is in blue and excess cost growth is shown in red.
The data in the graph demonstrate several things. First, the majority of growth in Medicare over the next 2 decades is expected to be due to the aging baby boom generation. Second, excess cost growth is projected to be negative for most of the next decade (a year-over-year reduction in excess cost). Third, excess cost growth is expected to be positive (a year-over-year increase in excess cost) from 2022 onward, but it grows at a rate slower than that due to aging. Over 2 decades, excess cost growth increases only by about three-quarters of a percentage point of GDP, increasing Medicare spending from about 5.5% of GDP in the absence of excess cost growth to 6.25% of GDP with it.
Is this good news or not? It depends.
The Good News
The good news is that three-quarters of a percentage point of GDP over 2 decades is a mild growth rate for health care. According to the Congressional Budget Office, it’s well below that of the program in the past.
But wait: is this growth rate at the expense of physician payments? Is the cost curve in this projection being flattened by the Sustainable Growth Rate (SGR), the formula intended to control Medicare spending by cutting physicians’ fees when growth in physician spending exceeds a specific growth rate in the economy? Good news again: the answer is no. As indicated in the note on the graph, the analysis assumes a permanent “doc fix” that allows payment rates to increase 1% per year. Although that’s a modest growth rate, few doctors would reject it in favor of what the SGR demands. A nearly 30% cut in fees would have occurred if Congress had not recently included a temporary doc fix provision when it passed legislation to prevent the United States from going over a “fiscal cliff.”
To be sure, there is a lot of growth in spending due to aging, nearly twice as much than is attributed to excess cost growth. Here, too, there is good news, although it takes a bit to explain. One way to reduce growth due to aging is to make the Medicare benefit less generous—a political nonstarter, sure to evoke charges of rationing and “death panels.” The only alternative is to revoke Medicare eligibility for some beneficiaries, for example, by increasing the age of Medicare eligibility. However, as calculated by the Kaiser Family Foundation, raising the eligibility age from 65 to 67 years means that Medicare would save money, but the net cost of such care for 65- and 66-year-olds through other entities will be twice the amount saved. Some of the savings accrued from revoking Medicare eligibility to people aged 65 to 67 years would be offset by government spending elsewhere (Medicaid, exchange subsidies), and some of it would be borne by employers and individuals. On average, the entities that fill in the coverage gap have higher per-person costs than Medicare.
Consequently, the good news is that covering aging baby boomers with Medicare is about the cheapest way we know how to do it. Yes, it will cost taxpayers a considerable sum, but it’s a cost we, collectively, cannot avoid, and it is, again collectively, lower than it would be with other forms of coverage.
The Bad News
The bad news is that the ASPE’s Medicare projection relies on an assumption that Medicare payment rates for inpatient hospital services will go up more slowly than they have in the past. In particular, according to analysis by Centers for Medicare & Medicaid Services (CMS), the ACA will cause Medicare’s payment rates for hospitalization to dramatically diverge from those of private health insurance, as shown in the graph below (from the CMS analysis).
Is it plausible that Medicare payments to hospitals can dip down to half those of private health insurers by 2035 and drop even lower beyond then without creating enormous problems for hospitals and the patients they serve? I’m among the skeptical. There is simply no reason to believe that hospitals would accept such rates. Nor is there reason to believe Congress would sustain them.
Instead, several things could happen. First, the statutory updates in payment rates could be canceled. In that case, Medicare spending would grow more rapidly than depicted above. For all but hospitals, that’s potential bad news.
Another possibility is that the rates that private insurers pay to hospitals will more closely match Medicare’s. In that case, the divergence between private and public prices would be less than depicted, and the excess cost growth projection in the first graph above will be more reasonable to expect. However, there are good reasons to think private prices won’t come down along with Medicare’s. Among them is the growing market power of hospitals, as encouraged by the ACA itself. So this still seems like relatively bad news. And, of course, lower public or private payments to hospitals is bad news for hospitals, even if it is good news for taxpayers and policyholders.
Whether or not Medicare spending proceeds as projected, it’s still clear we will need more revenue to cover the demographically driven costs of Medicare plus some more for excess cost growth. The latter may be small by historical standards but only if certain assumptions hold. It may be small relative to that of the commercial market, but that fact doesn’t sway all taxpayers.
Either way, Medicare’s excess cost growth is not likely to be zero, and it could be uncomfortably large. It’s hard to avoid the conclusion that Medicare will require a greater infusion of revenue than we’ve been willing to tolerate politically. Even a “good news” scenario is an unavoidable and potentially uncomfortable one for taxpayers.
About the author: Austin B. Frakt, PhD, is a health economist and an assistant professor at Boston University’s School of Medicine and School of Public Health. He blogs about health economics and policy at The Incidental Economist and tweets at @afrakt. The views expressed in this post are that of the author and do not necessarily reflect the position of Boston University.
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